1.

INTRODUCTION
Financial Inclusion Defined
The recent developments in banking technology have transformed banking from the traditional brick-and-mortar infrastructure like staffed branches to a system supplemented by other channels like automated teller machines (ATM), credit/debit cards, internet banking, online money transfers, etc. The moot point, however, is that access to such technology is restricted only to certain segments of the society. Indeed, some trends, such as increasingly sophisticated customer segmentation technology allowing, for example, more accurate targeting of sections of the market have led to restricted access to financial services for some groups. There is a growing divide, with an increased range of personal finance options for a segment of high and upper middle income population and a significantly large section of the population who lack access to even the most basic banking services. This is termed financial exclusion. These people, particularly, those living on low incomes, cannot access mainstream financial products such as bank accounts, credit, remittances and payment services, financial advisory services, insurance facilities, etc. Deliberations on the subject of Financial Inclusion contributed to a consensus that merely having a bank account may not be a good indicator of financial inclusion. Further, indebtedness as quantified in the NSSO 59th round (2003) may not also be a reflective indicator. The ideal definition should look at people who want to access financial services but are denied the same. If genuine claimants for credit and financial services are denied the same, then that is a case of exclusion. As this aspect would raise the issue of credit worthiness or bankability, it is also necessary to dwell upon what could be done to make the claimants of institutional credit bankable or creditworthy. This would require re-engineering of existing financial products or delivery systems and making them more in tune with the expectations and absorptive capacity of the intended clientele. Based on the above consideration, a broad working definition of financial inclusion could be as under: Financial inclusion may be defined as the process of ensuring access to financial services and timely and adequate credit where needed by vulnerable groups such as weaker sections and low income groups at an affordable cost. The essence of financial inclusion is in trying to ensure that a range of appropriate financial services is available to every individual and enabling them to understand and access those services. Apart from the regular form of financial intermediation, it may include a basic no frills banking account for making and receiving payments, a savings product suited to the pattern of cash flows of a poor household, money transfer facilities, small loans and overdrafts for productive, personal and other purposes, insurance (life and non-life), etc. While financial inclusion, in the narrow sense, may be achieved to some extent by offering any one of these services, the objective of Comprehensive Financial Inclusion would be to provide a holistic set of services encompassing all of the above.

2. FINANCIAL EXCLUSION
The term financial exclusion was first coined in 1993 by geographers who were concerned about limited physical access to banking services as a result of bank branch closures (Leyshon and Thrift, 1993). Throughout the 1990s there was also a growing body of research relating to difficulties faced by some sections of societies in gaining access to modern payment instruments and other banking services, to consumer credit and to insurance. There was also concern about some people lacking savings of any kind. It was in 1999 that the term financial exclusion seems first to have been used in a broader sense to refer to people who have constrained access to mainstream financial services (Kempson and Whyley, 1999). Since then, a number of commentators have added their views of how financial exclusion should be defined. These include both academics (for example, Anderloni, 2003; Anderloni and Carluccio, 2006; Carbo et al, 2004; Devlin, 2005; Gloukoviezoff, 2004; Kempson et al, 2000; Sinclair, 2001); and policy makers (Treasury Committee, 2006a, 2006b; HM Treasury, 2004). The term financial exclusion has a broad range of both implicit and explicit definitions. Research carried out and discussions held among experts within the the present research project leads us to propose the following definition: Financial exclusion refers to a process whereby people encounter difficulties accessing and/or using financial services and products in the mainstream market that are appropriate to their needs and enable them to lead a normal social life in the society in which they belong. There is also a widespread recognition that financial exclusion forms part of a much wider social exclusion, faced by some groups who lack access to quality essential services such as jobs, housing, education or health care. Difficulties accessing appropriate financial services and products.... Beside the fact that use of financial services makes more and more part of a standard life, the way to access and use those services may be more and more over demanding on various aspects as geographical, technical, cultural, educational or about guarantee and risk analysis criteria. This leads to a large range of access and use difficulties that are deeply related to each country's market structure. Financial products will be considered appropriate when their provision, structure and costs do not lead the customer to encounter access and/or use difficulties. These difficulties are caused simultaneously by the characteristics of the products and the way they are sold (supply side) and the situation and the financial capability of the customer (demand side). The analysis of each structure (both demand and supply sides) may, for each country, highlight the way supply meet demand, and how appropriate it is..... provided by mainstream providers. Much of the exclusion appears to arise from a failure of the mainstream commercial providers to supply a range of products and services that are appropriate to the needs of all sections of society. Mainstream providers may be considered as non stigmatizing providers regarding to the national reference. Related to the market structure of each country, a particular type of providers may appear as mainstream in one and as alternative in another one (e.g. saving banks are mainstream in France or Spain, but not in the United Kingdom). Alternative may refer to organisations paying special attention to marginal segments, often operating as not-for-profit organisations and acting in compliance with rules and regulations or other providers which exploit the marginal market segments and often act on the borderline of legality (alternative

commercial profit-oriented entities).... lead to financial exclusion which reinforces the risk of social exclusion. Financial exclusion is deeply interrelated with social exclusion: if the latter almost automatically leads to the first, financial exclusion belongs to a process that reinforces the risk to face social exclusion. Being objectively excluded or having a subjective feeling of being excluded can begin or be reinforced by access or use difficulties in financial practices. The perfect financial inclusion may therefore be described by the capacity to access and use appropriate financial services proposed by mainstream providers. Meanwhile, there may be an adequate second best choice to get appropriate services proposed by alternative providers that comply with rules and regulations and do not exploit low income people. At least, an authenticated social / open minded provider may give a sufficiently safe / positive image to enable excluded people to try once again financial services, which could then be the first step towards financial inclusion with mainstream financial providers. Financial exclusion is, however, a complex concept and the following key issues need to be considered. Exclusion from which financial services and institutions? Do we need to draw a distinction between access to financial services and usage of them? Are there degrees of financial exclusion and, if so, how to express these? For whom do we measure access: the individual, the family or the household?

