Financial inclusion in India: Progress and prospects
Updated: Aug 13, 2019
Financial inclusion is globally considered as a critical indicator of development and well-being of society. In this post, Srinivasa Rao traces the financial inclusion journey in India so far, and discusses prospects for the future.
While inclusive banking began, in spirit, with the nationalisation of banks in 1969 and 1980 in India, the real thrust on financial inclusion (FI) came in 2005 when the Reserve Bank of India (RBI) highlighted its significance in its annual policy statement of 2005-06. It urged banks to work towards reaching out to the masses, offering banking services down to the hinterland. The worrying fact was the mass exclusion of people from the formal banking system that hindered economic growth at the bottom of the pyramid. Then onwards RBI began to persuade banks to include FI as a business objective.
Globally, FI is considered as a critical indicator of development and well-being of a society. As a result of renewed thrust on FI, an inclusive financial system is widely recognised in policy circles as a proactive measure and has become a basic priority in many countries – including India. FI is considered as an effective means to sustainable economic growth, and is intended to ensure that each citizen of the country is able to use their earnings as a national financial resource for redeployment in productive sectors of the economy. Such pooled financial resources can be channelised to develop enterprises, fueling the nation’s progress. This underlying theme has brought FI in the spotlight and it has come to occupy centre-stage in financial intermediation.
The beginning of the financial inclusion journey
FI as a policy initiative entered the banking lexicon only after the recommendations of the Rangarajan Committee in 2008. It began to attract the attention of stakeholders when banks realised the significance of connecting with more people for business growth. The span of financial services included provision of basic savings accounts, and access to adequate credit at affordable costs to vulnerable groups such as the excluded sections of the society and low-income households. The experience of microfinance units in India and abroad shows that vulnerable groups who pay usurious interest rates to local moneylenders, can also be worthy borrowers of banks. One of the broader objectives of FI is to pull the poor community out of the net of exploitative moneylenders. But despite such emphasis, the penetration of banking services was initially mostly confined to urban areas and major cities, after which they started spreading to the hinterland. FI thus became an integral part of the business domain of banks, with RBI advising all public and private banks to submit a board-approved, three-year FI plan (FIP) starting from April 2010. These plans broadly included self-set targets in terms of bricks-and-mortar branches in rural areas, clearly indicating coverage of unbanked villages with population above 2,000 and those with population below 2,000; deployment of Business Correspondents1 (BCs) and use of electronic/kiosk modes for provision of financial services; opening of no-frills accounts; and so on. For the dispensation of credit, Kisan Credit Cards (KCC), General Credit Cards (GCC), and other specific products designed to cater to the financially excluded segments, were introduced. Such accelerated microcredit was part of priority sector lending schemes of banks. Further, banks were advised to integrate FIPs with their business plans and to include the criteria on FI as a parameter in the performance evaluation metrics of their staff.
Among associated developments, RuPay – an Indian domestic debit card – was introduced on 26 March 2012 by the National Payments Corporation of India (NPCI). It has been a game changer in creating better digital infrastructure and enabled faster penetration of debit card culture.
The progress of financial inclusion
Faster implementation of FIPs is seen after 2010-11. Commercial banks opened new rural branches, increased coverage of villages, set up ATMs and digital kiosks, deployed BCs, opened no-frills accounts, and provided credit through KCCs and GCCs. The introduction of core banking technology and proliferation of alternate delivery channels aided the process of inclusion on a larger scale. The statistics on key banking network give a sense of the pace of progress of banking outreach as part of FI.
Note: *Basic Savings Bank Deposit Account is a no-frill savings account without the need to maintain minimum balance and where no charges are levied.
Source: Annual Report of RBI, 2016-17.
In the last 7-8 years, banks have expanded their presence, and differentiated banks – payments banks and small finance banks – are set to take this further. When banks began pursuing three-year FI policies, innovations in providing better access to appropriate financial products and services came up. There was more focus on making banking accessible to vulnerable groups. Mainstream institutional players integrated fairness and transparency as part of their offerings, with basic products well-understood by the masses. As a result, FI became a critical factor for inclusive growth and development. Banks also realised that it can be an effective means for cross-selling and business growth.
