Inclusion — don’t count on banks

It is well known that working groups and committees are the favoured mechanisms to find solutions for complex issues — particularly in democracies. Such mechanisms bring together varied expertise and, importantly, representation for diverse interests so that “widely acceptable” solutions emerge.

Even so, is one committee every year — in the last five years — for finding out how financial deepening and financial inclusion can be attained in our country, a little too much?

One would think so. Particularly, when this issue is not that complex or marred by diverse, competing interests. The objective of financial inclusion actually would find almost universal acceptance. Still, policy-makers do not seem to be tiring of appointing new committees on the same subject.

Indeed, the recently-constituted Nachiket Mor Committee actually is the sixth such committee, in the last five years, to be asked to go into how effective financial services — meaning savings and credit — can be delivered for India’s vast range/numbers of small businesses. Three RBI working groups, a Prime Ministerial Task Force and a Planning Commission group have exercised themselves between May 2008 and now on this subject. Only that the latest Mor Committee has to consider the “financial inclusion” of low income households, in addition to focusing on small businesses.

What is wrong?

None of the earlier committees came out with anything of a path-breaking nature. In other words, they did not upset the status quo — they assumed that building on the existing structure of financial intermediaries and exhorting them to work towards financial inclusion would do the trick.

It has been a bank-led and dominated approach so far for attaining financial inclusion. While non-bank financial intermediaries have been grudgingly accepted to some extent on the credit creation side, the reliance is almost completely on the banking sector for mobilising the financial savings of the population.

Non-bank financial intermediaries have not been considered worthy of playing any direct role on the savings side.

The bank-led model has obviously not worked. Indeed, if we take the entire banking system — combining the commercial and co-operative banking sectors — Census 2011 shows that 50 per cent of Indian households do not have any kind of banking service — meaning, no banking savings, credit facilities, and so on.

One would have thought that the co-operative banking system — numerically stronger than the mainline commercial banking system, with about 2000 co-operative banks (1,500 urban co-ops and around 500 rural/semi-urban co-ops) against 100 commercial banks — would have a much stronger reach into the hinterland and would have attained much higher levels of penetration in savings mobilisation and credit creation.

But, the entire co-operative banking structure currently accounts for only 10 per cent of the total assets of the commercial banking system. At around Rs 7,00,000 crore, it is obvious that the co-operative banking system has not made any serious headway either in credit penetration or in savings mobilisation.

(Many reasons can be given for that — rampant politicisation and its associated ills, unrealistic wage and cost structures, a top-down bureaucratic approach etc).

Given this backdrop, we could well have another committee in 2014-15 if a heretical approach to financial inclusion is not adopted now!

What is probably required?

What can be a heretical strategy to attain financial inclusion?

CONSTRAINED REACH

If private sector intermediaries other than banks are also permitted to accept/mobilise savings from the public in the form of un-collateralised public deposits, that can be a transformative and path-breaking approach to financial inclusion.

This assessment appears valid since the bank-led model has, even by official accounts, signally failed in taking basic financial services such as savings and credit to the common man.

The regulator’s (the Reserve Bank of India) philosophy, though, seems to be that financial institutions other than banks should not be allowed to raise uncollateralised public deposits — that is, liabilities not backed specifically by earmarked assets.

This philosophy needs to undergo a complete transformation.

Without non-banks having recourse to the broader savings pool of the community, they will continue to be strangled by a high level of reliance on bank funding. And that, in turn, will limit the scale and scope of their operations as has been proved by the developments in the past 15 years.

Analysis of the macro data shows that non-bank financial intermediaries focusing on small businesses/low-income households (also the focus of the new Mor committee), after nearly 30-40 years of operations, account for only a small portion of total credit outstanding/credit flows to this sector. The combined balance-sheet of such non-banks, as on date, is only around Rs 1,50,000 crore with annual credit flows of around Rs 20,000 crore. Against that, it has been estimated that the recurring credit demand of this sector alone is nearly Rs 20,00,000 crore.

REGULATORY STRUCTURE

The fact that financial inclusion — without private sector non-banks playing a robust role — is difficult to attain has been well established.

But, if non-banks are to play that role, they must be given the leeway to act as full-scope financial intermediaries, with appropriate regulations and institutional controls as is applicable to other financial players such as banks.

In this connection, there is no reason why even deposit insurance cannot be extended to non-banks, subject to rigorously defined criteria.

Simultaneously, there should be a massive scaling up of the supervisory infrastructure. Innovative approaches in supervision, including significant sharing of responsibilities — like in the US where at least three federal agencies handle the vast financial system (with nearly 6,000 local and community banks and nearly 6,000 credit unions) — should be thought of.

Indeed, what we need are thousands of small and local private sector financial intermediaries.

(The author is a Chennai-based financial consultant.)

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