The Financial Express
F O C U S
EXPANDING
INCULSION
As policy makers pursue financial inclusion to ensure socio-economic
development, Aman Srivastava of Indicus Analytics deconstructs the
complexities of the goal, taking stock of the situation and the need to take a
proactive approach, in the first article of this three-part series
REMITTANCES:
METHODS ACTUALLY
USED BY PEOPLE WHO
PREFERRED BANKS
F
INANCIAL INCLUSIONasagoal
is gaining greater attention in
government policy circles and is
a key to continued socio-econom-
ic development. Almost 3 billion
people around the world lack access to basic
financial services that have the potential to
transform economies and boost livelihoods.
There is an urgent need for understand-
ing the complexities of this goal, so that the
regulation requiredtoachieveitisproactive
and not reactive, and can encourage large-
scale participation. This topic thus merits a
greater understanding and discussion,
whichweendeavourtocommencehere.This
is the first of a three-part series on financial
inclusionandbeginswithanoverviewof the
current state of inclusion in India and the
need for enhancing it. Subsequent articles
willcoverthemainaspectsof theregulatory
regime and introduce some key players as
well as models, both domestically and inter-
nationally. The domestic models can high-
lightwhatwe’veachievedsofar,whilethein-
ternational models will demonstrate what
we can still learn and apply.
What is financial inclusion?
The concept of financial inclusion was best
summedupbytheRangarajanCommitteein
2008 as “the process of ensuring access to fi-
nancial services and timely and adequate
credit where needed by vulnerable groups
such as weaker sections and low income
groups at an affordable cost.”
Universalinclusionhasbeenapolicygoal
for decades and has witnessed the participa-
tion, employing various models, of several
players over the years. As a result, India has
done quite well in this field relative to its in-
come levels, as shown below. However, as
with so many other policy goals over the
years,progressisstillinsufficientandmuch
more needs to be done.
The need for financial inclusion
It is by now well known that financial inclu-
sion is an important tool in aiding the devel-
opment of an economy. Sustaining India’s
rapid growth in the future will require the
upliftment and participation of its entire
population. Small wonder then, that the In-
dian delegation at the annual meet of the
World Economic Forum this year adopted as
its theme the phrase ‘Inclusive growth.’ We
have managed to jump on to a high growth
trajectory, but have not yet ensured the par-
ticipation of all sections of society. Achiev-
ing that confronts us with the challenges of
scalingnewmodelswhileensuringahighde-
gree of consumer protection. The latter
point is particularly important since the tar-
get population comprises the economically
vulnerable sections.
Unfortunately,despitethefocusonthepri-
ority sector, banks have been unable to
achieve this balance, and have therefore,
shiedawayfromeffortstopromoteuniversal
inclusion. The current lack of transaction
history that has arisen from availing the ser-
vices of the informal financial sector means
that banks are not able to conduct credit
checks on poorer people, and fear higher de-
fault rates in case they extend lending to this
segment. Additionally, since they earn their
revenuesfromfloats(sizesof deposits),their
costs of servicing a poorer person’s account
(i.e. smaller deposit sizes) frequently exceed
their revenues from it.
Financial inclusion can channel the pop-
ulation into the formal sector and so enable
better record-keeping of transactions.
Through this, credit history may be moni-
tored, ensuring a more sustainable model of
lending/borrowing, so crucial to rural de-
BANKS
29%
POPULATION SERVED PER
BRANCH
(IN %)
18000
16000
14000
12000
10000
8000
6000
4000
2000
0 agentssuchaskiranastores,petrolpumpsor
Rural Urban Total
1991 1996 2001 2008
Source: Estimates using RBI, Census of India
velopment. With access to formal finance,
the rural poor need no longer go to money-
lenders who charge exorbitant rates of in-
terest. They also have increased security in
financial flows such as remittances and can
cut down on time and money costs to stream-
line the process. The transaction record-
keeping will stamp out money laundering
and fraud, and so cut into the parallel black
markets that eat into the country’s GDP. It
would also boost tax collections.
