Article

Financial Inclusion: A Saga of Indian Financial System Vandana Dangi

Asia-Pacific Journal of Management Research and Innovation 8(2) 111–125 © 2012 Asia-Pacific Institute of Management SAGE Publications Los Angeles, London, New Delhi, Singapore, Washington DC DOI: 10.1177/2319510X1200800204 http://apjmri.sagepub.com

Abstract Financial inclusion means improving access to financial services for poor people through the safe and sound spread of new approaches based on principles. The present article attempts to explore the diffusion of financial inclusion in the Indian financial system. Financial access with market size and depth in India is compared with select Asian peer group and Organisation for Economic Co-operation and Development (OECD) countries. The article also explores competition scenarios among scheduled commercial banks operating in India. The results of entropy, exponential index, Herfindahl index, Gini coefficient and concentration coefficient of 76 scheduled commercial banks operating in India indicate a fair degree of competition and concentration among themselves. Improved regulations, innovation, growth and value creation in the sector make it a highly competitive sector. But this sector is dominated by public sector banks, followed by private sector banks. This study identifies lessons learnt from nine principles of innovative financial inclusion (namely, leadership, diversity, knowledge, empowerment, protection, proportionality, innovation, cooperation and framework) that were applied in providing financial services to vulnerable groups in India. The results show that commercial banks, cooperative banks, regional rural banks and microfinance programmes have been playing a vital role in removing financial exclusion in India. Financial inclusion in the Indian financial system is through the larger number of banks, competition and good governance, with diversified ownership.

Keywords Concentration coefficient, entropy, financial inclusion, Herfindahl index, Gini coefficient, principles of innovative financial inclusion

Introduction The deepening drive to economic growth and financial sector development is the result of efforts in mobilising savings and investing in productive sectors. The institutional infrastructure of the financial system contributes to reducing information costs, contracting costs and transaction costs, which in turn accelerates economic growth and promotes pro-poor growth. The increasing span of financial inclusion reduces the economic vulnerability of households, promotes economic growth, alleviates poverty and improves the quality of people’s lives. The earlier theories of development concentrated on labour, capital, institutions, etc. The importance of finance to economic growth has also frequently been ignored by economists while framing various theories. But if these theories were correct then there was very little reason for financial markets to exist. However, later development showed that there were imperfections in the financial market and how various financial entities led to reduction of these imperfections. Thus was born a powerful and fruitful rejoinder to the Modigliani–Miller neutrality result and more broadly, a perspective on capital structure that has had enduring influence. Since then there has been numerous research studies analysing how financial systems help in developing economies. The research has not just

looked at how finance helps economic activity but also social aspects like poverty, hunger, etc.

Meaning of Financial Inclusion Earlier finance was not recognised as a factor for growth and development. But now it is considered as the brain of an economic system and most economies strive to make their financial systems more efficient. It also keeps policy-makers on their toes as any problem in this sector could freeze the entire economy and even lead to a contagion. Berger and Hannan (1989) had analysed price-concentration relationship in banking. Hannan and Liang (1993) had inferred market power from time-series data of the banking firm. Hannan (1997) extended the study in examining the bank pricing in terms of market share inequality and the number of competitors through HHI. Hughes, Lang, Mester and Moon (1996) emphasised the role of inter-bank branching in efficient banking. Jackson, III (1997), pointed out the evidence of non-monotonicity in the market structure and in the speed of price adjustments. Levine, Loayza and Beck (2000) pinpointed causality and causes of financial intermediation and growth. Neumark and Sharpe (1992) ascertained the nature of price rigidity and market structure for consumer deposits. Reddy (1996) associated the economy growth with the

Vandana Dangi, Assistant Professor, Government College for Women, Rohtak, Haryana, India. E-mail: [email protected]

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financial inclusion. Rhoades (1995) identified the market share inequality, the HHI, and other measures of the firm composition of a market. Suominen (1994) introduced a two product model for measuring competition in banking. Zardkoohi and Fraser (1998) recognised the geographical deregulation and competition in banking markets. The present treatise portrays the saga of Indian financial system in financial inclusion. Rangarajan Committee (2008) defined the financial inclusion: ‘Financial inclusion may be defined as 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 cost.’ Financial inclusion denotes delivery of financial services at an affordable cost to the vast sections of the disadvantaged and low-income groups. The various financial services include credit, savings, insurance and payments and remittance facilities exhibited in Figure 1. The objective of financial inclusion is to extend the scope of activities of the organised financial system to include within its ambit people with low incomes.

Objectives of the Study 1. To explore the diffusion of financial inclusion in the Indian financial system. 2. To study financial access with market size and depth in India compared with select Asian peer group and OECD countries. Figure 1. Financial Inclusion

3. To analyse financial inclusion through commercial banks, cooperative banks, regional rural banks, selfhelp groups and microfinance institutions in India. 4. To explore the competition scenarios among commercial banks operating in India. 5. To reconnoitre the adaptation of principles of innovative financial inclusion in India.

Research Methodology The present article mainly emphasised the in-depth study of inclusion of commercial banks, cooperative banks, regional rural banks (RRBs) and microfinance institutions over a period of six years (2004–2005 to 2009–2010), that is, including the pre-recession period, recession period and post-recession period. The study also explores dynamics of competitiveness among 76 commercial banks operating in India at present. The study covers 27 public sector banks, 22 private sector banks and 27 foreign banks operating in India. Public sector banks include all 19 nationalised banks, the State Bank of India and its associates, and IDBI Ltd. The measures used to analyse the data in the study are given in the following paragraphs.