I.

Access to what?

Which services are to be considered essential and therefore ones to which all in society should have access? We will consider the World Bank (1995) four key areas: Transaction banking Savings Credit Insurance.

II.

Access or usage?

There is an important distinction to draw between access and usage of financial services. First of all, in the context of banking we need to consider how to categorise people who do have transaction banking facilities with an account but choose not to use them. As we note above, such people are often considered to be marginally banked (Anderloni and Carluccio, 2006; BMRB, 2006; Barr, 2004; Corr, 2006; Kempson, 2006). Then there is the issue of people who could gain access to specific services but choose not to do so. This applies especially to consumer credit and insurance, but it can also be the case for insurance and banking too. Here an important distinction is often made between those who choose freely not to use a particular service (such as people who have a fundamental objection to using credit) and those who are deterred from doing so because they believe the features of the products or services make them inappropriate to their needs or the costs puts them beyond their reach. Finally, there is the issue of people facing use difficulties because they accessed to inappropriate financial products. These difficulties are caused simultaneously by the characteristics of the products and the way they are sold (supply side) as well as the situation and the financial capability of the customer (demand side). These difficulties can happen with a current bank account which becomes overdrawn as people are not used to manage money

electronically. It can also happen with a loan that is sold with insufficient advice and with technical terms that are incomprehensible to anyone who is poorly informed, or with exorbitant charges for someone with a low income. Inappropriate access (e.g. use difficulties) to credit could result in the borrower having less disposable income and sometimes over-indebtedness (Gloukoviezoff 2008).

III.

Are there degrees of financial exclusion?

The World Bank distinguishes between those who are formally served that is those who have access to financial services from a bank and / or other formal providers and those who are financially served who also include people who use informal providers. In contrast to the other work described above, the term financially excluded is only used to describe those who have no access at all (World Bank, 2005). In the scope of our European study, we have decided to consider only the formal sector which includes only the legal providers as the illegal sector is clearly not to be encouraged. The following details the degrees of financial exclusion per category studied: transaction bank accounts, credit and savings. Regarding the bank transactions account, as previously evoked, there are three levels of exclusion: unbanked who are generally people with no bank at all, marginally banked who are people with a deposit account that has no electronic payment facilities and no payment card or cheque book. It can also be people who do have these facilities but make little or no use of them. fully banked are people that have access to a wide range of transaction banking services that are appropriate to their needs and socio-economic status. For the credit category, we have identified a five main levels: credit excluded inappropriately served by alternative lenders inappropriately served by mainstream lenders appropriately served by alternative lenders appropriately served by mainstream lenders Finally, concerning the savings category, being excluded is slightly different here, in the sense that it is not lack of access or usage that determines the exclusion, but the mere fact of the concerned person actually being able to save or not. As we will see there are many ways to save from the unofficial home savings, to the savings account with a credit union, to the savings account with a mainstream bank account.

IV.

Individual, family or household exclusion?

Finally, there is a debate about whether financial exclusion (and banking and credit exclusion) should be assessed at the individual or household/family level (Anderloni and Caluccio, 2006; BMRB, 2006; Gloukoviezoff, 2004; Kempson and Whyley, 1999). Each has its limitations. If the assessment is made at the individual level, people appear to be financially excluded even though their partner may make extensive use of financial services and they would easily get them in their own right. In addition, a decision has to be made about the age range of individuals to be covered. In most countries there is a legal age limit below which credit facilities cannot be granted. As a consequence many studies have looked at adults aged 18 or over, although others cover people from the age of 16 or 15. On the other hand, assessing access at the family level

(that is the head of household and their partner if they have one) we have a clearer idea of the proportion of the population with no ready access, even through a partner, but underestimate the proportion of people at risk of being financially excluded if they experienced the break-up of their family. It also underestimates the number of people who are affected. For this reason the United Kingdom Government, in its monitoring, estimates the number of adults living in family units without access to banking (Financial Inclusion Taskforce, 2006a, 2006b). Assessing access at the household level (that is considering all adults living in a household) compounds these problems still further as there is much less stability of households than of family units. Moreover, household level analysis does not provide estimates of the financial exclusion faced by young adults still living at home.

V.

Levels of financial exclusion

The main source that has been used to assess levels of financial exclusion in Europe is the Eurobarometer Survey 60.2, undertaken at the end of 2003 (Anderloni and Carluccio, 2006; Nieri, 2006; Corr, 2006). To date, however, use of the Eurobarometer data has been restricted to looking at access to specific products only (banking: Anderloni and Carluccio, 2006; Corr, 2006; credit: Nieri, 2006; life insurance: Corr, 2006). We have, therefore, re-analysed the data to take this analysis further and also taken into account data from Eurobarometer 2003.5 which looks at the EU 10 new member states over the same period. Although there is more recent data this was not suitable for the analysis we require3. One implication of this is that for some countries (Cyprus, Czech Republic, Estonia, Lithuania, Malta, Poland, Slovakia and Slovenia) the figures quoted will overstate the extent of financial exclusion as levels seem to be falling. Although Eurobarometer surveys individuals aged 15 or over, our analysis is restricted to people aged over 18 as this is the legal age of access to some types of product (including a transaction bank account with an overdraft and unsecured credit). It asks about the holding of a range of financial products, including transaction accounts (with a cheque book and/or a payment card facility), deposit accounts (which pay interest but have no payment card or chequebook) and other savings products including life assurance policies, stocks/shares, collective investments (unit trusts) and bonds. The forms of credit covered include overdrafts, credit and charge cards and loans for car purchase and other purposes. It is important to note that the Eurobarometer data is useful to draft a broad picture and to be able to draw very rough international comparisons, but that is it not 100% accurate information. Indeed, experts have underlined that the questions are sometimes interpreted differently from one country to another, and as the study shows, comparisons with national data sometimes show quite important gaps, which could not only be due to samples issues. To summarise, it is one of the best data available for the moment, but it can still be improved in the future. The analysis of these two data sets shows that at the end of 2003, ten per cent of adults aged 18 and over in the EU 15 countries and 47 per cent of adults in the new member states had no bank account at all (Table 2 and Table 3). We describe these people asunbanked. A further eight per cent in the EU 15 and six per cent in the new member states had only a deposit account with no payment card or cheque book these we have called marginally banked. In both groups of countries, adults were less likely to hold revolving credit5 than savings. In all 40 per cent of EU 15 adults and 73 per cent of those in new member states had no access to revolving credit (credit card or overdraft) whilst 30 per cent and 54 per cent respectively did not have a savings product. On the whole, people who lacked a bank account of any kind (transaction or deposit) were very likely to have neither a savings product (77 per cent in the EU 15; 74 per cent

