Financial Inclusion – The Indian Experience1

Ladies and gentlemen,

I thank Her Majesty’s Treasury and DFID for organising this conference and inviting the Reserve Bank of
India to share India’s experiences in achieving greater financial inclusion (FI).

We, in India, have been greatly impressed by the focused attention being paid by the UK Government to
the subject of FI. I had read a very detailed report by the British Banker’s Association in 2000 dwelling
upon the issues involved in providing greater access to financial services and the concept of a basic
banking account. The setting up the Financial Inclusion Task Force and the Financial Inclusion Fund
reflect the priority attached by the Government to the subject. DFID has been involved in a number of
livelihood diversification projects in India and other countries especially for the marginalised and DFID’s
stake in the subject obviously derives from the development aspect of FI. The interest shown by
authorities in different countries in FI clearly show that there are concerns that large segments of the
world’s population are excluded from formal payments system and financial markets while financial
markets are developing and globalising rapidly. There is an obvious market failure and thus governments
and financial sector regulators are seeking to create enabling conditions such that markets become more
open, more competitive, affordable and inclusive.

Focus of financial inclusion in India

The Indian economy is growing at a steady rate of 8.5 % to 9% in the last five years or so. Most of the
growth is from industry and services sector. Agriculture is growing at a little over 2 %. The potential for
growth in the primary and SME sector is enormous. Limited access to affordable financial services such
as savings, loan, remittance and insurance services by the vast majority of the population in the rural
areas and unorganised sector is believed to be acting as a constraint to the growth impetus in these
sectors. 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. Apart from these benefits, FI imparts formal identity, provides access to the payments
system and to savings safety net like deposit insurance. Hence FI is considered to be critical for achieving
inclusive growth; which itself is required for ensuring overall sustainable overall growth in the country.

1
Text of speech by Smt. Usha Thorat, Deputy Governor, Reserve Bank of India at the HMT-DFID Financial Inclusion Conference
2007, Whitehall Place, London, UK on June 19, 2007.
The approach to FI in developing countries such as India is thus somewhat different from the developed
countries. In the latter, the focus is on the relatively small share of population not having access to banks
or the formal payments system whereas in India, we are looking at the majority who are excluded.

FI can be thought of in two ways. One is exclusion from the payments system –i.e. not having access to a
bank account. The second type of exclusion is from formal credit markets, requiring the excluded to
approach informal and exploitative markets. After nationalisation of major banks in India in 1969, there
was a significant expansion of branch network to unbanked areas and stepping up of lending to
agriculture, small industry and business. More recently, the focus is on establishing the basic right of
every person to have access to affordable basic banking services.

Measures of financial exclusion

Chart-1: Numb
One common measure of FI is the percentage of adult population having bank accounts (Chart-1). Going
by the available data on the number of savings bank accounts and assuming that one person has only
one account, (which assumption may not be correct as many persons could have more than one bank
account) we find that on an all India basis 59 per cent of adult population in the country have bank
80 80
accounts – in other words 41 per cent of the population is unbanked. In rural areas the coverage is 39
per cent against 60 per cent in urban areas. The unbanked population is higher in the North Eastern and
Eastern regions.
70

60

50
ercent

3
40
 Chart-2: Numb
The extent of exclusion from credit markets is much more, as number of loan accounts constituted only
14 per cent of adult population (Chart-2). In rural areas, the coverage is 9.5 per cent against 14 per cent
in urban areas. Regional differences are significant with the credit coverage at 25 per cent for the
Southern Region and as low as 7, 8 and 9 per cent respectively in North Eastern, Eastern and Central
Regions.

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The extent of exclusion from credit markets can be observed from a different view point. Out of 203
million households in the country, 147 million are in rural areas – 89 million are farmer households. 51.4
per cent of farm households have no access to formal or informal sources of credit while 73 per cent have

20
no access to formal sources of credit. Similar data are not available for non farm and urban households.