Entropy The entropy measure has its theoretical foundations in information theory and measures the ex ante expected information content of a distribution. It takes the following form:

n

E = – ∑ s i log s i 

(1)

i =1

Suppose we have source S of symbols from ensemble {s1, s2,…, sN}.

5#8+0)5

Maximum and Minimum Entropy

$#0#%%17065

(+0#0%+#. #&8+%'

(+0#0%+#. +0%.75+10



2#;/'06 #0& 4'//+66#0%'

+0574#0%'

Maximum entropy is achieved when all signals are equally likely. No ability to guess; maximum surprise: (2)

Minimum entropy occurs when one symbol is certain and the others are impossible. No uncertainty; no surprise:

#((14&#$.' %4'&+6

Hmax = lg N

Hmin = 0

(3)

Exponential Index Commonly used market concentration measures are the Herfindahl index (HHI or simply H) and the concentration

Asia-Pacific Journal of Management Research and Innovation, 8, 2 (2012): 111–125

113

Financial Inclusion ratio (CR). The Hannah-Kay (1971) index has the general form:



1   ∑ s iα α −1 if α > 0, α ≠ 1  HK α ( x) =  si  ∏ s i if α = 1

(

Note,

∏s

)

si i

= exp

(∑ s log(s )) , i

i

(4)

(5)

Herfindahl Index The Herfindahl index (also known as Herfindahl– Hirschman index or HHI) is a measure of the size of firms in relation to the industry and an indicator of the amount of competition among them. As such, it can range from 0 to 1.0, moving from a huge number of very small firms to a single monopolistic producer. Increases in the Herfindahl index generally indicates a decrease in competition and an increase of market power, whereas decreases indicate the opposite. The major benefit of the Herfindahl index in relationship to such measures as the concentration ratio is that it gives more weight to larger firms. H =

N

∑ s , 2 i

i =1

(6)

where si is the market share of firm i in the market, and N is the number of firms. Thus, in a market with two firms that each have 50 per cent market share, the Herfindahl index equals 0.502 + 0.502 = 1/2. Normalised Herfindahl There is also a normalised Herfindahl index. The Herfindahl index ranges from 1/N to 1, whereas the normalised Herfindahl index ranges from 0 to 1. It is computed as follows:

H* =

(H − 1/N ) , 1 − 1/N

1

G = 1 − 2∫ L( X )dX . 



(8)

0

which is the exponential index.



A low Gini coefficient indicates a more equal distribution, with 0 corresponding to complete equality, while higher Gini coefficients indicate more unequal distribution, with 1 corresponding to complete inequality. If the Lorenz curve is represented by the function Y = L(X), the value of B can be found with integration and

(7)

where again, N is the number of firms in the market and H is the usual Herfindahl index.

Gini Coefficient The Gini coefficient is usually defined mathematically based on the Lorenz curve, which plots the proportion of the total income of the population (y axis) that is cumulatively earned by the bottom x per cent of the population. The line at 45 degrees thus represents perfect equality of incomes. The Gini coefficient can range from 0 to 1; it is sometimes multiplied by 100 to range between 0 and 100.

Since the Gini coefficient is half the relative mean difference, it can also be calculated using formulas for the relative mean difference. For a random sample S consisting of values yi, i = 1 to n that are indexed in non-decreasing order (yi ≤ yi+1), the statistic is as follows:

 ∑ n (n + 1 − i) y i   1     (9) G(S ) = n + 1 − 2  i =1 n n − 1    y ∑i =1 i   



Concentration Coefficient C = n/(n – 1)*G.

Ratio Analysis 1. 2. 3. 4.

Population per bank branch in rural areas. Population per bank branch in urban areas. Population per ATM in urban areas. Population per ATM in rural areas.

Diffusion of Innovative Financial Inclusion in the Indian Financial System The financial system has to provide its function of transferring resources from surplus to deficit units to help them come out of poverty. So far, the focus has only been on delivering credit (it is called microfinance but is actually microcredit) and has been quite successful. Similar success has to be seen in other aspects of finance as well. The process for financial inclusion started with the cooperative movement followed by the entry of different organisations and schemes in the Indian financial system. Figure 2 exhibits the process of financial inclusion in India. Financial inclusion is not a new concept; it started along with the cooperative movement followed by institutionalisation of rural credit, democratic socialism model for economic development, establishment of the State Bank of India (SBI), social control over banks, introduction of the Lead Bank Scheme, growth with equity objective of planning, establishment of RRBs, establishment of National Bank for Agriculture and Rural Development (NABARD),

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initiatives on microfinance and self-help groups (SHGs). The phases of financial inclusion in the present article have been divided into four categories. Consolidation of the banking sector and facilitation of industry and trade was done during 1950–1970, followed by focusing on channelling of credit to neglected sectors and weaker sections during 1970–1990. The period of 1990–2005 was devoted to focusing on strengthening the financial institutions as part of financial sector reforms; 2005 onwards, financial inclusion was explicitly made a policy objective. Figure 3 displays the phases in the chorological order.