in the new member states) nor revolving credit (83 per cent and 93 per cent respectively). Putting this together, we find that seven per cent of all adults in the EU 15 countries and 34 per cent of those in new member states had none of these three types of financial product and might, consequently, be considered financially excluded Percentage of the EU 15 population excluded from credit and savings by banking status

ALL NO TRANSACTION BANK A/C DEPOSIT BANK A/C NO BANK A/C AT ALL

NO REVOLVING CREDIT 40 81

NO PRODUCT

SAVINGS ALL

WEIGHTED BASE 15526 2742

30 42

--18

80 83

0 77

8 10

1266 1476

Percentage of the EU 10 population excluded from credit and savings by banking status Cell percentages NO REVOLVING CREDIT 73
93

NO PRODUCT

SAVINGS ALL

WEIGHTED BASE 8492 4456

ALL NO TRANSACTION BANK A/C DEPOSIT BANK A/C NO BANK A/C AT ALL

54 66

--53

96 93

0 74

6 47

470 3986

Levels of financial exclusion varied widely, ranging from one per cent or less in Denmark, Belgium, Luxembourg, and the Netherlands, to 40 per cent in Poland and 48 per cent in Latvia. Moreover, there was a broad a correlation between levels of financial exclusion and the levels of affluence (measured by the GDP per capita) and inequality (Gini coefficient), which is consistent with other research (Kempson, 2006). Where affluence was high and income inequality was low, levels of financial exclusion tended also to be low.

VI.

Who is most likely to be financially excluded?

Previous research in Europe20 has shown that complete financial exclusion among households has very strong links to low income. It was, therefore, most common among people who were not in paid work and in households where there was no wage earner. Consequently unemployed people, lone parents and people unable to work through disability had above average levels of exclusion. There was also a link with age, with the youngest and oldest people being most likely to be excluded, and a link with educational attainment so that the more education someone had received the less likely they were to be excluded. Financial exclusion was also very prevalent among ethnic minorities and migrants. The country reports of the fourteen countries studied tended to confirm these research findings. In addition to these personal characteristics, (multivariate) statistical analysis has also shown that living in a neighbourhood that had high levels of deprivation increased the likelihood of being financially excluded still further and so too did having friends and family who were financially excluded. Research around Europe has looked largely at the types of people who lack access to transaction banking. On the whole, the findings are as just described above, although in countries where transaction banking exclusion is relatively uncommon, it tends to be concentrated among migrants and people who are over-indebted (see, for example Disneur et al, 2006; IFF, 2000; IFF, 2006; Linz, 2006). Indeed, in Belgium even though the numbers of people without a transaction account fell between 2001 and 2006, the types of people most likely to be affected (migrants, people with little or no education and people going through debt settlement programmes) had remained the same (Disneur et al, 2006). We explore the links between overindebtedness and financial exclusion further in section 5.3. The study of financial exclusion in Poland, where financial exclusion is fairly high, found that levels of banking exclusion were highest among: the under 25s and people over retirement age; people on low incomes; people with low levels of education unemployed people, and students (Bdowski and IwaniczDrozdowska,2007). It is also worth noting that our country correspondents in the Netherlands and Norway indicated that financial exclusion is not considered to be a problem in their countries (and statistics bear this out). The Dutch correspondent commented that the only people excluded are those who choose not to have an account and a very small number of people who have been laundering money or have behaved fraudulently. Similarly, our Norwegian correspondent suggested that the only barriers to financial inclusion in Norway are related to self-exclusion because of problems relating to travelling or technology. One previous study in the United Kingdom has explored gender differences in transaction account-holding and found that ethnicity, having children, personal income and economic activity status all had a greater effect on womens propensity to be financially excluded than they did on men. The authors note that this is consistent with qualitative research showing that some married women give up having an account in their own name when they give up work to have children (Kempson and Whyley, 1998). We were only able to find one study that looked at the characteristics of people who had been refused credit the study of financial exclusion in Poland (Bdowski and IwaniczDrozdowska, 2007). This found that refusals were highest among people who were over retirement age, had low incomes, had low levels of education or lived in a rural village. Analysis of the Eurobarometer data is mostly consistent with this earlier research. This shows that women were more likely to be completely financially excluded than men. Young people (aged 18-25) and adults aged 65 and over were most likely to be financially excluded. Younger people were the ones who were most likely to be excluded in EU 15 countries, while in new member states it was most common among elderly people.

