Self Help Group Bank linkage model and financial inclusion in India

Draft- Work in progress

Smita Nirbachita Badajena*1 Prof. Haripriya Gundimeda** 2 Abstract

Inclusive growth is one of the important objectives of eleventh five year plan in India. Inclusion of each and every section of the society in the process of economic development and achieving growth with equity is the basic objective of inclusive growth. Financial inclusion is conceived as a major driving force to achieve selfsustained inclusive economic growth. Financial inclusion can be defined as the process of ensuring access to financial services and timely availability of adequate credit where needed by vulnerable Groups such as weaker sections and low income groups at an affordable cost (Report of the Committee on Financial Inclusion in India, 2008). Achieving financial inclusion through formal banking system is a cumbersome task. Unavailability of adequate financial services like credit, insurances, and remittances to majority population at an affordable cost is a major roadblock for the growth of financial sectors. In this context, Micro-finance approach can be considered as an alternative solution to provide financial services to common section of the society. Micro-finance is the provision of thrift, credit and other financial services and products of very small amounts to the poor for enabling them to raise their income levels and improve their living standards (RBI, 2005). Micro-finance has profound implications not just from a finance perspective, but also from the perspective of economic development. Microfinance consisting of micro credit, micro savings and micro insurance, is regarded as an important tool to reduce risk, poverty and vulnerability of common people. Microfinance is one of the most remarkable socio-economic developments in the present era. The micro finance sector started getting recognition in India after the launch of the self help group linkage model in the year 1992. Self Help group linkage model is one of the indigenously developed and successfully operated models of Micro-finance in India. Under this model, the SHGs are financed by bank without any collateral, peer group pressure is considered as colliateral by the lenders. SHG led micro finance approach also helps to reduce the burden of heavy transaction cost faced by formal financial institution in India. Further, various empirical studies also found that micro finance through SHG bank linkage programme has enabled the SHG members to improve their socio economic status through the availability of various micro finance services. Thus, Micro-finance through self help group bank linkage model can provide sustainable mechanism to meet the unmet financial needs of un-banked poor.

*SmitaNirbachitaBadajenaisaResearchScholarinEconomicsatIIT,Bombay. **Prof.HaripriyaGundimedaisanAssociateProfessorinEconomicsatIIT,Bombay.

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The objective of the paper is to study and depict the status of financial inclusion in India. It also tries to study the rationale for financial inclusion and determinants of financial inclusion in a developing country like India. The present paper attempts to examine the extent of financial inclusion by self help group bank linkage program against the backdrop of growing regional inequalities which the formal banking system faces across various regions in India. Further, it also seeks to adopt cross sectional regression technique to examine the role of self help group bank linkage model, banking density, financial literacy, and level of economic development in achieving financial inclusion across various regions in India for the period 2008.The empirical result demonstrated a positive impact of SHG bank linkage model on financial inclusion. Key words: Financial Inclusion, Self help group (SHG) bank linkage model, Micro finance, and Inclusive growth I.Introduction: Indian economy continues to suffer from the problems of poverty, sectoral divergences in growth and employment opportunities and a poor progress of various socio-economic indicators, despite of higher economic growth in recent past. Attaining the objective of hundred percent financial inclusion is today one of the biggest challenges for Indian formal banking system. Greater Financial Inclusion shall be a catalyst for accelerating the pace of economic growth with equity. Financial inclusion can be relied upon to achieve inclusive growth which is one of the major objectives of eleventh five year plan. There are various literatures which have studied the relationship between financial inclusion and economic growth and considered financial inclusion as a major determinant to economic growth. In fact there exists a two way relationship between financial inclusion and economic growth. On the one hand, higher the financial inclusion, higher will be economic development. On the other hand greater infrastructural development and economic development facilitate higher financial inclusion. Financial inclusion is the process of ensuring access to financial services and timely and adequate credit where needed by vulnerable Groups such as weaker sections and low income groups at an affordable cost3.Financial inclusion also facilitates in efficient allocation of resources and enables the economy to maximise welfare by reducing the spread of informal source of avenues. A large number of earlier studies

Report of the Committee on Financial Inclusion in India, 2008.