Figure 2. Process of Financial Inclusion Co-operative Movement Setting up of State Bank of India Nationalisation of banks Lead Bank Scheme RRBs Service Area Approach Self Help Groups

Figure 3. Phases of Financial Inclusion in Chronological Order

1950–1970: Consolidation of the Banking sector & facilitation of industry and trade

1970–1990: Focus on channeling of credit to neglected sectors and weaker sections

Financial Access with Market Size and Depth in India Compared with Select Asian Peer Group and OECD Countries Financial inclusion in the Indian context means the provision of affordable financial services, namely, access to payments and remittance facilities, savings, loans and insurance services

1990–2005: Focus on strengthening the financial institutions as part of financial sector reforms

2005 onwards: Financial inclusion was explicitly made as a policy objective

by the formal financial system to those who tend to be excluded. Financial exclusion remains an area of concern given the low levels of financial penetration and deepening in India when compared with other countries across the globe. As indicated in Table 1 and Figure 4, India ranks low when compared with OECD countries with regard to financial penetration. When compared with select Asian peer

Table 1. Financial Access with Market Size and Depth Financial Access

Financial Market Size and Depth

Number of Branches per 100,000 Persons

Number of ATMs per 100,000 Persons

India

6.33

1.63

33.3

Asian peer group countries (range)

1.33–20

3.80–17.05

23.00–126.60

China

1.33

3.8

111.8

Indonesia

3.73

4.84

23

Malaysia

8.26

16.44

126.6

Thailand

7.37

17.05

90.5

Countries/Groups

Private Credit to GDP Ratio (%)

OECD countries (range)

23–45

 57–158

Australia

24

115

109.73

Canada

28

158

75.65

Japan

45

136

97.9

UK

23

97

160.48

US

26

134

47.84

Source: Sophastienphong and Kulathunga (2009).

Asia-Pacific Journal of Management Research and Innovation, 8, 2 (2012): 111–125

47.80–160.48

115

Financial Inclusion Figure 4. Financial Access and Depth 180 160 140 Financial Access Number of branches per 100,000 persons

120 100

Financial Access Number of ATMs per 100,000 persons

80 60

Financial Market Size and Depth Private credit to GDP ratio (per cent)

40 20

group countries, the difference in financial access is much less striking as far as access to bank branches is concerned but it is prominent with regard to access to ATMs. The size and depth of the banking sector when measured taking private credit to GDP ratio also works out to be much lower for India than many of its peer group countries in Asia. These trends necessitate strengthening of the financial inclusion process in India. Now financial inclusion is in the policy agenda of economy. The performance of India in the past recession period has improved in terms of ATMs, which indicates confronting the weak areas in order to be at par with other counties.

Inclusion of Commercial Banks, Cooperative Banks, Regional Rural Banks and Microfinance Programmes in India Financial inclusion in the Indian financial system is studied through commercial banks, cooperative banks, RRBs and microfinance institutions.

Financial Inclusion through Commercial Banks Commercial banks form the most important part of the Indian financial landscape in terms of their role in channelling credit to the commercial sector and facilitating the process of financial inclusion. With the onset of economic reforms, the commercial banking sector, which has retained its predominantly public character, has undergone a number of changes in terms of size, efficiency of operation and financial soundness. The number of commercial banks

US

UK

In

di a Ch In ina do ne s M ia ala y Th sia ail a Au nd st ra li Ca a na da Jap an

0

operating in India during the period covered by the study is depicted in Table 2. The decreasing trend in number of commercial banks operating in India over the study period is mainly due to RRBs. Reduction in number of RRBs was due to amalgamation, which began in September 2005. As on 31 March 2005, 130 RRBs were operating in 26 states across 523 districts with a network of 14,484 branches. RRBs had a large branch network in the rural areas, which constituted nearly 45 per cent of rural branch network of all commercial banks. After amalgamation, RRBs become bigger in size with a larger area of operation, which enabled them to function in a competitive environment more effectively by taking advantage of the economies of scale and reduction in transaction cost. The process of bringing down the number of RRBs made it more convenient for the sponsor banks to manage the affairs of RRBs. Competition Scenarios The conditions in the banking industry have changed and are changing all over the world. The present article calculates entropy, exponential index, Herfindahl index, Gini coefficient and concentration coefficient of 76 scheduled commercial banks operating in India from advances to explore degree of competition and concentration in the banking industry. The data of advances have been taken from ‘Financial Stability Report’ (December 2010), ‘Report on Trend and Progress of Banking in India’ (2007– 2008, 2008–2009 and 2009–2010), ‘Reserve Bank of India Bulletin’ (January, February, March 2011), ‘Quarterly Statistics on Deposits and Credit of Scheduled Commercial Banks’ (June 2010). Table 3 portrays the results of different statistical competition indicator tools.

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Table 2. Number of Commercial Banks Operating in India Banks

2004–2005

2005–2006

2006–2007

2007–2008

2008–2009

2009–2010

Public sector banks

  28

  28

  28

  28

  27

  27

State Bank of India and associates

   8

   8

   8

   8

   7

   7

Nationalised banks

  19

  19

  19

  19

  19

  19

IDBI

   1

   1

   1

   1

   1

   1

Private sector banks

  29

  28

  23

  22

  22

  22

Old private sector banks

  20

  20

  15

  15

  15

  15

New private sector banks

   9

   9

   8

   7

   7

   7

Foreign banks

  31

  29

  28

  30

  32

  32

Regional rural banks

130

106

  88

  88

  86

  86

Non-scheduled commercial banks

   4

   4

   4

   4

   4

   4

Total

222

195

171

172

171

171

Source: Report on trend and progress of banking in India (2004–2005, 2005–2006, 2006–2007, 2007–2008, 2008–2009 and 2009–2010).