Lone parents and single people (who tended to be either quite young or quite old) included a greater proportion of who were financially excluded than people who were living with a partner, whether they had children or not. There was a strong link between financial exclusion and level of education received and also with income. So the less well-educated people were and the lower their household income, the more likely they were to be excluded from all forms of financial services. Students were also far more likely than average to be excluded. Given that low income was associated with financial exclusion it is unsurprising that unemployed people and those looking after the home full-time had high levels of financial exclusion. Although it is not shown in the table, levels were also high for people living in households where the head of household was either unemployed or looking after a family full-time. In new member states, people who were retired or unable to work through disability also had above-average levels of exclusion reflecting the age effect noted above. Although a great deal has been written about the difficulties accessing financial services faced by people living in rural areas, levels of financial exclusion varied little by type of geographical area across EU15 countries. There was, however, a noticeable difference between levels in rural areas (43 per cent) and large towns (25 per cent) in new member states. We have also investigated the influence of a range of skills and attitudes on financial exclusion. Across both EU15 and new member states levels of exclusion were higher if people: found it difficult to compare information from banks about bank account features and charges; found it difficult to know beforehand how much its going to cost to borrow money, and did not expect financial institutions to give them financial advice. In each case, though, significant proportions of people replied dont know to these questions and these people had higher levels of financial exclusion still. They were also very likely to say they did not know whether the marketing techniques of financial institutions are aggressive. Taken together, this suggests that financial exclusion is influenced by: perceived difficulties likely to be encountered finding out the costs of using banking services and credit; lack of knowledge about financial services, and not receiving any marketing materials which other research has shown reinforces a belief that financial services are not for people like me. Clearly, many of these personal characteristics and attitudes are linked to one another. For example, lone parents are often out of the labour market because they are looking after their children and, as a group, they tend to have relatively low incomes. To disentangle these effects we have used a statistical technique known as logistic regression. This enables us to look at the effects of each factor in turn, independently of all others included in the analysis, and to see the extent to which it raises the odds of someone being financially excluded. It also enables us to disentangle the effects of attitudes and personal characteristics. (See Table 8 column 2 all EU25). This analysis showed that the largest, and most statistically significant influence on financial exclusion was being unemployed (which almost quadrupled the odds relative to someone in employment) and not knowing whether financial institutions would give advice or expecting they would not (both of which more than tripled the odds compared with someone expecting them to do so). Other factors with a sizeable effect (all of them doubling the odds) included: being retired or unable to work; being in the lowest income quartile21, being a student and not knowing how easy it would be to compare bank charges. Age, gender and type of

locality lived in were significant to some extent, but the effects were small. We were unable to include age at which people left education in this model because of the strong co-linearity with the work status variable (both having groups of current students).

i) Extent of Exclusion NSSO Survey 59th Round

(a) General : 51.4% of farmer households are financially excluded from both formal / informal sources. Of the total farmer households, only 27% access formal sources of credit; one third of this group also borrow from non-formal sources. Overall, 73% of farmer households have no access to formal sources of credit. (b) Region-wise : Exclusion is most acute in Central, Eastern and North-Eastern regions having a concentration of 64% of all financially excluded farmer households in the country. Overall indebtedness to formal sources of finance alone is only 19.66% in these three regions. (c) Occupational Groups : Marginal farmer households constitute 66% of total farm households. Only 45% of these households are indebted to either formal or non formal sources of finance. About 20% of indebted marginal farmer households have access to formal sources of credit. Among non-cultivator households nearly 80% do not access credit from any source. (d) Social Groups : Only 36% of ST farmer households are indebted (SCs and Other Backward Classes - OBC - 51%) mostly to informal sources. Analysis of the data provided by RBI thru its Basic Statistical Returns reveal that critical exclusion (in terms of credit) is manifest in 256 districts, spread across 17 States and 1 UT, with a credit gap of 95% and above. This is in respect of commercial banks and RRBs. As per CMIE (March 2006), there are 11.56 crore land holdings. 5.91 crore KCCs have been issued as at the end of March 2006, which translated into a credit coverage of more than 51% of land holdings by formal sources. Further data with NABARD on the doubling of agricultural credit indicates that agricultural loan disbursements during 2006-07 covered 3.97 crore accounts. Thus, there are different estimates of the extent of inclusion thru formal sources, as the reference period of the data is not uniform. Consequently, this has had an impact on quantifying the extent of levels of exclusion.

VII.

The causes and consequences of financial exclusion

The earliest analysis of financial exclusion concluded that it involves those processes that serve to prevent certain social groups and individuals from gaining access to the financial system (Leyshon and Thrift, 1995). The authors contend that people with limited incomes and certain disadvantaged social groups represent too high a risk as customers for mainstream financial institutions, which then avoid geographical areas where these groups of the population live. In other words, financial exclusion was seen in terms of physical and geographical access. Since then, there has been a large body of research that has identified a wide range of other factors that restrict access to and use of financial services or that renders them less appropriate. A range of societal factors have been identified as having an impact on peoples access to and use of financial services. These include liberalisation of financial services markets, which has, in turn, led to an increase in the number and complexity of financial products and providers. While this has widened access, the confusion that arises makes it difficult for some people to