Looking at the different sources of credit, it is observed that the share of non institutional sources reduced
from 70.8% in 1971 to 42.9% in 2002. However after 1991, the share of non institutional sources has
increased; specifically, the share of moneylenders in the debt of rural households increased from 17.5 %

15
in 1991 to 29.6% in 2002. In urban areas the share of non institutional sources has come down
significantly from 40% in 1981 to around 25 % in 2002.
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Who are the excluded?

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The financially excluded sections largely comprise marginal farmers, landless labourers, oral lessees, self 7
employed and unorganised sector enterprises, urban slum dwellers, migrants, ethnic minorities and
socially excluded groups, senior citizens and women. While there are pockets of large excluded
population in all parts of the country, the North East, Eastern and Central regions contain most of the
financially excluded population.
5

0
Reasons for financial exclusion
There are a variety of reasons for FI. In remote, hilly and sparsely populated areas with poor
infrastructure, physical access itself acts as a deterrent. From the demand side, lack of awareness, low
incomes/assets, social exclusion, illiteracy act as barriers. From the supply side, distance from branch,
branch timings, cumbersome documentation and procedures, unsuitable products, language, staff
attitudes are common reasons for exclusion. All these result in higher transaction cost apart from
procedural hassles. On the other hand, the ease of availability of informal credit sources makes these
popular even if costlier. The requirements of independent documentary proof of identity and address can
be a very important barrier in having a bank account especially for migrants and slum dwellers.

Recent initiatives by Reserve Bank of India

The period 1969 to 1991 saw a huge increase in the branch outreach in India as the average population
covered by a bank branch fell from 64,000 to 13,711. In 1991 along with reforms for liberalising and
opening the economy, financial sector reform aimed at deregulation, increased competition and
strengthening the banking sector through recapitalisation and adoption of prudential measures. The
Indian banking industry today is quite robust and strong to be able to take on the challenges of achieving
greater financial inclusion.

In the Annual Policy of the Reserve Bank for 2004-05, the Governor, Dr. Reddy observed and I quote -
“There has been expansion, greater competition and diversification of ownership of banks leading to both
enhanced efficiency and systemic resilience in the banking sector. However, there are legitimate
concerns in regard to the banking practices that tend to exclude rather than attract vast sections of
population, in particular pensioners, self-employed and those employed in unorganised sector. While
commercial considerations are no doubt important, the banks have been bestowed with several
privileges, especially of seeking public deposits on a highly leveraged basis, and consequently they
should be obliged to provide banking services to all segments of the population, on equitable basis.”

Pursuant to this, the Reserve Bank has undertaken a number of measures with the objective of attracting
the financially excluded population into the structured financial system. In November 2005, banks were
advised to make available a basic banking ‘no-frills’ account with low or nil minimum balances as well as
charges to expand the outreach of such accounts to vast sections of the population. Banks are required to
make available all printed material used by retail customers in the concerned regional language.
In order to ensure that persons belonging to low income group, both in urban and rural areas do not
encounter difficulties in opening bank accounts, the know your customer (KYC) procedures for opening
accounts has been simplified for those persons with balances not exceeding Rs 50000/- (about GBP 600)
and credits in the accounts not exceeding Rs.100000/- (about GBP 1200) in a year. The simplified
procedure allows introduction by a customer on whom full KYC drill has been followed.

Banks have been asked to consider introduction of a General purpose Credit Card (GCC) facility up to
Rs. 25000/- at their rural and semi urban braches. The credit facility is in the nature of revolving credit
entitling the holder to withdraw upto the limit sanctioned. Based on assessment of household cash flows,
the limits are sanctioned without insistence on security or purpose. Interest rate on the facility is
completely deregulated.

A simplified mechanism for one-time settlement of overdue loans up to Rs.25,000/- has been suggested
for adoption. Banks have been specifically advised that borrowers with loans settled under the one time
settlement scheme will be eligible to re-access the formal financial system for fresh credit.