Table 3. Statistical Competition Indicators of Scheduled Commercial Banks Measures

Results

Entropy

3.47691

Maximum entropy

4.330733

Normalised entropy

0.802846

Exponential index

0.030903

Herfindahl

0.051998

Normalised Herfindahl

0.039358

Gini coefficient

0.664118

Concentration coefficient

0.672973

Categories

76

Table 4. Percentage Share of Bank Groups in Total Assets of the Banking Sector Old Private New Private Sector Sector Banks Banks

Year

Public Sector Banks

Foreign Banks

2005

75.3

5.7

12.5

6.5

2006

72.3

5.4

15.1

7.2

2007

70.5

4.6

16.9

7.9

2008

69.9

4.5

17.2

8.4

2009

71.9

4.4

15.2

8.5

2010

73.7

4.5

14.6

7.2

Source: Report on trend and progress of banking in India (2004–2005, 2005–2006, 2006–2007, 2007–2008, 2008–2009 & 2009–2010).

Source: Author’s calculations.

The results of entropy, exponential index, Herfindahl index, Gini coefficient and concentration coefficient of 76 scheduled commercial banks operating in India indicate a fair degree of competition and concentration among themselves. Figure 5 also portrays the same results. The improved regulations, innovation, growth and value creation in the sector make it a fairly competitive sector. But this sector is dominated by public sector banks, followed by private sector banks as depicted in Table 4 and Figure 6. The share of foreign banks in India is meagre. During the pre-recession period, new private sector banks and foreign banks have shown a rising trend, whereas public sector banks and old private sector banks have shown a declining trend. Following the financial crisis, new deposits made their way towards public sector banks,

resulting in a reversed position. According to the Reserve Bank of India’s ‘Quarterly Statistics on Deposits and Credit of Scheduled Commercial Banks: September 2009’, nationalised banks, as a group, accounted for 50.5 per cent of the aggregate deposits, while SBI and its associates accounted for 23.8 per cent. The shares of other scheduled commercial banks, foreign banks and RRBs in aggregate deposits were 17.8 per cent, 5.6 per cent, and 3 per cent, respectively. Spread and Access of Commercial Banking Services in India The spread and access of banking services is an important pointer of financial penetration and inclusion. Table 5 sets out the distribution of bank branches across rural and urban areas, and across states/regions.

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117

Financial Inclusion Figure 5. Lorenz Curve of Scheduled Commercial Banks Concentration

Lorenz Curve: cumulative % of variable

1.0

0.8

0.6

0.4

0.2

0.0 0.0

0.2

0.4 0.6 Cumulative % of population

0.8

1.0

Figure 6. Percentage Share of Bank Groups in Total Assets of the Banking Sector 80 70 60 50

Public Sector Banks

40

Old Private Sector Banks New Private Sector Banks

30

Foreign Banks

20 10 0 2005

2006

2007

2008

The average population per bank branch acts as a basic indicator of the penetration of banking services. Going by this population per branch, the penetration of banking services has been on a consistent increase in India in recent years. However, the rate of increase in the penetration of banking services in rural areas was much lower than that in urban areas, which is evident from a comparison of the rate of decline in the population per bank branch in rural and urban areas. Population per bank branch was on a decline across all regions in recent years, signifying growing penetration of banking services across all regions. The branch authorisation policy was liberalised in December 2009 giving freedom to domestic scheduled commercial banks to open branches at Tier 3 to 6 centres without having the need to take permission from the Reserve Bank of

2009

2010

India (RBI). A comparison of newly opened bank branches at Tier 3 to 6 centres between July 2009 and June 2010 in the previous year indicated that the impact of this policy change has been positive. The penetration of banking services has been on a consistent increase in India in recent years as depicted in Figure 7. The population per bank branch was on a decline across all regions in recent years, signifying growing penetration of banking services across all regions as can be seen in Figure 7. Distribution of ATMs Table 6 maps the distribution of ATMs, another channel of banking services, across rural and urban areas. There was also an increase in the penetration of ATMs in recent years as evident from a fall in the population per ATM.

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Table 5. Population per Bank Branch

Year

Population per Bank Branch in Rural Areas

Table 6. Population per ATM

Population per Bank Branch in Urban Areas

Total Population per Bank Branch

2005

18.1

13.2

16.7

2006

17.9

12.9

16.3

2007

17.8

12.7

16

2008

17

11.7

15.1

2009

16.6

11

14.5

2010

16.1

10.4

14

Source: Report on trend and progress of banking in India (2004–2005, 2005–2006, 2006–2007, 2007–2008, 2008–2009 and 2009– 2010.

Year

Population per ATM in Rural Areas

Population per ATM in Urban Areas

Total Population per ATM

2005

179.6

19.4

52.2

2006

168.4

18.2

49.8

2007

125.6

15.9

43

2008

89.3

12.6

33.2

2009

68.1

10.4

26.8

2010

43.5

8.1

19.7

Source: R  eport on trend and progress of banking in India (2004–2005, 2005–2006, 2006–2007, 2007–2008, 2008–2009 and 2009– 2010.

