Financial Inclusion in Indian Banking Sector Emerging Models

T. Lokeswara Rao Associate Professor and Head Dept. of M.B.A. Sri Sivani Institute of Technology Chilakapalem Srikakulam Andhra Pradesh

N. Santosh Ranganath Faculty Member Dept. of Commerce and Management Studies Dr.B.R.Ambedkar University Srikakulam Andhra Pradesh

Abstract Economic reforms implemented in India since 1990 have included the development of the financial system. This has resulted in the expansion of both the banking sector and the stock market. However, the Indian banking sector is still relatively small compared with the banking sectors of most East Asian economies, and there is scope for expansion. Individual Indian banks are also small by international standards. Furthermore, the Indian corporate bond market is still immature and has not even started to develop on a significant scale. Indias rapid growth since 2000 has been accompanied by increases in both savings and investment rates. This process has also brought an increase in external procurement of financial resources. This suggests that external financing plays an important role in the achievement of high economic growth. Priorities in this paper include the structural expansion of bank credit through the expansion of financial savings, and the improvement of the efficiency of financial intermediation and the allocation of financial resources. These goals will require further improvements in the efficiency of the banking sector, and the setting of loan and deposit interest rates at levels that reflect market realities. Other essential steps include a review of the statutory liquidity ratio (SLR) system and priority sector lending, and the promotion of financial inclusion. This paper explains several models which requires the emerging role of Financial Inclusion in Banking Sector in India

Keywords: SLR System, Export led Growth, Un-bankable, Financial education, Technology. Introduction The broader concept of financial inclusion is delivery of banking/ financial services at an affordable cost to the vast sections of disadvantaged and low income groups. These banking /financial services are savings/deposits, loan /borrowings and, payment/settlement and remittance facilities. The insurance services come under savings facilities. Out of these three above mentioned important services if any one of the service is absent the entire concept will be considered as incomplete/insufficient financial inclusion. Commercial Banks, RRBs, Cooperatives, Government, M.F.I.s, SHGs, Post offices, NBFCs, NGOs, etc. are the provider of financial services and these have either adequate or inadequate presence in rural areas of the country. Cooperatives like Primary Agricultural Credit Cooperative Societies, MFIs, SHGs, Post Offices and NBFCs are restricted to provide only savings/deposits and loan /borrowing facilities and they are not permitted for payment and remittance facilities. Hence their operation /function under financial inclusion partially covered. Only the commercial banks, RRBs and District Central Cooperative Banks fulfill the purpose of total financial inclusion. Financial exclusion is the denial of access to the most basic financial services /products. In the narrower terms it is the restrictive access to financial services, through merely banking services for deposits and withdrawal of money. If a persons bank account is dead or inactive due to absence of transaction for a considerable stipulated period, under these circumstances it is considered as financially excluded person. Even the non-issuance of the pass-books to the small customers of savings bank account by the bank can indirectly lead to their financial exclusion (RBI 2006). There are several reasons for financial exclusion. In remote hilly, desert and sparsely populated areas the physical and communication infrastructure are insufficient. As a result access to financial services/ institutions are severely restricted. The barriers of financial inclusion on demand side are illiteracy, lack of awareness and financial literacy, low income, pre-owned collateral /assets and social exclusion. The reasons for exclusion from the supply side are long distance of branch from the residence,