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often suggest that development of the financial sector and better access to financial services are imperatives for facilitating economic growth with equity. Without an inclusive financial system, poor individuals and small enterprises have to rely on their limited savings and earnings to invest in their education and entrepreneurship to take advantages of growth opportunities (World Bank, 2008). Achieving financial inclusion through formal banking system is a cumbersome task. Unavailability of adequate financial services like credit, insurances, and remittances to majority population at an affordable cost is a major roadblock for the growth of financial sectors. In this context, Micro-finance approach can be considered as an alternative solution to provide financial services to common section of the society. Micro-finance is the provision of thrift, credit and other financial services and products of very small amounts to the poor for enabling them to raise their income levels and improve their living standards4.Microfinance consisting of micro credit, micro savings and micro insurance, is regarded as an important tool to reduce risk, poverty and vulnerability of common people. The micro finance sector started getting recognition in India after the launch of the self help group linkage model in the year 1992. Micro-finance through self help group bank linkage model can provide sustainable mechanism to meet the unmet financial needs of un-banked poor. II.Rationale for Financial inclusion in India: Impeded and higher cost of access to adequate financial services like credit, insurances, and remittances to majority population are major roadblocks for the growth of primary sectors like agriculture. Financial inclusion can create win-win environment for both customer and financial institution in an economy (Thorat, 2006). It enables customer to avail various kind of financial products for productive purposes. It also helps customers in availing micro remittance facilities, micro credit at an affordable cost. The Government also can use the bank accounts of people for providing various social security services for the vulnerable section of society. Thus, financial inclusion can be considered as prerequisite to achieve inclusive growth which would further helps in achieving sustainable economic growth

Report of the Internal Group to Examine Issues Relating to Rural Credit and Microfinance (2005), Reserve Bank

of India.

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III. Financial inclusion in India: An Overview Financial inclusion ensures ease of availability, accessibility and usage of formal financial system to all members of the economy (Sharma, 2008).Financial inclusion has been widely recognized as important means to achieve inclusive growth on India. During the post nationalisation of banking period, there has been spectacular progress in formal banking networks across the country. In the course of time, Reserve Bank of India has been adopting various measures like priority sector lending, KYC norms, banking correspondent model to ensure financial inclusion. In fact, measuring financial inclusion in a developing country like India is different from other developed countries. Financial inclusion can be measured in two ways. One is inclusion in the payments system i.e. having access to a bank account. The second type of inclusion is towards formal credit markets, thus requiring the excluded to approach informal and exploitative markets.5 Previously various studies on financial inclusion have identified various factors which are responsible for financial exclusion in an economy. Some of these factors responsible for financial exclusion have been mentioned below. Lack of proper infrastructural development Geographical factors: Remote and hilly areas From demand side lack of awareness, income and asset constraints, limited literacy especially financial literacy and social exclusion act as major barriers. From supply side cumbersome documentation procedure, unavailability of diversified products and services, high transaction costs, and easy availability of informal credits are major barrier to achieve financial inclusion. (Thorat, 2007). Other factors like gender issues, nature of occupation, social security payment systems are also playing vital roles in influencing access to financial services.(World bank ,2008)

ThoratUsha,ReserveBankofIndiaattheHMTDFIDFinancialInclusionConference2007,WhitehallPlace, London,UKonJune19,2007

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Individual indicators like number of bank accounts, number of bank branches, size of credit and deposit to GDP are also used to measure the extent of inclusiveness of financial system. Financial services provided by various financial institutions like banks, postal saving banks, non banking finance companies; micro finance institutions are also form the basis to measure the level of financial inclusion in an economy6. Number of bank account per thousand adults is considered as one of the common measure of financial inclusion. Figure-1: represents financial inclusion in terms of total number of bank accounts per 1000 adults across various states for the year 2008.This figure depicts spread of financial inclusion across various states.

Source:BSR report,Reserve Bank of India,Census of India

IV. Self help group linkage model and financial inclusion: In spite of Indian banking sector having witnessed a spectacular progress in spread of banking networks and extending financial outreaches across the country in the recent past, the relative decline in the supply of credit in rural areas poses the biggest challenge to achieve hundred percent financial inclusion before Indian formal