Figure 7. Average Population per Bank Branch 20 15

Population per bank branch in rural areas Population per bank branch in urban areas

10

Total Population per bank branch

5 0

2005

2006

2007

2008

2009

There was a greater concentration of ATMs in urban areas than in rural areas, the number and percentage of ATMs in rural areas was on a steady rise in recent years (Figure 8). The performance of India in the post-recession period has improved in terms of ATMs, which indicates confronting the weak areas. There is improvement, but not at par with other nations. Banks in India need to penetrate rigorously in terms of setting up of ATMs in rural areas; they need to speed up the process. The percentage of ATMs located in rural areas accounted for 28.4 per cent of the total ATMs in the country at endMarch 2009, which increased to 32.7 per cent at end-March 2010. The growing penetration of ATMs in rural areas could also be seen from a continued fall in the population per ATM in rural areas. The percentage share of ATMs located at various centres are portrayed in Table 7, indicating a rising trend in rural and semi-urban centres due to

2010

Table 7. Percentage Share of ATMs Located at Various Centres Year

Rural Centres

Semi-urban Centres

Urban Centres

Metropolitan Centres

2005

2.9

17.1

37.9

42.1

2006

3.7

18.4

36.7

41.2

2007

4.8

19.9

35.5

39.8

2008

5.4

21.4

34.8

38.4

2009

6.3

22.1

33.9

37.7

2010

8.6

24.1

32.9

34.4

Source: Report on trend and progress of banking in India (2004–2005, 2005–2006, 2006–2007, 2007–2008, 2008–2009 and 2009–2010).

untapped market, and stagnant in urban and metropolitan centres due to saturation.

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Financial Inclusion Figure 8. Population per ATM 200 180 160 140 120

Population per ATM in rural areas

100 80

Population per ATM in urban areas Total Population per ATM

60 40 20 0 2005

2006

2007

2008

2009

The credit of the increasing ATMs in rural areas goes to public sector banks as depicted in Table 8. The figures in parentheses indicate percentage shares with respect to total ATMs under each bank group. Nationalised banks, especially the State Bank group, operating in India have been the most successful institutions in terms of penetration, as compared with private banks and foreign banks in rural areas, in terms of ATMs. The latter banks have been emphasising their operations area in urban and metropolitan centres. The inclusion of foreign banks in rural and semi-urban centres is minimal; even the performance of public sector banks is not satisfactory in terms of

2010

ATMs in rural and semi-urban areas. Private sector banks and foreign banks need to extend their coverage in these areas so that the objectives laid down in policy agenda of financial incision could be achieved in the near future. Figure 9 portrays the percentage share of ATMs located at various centres during the pre-recession, recession and post-recession period. The penetration in terms of ATMs in rural centres and semi-urban centres has been increasing during the entire period covered by the study. However, penetration in terms of ATMs in urban centres and metropolitan centres has been decreasing during the study period due to saturation.

Table 8. Number of ATMs Located at Various Centres Bank Group

Rural Centres

Semi-urban Centres

Urban Centres

Metropolitan Centres

All Centres

Public sector banks  

4,289 (10.5)

10,968 (27)

13,451 (33.1)

11,972 (29.4)

40,680 (100)

Nationalised banks  

1,669 (8.5)

4,325 (22)

6,726 (34.1)

6,982 (35.4)

19,702 (100)

State Bank group  

2,620 (12.5)

6,643 (31.7)

6,725 (32.1)

4,990 (23.8)

20,978 (100)

7,923 (43)

18,447 (100)

Private sector banks  

901 (4.9)

3,499 (19)

6,124 (33.2)

Old private sector banks  

265 (7.8)

1,019 (30.1)

1,215 (35.8)

891 (26.3)

3,390 (100)

New private sector banks  

636 (4.2)

2,480 (16.5)

4,909 (32.6)

7,032 (46.7)

15,057 (100)

6 (0.6)

11 (1.1)

188 (18.3)

821 (80)

1,026 (100)

5,196 (8.6)

14,478 (24.1)

19,763 (32.9)

20,716 (34.4)

60,153 (100)

Foreign banks   Total  

Source: Report on trend and progress of banking in India (2004–2005, 2005–2006, 2006–2007, 2007–2008, 2008–2009 and 2009–2010).

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Figure 9. Percentage Share of ATMs Located at Various Centres 45 40 35 30

Rural centres

25

Semi-urban centres

20

Urban centres

15

Metropolitan centres

10 5 0 2005

2006

2007

2008

Financial Inclusion through Self-help Groups and Microfinance Institutions Microfinance has been another important component of the financial inclusion process in India. The SHG–bank linkage programme, which started as a pilot programme in 1992, has developed with rapid strides over the years; 1.59 million new SHGs were credit-linked with banks in 2009– 2010 and bank loans of ` 14,453 crore was disbursed to these SHGs. On an average, the amount of savings per SHG was 8,915 crore as compared to the amount of credit outstanding of ` 57,795 crore in 2009–2010 as shown in Table 9. While there was a continued increase in the amount of credit outstanding per SHG, there was a fluctuating trend in the amount of saving per SHG in the recent years.

Table 9. Progress of Self-help Groups in Microfinance Programmes (as at end-March) Number (in million) 

2009

2010

Microfinance means thrift, credit, financial services and products of very small amounts to the poor in rural, semi-urban and urban areas to enable them to raise their income levels and improve living standards. Table 10 displays the progress of microfinance institutions in microfinance programmes.