Perhaps most importantly, it would in-
crease uptake of the government’s various
social welfare programs such as NREGS,
Sarva Shiksha Abhiyan, and Janani Surak-
sha Yojana. Additionally, since the govern-
ment is one of the largest bill payers and mi-
cro-payers in the country, it stands to benefit
a great deal from making all its payments
flowelectronic.A2010McKinseystudytitled
Inclusivegrowthandfinancialsecurityfound
that such automation would lead to savings
of about US$ 22.4 billion per year. These effi-
ciencies may be brought about by plugging
leakages (diversion of benefits to unintend-
ed groups), reducing transaction costs (in-
cluding time and effort) and administrative
costs (such as audits, reconciliations, etc).
At present, the government desires that
all the NREGA payments, tens of millions of
whicharedistributedannually,bemadeelec-
tronically via biometric smartcards. This,
however, is a money-losing scheme for both
banks and their business correspondents
due to high rates of dormancy and ‘carding
rampages’ to increase penetration. The gov-
ernment offer banks Rs 50 subsidy for each
card issued, as well as 2% of the throughput
as a fee, but this is insufficient for deploying
the smartcards and setting up the requisite
infrastructure.
In rural areas, people typically use bank
accounts to: receive payments from such so-
cial welfare schemes, receive remittances,
andstoretheirmoneysafely.Andbanks,typ-
ically, do not have an incentive to encourage
such financial inclusion for a variety of rea-
sons as listed above. Further, since bank
branchesarefrequentlysituatedfarfromthe
target populations, even people have no in-
centivetotravellargedistancestotransactin
any capacity.
A 2010 IFMR study on remittances (cov-
eredlaterinthisarticle)foundthattherecip-
ients in its sample spent an average of 40
minutesintravellingand50minutesinwait-
ing for their transactions at local bank
branches. This reluctance of banks to serve
the financially excluded is illustrated by the
HAWALA
COURIERS
11%
fact that the per capita number of bank
branches is falling in rural areas. In fact, In-
dia currently has just one bank branch per
16,000 people, a very poor ratio when com-
pared to Japan (one branch per 1,960 people)
or Germany (a branch per 1,480 people), or
even Brazil (one branch for 9,300 people).
The current situation
With the banking model having underper-
formed so far, we have to look at new and in-
novativewaysof bringingpeopleintothefor-
mal financial system. One model that comes
to mind involves using the cell phone, a de-
vice that India has adopted in a big way
acrossallsectionsof society.Usingthismod-
el to address the needs of society requires a
better understanding of these needs.
Deposits vs. cell phones
At present, only 45% of adults in India have
access to a bank account. This figure falls to
27% for rural households with access to any
financialservices(EconomicSurvey2007-08).
Further,thereisastrongpositivecorrelation
between income levels and bank accounts,
indicating that richer people are more likely
to have a bank account than poorer ones.
This correlation transcends the rural/ur-
ban divide. According to RBI statistics, 72%
of those earning less than Rs 50,000 a year
lack a bank account. With 40% of the Indian
householdsearninglessthanRs75,000ayear
(based on NSSO data), this creates a big chal-
lenge for banking coverage.
On the other hand, India currently has
about 730 million phone connections, indi-
cating a tele-density of about 65%, and is
adding between 10-15 million connections a
month at a CAGR of 45% over the past five
years. Using mobile phones as a banking
platform would enable anytime log-keeping
and would eliminate travel costs.
Remittances: untapped need
India has about a hundred million domestic
migrants, by some estimates, and a 30% ur-
banisation ratio as per a 2007 UN report.