ChapterVII,FinancialInclusion,ReserveBankOfIndia

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financial system. In this context, self help group bank linkage model launched by NABARD (1992) can be conceived as an alternative model to bridge the gaps which could not be filled up by formal banking system. It facilitates extending financial services to unbanked vulnerable section of society. NABARD led SHG bank linkage model is widely accepted as one of the largest and successful micro finance model in the world. There are three kinds of model are being emerged under SHG linkage programme. They are: Model-1: SHGs are financed, guided and promoted by banks. Model-2: SHGs are promoted by Non Government Organizations/Government agencies but financed by bank. Model-3: SHGs are promoted by NGOs but financed through financial intermediaries like NGOs or by any formal agencies. IV.1.Progress of SHG linkage programme in India: NABARD led SHG bank linkage programme witnessed a significant progress in the recent past. As on March 2009, total 6121147 SHGs were having Rs 5545.62 cr savings with banks .On the other hand total 12253.51 cr loan have been disbursed to 1609586 SHGs and thereby registered 38.5% and 31.1% growth respectively.(Report by NABARD 200809)..Overall progress under micro finance through SHG Bank linkage model from 2006-07 to 2009-10 has been given in the following table-1.

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Table-1: Particulars 2006-07 No SHGs Savings of Total SHGs with SHGS Banks as Out of on March disbursed to year 31
st

2007-08 (crores) SHGs

2009-10 of Amount (crores) 5545.62 1563.38 (crores) SHGs 3885.39 6121147 809.51 1505581

of Amount No

of Amount No

SHG Bank Linkage Model 4160584 3512.71 5009794 956317 757.50 1203070

which SGSY 1105749 6570.39 1227770 188962 1411.02 246649 8849.26 1609586 12253.51 1857.74 264653 2015.22 SHGs

Bank loan Total SHGs Out of SGSY

during the which

Source: Report on status of micro finance in India, NABARD

Fig-2 Growth and progress of self help groups under SHG bank linkage programme

Source: www.indiastat.com

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Figure-2 represents the progress of SHG bank linkage programme from the year 200-01 to 2008-09.From the period 2000-01 to 2008-09, total number of SHG increased from 149050 to 1609586.The year 2006-07 witnessed a significant growth (78.31%) in total number of SHGs over previous year. The year 2008-09 registered a year on year growth of 31.09% for the number of SHGs under SHG bank linkage programme.SHG bank linkage programme has been recognized as one of the most successful and rapidly growing micro finance model to meet the promise to financial inclusion in India. Figure-3

Sources: RBI, Census of India, NABARD.

Figure-3 represents the spread of number of SHGs across various states and the level of financial inclusion in terms of credit deepening across them. The above figure depicts the close relationship between the level of credit deepening and the presence of absolute number of Self Help Groups across various states. States like Andhra Pradesh, Tamil Nadu, Karnataka which had a higher presence of SHGs witnessed a higher level of credit deepening than states like Jharkhand, Bihar, Madhya Pradesh. It can be inferred from the figure that the spread of SHGs across the country along with the progress of formal banking network is skewed. Thereby leading to disparities in the levels of credit widening and credit deepening across various states.
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V.Literature : Sharma (2008), through cross country empirical study examined a close relationship between financial inclusion and development. Further, the study found a positive relation between financial inclusion and different socio-economic variables like income, inequality, literacy, physical infrastructures. Kempson and Whyley (1998) argued that possibility of financial exclusion is more likely to occur in the lower income section of society than amongst others. Beside this, geographical factors and income inequality are also important factors in determining financial inclusion of a country. Goodwin.et.al (2000) emphasized the role of level of employment of a country as another important factor of financial inclusion. Access to affordable financial services especially credit and insurance - enlarges livelihood opportunities and empowers the poor to take charge of their lives. Such empowerment aids social and political stability. Financial inclusion also imparts formal identity, provides access to the payments system and to savings safety net like deposit insurance. Hence it is considered to be critical for achieving inclusive growth; which itself is required for ensuring overall sustainable overall growth in the country. (Thorat, 2007). Beck.et. al (2000), in their paper tried to evaluate empirically the relationship between level of financial intermediary development and economic growth. They observed a positive impact of financial intermediary development on the growth of total factor productivity which will lead to economic development. Bekaert et.al (2004), in their study examined a positive impact of equity market liberalization on real economic growth. Further, they also observed the positive impact of capital account liberalization and quality of financial institutions on economic growth. Greenwood et.al (1990), tried addressed two important issues in economic growth theories in a single model. They are relationship between economic growth and inequality and relation between financial structures and economic development. They argued that financial development facilitates economic growth as it gives high