Financial Inclusion through Regional Rural Banks (RRBs) RRBs are ideal institutions for achieving financial inclusion in rural areas as these were created with the objective of combining the good features of cooperatives and commercial banks. RRBs continued to take initiatives in the area of financial inclusion by opening ‘no-frills accounts’, issuing Kisan Credit Cards and General Credit Cards and dispensing microcredit through formation and credit linkage with SHGs. In respect of opening of regional offices (RO) by RRBs, distinction between amalgamated and stand-alone RRBs was dispensed with. All RRBs would be allowed to open one RO for every 50 branches. The con-

Amount (crore) 

2008– 2009

2009– 2010

2008– 2009

2009– 2010

Loans disbursed by banks during the year 

1.61 (0.26)

1.59 (0.27)

12,254 (2,015)

14,453 (2,198)

Loans

  581

  691

3,732

  8,063

Loans outstanding with banks 

4.22 (0.98)

4.85 (1.25)

22,680 (5,862)

28,038 (6,251)

Loans disbursed by banks

Savings with banks 

6.12 (1.51)

6.95 (1.69)

5,546 (1,563)

6,199 (1,293)

Loans outstanding with banks

1,915

1,513

5,009

10,148

Savings with banks

—

—

—

—

Loans

Source: NABARD. Note: F igures in parentheses indicate the number of SHGs and the amount disbursed under the Swarnajayanti Gram Swarozgar Yojana (SGSY).

Table 10. Microfinance Institutions Number (in million) 

Amount (crore) 

2008–2009 2009–2010 2008–2009 2009–2010

Source: NABARD.

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Financial Inclusion solidated balance sheet of RRBs showed accelerated growth of 22.2 per cent in 2009–2010 as compared to 16.5 per cent during the previous year. On the liabilities side, deposits pushed the growth, while on the assets side, the growth was mainly on account of investments. It may be noted that the credit–deposit ratio of RRBs in 2009–2010 stood at 57.6 per cent, a level far lower than that of SCBs. Given the strategic positioning of RRBs, the RBI directed their sponsor banks to implement core banking solutions in all RRBs speedily by adhering to the deadline of September 2011. This was expected to give a further fillip to financial inclusion efforts, given the penetrative outreach of the RRBs in the rural areas.

Financial Inclusion through Grass-root Cooperatives The wide network of cooperatives, both urban and rural, supplements the commercial bank network in its efforts to deepen financial inclusion by bringing large numbers of small depositors/borrowers under the formal financial network. Grass-roots level rural cooperatives across the country, through the regional offices, in association with the regional offices of NABARD and the concerned state governments, under the overall guidance of the RBI, play an important role in financial inclusion. About 73,000 villages have been allocated to various banks for the provision of banking facilities in villages having population of more than 2000 at end-June 2010.

Urban Cooperative Banks (UCBs) UCBs are also taking efforts to bring in more depositors and borrowers to the formal network of banking. The introduction of ‘no-frills accounts’ was one of the most

important steps to expand the banking network. UCBs also opened a considerable number of ‘no-frills accounts’ so far. However, Table 11 depicts the decline in numbers of UCBs as poor were either merged with stronger ones or eradicated their business. The mergers or eradication of poor UCBs was necessary to revitalise the confidence of depositors and borrowers in the strong UCBs.

Rural Cooperatives In the short-term structure of rural cooperatives, state cooperative banks play a crucial role in financial inclusion by providing funds to lower tiers of the rural cooperative sector. Every state has one StCB in place to provide funds to the lower tiers of the rural cooperative sector. The most justifiable reason to speed up the ongoing revival plan of the rural cooperative sector emanates from the potential of this sector in enlarging the formal financial network, especially in rural areas with the existing infrastructure. There is wide coverage of rural cooperatives in terms of their number, especially with the wide geographical outreach of rural cooperatives as depicted in Table 12. As at end-March 2009, PACS functioning in the country covered around 600,000 villages with a total membership of around 13.2 million. This wide penetration of PACS across villages as well as across small depositors/borrowers would act like a catalyst while pursuing the objective of 100 per cent financial inclusion. Business per Branch of Rural Cooperative Credit Institutions Among the rural cooperative credit institutions (except PACS), DCCBs had the maximum number of branches across the country. However, the business per branch was the highest in StCBs. The business undertaken by PCARDBs per branch was very low as compared with

Table 11. Number of Urban Cooperative Credit Institutions Urban Cooperative Banks

2007

2008

2009

2010

(a) Scheduled UCBs

53

53

53

53

Multi state

25

25

25

25

Single state

28

28

28

28

(b) Non-scheduled

1,760

1,717

1,668

1,621

Multi state

13

13

15

17

Single state

1,747

1,704

1,653

1,604

(i) Tier I

1,256

1,529

1,429

1,353

(ii) Tier II Total

491

175

224

251

1,813

1,770

1,721

1,674

Source: Report on trend and progress of banking in India (2006–2007, 2007–2008, 2008–2009 & 2009–2010).

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Table 12. Number of Rural Cooperative Credit Institutions in India Rural Cooperative Credit Institutions Short-term credit institutions SCBs DCCBs PACs Long-term credit institutions

2007

2008

2009

2010

106,781 97,626 95,344 96,034 31

31

31

31

369

371

371

370

106,384 97,224 95,633 94,647 716

717

717

717

SCARDBs

20

20

20

20

PCARDBs

696

697

697

697

Total

107,497 98,343 96,061 96,751

Source: Report on trend and progress of banking in India (2006–2007, 2007–2008, 2008–2009 and 2009–2010).

other rural cooperative credit institutions. Thus, in terms of number of branches as well as amount of banking business per branch, the short-term cooperative credit institutions were far ahead of their long-term counterparts, indicating the higher role played by short-term rural cooperative credit institutions in financial inclusion.