In January 2006, banks were permitted to utilise the services of non-governmental organisations
(NGOs/SHGs), micro-finance institutions and other civil society organisations as intermediaries in
providing financial and banking services through the use of business facilitator and business
correspondent (BC) models. The BC model allows banks to do ‘cash in - cash out’ transactions at the
location of the BC and allows branchless banking.

Other measures include setting up pilots for credit counselling and financial education. A multilingual
website in 13 Indian languages on all matters concerning banking and the common person has been
launched by the Reserve Bank on 18 June 2007.

Strategies and approach

At the regional level, a forum called the State Level Bankers’ Committee (SLBC) has been in operation
since nationalisation. SLBC is a group of bankers and government officials and is convened by a bank
having major presence in the State called the SLBC convenor bank. It meets quarterly and reviews the
banking developments in the State. At the district level, the district level committee functions; it is headed
by the District Commissioner and is convened by a designated lead bank for the district. In early 2006,
one district in each State was identified by the SLBC for 100 per cent financial inclusion. So far, SLBCs
have reported having achieved 100 per cent financial inclusion in the Union Territory of Puducherry and in
some districts in Haryana, Himachal Pradesh, Karnataka, Kerala and Punjab. Reserve Bank proposes to
undertake an evaluation of the progress made in these districts by an independent external agency to
draw lessons for further action in this regard.
In the districts taken up for 100% financial inclusion, surveys were conducted using various data base
such as electoral rolls, public distribution system, or other household data, to identify households without
bank account and responsibility given to the banks in the area for ensuring that all those who wanted to
have a bank account were provided with one by allocating the villages to the different banks. Mass media
was deployed for creating awareness and publicity. The banks used different approaches to communicate
the advantages of having a bank account. Bank staff or their agents who are usually local NGOs or
village volunteers would contact the people at their households. Ration card / Electoral ID cards of the
families were taken for fulfilling the simplified KYC norms. Photographs of all the persons who opened
bank accounts were taken on the spot by a photographer accompanying the bank team. In most States,
the product used for launching the program for financial inclusion is the ‘No frills’ accounts. In one State
the farmer’s credit card or KCC is being used ensuring first to credit rather than savings. In other States
no frills account was followed by small overdraft facility or a general purpose revolving credit upto pre-
specified limit. Recognizing the need for providing social security to vulnerable groups, in some cases in
association with insurance companies, banks have provided innovative insurance policies at affordable
cost covering life, disability and health cover.

Cooperative banks and regional rural banks being local level institutions are well suited for achieving
financial inclusion. These banks are being revived and strengthened with incentives for better
governance. Being local institutions they are ideally suited for achieving FI.

The role of an efficient payments system for FI cannot be overstressed and we efforts are being made to
bring about Improvements in the payments system especially in the relatively less developed parts of the
country.
Huge increase in no frills accounts

Chart – 3: Number of 'No-Frills' Account opened in India

As on March 31, 2006 As on March 31, 2007

7000000

6000000

5000000

4000000

3000000

2000000

1000000

0
Public Sector Banks Private Sector Foreign Banks Total
Banks
The outcome of the efforts made is reflected in the increase of 6 million new ‘no frills’ bank accounts
opened between March 2006 and 2007. In view of their vast branch network (45000 rural and semi urban
branches) public sector banks and the regional rural banks have been able to scale up their efforts by
merely leveraging on the existing capacity. FI is being viewed by these banks as a huge business
opportunity in an overall environment that facilitates enterprise and growth. It provides them a
competitive advantage and defines a clear niche for their growth.

Use of intermediaries
One of the ways in which access to formal banking services has been provided very successfully since
the early 90s is through the linkage of Self Help Groups (SHGs) with banks. SHGs are groups of usually
women who get together and pool their savings and give loans to members. Usually there is a NGO that
promotes and nurture these groups. National Bank for Agriculture and Rural Development has played a
very significant role in supporting group formation, linking them with banks as also promoting best
practices. The SHG is given loan against guarantee of group members. The recovery experience has
been very good and there are currently 2.6 million SHGs linked to banks touching nearly 40 million
households through its members. Banks provide credit to such groups at reasonable rates of interest.
However the size of loans is quite small and used mostly for consumption smoothening or very small
businesses. In some SHGs, credit is provided for agricultural activities and other livelihoods and could be
several times the deposits made by the SHG. Most of the SHGs have been linked to public sector banks
in view of the latter’s dominant presence in the rural areas.