These migrants often leave their families in
search of better earning prospects, and reg-
ularly send their savings home. Latest esti-
AVERAGE ANNUAL INCOME
IN RS AND % OF PEOPLE
WITH BANK ACCOUNTS
Agriculture wage labour
21,295
Wage labour—non-agriculture
31,676
Own account workers 25%
33,100
Streetvendors 39%
37,300
Other self employed workers 50%
59,687
Self-employed in primary production 45%
60,078
Part time earners 49%
64,507
Shopkeepers 67%
100,044
Private salaried workers 68%
105,670
Government salaried workers 90%
140,001
Self-employed professionals86%
319,555
Businessmen 95%
478,985
Note bar refer to income in Rs and % figure refers
to percent with the bank
Source: IISS, 2007
mates done by the Centre for Microfinance
(IFMR)showahighdependenceoninformal
channels for sending money home. Almost
half of the respondents reportedly used in-
formal means to remit money to their fami-
lies, and the primary concerns of these re-
spondents were safety and convenience of
the remittance. Since banks don’t have a
largeextentof ruralpenetrationandimpose
strictKYCnorms,migrantsareforcedtouse
moreexpensiveandriskyinformalchannels
suchashawalatransfers.Indeed,only about
30% of the respondents of this study used
bank networks to remit money as against
49% who would have preferred to use it.
Those using banks tended to have relatively
higher incomes, which is unsurprising be-
cause, of course, the proportional costs fall
as the transfer amount rises.
Of all the transfer methods, the users of
cash couriers were the least likely to prefer
any other method due to the convenience of
doorstep delivery and the relatively inex-
pensive costs.
Indiaalsohasanetworkof 1,50,000postof-
fices,fargreaterthanthesixty-fivethousand
bank branches spread across the country.
Many people use this network for remit-
tances,savingsaccounts,etc.,despite
POST
OFFICES
2%
The remaining 50% of the respondents did not prefer to use a bank. Figures are approximate
COSTS OF TRANSACTION
(US$)
1.2
1.0
0.8
0.6
0.4
0.2
0 ployment,andwhichareapracticalsolution
Branch
Call Centre
Mail
ATM
Internet
BAI ICICI
Source:CGAP Focus Note 32, 2006
the higher costs of transferring money by
this method as well as the limited reach of
the web-based instant money order service,
which is available at only a thousand offices
due to infrastructure costs.
Lack of access to credit
On the other side of the balance sheet, the
third census of small scale industries con-
ducted in 2001-02 showed that while 14% of
theregisteredunitsenjoyedbankcredit,just
3%of theunregisteredunitshadbankloans.
As per NSSO data, 52% of farm house-
holds do not have access to credit. Of the re-
maining 48%, only 27% have access to credit
from formal sources.
Indebtedness is substantially lower
amongst the poorest due to a lack of avail-
ability of funds for them. Banks are reluc-
tant to lend to this section due to the small
loanamountswhicharecostlytoservice.Ad-
ditionally, the debtors have irregular in-
comes and no transaction history, which
means banks are unable to assess their cred-
it worthiness. Their borrowings are there-
fore, principally sourced from the informal
sector, largely for purposes of non-produc-
tive household consumption, and are unse-
cured as they have no assets to offer as collat-
eral. Sourcing these borrowings from the
informalsectoragainleadstocostlytransac-
tions going unrecorded, thus creating a vi-
cious cycle of financial exclusion.
14% Microfinance emerged as an alternative
tothebank-creditsystemaboutfourdecades
25% ago. However, it also suffers from many limi-
tations in the present form. The self-help
group-bank linkage programme, which is
managedbyNABARD,isthelargestmicrofi-
nance programme in the world with a reach
of 54million.Butitisheavilysubsidisedand
focuses only on credit delivery. Similarly, mi-
cro-finance institutions (MFIs) serve a large
number of borrowers, but their penetration
has not crossed 3% (World Bank, 2006). This
is again due to high transaction costs.
In fact, Andhra Pradesh, which accounts
for a quarter of the micro-lending industry,
witnessed a recent spate of farmer suicides
due to overcharging and coercive recovery
methodsbyMFIs.Asubsequentordinanceis-
suedbythestategovernmenttocurtailthein-
dependenceof theseMFIsledtoloanrecover-
ies plunging to 10-20%, and a consequent halt
infreshlendingandabilitytoserviceexisting
clients. This led to the RBI setting up the
MalegamCommitteetoaddresstheproblems
in the micro-lending sector. The committee’s
report, which came out in January, recom-
mends better regulation of MFIs. It remains
tobeseenwhetheranyof theserecommenda-
February 13, 2011 7
tions are adopted, and to what extent. Howev-
er, this issue highlights the need for a coher-
ent, well thought-out policy process to tackle
anevidentlycomplextask.