Impact of Recession on Financial Inclusion by Indian Banking Indian banking players have come out clean, with strong and transparent balance sheets in terms of quality of assets compared to their counterparts in other nations, proving they are resilient to shocks arising out of the global financial recession. Ever since the US declared recovery from the global financial crisis, the confidence of non-resident Indians in the Indian economy has revived again. Following the financial crisis, new deposits made their way towards public sector banks. Scheduled commercial banks served 34,709 banked centres; 28,095 were single office centres and 64 centres had 100 or more bank offices. The expansion plans are self-evident from the example of SBI, which has added 23 new branches abroad, its foreign branch network number totalling 160 by March 2010. This will solidify its leading position as the bank with the largest global presence among local peers. They have a combined network of over 53,000 branches and 17,000 ATMs. According to a report by ICRA Limited, a rating agency, the public sector banks hold over 75 per cent of total assets of the banking industry, with the private and foreign banks holding 18.2 per cent and 6.5 per cent, respectively. The strong economic growth in the past, low defaulter ratio, absence of complex financial products, regular

intervention by RBI, proactive adjustment of monetary policy and close banking culture have saved the banking industry in India during the recent global financial turmoil. Indian banks have proved among the most resilient and sound banking institutions in the world, as they are built on strong financial fundamentals, strict vigil on risk appetite and firm monetary guidelines. The recession that began in December 2007 impacted the revenues and profitability of businesses worldwide. The Indian banking system is relatively insulated from the factors that led to the turmoil in the global banking industry. Going by the performance for the year 2008, Indian public sector banks have not only been able to weather the storm of global recession but have also been able to moderate its impact on the Indian economy. The banking sector faces profitability pressures due to higher funding costs, mark-to-market requirements on investment portfolios and asset quality pressures due to a slowing economy. But Indian banks’ global exposure is relatively small, with international assets at about 6 per cent of the total assets. Banks and other financial service players are largely expected to mitigate the supply side processes that prevent poor and disadvantaged social groups from gaining access to the financial system. Banking sector equity funds witnessed growth during the 2008–2010 period with the benchmark BSE BANKEX rising from a low of 4,139.28 in 2008 to a high of 15,108.27 in 2010.

Adaption of Innovative Principles for Financial Inclusion in the Indian Financial System Innovative financial inclusion means improving access to financial services for poor people through the safe and sound spread of new approaches. These principles for innovative financial inclusion derive from the experiences and lessons learnt from policy-makers throughout the world, especially leaders from developing countries.

Leadership One of the principles is to cultivate a broad-based government commitment to financial inclusion to help alleviate poverty. The Government of India had set up the Rangarajan Committee on Financial Inclusion (in June 2006) to look into the issues involved and suggest measures for bringing the excluded population into the ambit of financial system; 50 per cent of the excluded rural households (55.8 million) should have access to financial services by 2012, and the rest by 2015. Two funds recommended by the Committee have been set up in NABARD, namely, ‘Financial Inclusion Fund’ (FIF) to meet the cost

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Financial Inclusion of developmental and promotional interventions of financial inclusion and ‘Financial Inclusion Technology Fund’ (FITF) to meet the cost of technology.

Diversity A diversity of innovative products and providers in the marketplace can increase the availability of services and promote healthy competition. Financial inclusion project for implementing core banking solution through usage of COIN software during 2009–2010 developed by the National Informatics Centre (NIC) in Sikkim, for use by a cooperative bank, six branches and ten multi-purpose credit societies (MPCS) in the first phase and five MPCS in the immediate second phase. Pilot project to establish farmers’ service centres/village knowledge centres (VKCs), mobile credit counselling centres, promotion of financial literacy and farmer education through mass media to promote financial inclusion in the south Malabar district of Kerala for setting up eight farmers’ service centres/VKCs in eight districts. Viability gap funding for the biometric card project through BC/BF model in NER for smart card–based accounts. Support for certificate courses for business correspondents (BCs) and business facilitators (BFs) to the Indian Institute of Banking & Finance (IIBF) to cover 20,000 candidates over a period of two years, that is, 2009–2010 and 2010–2011.

Innovation Another principle is the promotion of e-technological and institutional innovation as a means to expand financial system access and usage. This principle also addresses infrastructure weaknesses. Different technology models like simputers, personal digital assistants (PDAs), composite handheld devices and programmed mobiles are used. Figure 10 portrays the operating customer model adopted in India.

Protection The fourth principle is to encourage a comprehensive approach to consumer protection that recognises the roles of government, providers and consumers. Banking networks have been persuaded by the Banking Codes and Standards Board of India to adopt a uniform code of conduct that enforces many pro-client clauses.  Sa-Dhan is a leading national network that has enacted a code of conduct, proclaiming the organisation to be client-focused and designed to enhance client well-being in an ethical, dignified, transparent and cost-effective manner. 

Empowerment The fifth principle is the development of financial literacy and financial capability. Financially capable consumers have the knowledge, skills, attitude and behaviour to be aware of financial opportunities. The capacity building and other programmes initiated by policy-makers, RBI and Government of India (GoI) during 2009–2010 are as given in the following: 1. Capacity-building programme for RRB and post office for using Post Office as BC of RRB through five training programmes for staff of post offices/ banks in Uttarakhand. 2. Project for a financial resource centre at RRB to cater to the capacity building and research needs for upscaling financial inclusion in four districts, that is, Murshidabad, Nadia, North and South 24 Parganas of West Bengal. 3. Indian banking associations have their own codes with strict penalties for non-compliant members.  4. Project for financial inclusion through FC acting as BF of RRB in Assam. It involves four training programmes for members of 11 FCs identified by the bank. A total of 100 members of the Farmers’ Club (FC) will be trained in Morigaon district. 5. Financial literacy by RRB in Assam in Nalbari district. 6. Capacity-building programme for LDMs of banks conducted by BIRD, Lucknow.