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re return on capital. On the other hand economic development also provides means to financial development. A few empirical studies on the impact of SHG bank linkage model also revealed the importance of SHG model in achieving financial inclusion and inclusive growth in India.Puhazhendi and Satyasai (2000), studied the improvement in level of income of SHG members between pre and post SHG situations. Chavan and Ramakumar (2002) in their study compared NGO led micro credit programme of various countries with state led poverty alleviation scheme and observed marginal improvement in members income as a result of micro credit programme. Puhazhendi and Badatya (2002), observed a significant improvements in the savings SHG members during post SHG situations. The programme also improves the borrowing pattern of SHG member households in terms of strengthening credit widening and credit deepening Sanghwan (2006), studied the extent financial inclusion across various states. He also tried to examine the role of SHG bank linkage programme in achieving financial inclusion.The study suggested a significant role of SHG led programme in achieving financial inclusion. Beside this, it also tried to examine the role of other factors like banking density, financial literacy and per capita income in achieving financial inclusion. Sahoo et.al (2008), had attempted to develop index of financial inclusion to examine the progress of financial inclusion and various determinants of financial inclusion using secondary data from various sources. In their study, they observed a positive impact of infrastructure development, education, self help group formation on financial inclusion both from financial widening and deepening perspectives. VI.Model specifications Financial inclusion in an economy is determined by multiple factors like infrastructural development, economic development, type of financial products, financial literacy etc.Financial inclusion can be measured both from saving as well as credit aspects of financial inclusion. However, the present study attempts to measure
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the financial inclusion from credit widening and credit deepening aspects of financial inclusion. It also intends to study the role of various determinants of financial inclusion for 16 states for the period 2008.Secondary data for the study have been collected from various sources like Census of India, various report published by R.B.I, NABARD. In the regression analysis, two sets of regression equation have been fitted. There are four independent variables in the model. The selected independent variables are being taken based upon the various literatures on financial inclusion. Number of credit accounts and amount of credit/loan disbursed per 1000 adult populations has been taken as two dependent variables in the model. On the other hand level of economic development, financial literacy, branch density, percentage of credit linked SHG house hold is taken as independent variables. Per capita income, literacy rate are proxy variables of level of development and financial literacy respectively. Model: Cw =1+2x2+3x3+4x4+5x5+u1........(1) Cd= 1+2x2+3x3+4x4+5x5+u2........(2) Where X2=Per capita income X3=Primary literacy X4=Branch density X5=No. of SHG groups having access to credit 1, 1 are intercepts. 2, 3, 4, 5, 2, 3, 4, 5 coefficients. U1 andU2 are disturbances terms

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Table 2:Description of variables: Sl no. 1 2 3 4 Variables No. Of credit accounts per 1000 adults. Amount of loan disbursed per thousand adults. Per capita income No. of persons having primary education per 1000 adult population 5 6 Population branch(Branch density) No of SHG having access to credit group through bank Self help linkage X5 per X4 X2 X3 Cw Notation used Cd

programme

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Table:3.Correlation Matrix Correlation matrix: 3.a Credit widening

Cw Cw X2 X3 X4 X5 1 .5224 .4490 -.5778 .6098

X2 1 .1628 -.8726 .0379

X3

X4

X5

1 -.2714 .2489 1 -.1578 1

Correlation Matrix :3.b Credit Deepening Cd Cd X2 X3 X4 X5 1 .7938 .2878 -.7851 .4066 1 .1628 -.8726 .0379 1 -.2714 .2489 1 -.1578 1 X2 X3 X4 X5

Table-3 presents the zero order correlation matrix to test the problem of multi collinearity problem in the model. The correlation matrix shows absence of correlation among selected exogenous variables VI.1. Empirical Results The objective of the study is to examine the role of SHG bank linkage model in achieving financial inclusion across various states. A cross sectional regression analysis was adopted to study the impact of selected independent variables on financial inclusion. The empirical results of two regression equation have been mentioned in the following table. As depicted in the table, the R2 for equation (1) is 67.75%.There exists a positive relationship between Credit Widening (Cw) with all the independent variables except for variable x4.This clearly describes that higher economic development, higher
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financial literacy and an effective SHG bank linkage programme facilitates higher financial inclusion across various states. The inverse relationship between Cw and X4 (Population per branch) describes larger expansion of branches lead to larger financial inclusion. The white test of heteroscadasticity also revealed the absence of heteroscadasticity in the model. In case of equation (2),R2 is 78.38%.This explains that 78.83% of variation in financial inclusion in terms of financial deepening can be explained by the selected exogenous variables. The amount of loan disbursed per 1000 adult persons was taken as the measure of financial deepening. There exists a positive relationship between Financial Deepening with Per Capita Income, Financial Literacy, and an effective SHG bank linkage programme. At a 5% level of significance, both per capita income (x2) and SHG variables(X5) are found to be significantly affecting the the amount of Financial Inclusion in terms of Financial Deepening.