The way forward
Looking at all the alternatives that are being
used for financial transactions, reducing
costs and raising credit history stand out as
paramount concerns.
Electronic banking, made possible due to
theintroductionof ICTs,canprovetobeapo-
tent weapon in the battle to increase finan-
cial coverage by leapfrogging traditional
banking infrastructure. Amongst the vari-
ous alternatives, mobile banking is seen as
the most viable option to enable universal fi-
nancial inclusion. Allowing financial trans-
actionstobeconductedviathemobilephone
is a promising idea because of the logistics
involved with it. Mobile phones are ubiqui-
tous and don’t require a large amount of
physicalinfrastructureapartfromafewtele-
com towers. They are portable and enable
transactions to be carried out anywhere and
anytime, with automatic record-keeping.
Amongst ICTs, the setting up of ATMs is
alsoastepintherightdirection,astheyhave
lowercostsof installationthanbankbranch-
es, but unless some standardised colour cod-
ing is introduced for each ser-
CASH FRIENDS
COURIERS
4% 4%
vice rendered, ATMs will not be a useful tool
in areas that witness high rates of illiteracy.
Cards are another form of branchless
banking, credit, debit and cash cards are
gainingpopularity.Whateverthepath,some
form of a digital payments system is defi-
nitely valuable, from the point of view of fo-
cusing on transaction-based activities and
cost-effective delivery.
The bank response
One way to encourage the spread of banking
has been through business correspondents
(BCs), which can be a useful alternative or
supplement to ICTs, depending on their de-
to the challenge of branchless banking. Al-
lowingbankingfunctionstobeoutsourcedto
postofficeswouldfurtherthecauseof finan-
cial inclusion as these institutions have bet-
ter retail and distribution networks and are
more likely to be present in isolated rural ar-
eas. As many as 8 million accounts had been
openedthroughBCsby2009,asperastudyby
N Srinivasan. And now, the RBI has asked
bankstoextendservicestoanother72,000vil-
lages by 2012.
Of course, there is another change that
bankscanadopttoencouragefinancialinclu-
sion—by shifting their revenue model to one
that is dependent on transactions and not on
accountbalances.Poorerpeople,typicallyen-
gaged in daily wage labour, conduct more fre-
quent financial transactions. These transac-
tions include the savings remitted back to
families in the instance of migrant workers.
Allowing banks to earn their revenues off
these transactions instead of deposits would
compel them to tap into this financially ex-
cludedsector.A2008RBIstudyfoundthat87%
of the accounts in a district, which was re-
portedly 100% financially included, were ly-
ing dormant. This was probably because
banks limited their use as they lost money on
eachaccountwithinsufficientfloats.
However, including cell phones into the
grand scheme of things means that banks
won’t have to do it alone, and can create a
symbiosis with telecom firms so as to elimi-
nate the problems stemming from their rev-
enue models. In such a symbiotic relation-
ship, we will witness the emergence of
several players.
Key players
Many big players can aid in this cause of fur-
thering inclusion, either through their deep
pockets, or their extensive retail networks.
These players can include internet service
providers, payment system operators, tech-
nologyproviders,mobilenetworkoperators,
banks, retailers, etc. Particularly important
will be the roles played by SBI, ICICI, Airtel,
Vodafone, Reliance, India Post, Public Call
Offices (which has a network of 400,000 out-
lets), NABARD and the UIDAI. Their active
involvement will require an enabling regu-
latory environment. Let us see how this sto-
ry plays out.
In the next article in this series, we will
cover the existing set of financial sector reg-
ulations, particularly in terms of barriers
and opportunities, which have an impact on
inclusion. The challenge of making regula-
tion meet the needs of the poor will need in-
putsfrommanystakeholders;whatisimpor-
tant is to create a conducive ecosystem that
does just that.
The writer is an economist at the Centre for
Financial Inclusion, Indicus Analytics. You
can reach him at
aman.srivastava@indicus.net
(To be continued next week)