engage with financial services (Anderloni and Carluccio, 2006; Atkinson et al, 2006; Kempson et al, 2000). Secondly, there are structural changes in labour markets, leading to greater flexibility and growing job insecurity, which in some countries is accompanied by high levels of youth unemployment (Anderloni and Carluccio, 2006). Thirdly, tightening of money laundering rules in response to terrorist attacks means that many people may face difficulty in getting access to services (Anderloni and Carluccio, 2006; Kempson, 2000). Fourthly, social assistance programmes can play an important role with both the level of payments and the method by which they are made having an effect on levels of financial exclusion. And for benefit receipt the rules may deter people from saving where that might reduce the level of assistance they would qualify for (Anderloni and Carluccio, 2006; Citizens Advice; 2006; Kempson and Whyley, 1999). Fifthly, financial exclusion is affected by demographic changes such as rising levels of divorce and the tendency for young people to leave home at an older age (Anderloni and Carluccio, 2006; Kempson et al, 2000). Finally, as reported in section 3, there is a link between levels of banking exclusion and levels of income inequality as measured by Gini coefficients (Kempson, 2006). Much of the previous research and analysis has, however, tended to concentrate on the reasons for exclusion in specific areas of financial services. In the area of transaction banking a range of factors covering both supply and demand has been identified across a wide range of countries (for an overview see: Anderloni and Carluccio, 2006; Corr, 2006; Gloukoviezoff, 2005; Kempson, 2006). On the supply side, banks refuse to open full transaction bank accounts for certain groups of people, such as those with a poor credit history, unstable patterns of employment or those who fail credit scoring systems because their characteristics mean they are assessed as a high risk. In some countries, there exists negative registers for payment failures and insolvency, although legal initiatives aim to reduce this too-stigmatising risk. People unable to satisfy identity requirements also find it difficult to open an account. This applies especially to migrants but can also affect a wider group of people who do not have the standard forms of identity required. This is a particular problem in countries that lack identity cards, where banks rely on passports and driving licences instead. Moreover, the terms and conditions and charges associated with transaction bank accounts deter both access and use. This includes such things as minimum balances, monthly charges and charges per transaction especially if the charges are regressive and disproportionately affect people on low incomes. On the demand side, people are deterred from accessing and using transaction banking services for a range of psychological and cultural reasons. These include elderly people who are part of a cash only generation, migrants and also people on low incomes generally, who frequently see banking as only being appropriate for people who are better off than they are and fear losing control of their money if they cease to deal only in cash. In Italy, people are deterred from opening an account if it does not have an overdraft facility to ease access to money paid in. Delays in clearing cheques paid into an account mean that people cannot have instant access to any money paid in (Anderloni, 2003). The balance of importance of these factors does, however, vary between countries. In Italy, for example, transaction bank charges are very high (Anderloni and Carluccio, 2006). In the United Kingdom there are no transaction charges but proof of identity is a particular problem along with very high

10

charges for unauthorised overdrawing of accounts (Collard et al, 2001; Kempson and Whyley 1998; Kempson, 2006). While in France many people are denied access to an account as a result of over-indebtedness (Gallou and Le Queau, 1999; Kempson, 2006). In Sweden, which has traditionally had high levels of banking inclusion, the general move to internet-based banking is denying use of transaction accounts to those who lack access to the internet (Anderloni and Carluccio, 2006). This last point is important because it underlines the need to constantly reassess barriers to access and use. Moving on to consumer credit, previous research has identified a range of similar factors again relating to both supply and demand. Refusal by credit companies is a very significant reason across all countries, as a result of lack of information about an individual at credit reference bureaux, an adverse credit history or failing the score card operated by creditors as a consequence of lack of stable employment, low income and other personal characteristics (Corr, 2006; Ellison, Collard and Forster, 2006; Kempson and Whyley, 1999; Kempson et al, 2000; Nieri, 2006). Often just as significant is the fact that some people do not apply for credit as they think they will be turned down. (Nieri, 2006; Kempson and Whyley, 1999; Kempson et al, 2000). It has been estimated that across France, Italy and Spain, 16 per cent of people have actually been refused credit and another six per cent did not apply because they expected to be refused (Nieri, 2006). Also significant in limiting access to and use of unsecured credit is a fear of borrowing and especially of using forms of credit such as overdrafts and credit cards where it is easy to lose control over spending (Kempson and Whyley, 1999; Kempson et al, 2000; Collard and Kempson, 2005). People who cannot easily gain access to unsecured credit are often deterred by the high cost and poor contractual terms obtained through intermediaries (Nieri, 2006) or in the sub-prime market (Collard and Kempson, 2005). Many people on low incomes need to borrow fairly small sums of money for a short period of time. They also prefer fixed term loans which they know they will repay. Most mainstream lenders have minimum amounts that they are prepared to lend as a fixed term loan which are way in excess of the requirements of such people (Carbo et al, 2005; Collard and Kempson, 2005; Corr, 2006). Finally, religion can act as a barrier to use especially in Muslim populations (Collard et al, 2001; Collard and Kempson, 2005; Kempson et al, 2000). In contrast to transaction banking and unsecured credit, there has been rather less investigation of the reasons why people lack savings accounts. Research in the United Kingdom has, however, shown that the explanation is not as simple as people not having sufficient money to save. Many people on low incomes do save but do so outside formal savings organisations, mainly in cash at home or through informal savings and loans schemes (Kempson, 1999). There are a number of explanations for this. First, some people face the same difficulties providing proof of identity as we have noted for transaction bank accounts. Secondly, as we have seen above, clearing times for cheques deter people in Italy from opening accounts that do not allow instant access to the funds deposited (Anderloni, 2003). But, perhaps, more significantly, people do not put their savings into an account with a bank or other similar organisation because they believe that a large minimum deposit is required or they feel that using such institutions is inappropriate if they have only small sums of money to save.