The tectonic shift in financial inclusion
The biggest change came with the roll out of ‘Pradhan Mantri Jan Dhan Yojana (PMJDY)’ in August 2014. PMJDY has been designed to ensure accelerated access to various financial services like basic savings bank accounts, affordable, need-based credit, remittances facilities, and insurance and pension for excluded sections. Such deep penetration at affordable cost can only be possible with effective use of technology. Hence, the banking ecosystem operating on core banking mode, and ability of NPCI to scale-up issue of debit cards has enabled effective implementation of PMJDY. As a result, the number of new savings accounts opened by the banking system has been phenomenal under the scheme. The progress since its inception is interesting to observe.
Added to the ongoing FI schemes, financial literacy and digital literacy campaigns of banks were closely monitored by RBI. FI got renewed thrust with the launch of PMJDY because apex forums of RBI and Ministry of Finance monitored its focus. This has added a new dimension to the progress of FI by opening bank accounts on a large scale on mission mode. The benefit of such mass accretion to the customer base is expected to provide immense benefit to consumers and banks in the coming years.
Measurement of financial inclusion
The progress of implementation of FI has to be measured to decide on future policy framework. It is believed that when banks embarked on the formal journey of FI, hardly 40% of Indian adults had savings accounts, with only a small fraction receiving credit from the banking system. Though there is lack of concrete data on the achievement levels, informal data suggest that about 62% of adult Indians are now covered.
India’s first FI index was launched in 2013 based on four critical dimensions: (i) branch penetration, (ii) deposit penetration, (iii) credit penetration, and (iv) insurance penetration. The last dimension was added for the first time to make the index much more comprehensive. CRISIL Inclusix measures progress on FI down to the level of each of the 666 districts in the country in 2013 (as against 717 now). The index is based on data provided by RBI, the MicroFinance Institutions Network (MFIN), and the Insurance Information Bureau of India.
The index readings for fiscal year (FY) 2015-16 (the latest period for which data are available) show that FI has improved significantly, with the all-India score rising to 58 in FY 2015-16, compared with 50.1 in FY 2012-13. The PMJDY and RBI’s steadfast focus on unbanked regions have made a big difference.
As many as 600 million deposit accounts were opened between FY 2012-13 and FY 2015-16, which is twice the number between 2010 and 2013. Nearly a third of this was on account of PMJDY. This gets well reflected in the deposit penetration index of CRISIL Inclusix.
There has also been a sharp incremental rise in number of people availing credit, to 31.7 million. This figure includes loans extended by banks and microfinance institutions together in the two years up to FY 2015-16, which is the highest since FY 2012-13. Notably, microfinance institutions contributed significantly to the financially under-penetrated regions. The Digital India initiative, payment banks, and small finance banks have all helped improve the outreach of formal financial services to economically disadvantaged sections of the populace and geographically remote regions.
Besides domestic measurement of FI, there are global institutions such as World Bank that measure the progress of FI across countries. World Bank started capturing data on FI in 2011, once in three years. The latest edition of the Global Findex (GFX), which came out in 2017, shows that 515 million adults worldwide opened an account at a financial institution or through a mobile money provider between 2014 and 2017. This means that 69% of adults globally now have an account, up from 62% in 2014, and 51% in 2011. In high-income economies, 94% of adults have an account; in developing economies the figure is 63%. There is also wide variation in account ownership across countries.
India’s GFX was 35 in 2011, 53 in 2014, and 80 in 2017. This reflects a speedy improvement in FI, suggesting that relevant Indian policies in the last few years have worked well. GFX 2017 stands at 80 for China (79 in 2014), 76 for Russia, 70 for Brazil, 69 for South Africa, 96 for UK, and 93 for US. Given the constraints of poverty, illiteracy, and lack of spread of banking network, the progress under PMJDY is laudable.
Pursuing financial inclusion going forward
FI has been a cherished policy objective pursued with the intent of reaching out to the masses. It is pertinent to draw reference to a profound International Labour Organization (ILO) Declaration of Philadelphia (1944), which states, “Poverty anywhere is a threat to prosperity everywhere.” Policymakers in India too had an early realisation that poverty has implications for financial stability, and have endeavoured to ensure that poverty is tackled in all its manifestations and that the benefits of economic growth reach the poor and excluded sections of society by connecting them with mainstream banking. Lack of effective and broad-based financial and digital literacy is inhibiting full-scale implementation of FI. According to Dr. Kanungo, Deputy Governor, RBI, “This illiteracy transcends across all geographies and regions, not just rural or semi-urban, north or south and is equally true of the staff at the front desks of bank branches. Are we doing enough to educate the public? Should it be the responsibility of the regulator alone? The answer is no. Let us all strive to build consumer awareness consciously and rigorously. An informed customer is a crucial cog in the payment ecosystem”.