Cooperation The sixth principle is to create an institutional environment with clear lines of accountability and coordination within government. In addition to financial inclusion initiated under FIF/FITF, NABARD and United Nations Development Programme (UNDP) have entered into collaboration for financial inclusion in seven focus states, namely, Bihar, Chhattisgarh, Jharkhand, Madhya Pradesh, Orissa, Rajasthan and Uttar Pradesh. This collaboration is a part of the Country Programme Action Plan signed between the GoI and UNDP. A fund for the collaboration, namely, ‘UNDP–NABARD Financial Inclusion Fund’ has been established.

Knowledge Appropriate and reliable data are needed by policy-makers and regulators to assess financial inclusion performance. Periodic progress reports can also help focus policy attention on outstanding financial inclusion issues. Currently available data is not up to the level required. Banks in India

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Figure 10. Operating Model—Customer

Data Collection System Demographic Details Biometric Details, etc.

Issuance of Biometric Enabled Multi-Function Card

have been reporting their financial inclusion plan to the RBI. Recognising that lack of awareness is a major factor for financial exclusion, the RBI is taking a number of measures to increase financial literacy and credit counselling based on the data provided by banks operating in India.

Proportionality The eighth principle is to build a policy and regulatory framework that is proportionate with the risks involved in such innovative products and services and is based on an understanding of the gaps and barriers in existing regulation. The RBI has realised that most agent-related risks either systemically or institutionally are not material enough. This situation necessitated the authorisation to use agents, and is disproportionately onerous by making these institutions fully liable for the actions of the agents they select. Other risk-mitigating measures that support this approach include the following: (a) requiring regulated institutions to manage their own risk, for example, by setting transaction limits or implementing mechanisms to block transactions remotely when necessary; and (b) subjecting the agency agreement and all supporting documentation related to the services rendered by the agent to scrutiny by Central Bank, which also conducts onsite and offsite inspections.

Framework The ninth principle is to consider the following in the regulatory framework, reflecting international standards, national circumstances and support for a competitive landscape: (a) an appropriate, flexible risk-based AML/CFT regime; (b) conditions for the use of agents as a customer interface; (c) a clear regulatory regime for electronically stored value; and (d) market-based incentives to achieve the long-term goal of broad interoperability and interconnection. In late 2009, the RBI permitted banks to charge customers for using business correspondents and expanded

Financial Transactions through Field Devices Single Device supports multiple applicaiton

Action data loading to Integrated Core Banking System through phone line (PSTN)

the scope of permissible business correspondents to include, among others, small retail shops and individual petrol pump owners. Policy-makers in India are optimistic that there will be a substantial expansion of access to financial services among the poor.

Conclusion The financial system in India has grown rapidly in the last three decades and more. The functional and geographical coverage of the system is truly impressive. The Indian banking sector is one of the world’s fastest growing markets for inclusive finance. As the planet’s largest democracy and the second-most populated country in the world, India is a rising star. Nevertheless, data do show that there is exclusion and that poorer sections of the society have not been able to access adequately financial services from the organised financial system. The population per bank branch was on a decline across all regions during the period covered by the study, signifying growing penetration of banking services across all regions. There was also an increase in the penetration of ATMs during the study period as evident from a fall in the population per ATM. However, India ranks low when compared with the OECD countries and select Asian peer group in respect of financial penetration. There was greater concentration of ATMs in urban areas than in rural areas; the number and percentage of ATMs in rural areas was on a steady rise in the recent years. The performance of India after recession has improved in terms of ATMs that indicates confronting the weak areas. Banks in India need to penetrate rigorously in terms of setting up of ATMs in rural areas; they need to speed up the process. Private sector banks and foreign banks need to extend their coverage in these areas so that the objectives laid down in policy agenda of financial incision could be achieved in the near future. The untapped potential with regard to financial inclusion needs to be harnessed using cost-effective technology solutions and appropriate business models that make small value transactions viable. There is an imperative need to modify the credit and

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Financial Inclusion financial services delivery system to achieve greater inclusion. India is struggling to entirely eradicate financial exclusion by adapting principles of financial inclusion through larger number of banks, competition and good governance. The nation has achieved 100 per cent financial inclusion in some of their regions. The successful expansion of access to financial services is the outcome of many years of experience evolving from more restricted possibilities to less stringent licensing conditions without loosening the monitoring capacity of the supervising authority. However, this important achievement in financial inclusion has been only possible because of coordination among different stakeholders in adapting the principles of innovative financial inclusion, namely, leadership, diversity, knowledge, empowerment, protection, proportionality, innovation, cooperation and framework. The financial system regulators, private institutions and other governmental entities have supported financial inclusion with the overall goal of meeting customers’ needs. The Indian banking system has managed to successfully sail through the financial crisis witnessed by the global economy on the back of sound policies of the RBI and fiscal stimulus packages implemented by the government. Strict regulations relating to the exposure to derivative instruments, relatively tighter norms on capital adequacy based on risk-weighted assets and timely intervention by the RBI prevented the spread of severe toxicity of the global financial crisis to the Indian banking system. The results show that commercial banks, cooperative banks, regional rural banks and microfinance programmes have been playing a vital role in removing financial exclusion in India. But there is still much work ahead to maintain and expand innovations achieved to date. With regard to financial inclusion, there is a need for collaborative efforts from all stakeholders to leverage technology to bring more people into the banking fold. Financial and economic stability with inclusive growth is not possible without achieving financial inclusion.

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