The foreign banks and private sector banks have approached the access issue through either setting up
relatively lower cost non bank companies for providing small value retail loans or have partnered with
micro finance institutions that provide financial services to the relatively higher risk segments of the
population. Microfinance has drawn attention to an entire sector of borrowers who had been previously
poorly served by the formal financial sector - and MF has demonstrated how to make lending to this
sector a viable proposition. However the rates of interest charged are quite high, typically 24 to 30 per
cent, mainly on account of the high transaction cost for the average loan size that can be quite small.
Compared to the informal sector, perhaps the rates are lower, but issues are raised whether these rates
are affordable - in the sense whether they would leave any surplus in the hands of the borrowers and lead
to higher levels of living.

For commercial banks, the lower cost of funding, advantages of size and scale gives scope for cross
subsidization and their interest rates are more competitive compared to the MFIs, but they have not been
as successful in dealing with the last mile issue. The partnering with SHGs and MFIs with reasonable cost
of funding by the banks has been seen as a more optimal approach till now.

As indicated earlier, a recent important regulatory measure is the permission given to banks to use post
offices, cooperative societies, non government organisations set up as trusts or societies, as business
correspondents (agents) for doing branchless banking after conducting due diligence on such
intermediaries. Agency risk is sought to be minimised by using well respected local organisations and use
of IT solutions for tracking transactions in the bank accounts. Many banks are exploring the use of this
model to increase their outreach and deliver doorstep banking services at lower cost. The viability and
scalability of the model would require some flexibility in charging of interest rates or services charges to
cover costs.

IT solutions for financial inclusion

The use of IT solutions for providing banking facilities at doorstep holds the potential for scalability of the
FI initiatives. Pilot projects have been initiated using smart cards for opening bank accounts with bio
metric identification. Link to mobile or hand held connectivity devices ensure that the transactions are
recorded in the bank’s books on real time basis. Some State Governments are routing social security
payments as also payments under the National Rural Employment Guarantee Scheme through such
smart cards (see pictures below). The same delivery channel can be used to provide other financial
services like low cost remittances and insurance. The use of IT also enables banks to handle the
enormous increase in the volume of transactions for millions of households for processing, credit scoring,
credit record and follow up.

Initiative of a State Government - pictures of technology at work

Pensioners with Bio-metric cards line-up to receive payments

 Biometric validation of Smart Card

Transaction Confirmation Receipt

Role of Government

State Governments can play a pro –active role in facilitating FI. Issuing official identity documents for
opening accounts , creating awareness and involving district and block level functionaries in the entire
process, meeting cost of cards and other devices for pilots, undertaking financial literacy drives are some
of the ways in which the State and district administration have involved themselves.

India Post is also looking to diversify its activities and leverage on its huge network of post offices, the
postman’s intimate knowledge of the local population and the enormous trust reposed in him. Banks are
entering into agreements with India Post for using post offices as agents for branchless banking.
Work in progress

The Finance Minister in his budget for 2007-08 has announced the setting up of two funds for FI; the first
called Financial Inclusion Fund for developmental and promotional interventions and the other called
Financial Inclusion Technology Fund to meet cost of technology adoption of about $ 125 million each. The
scope of these funds is being worked out. Setting up of financial literacy centres and credit counseling on
a pilot basis, launching a national financial literacy campaign, forging linkages with informal sources with
suitable safeguards through appropriate legislation, evolving industry wide standards for IT solutions,
facilitating low cost remittance products are some of the initiatives currently under way for furthering FI.

Thank You.