Financial inclusion is an important policy pillar of the Narendra Modi government to ensure inclusive development (sabka saath, sabka vikas). What it means, in brief, is to mainstream financial services for the masses, especially credit at affordable costs from institutional sources.
This is not the first time financial inclusion is being given a thrust. Various governments tried to bolster it, and that was one of the reasons bank nationalisation took place. There have been some successes during 1951 to 1991, when the share of outstanding debt of rural households to institutional sources increased from 7.2 per cent in 1951 to 64 per cent by 1991.
But thereafter, the period of economic reforms showed a dismal performance, with the share of institutional sources declining from 64 to 56 per cent during 1991-2013. This is one of the biggest lapses of the economic reforms. If the Modi government can correct this flaw, it can be a gamechanger in alleviating poverty at a much faster pace than has been the case under economic reforms.
Realising the importance of financial inclusion, the government took a bold step by introducing the Jan Dhan Yojana (JDY). The government deserves praise for the speed at which these accounts have been opened — and the scheme has already found its place in the Guinness Book. So far, around 20 crore bank accounts have been opened, and more than Rs30,000 crore deposits received under JDY. However, the real challenge is to prevent these accounts from remaining dormant.
To ensure that JDY remains active and relevant in fulfilling its objective, the PM had asked the RBI to prepare a roadmap for financial inclusion. The report of the RBI Committee on Medium-Term Path on Financial Inclusion, released in December 2015, emphasised the role of a holistic strategy involving players like telecom operators, biometric systems, payment banks and land registrars for “last mile” service delivery. Some of its major recommendations include linking all credit accounts with a biometric identifier, such as Aadhaar; moving away from short-term interest rate subvention on crop loans and towards a crop insurance scheme; and replacing various input and output subsidies with direct benefit transfers (DBT).
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The report finds that although there has been significant improvement in access to banking services through expansion in a number of rural branches, banking correspondents and no-frill banking accounts, a large degree of financial exclusion prevails in east and northeastern India. High interest rates (above 20 per cent) charged by the informal sector as well as micro financial institutions continue to be a concern.
Let’s focus on one of the key recommendations of the RBI committee on phasing out the interest subvention scheme.
The interest subvention scheme was introduced in 2006-07, with the objective of providing substantial and cheap loans — at 7 per cent interest (upper limit of Rs 3 lakh), and if payment is regular, gradually lowered to 4 per cent. Some states have extended loans even at zero interest rate to farmers. This has resulted in a significant increase in short-term agricultural credit, with actual disbursements consistently surpassing targets. This is hailed as a grand success and the subsidy on account of it has increased from Rs 3,283 crore in FY12 to Rs 13,000 crore in FY16.
But this could be deceptive and a potential agri-credit scam. There’s reasonable evidence that a significant proportion of crop loans granted at subvented interest rates isn’t reaching target beneficiaries. A farmer who receives loans at a concessional rate of 4 per cent can easily deposit at least a part of it in fixed deposits in the bank, earning about 8 per cent interest, or even becoming a moneylender to offer loans at 15-20 per cent interest to those who don’t have access to institutional sources of finance. You don’t need bigger proof than the fact that short-term credit from institutional sources reached 110 per cent of the total value of agricultural inputs in 2014 (NAS 2015), and at the same time, AIDIS data shows 44 per cent loans were from non-institutional sources in 2013. This suspicion is reaffirmed when one looks at the month-wise disbursement of agricultural credit, which spiked to 62 per cent of annual disbursement in the last quarter of FY14, with no corresponding spike in agri-production activities.
No wonder, the RBI committee recommends phasing out the interest subvention scheme, lest it explode as a scam, and moving towards universal crop insurance. The latest crop insurance scheme is expected to cost the Centre around Rs 9,000 crore. This could easily be financed by releasing funds allocated to interest subvention.
The report also states that meaningful financial inclusion will be elusive without social cash transfers from government-to-person (G2P). Recognising large leakages in welfare and anti-poverty schemes, many countries have moved from price support to income support. However, India uses price policy (subsidised inputs) to support farmers and PDS grains for consumers. Such policies are inefficient and at times regressive, as they promote leakages and sub-optimal use of scarce resources. Recent policy interventions utilising DBT in LPG subsidy have seen good success. Similar efforts are needed for food and input subsidies. Using the JAM trinity (Jan Dhan, Aadhaar, Mobile) and digitising land records will be significant drivers of financial inclusion.
Challenges of implementation will remain unless the government displays the same vigour and perseverance as it did in opening accounts under JDY.