un-adjustable timings of the branch, complicated procedure and intricacies of documentation, unfamiliar language, unsuitable products and staff attitudes. The requirements of documentary proof of identity and residential address are the most important barrier in opening not only the bank account but also in post offices for availing the financial services. The most sufferers are newly married women and migrants in rural areas. The women cannot borrow from the bank due to lack of pre-owned collateral (as the women do not have the property rights) despite having the bank account. Even an account holder in the bank cannot borrow if he fails to mobilize a guarantor. These are the numerous constraints of financial inclusion. The informal financial institutions are (i) Money Landers (ii) Relatives (iii) Traders (iv) Friends (v) Other professionals. If the rural households do not have any kind of transaction with formal financial institutions but have exclusive transaction with the informal financial institutions, these households will be considered under financial exclusion. Overview of Banking and Financial Institutions The banking system in India is significantly different from that of other Asian nations because of the countrys unique geographic, social, and economic characteristics. India has a large population and land size, a diverse culture, and extreme disparities in income, which are marked among its regions. There are high levels of illiteracy among a large percentage of its population but, at the same time, the country has a large reservoir of managerial and technologically advanced talents. Between about 30 and 35 percent of the population resides in metro and urban cities and the rest is spread in several semi-urban and rural centers. The countrys economic policy framework combines socialistic and capitalistic features with a heavy bias towards public sector investment. India has followed the path of growth-led exports rather than the export led growth of other Asian economies, with emphasis on selfreliance through import substitution. These features are reflected in the structure, size, and diversity of the countrys banking and financial sector. The banking system has had to serve the goals of economic policies enunciated in successive five year development plans, particularly concerning equitable income distribution, balanced regional economic growth, and the reduction and elimination of private sector monopolies in trade and industry.

In order for the banking industry to serve as an instrument of state policy, it was subjected to various nationalization schemes in different phases. As a result, banking remained internationally isolated (few Indian banks had presence abroad in international financial centers) because of preoccupations with domestic priorities, especially massive branch expansion and attracting more people to the system. Moreover, the sector has been assigned the role of providing support to other economic sectors such as agriculture, small-scale industries, exports, and banking activities in the developed commercial centers (i.e., metro, urban, and a limited number of semi-urban centers). The banking systems international isolation was also due to strict branch licensing controls on foreign banks already operating in the country as well as entry restrictions facing new foreign banks. A criterion of reciprocity is required for any Indian bank to open an office abroad. These features have left the Indian banking sector with weaknesses and strengths. A big challenge facing Indian banks is how, under the current ownership structure, to attain operational efficiency suitable for modern financial intermediation. On the other hand, it has been relatively easy for the public sector banks to recapitalize, given the increases in nonperforming assets (NPAs), as their Government dominated ownership structure has reduced the conflicts of interest that private banks would face. Financial Inclusion path towards future Though our country's economy is growing around 9 percent, still the growth is not inclusive with the economic condition of the people in rural areas worsening further. One of the typical reasons for poverty is being financially excluded. Though there are few people who are enjoying all kinds of services from savings to net banking, but still in our country around 40% of people lack access to even basic financial services like savings, credit and insurance facilities. So an inclusive sector should not only serve the bankable clients, but also integrate the "unbankable" clients by making them "bankable". Many actions taken by the government like Nationalizing of Banks, 40% of credit targets to priority sector, opening of RRBs and LABs, etc for past three decades are one form of financial inclusion, but still around 80 % of rural households do not have access to credit from a formal source.

So as a last door step to Financial Inclusion, RBI came up with an initiative of launching National pilot project on Financial Inclusion in Puducherry in 2005. The specialty of this Financial Inclusion project is that accounts are opened by the bank officials at the doorsteps of households without insisting on any minimum balance or deposits. Let us analyze in depth that whether bringing people under banking category by this financial inclusion project helps in achieving the ultimate goal of lifting the standard of living of The Poor and reduce poverty in our country. Financial Inclusion is about delivery of banking services at an affordable cost to vast sections of disadvantaged, first step in FI is to facilitate people in getting basic facilities like food, shelter and clothing to the people and then comes the provision of bank account, wherein they can save whatever little they can. Financial Inclusion 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. Progress in Financial Inclusion:

The above diagram clearly portrays the successful rate of this initiative from RBI on Opening a no frills account with a small overdraft or GCC. It shows the Number of No-frill accounts opened in India for past one year, comes around to 6 million which is 5% of our countrys population. With such an increase every year and constant effort from the banks, in next 5 years around 90% of India's population can be brought under bankable category. So as

already said a bank account is an essential pre-requisite for participating fully in economic and social life. Thus this initiative from RBI is only the first step in building the relationship which would require sustained efforts to ensure that the banking relationship with the customer is fashioned to meet his needs. Thus the real inclusive growth not only requires to bring people into banking population but to make sure the benefits of the financial services reaches to those people, so that the main objective of improving their standard of living can be achieved. So ensuring that is a more challenging task and it is influenced by three major Factors Financial education, Technology, Counseling. Role of Financial Inclusion in Banking Sector Banking/financial services are in the nature of public good. Every citizen of India has right to have access to banking and financial services. The main objective of the public policy is to make available the banking and payment services to the entire population of the country without any discrimination. The open and efficient society emphasizes that there should be unrestrained access to public good and services by the population of the country. The consistent efforts are being made to examine the causes of financial exclusion and strategies are also adopted to ensure financial inclusion of the poor and underprivileged at international level. The reasons of financial exclusion vary from country to country and the strategies are also varied. The developed countries and the developing country like India are making effort for financial inclusion in order to improve the financial condition and standards of lives of the poor and disadvantaged. The more developed the society the greater is the thrust on empowerment of the common person and marginal income groups in the lower strata of the society. In France it is a statutory right of the every citizen to have bank account. The financial inclusion Task Force in UK has identified three priority areas for the purpose of financial inclusion these are (i) access to banking (ii) access to affordable credit and (iii) access to free faceto face money advice. Financial inclusion fund is established in UK in order to promote financial inclusion and assigned responsibility to banks and credit unions to remove the barriers of financial exclusion. A reformed legislative environment for credit Unions has been established and tighter regulations are framed to ensure greater protection of investors. Those who are not willing or
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able to access bank account can have the alternative to use the Post Office Card Account (POCA). In addition to this the concept of a Savings Gateway has been introduced. Under this scheme low employed persons can invest upto the maximum of 25 pound per month. The community finance learning initiatives (CFLIs) were also introduced in order to promote basic financial literacy among housing association tenants. The nationalization of Banks changed the banking scenario in the country. There was paradigm shift from class banking to mass banking. The purpose of creating Regional Rural Banks to take the banking service to the marginalized sections of society especially for priority sector lending. The branches of commercial banks and RRBs have increased from 8321 in the year 1969 to 68,282 branches at the end of March 2005. The average population per branch office has decreased from 64000 to 16000 during the same period. Bihar, Orissa, Rajasthan, Uttar Pradesh, Chhatisgarh, Jharkhand, West Bangal and North-Eastern states are the underbanked states. The average population per branch office are quite high in comparison to national average in these states. In India 31, 59 per cent of population and adult population respectively have bank accounts. In other words 61, 41 per cent of population respectively are excluded from the coverage of banking services. Ministry of Finance, Govt. of India is also playing a pivotal role for the greater financial inclusion in the country. In 2007-08 the Government had set up two Finds i.e., Financial Inclusion Fund (FIF)and Financial Inclusion Technology Fund (FITF) with a corpus of Rs. 500 crore each under NABARD. The purpose is to extend banking services to the unbanked areas. In the recent budget of 2009-10 the Government has further contributed rupees 100 crore to each of these funds in order to strengthen the pace of development of financial inclusion. The contributors to these funds are Government of India, RBI and NABARD. Many countries have developed financial inclusion index in order to check the progress/status of financial inclusion. The Finance Ministry had also asked the nationalized banks to submit their financial inclusion plan by 31st March, 2010. The Ministry is going to introduce financial inclusion index from June, 2010 onwards in order to assess the progress of financial inclusion after the end of every quarter and in the various regions of the country. Financial inclusion is the key to empowerment of poor, underprivileged and low skilled rural households. Financial inclusion can truly lift the financial condition and improve the
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standards of lives of the poor and the disadvantaged. Access to affordable financial services, especially credit and insurance, enlarges livelihood opportunities through adoption of different economic activities. Better financial inclusion would lead to increasing economic activities and self/wage employment opportunities for rural households. As a result rural households will earn greater return /disposable income. A higher disposable income at the hands of rural households would lead to greater savings and would provide a wider deposit base to banks and other financial institutions to be helpful in undertaking variety of economic activities. Thus financial inclusion provides monetary fuel for economic growth and it is considered critical for achieving inclusive growth. The entire business of financial inclusion should have an element of trust i.e., mutual trust between the banker and the customer. The commercial banks and other financial institutions should introduce innovative products keeping in mind the need of rural households. Accounts or products to be structured for a particular purpose like (i) annual payment of childrens school fees (ii) celebration of annual festivals like Pongal, Diwali, Durgapuja etc. and (iii) emergency requirements for treatment of illness, funeral rites etc.. These innovative products through savings can make lives of rural households a little more comfortable. Impact of no-frill accounts on empowerment of rural households yet to be studied in the country. Cooperative societies have wider penetration in rural areas and rural people are very much familiar with the societies. Recently Government has recapitalized the cooperatives. KCC holders of cooperatives are facing a lot of problems in case of delivery of credit. The cooperatives should be revamped and further strengthened for effective financial inclusion. Financial Inclusion and Emerging Models a. Bank SHG Linkage Model: This is one of the most popular and successful model being incorporated and followed by all public and private sector banks now-a-days. The banks may perform the role of formation of Shags in the case of the direct linkage model. The banks are also responsible for granting credit to the SHG in a quantum proportional to their savings. Banks derive the following benefits from the SHG implementation. There are three types of Models of Linkage
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a. SHG formed and financed by banks b. SHG formed by formal agencies other than banks, but directly financed by banks c. SHG financed by banks using NGOs and other agencies as financial intermediaries.