11

Informal savings schemes are more accessible psychologically (Collard, 2001; Corr, 2006; Kempson, 1999; OLR, 2006). The number and complexity of savings products also acts as a deterrent (Citizens Advice, 2006). Finally, religious factors deter people from opening savings accounts just as they deter them from using credit (Collard et al, 2001; Kempson 1999). i) An overview of the causes of financial exclusion A range of different models exist to classify causes of financial exclusion, however, none deals adequately with the complexity of the situation described briefly above. We have, therefore, developed a new schema for financial exclusion that combines ideas from each of the existing models. This is presented in the table below, which categorises the barriers into three groups: societal, supply and demand factors. The table also indicates whether they act to limit access or use, and also the type of financial services provision where they have their main effects. It should, however, be re-iterated, that not all these factors will necessarily apply in any one country. Moreover, the balance of their importance will also vary from country to country. It is also important to note that the reasons for financial exclusion are complex and these barriers do not often act in isolation. So any one individual may be prevented or deterred from using financial services for several reasons. ii) The consequences of financial exclusion Two main dimensions of financial exclusion consequences under the umbrella of socioeconomic consequences on affected people can be determined. First, financial exclusion can generate financial consequences by affecting directly or indirectly the way in which the individuals can raise, allocate, and use their monetary resources. Secondly, social consequences can be generated by financial exclusion. These consequences are affecting individuals patterns of consumption, the way they participate to economic activities or access social welfare and the distribution of incomes and wealth. They impact the way in which people behave both in terms of purchase decisions and the way in which they choose to spend their time, as well as their overall quality of life. These are the consequences affecting the various links that are binding the individuals: link to you corresponding to self-esteem, links binding to the society and links binding to community and/or relationships with other individual or groups. A single financial exclusion situation can of course generate at the same time financial, socio-economical and social consequences for the person facing it. The different dimensions of financial exclusion consequences identified in the country reports are listed summarised below regarding each one of the keys areas of essential financial services: transaction banking, credit and savings.

VIII.

Conclusion

On the whole, a minority of the adult population living in the EU 15 countries is affected by financial exclusion two in ten lack access to transaction banking facilities; around three in ten have no savings and four in ten have no credit facilities, although rather fewer (less than one in ten) report having been refused credit. The proportion of people lacking access to any of these three forms of financial service is lower still at around seven per cent of the adult population aged 18 or over. In contrast, a third of people in the new member states are financially excluded;

12

more than half have no transaction account, a similar proportion have no savings and almost three quarters have no immediate access to revolving credit. There are, however, considerable variations in levels of financial exclusion even across the EU 15 countries. In general, levels are lowest in the countries such as Netherlands, Denmark, Sweden and Luxembourg where the standard of living is universally high. They are highest in countries like Latvia, Lithuania and Poland that have transition economies and low levels of gross domestic profit.

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3. FINANCIAL INCLUSION: PERSPECTIVE OF RBI

I. What is Financial Inclusion?
Large segment of population remaining excluded from formal payments system & financial markets when financial market developing & globalizing Obvious market failure Government & financial sector regulators creating enabling conditions for inclusive & affordable market.

II.

Indian Focus
Economy Growth rate = 8.5% - 9% (last 5 years) Growth primarily in industry & services Agriculture at 2% - Growth potential in SME sector enormous Limited access to savings, loans, remittance & insurance in rural/ unorganized sector major constraint to growth Above services enlarge livelihood opportunity & empowers poor Empowerment aids socio-political stability Financial inclusion provides formal identity, access to payments system & deposit insurance. FI essential for inclusive growth which is necessary for sustainable overall economic growth In developed economies, focus is on small population In developing economies (India), focus is on majority excluded. Types of Financial Exclusion: (i) exclusion from payment system : not having access to bank accounts (ii) exclusion from formal credit markets leading to approaching informal/ exploitative markets. Post-Nationalization (1969): Expansion of branch network to unbanked areas Increased lending to agriculture, SSI, business Recent trend : access to basic banking services.

III.

Measures of Financial Inclusion

Common measure: % of adult population having bank a/c By this standard, 59% have accounts 41% unbanked In rural areas 39% covered, 60% in urban areas Unbanked population highest in NE and Eastern regions. Exclusion from credit markets high: Number of loan a/cs 14% of adult population Coverage 9.5% in rural & 14% in urban areas Regional disparity large : 25% in Southern, 7% in NER, 8% in Eastern, 9% in Central region Of 203 million households, 147 million in rural areas 89 million farmer households 51% have no access to formal or informal credit 73% have no access to formal credit No data available for non-farm & urban households Sources of credit Non-institutional from 70.8% (1971) reduced to 42.9% (2002) Post-1991 increased Share of money-lenders in rural areas increased from 17.5% (1991) to 29.6% (2002) Reduced from 40% (1981) to 25% (2002)

IV.

Who are excluded?

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 Marginal farmers landless labour oral lessees self employed unorganized sector urban slum dwellers migrants ethnic minorities socially excluded groups senior citizens women NER, Eastern & Central regions most excluded.

V.

Reasons for Exclusion:

Remote, hilly & sparsely populated areas with poor infrastructure and difficult physical access. Lack of awareness, low income, social exclusion, illiteracy. Distance from bank branch, branch timings, cumbersome documentation/procedures, unsuitable products, language, staff attitude are common reasons Higher transaction cost. Ease of availability of informal credit. KYC documentary proof of identity/ address.

VI.

Recent RBI Initiatives:

1969-1991: expansion of branch network average population covered per branch reduced from 64000 to 13711 liberalisation/opening of economy financial sector reforms deregulation increased competition strengthening of banks through recapitalization prudential measures Indian banking now robust & able to achieve global financial inclusion. Annual Policy Statement-2004-05: banks should be obliged to provide banking services to all segments of population on equitable basis. November 2005 : banks advised to provide basic banking no frills accounts with low or minimum balance/ charges expand banking outreach to larger sections of population printed material used by retail customers made available in local language KYC principles simplified to open accounts for customers in rural & urban areas Balances not to exceed Rs. 50000 & credits Rs. 1 lakh in a year Introduction by a customer (KYC) General purpose Credit Card (GCC) facility up to Rs. 25000 at rural & urban branches Revolving credit Withdrawal up to limit sanctioned Based on household cash flows No security or collateral Interest rate deregulated OneTime Settlement (OTS) for overdue loans up to Rs. 25000 Borrowers eligible (after OTS) for fresh credit January 2006 : Bank allowed to use services of NGOs, SHGs, micro finance institutions, civil society organisations as business facilitators/ correspondents (BC) for extending banking services BCs allowed to do cash in-cash out transactions at BC locations & branchless banking Credit counselling & financial education Pilots set up June 2007 : Multilingual website in 13 Indian languages launched by RBI providing information on banking services State/Regional Level : SLBC ( group of banks & government officials) since nationalization SLBC Convenor Quarterly review of banking developments District Level : DCC/DLRC meetings by District Commissioner