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Table:5 Regression Results Dependent No of Credit account Amount of loan disbursed per per variables Explanatory Variables X2 .0023126 (1.01) X3 .3470009 (1.25) X4 -.0018425 (-0.31) X5 .0004133 (2.89)* Intercepts R2 .5343454 (0.00) 0.6775 0.7838 .0000992 (2.08)** .0020767 (0.36) -.0000733 (-0.59) 6.90e-06 (2.31)** .7809542 (0.23) 1000 Adult 1000 adult population population

Notes: Significance at *1%, ** 5% VII. Conclusion The present paper attempted to study the impact of self help group bank linkage programme in achieving financial inclusion across sixteen states for the period 2008.The multiple regression analysis method exhibited a positive and significant impact of Self Help Group bank linkage programme on financial inclusion in terms of credit deepening. The empirical analysis also revealed a positive impact of economic development and financial literacy on financial inclusion whereas branch density (population per branch) exhibited an inverse relationship with financial inclusion. Self Help group linkage model is one of the successfully operated models of Microfinance in India. Under this model, the SHGs are financed by bank without any collateral, peer group pressure is considered as collateral by the lenders. Self Help Group bank Linkage Model also helps to reduce transaction costs facilitates proper monitoring of funds by group members, economic empowerment of SHG members
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by collective decision making etc. In spite of the increased spread of formal banking network in the recent past, access to basic financial services are still beyond the reach of large sections of society. SHG bank linkage model exhibits the potential to provide an alternative mechanism to extend financial services to large unbanked sections of the society.

VII. References
Basu Priya (2006): Improving Access to Finance for Indias Rural Poor, The World Bank, Washington, Beck Thorsten, Ross Levine, and Norman Loayza. (2000):Finance and the Sources of Growth. Journal of Financial Economics 58 (1): 261300. Bekaert, Geert, Harvey Campbell R and Lundblad Christian (2005):Does Financial liberalization spur growth?" Journal of Financial Economics, Volume 77, July 2005, Pages 3-55. Chavan pallavi and Ramakumar R., (2002): Micro-Credit and Rural Poverty: An Analysis of Empirical Evidence, Economic and Political Weekly, Vol. 37, No. 10 (Mar. 9-15, 2002), pp. 955-965. Goodwin D., Adelman L., Middleton S. and Ashworth K. (2000), Debt, Money Management and Access to Financial Services: Evidence from the 1999 PSE Survey of Britain, 1999 PSE Survey Working Paper 8, Centre for Research in social policy , Loughborough University. Government of India (2001): Census of India Report 2001. Greenwood, Jeremy, and Jovanovic Boyan (1990), Financial Development, Growth, and the Distribution of Income. Journal of Political Economy 98 (5): 1076-1107. NABARD: Annual Report, Various issues Puhazhendi V. and Satyasai K.J.S. (2000), Micro-finance for Rural People: An Impact Evaluation, NABARD. Report of the Internal Group to Examine Issues Relating to Rural Credit and Microfinance (2005), Reserve Bank of India. Reserve Bank of India (2008): Banking Statistical Return reports
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Reserve Bank of India, Speeches published on Financial Inclusion. Sahoo B.B, Mehrotra Nirupam & Nair Gopakumaran G. (2008): Financial InclusionAn Overview Occasional paper -48, NABARD Sangwan S .S. (2008): Financial Inclusion and Self Help Groups,NABARD Shahidur R. Khandker,(2005): Micro Finance and Poverty: Evidence Using Panel Data from Bangladesh, The World Bank Economic Review Sharma Mandira (2007): Index of Financial Inclusion, Working paper,ICRIER,New Delhi. List of Websites Referred:
www.indiastat.com www.rbi.org.in www.nabard.org

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