The vision for FI as envisaged by the Committee on Medium-term Path is that over 90% of the hitherto underserved sections of society would become part of formal banking by 2021, and be active stakeholders in economic progress. This is very much possible but it requires concerted efforts by banks and coordinated support of stakeholders. Bank customers should also join the task. There is a strong business case for banks to cater to the underserved sections of the society, given the vast developments in digital technology. In order to sustain the momentum of achieving the FI objectives by setting FIP targets for banks, the third phase of FIPs for the next three years, that is, 2016-19, is in place. Under the third phase, the focus is on more granular monitoring of the progress made by banks under FIPs at the district level.
Moreover, the Financial Inclusion Advisory Committee (FIAC) set up in 2012 has been reconstituted in June 2015 to review FI policies on an ongoing basis and to provide expert advice to accelerate FI. FIAC is mandated to formulate National Strategy for Financial Inclusion (NSFI). Given the recent thrust on digital FI, and in line with international best practices, NSFI also seeks to draw upon the G-20 High-Level Principles for Digital Financial Inclusion, adapted to meet India-specific requirements.
Policy reforms for robust financial inclusion
Having developed a strong FI infrastructure and PMJDY accelerating the progress, the next milestone should be to bring about a mindset and cultural shift among newly connected beneficiaries to derive benefits from the formal financial system by borrowing from banks and repaying loans in time. This can boost micro and small enterprises, and hence alleviate poverty and raise the standard of living of the community at the grass-roots level. The next phase of FI is therefore less to do with policy and more to do with educating people, disseminate financial and digital awareness in the society, and making FI beneficiaries aware about the scope of expanding rural enterprises using their rights to borrow and duty to repay bank loans.
This campaign of literacy will need a multipronged, bottoms-up approach. RBI and banks should coordinate with institutions such as State Education Boards (SEBs), Central Board of Secondary Education (CBSE), University Grants Commission (UGC), and All India Council for Technical Education (AICTE), to include FI as a mandatory subject at different educational levels right from school to higher levels of education, so that the next generation of students become aware of the significance of nurturing good loan repayment culture and the society becomes digitally savvy. The project works of FI should earn better ranking to accelerate the spread of financial and digital literacy.
NGOs, corporate sector, banks, NBFCs (Non-Banking Financial Companies), and government departments currently engaged in FI should be persuaded to increase thrust. Unless using FI infrastructure becomes a mass agenda, the real benefit cannot accrue to the society. Needless to emphasise, global research has already linked poverty alleviation to FI brought about through financial awareness (see, for example, Chibba 2009). Having invested huge sums of money in building FI infrastructure, the next wave of inclusion should be to prompt beneficiaries to use their access to financial services for improving their economic and social well-being.
Business Correspondents (BCs) are retail agents engaged by banks for providing banking services at locations other than a bank branch or ATM. BCs enable a bank to provide a limited range of banking services at low cost and are hence, instrumental in promoting FI.
Chakrabarty, KC (2011), ‘Financial inclusion: A road India needs to travel’, Reserve Bank of India, 21 September.Chibba, Michael (2009), “Financial inclusion, poverty reduction and the Millennium Development Goals”, European Journal of Development Research, DOI: 10.1057/ejdr.2008.17, April. Available here. CRISIL (2018), ‘CRISIL Inclusix: Financial inclusion surges, driven by Jan-Dhan Yojana’, Volume 4.Kanungo, BP (2018), ‘Excellence in Payments’, Deputy Governor, Reserve Bank of India, Keynote Address, NPCI (National Payments Council of India) National Payments Excellence Awards function, Mumbai, 29 May.Mundra, SS (2016), ‘Financial Inclusion in India – The Journey so far and the Way Ahead’, Deputy Governor, Reserve Bank of India, Speech, BRICS Workshop on Financial Inclusion, Mumbai, 19 September.Reserve Bank of India (2005), ‘Annual Policy Statement for the year 2005-06’, by Dr. Y. Venugopal Reddy, Governor, Reserve Bank of India.