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 April 2006 : 1 district in each state identified by SLBC for 100% financial inclusion 13 district identified in NER for FI RBI evaluation of progress through an external agency In identified districts : Survey conducted based on electoral rolls, public distribution system etc., to identify households with no bank accounts Banks to open at least one account per house Mass media deployed for awareness/ publicity Bank staff/ NGOs/ volunteers take ration cards/ Electoral ID/ photos for fulfilling KYC norms & opening accounts KCCs used for credit first, then savings with small overdraft facility or GCCs with revolving credit up to a specified limit In association with insurance companies, banks providing insurance cover for life, disability & health cover SCBs & RRBs being revived/strengthened with incentives for better governance Payments system being improved to cater to less developed parts of the country

VII.

Result of RBI Initiatives

No frills accounts : 6 million new accounts added between March 2006 & 2007 45000 rural & semi-urban branches of RRBs & PSBs shown highest performance FI now a big business opportunity Gives competitive advantage & growth SHG-Bank linkage Access to banking system provided thru SHGs (groups pooling savings & providing loans to members, a NGO nurturing) NABARD supporting group formation, linking with banks, promoting best practices Recovery excellent 2.6 million SHGs linked to banks touching 40 million households SHGs given loans by banks against group guarantees Rate of interest reasonable Loan size small, mostly used for consumption purposes/ small business, for agricultural activities SHGs mostly linked to PSBs Foreign & private banks : Access thru non bank companies providing small value retail loans or by partnership with MFIs, now an excellent substitute of formal sector Rate of interest charged very high (24% - 30%) Reasons being high transaction cost, small sized loans Better than usurious informal sector loans Rates affordable ? Any surplus would be left for borrowers & scale up their living standards ? PSBs advantaged with lower cost of funds, size, scale Cross subsidization of loans & lower rate of interest Solution = Partnering of banks with SHGs & MFIs with reasonable cost of funding Current approach now Business Correspondents (BCs) : Post offices, co-operative societies, NGOs (trusts/societies) being used as BCs for branchless banking Agency risk reduced thru local organisations & IT solutions for tracking transactions Door step banking at lower cost Viability & scalability dependent on lower interest rate & service charges IT Solutions : Essential for doorstep banking Pilot projects by SBI using smart cards for opening a/c with bio-metric identification Link to mobile/ hand held connectivity devices ensures transactions getting recorded in banks books on real time basis State governments making pension & other payments under NREGS thru smart cards Other financial services (low cost remittances, insurance)

16

provided thru cards IT solutions enable large transactions like processing, credit scoring, credit record & follow up etc. Role of Government : Proactive role by issuing identity cards for a/c opening, thru awareness campaigns by district/ block level officials, meeting cost of cards, financial literacy drives India Post being used as BCs FMs Budget Speech 2007-08 : 2 Funds : (i) Financial Inclusion Fund developmental/promotional work (ii) Financial Inclusion Technology Fund technology adoption/innovation Each Fund of $ 125 million Recent Initiatives : Setting up of financial literacy centers Credit counselling centers National financial literacy drive Linkage with informal sources with safeguards IT solutions Low cost remittance products etc. Committee for FI : Dr. C. Rangarajans (Chairman : PMs Economic Advisory Council) 10-Member Committee TOR : Pattern of exclusion from access to financial services Region, gender & occupational variation Constraints for vulnerable groups Institutional constraints International experience/ practices Relevance/ applicability to India Strategy to extend financial services to small/ marginal farmers Streamlining/ simplifying procedures Reduce transaction costs Transparent operations Institutional changes to be introduced (FIs) Monitoring mechanism to assess quality/ quantity of financial inclusion Indicators for assessing progress

Financial Education
Definition : Familiarity with/understanding of financial market products, rewards, risks & make informed decisions Personal financial education & capability to take decisions for ones well-being & avoid financial distress Ability to grow, monitor, effectively use financial resources for economic security of self, family & business Financial markets now very complex, asymmetry of information Informed decision making very difficult Financial Education & RBI : Poverty, illiteracy & large section of population out of formal financial set-up Economic/ financial sector reforms have created higher disposable income New financial products in credit & investment side provided by financial intermediaries Informed decision difficult Those excluded form formal financial system need to be educated about banking & need for relationship with banks Project Financial Literacy : Disseminate information about central bank, general banking concepts to target groups (school/college children, women, rural/ urban poor, defence personnel, senior citizens) 2 Modules : (1) Focus on economy, RBI (2) General banking Material in Hindi, English, Regional language Dissemination thru banks, local govt. depts., schools, colleges, pamphlets, posters, films, RBI Website (link for accessing in 13 Indian languages Credit Counselling Centers : Need for financial counselling to avoid informal sector & debt trap A few banks have started in rural/ semi-urban centers Provide information about banks, financial management, repayment obligations, avoiding indebtedness, rehabilitation of distressed Knowledge Centers : Train farmers/ women In May 06, SLBC convener banks advised to set up at least one center in each district Lead bank to set up more

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4. Ground Zero for Financial Inclusion