b. Bank MFI linkage Model: MFIs are to be seen as the last milethe connecting link to the rest of the financial sector. Theyve developed technology that banks do not have. If banks get into the business of organizing groups and all, they wont be able to do it effectively. So this is where the partnership model of Bank MFI comes into picture. c. MF-NBFC Model: MF-NBFC is new category of Non banking Finance Company in providing microfinance services to the rural, semi-urban and urban poor. MF-NBFC should be defined as a company that provides thrift, credit, micro-insurance, remittances and other financial services up to a specified amount to the poor in rural, urban and semiurban areas. MF-NBFCs are expected to be larger, with a stronger capital base and more highly regulated than NGOs. d. Post Office Model: Bank - Post office Model: Apart from savings deposit, money transfer, parcel sending, etc Post offices are also engaged in new services like granting retail credits or selling insurance products either directly or on behalf of commercial banks. Further Financial services can also be offered with public-private partnerships with distribution taken care of post offices. - POSTAL BANKS. Let use see many such models followed in various other countries latter and before that let us find out how post offices can be an effective intermediary for distributing financial services. Proposed Models in facilitating Financial Inclusion:

As we already seen about existing models like Bank-SHG linkage, Bank MFI linkage and Postal Bank Models. Let us see some more models and suggestions that can lead to inclusive growth in future. a. Rural Students Banking Model: As already RBI has taken initiative in bringing majority of adult population into bankable category, it can also ask the corresponding bank branches to have an tie-up with schools and colleges within service area to provide No-frill account to all students of class above tenth standard. This model is specifically for rural areas, as in urban areas banks are even looking for KIDS banking in future. This step can make students well familiar with banking operation and services. Though the cost in maintaining these accounts for banks will be increased initially, in long term this can be very profitable for banks by granting educational loans to meritorious students and also any scholarship to students from government can be directed to the service area bank. b. Financial Education - Framing Book Model: As we already talk more on importance of financial education and literacy and people, we can also devise a frame work model on what should be exactly thought to the people in rural areas, since too much of things, will also confuse them. This model can be in form of a book, which can be something like "Significance of possessing a Bank Account". The book should be covered from customer point of view giving the importance of having a bank account and detailed instructions in use of some basic banking services like Pass books, Cheques, DD, etc. It can give details of various credit facilities available, various government schemes, significance of SHG and some more financial products and services like ATM, Credit cards, Insurance policies, Money Transfer, Mobile Banking, etc. The book should be in vernacular language and should be in such a simple format which can easily understood and get familiar within two weeks. The books should be provided for sale in all bank branches, government offices, shops at minimum cost. If this model is properly executed, it can definitely add some value in the education people on financial services. c. Extended Bank - Joint MFI Model:

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Based on the success of the Bank - SHG Model, the next successful model being now followed by many banks is Banks - MFI linkage Model. Here the MFI borrow money from banks at PLR and lend it at an interest rate, slightly higher based on their administration cost. Though, very few MFIs are charging high interest rates, MFIs are at present turned to be most successive institutes for providing small credits facilities and many private banks too are adopting to it. So in this circumstance, realizing the importance of MFI in promoting rural credits more, even a group of public sector branches can promote or start their own MFI on regional basis. This new MFI can be started with help of the local people and administrated by a common team comprising of official from all bank branches in that area. This MFI can take care of small credits facilities like Over Drafts ranging from Rs.500 to Rs.5000, General Credit Cards up to Rs.25000 and other small loans. All the credit can be directed through SHG members so that risk involved is also less. Further all the expenses in starting and organizing the MFI can be shared by all the branches and also investment in form of credits to be granted and profits too are shared equally among the bank branches. One of the advantages of this Joint MFI is since they function as a separate wing; they can function efficiently and concentrate more on small credit facilities. Further the survey and opening of accounts can also be carried out by this MFI for certain branches suffering from staff shortages. One of major advantage for the customers is availing of very small credit facilities at normal interest rate. d. RBI-Education Institution Linkage Model: This is another major linkage not for granting credits but for educating people on banking operations and services in the country. This model can be carried in two stages, In the first stage, RBI can have tie up with some of major educational institutions in India and conducting training and workshops on RBI & its operations, banking operations and services, rural credit and government schemes, etc. This first step is to create more of financial literacy among students on all aspects. In the second stage, RBI can ask the educational institution to adopt any of nearby village in their area and involve the trained college students in creating some camps and educating those people on banking operations, various services, up gradations in banking technology, etc. As a part of the camp, even survey on details of households, their financial literacy level and credit facilities availed and counseling required, etc can be collected by the
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students. Further as a reward, RBI can offer certificates to students involved in such financial awareness campaign after successful completion of stage 2. This linkage if properly framed and utilized can be a win-win situation for both student and society. e. Re-financing model - small credit facilities: Though the initiative from RBI has brought many people under banking population, but still small credit facilities of Rs.500 to Rs.5000 in form of Over Drafts have not been granted by any other banks apart from Indian Bank. Few reasons put forth by the banks are: a. They feel most of credits will be turned to NPA b. The bank staffs feel they cannot be accountable for Over Drafts c. Shortage of staffs make follow-up of small credit facilities to be difficult d. Time and cost involved will also be high. So in order to encourage banks in granting such credit facilities, RBI in co-ordination with NABARD can set up a fund and can refinance 5 to 10% of the credits granted by banks under this Financial Inclusion Scheme. This type of incentive to bank can increase the number of Over Drafts and GCCs granted to the rural poor. Conclusions Financial inclusion is the key to empowerment of poor, underprivileged and low skilled rural households. Financial inclusion can truly lift the financial condition and improve the standards of lives of the poor and the disadvantaged. Access to affordable financial services, especially credit and insurance, enlarges livelihood opportunities through adoption of different economic activities. Better financial inclusion would lead to increasing economic activities and self/wage employment opportunities for rural households. Thus the paper explains in detail about the importance of Financial Inclusion and reasons and consequences of being financial excluded. Further it list the various benefits enjoyed by the bank and customers through Financial Inclusion. Thus the financial inclusion is a strategy towards inclusive growth in future provided it is supported by various influencers like

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Technology, Financial Education, Counseling and the Society. So once this scheme is properly implemented and executed in every village in support from the government and society, then this can really lift the standard of living of majority of the poor which can really make our country proud.

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