The drive for financial access has got a new fillip with the RBI allowing for-profit firms get a role in financial inclusion. For Indian banking industry, this day must be treated as Ground Zero towards universal financial access. But for-profit financial inclusion will still make a loss, argues Sameer Kochhar, Editor-in-Chief, Inclusion. Some of the MFIs have been running riot because of the vacuum of banks in financial inclusion, pumping Rs 400-odd billion as loans backed by them. One can only hope that it is not the next bubble. Allowing for-profit established companies as Business Correspondents (BC) of banks alone will not address the profitability and viability issue for financial inclusion. It is still not clear as to where the profit will come from and who will bear the cost of transactions. It is for this reason that the crucial issue of gap funding needs to be addressed at the earliest, so as not to derail the financial inclusion drive. The nationwide study on 'Speeding Financial Inclusion' by Skoch Development Foundation had analysed two data sets - one pertaining to 28 financial inclusion pilot projects and the second to a large banking correspondent (BC) project in Andhra Pradesh. The study sought to determine the viability and cost-effectiveness of the BC model and identifies several options to make the BC model viable. By all accounts, the costs are unsustainable in the short to medium term for the BCs. An analysis of costs, based on what the banks are actually paying to vendors (BCs), reveals that the gap at the end of two years is between Rs 26.25 to Rs 73.45 per account. As reported, the proposal by the government to provide support to the tune of Rs 140 per account is a bad idea because the only people who will make money in this are the smart card operators, who will open the account, take the money and account will still remain unoperational. The only way this can work is if transaction cost is borne by the government directly on a per transaction basis and the banks put in a regulatory mechanism to avoid round tripping of transactions. Financial inclusion initiatives and policies have suffered a setback of late because of various stumbling blocks, the biggest being the not-for-profit business correspondent model. Some of the MFIs have been running riot because of this vacuum, pumping Rs 400-odd billion as loans backed by the banks. One can only hope that it is not the next bubble waiting to burst. K C Chakrabarty, Deputy Governor, RBI, said recently at the ninth FICCIIBA Conference in Mumbai: "We are yet to put in place a cost-effective, decentralised and realistic delivery model. Fledgling delivery models are being tried out experimentally. Fixing a problem / glitch when it happens is the weakest link. This issue is even more important considering that increasingly larger number of hitherto un-banked people will interface with the banks through hand-held / mobile front-end devices. The credibility of the entire system will be at stake and take a hit if the problems are not promptly resolved as they arise and real time solutions are not

18

proffered." The drive for financial access has, got a lease of life with the RBI allowing for-profit firms get a role in financial inclusion. This was one of the major recommendations of the Skoch study made in June 2009 asking to make the BC model for-profit. For Indian banking industry, this day must be treated as day ZERO towards universal financial access. This however, still does not address issues of financial inclusion, e.g., linkage with livelihood (the growth percentage in SHG bank linkage has been coming down substantially instead of going up) enhanced credit availability etc, which were the starting points for financial inclusion argument in the NCAER report. Financial access instead has become the be all and end all objective. (Refer Table)

Growth in SHG Bank Linkage Cumulative No. of SHGs Credit Linked 461,000 717,000 10,79,000 16,18,000 22,38,000 29,24,000

Years

No. of SHGs Credit Linked 198,000 256,000 362,000 539,000 620,000 686,000

% Growth Over the Previous Year 29 41 49 15 10

2001-02 2002-03 2003-04 2004-05 2005-06 2006-07

For any process to be re-engineered it takes anything between 18 to 24 months before it starts to show results. When financial inclusion formally started in 2007, first results were visible in 2009 when Skoch Development Foundation carried out the nationwide study. The results of the current decisions will be visible by the time it is March 2012. By which time it may be late to apply any corrective. Not only financial inclusion but even the UID project that has taken off recently will now work in tandem and it is hoped to achieve what was appearing to be a daunting task. The UID may help target better and monitor social spending schemes better to achieve greater social empowerment. This would also help in removing regional imbalances. Meanwhile, post the RBI's recent announcements, public sector banks are revisiting their FI blueprints and planning to go the extra mile with their financial inclusion efforts. While the Government has asked them to provide basic banking services to all unbanked villages with a population of over 2,000 by March 2012, the banks are gearing up to cover even villages with population of between 1,000 and 2,000. This was indicated by top public sector bankers at a meeting held to review the progress made by banks in achieving the financial inclusion action
19

plan for 2010-2012 at the Indian Banks' Association. Off the record they came back with "still no business case." The biggest public sector banks as well as insurance companies are focused on globalising, competing with private sector and arguments for enhanced remuneration while the poor of India seem to be in a time warp on banking. The major barriers to financial exclusion, as RBI Governor D Subbarao had said in a speech, were lack of access, lack of physical and social infrastructure, lack of understanding and knowledge, lack of technology, lack of support, and lack of confidence, among others. Overcoming these barriers is a challenge to financial inclusion. For a majority of participants, despite the challenges of financial inclusion, there is no denying the fact that a fortune lies at the bottom of the pyramid. Surprisingly, this fortune has not been quantified by anyone so far barring its visibility in MFI interest rates. Despite several initiatives, the main impediment seems to be the lack of commercial viability. According to RBI estimates, of the 600,000 habitations in India, about 30,000 have a commercial bank branch. Just 40 per cent of India's population has bank accounts. The percentage of people having any kind of life insurance cover is just 10 per cent while the percentage with non-life insurance is miniscule at 0.6 per cent. There is a misplaced optimism about specified individual category BCs and NGOs taking financial inclusion to scale. What is often forgotten is the cost of enrolling, training, managing and keeping effective thousands of retired government servants and school teachers, etc. Banks who have done so successfully in pilots have, however, not managed to scale. The most costeffective option of managing such a channel still seems to be through the intermediary BC (organization). The nod for for-profit BCs will now result in merger of not-for-profit front companies of BCs with their for-profit back-ends thereby straightening a regulator created complexity. It has taken RBI since June 2009 to accept that without for-profit, financial inclusion is not going to work. It may take another 18 months for the regulator to realise that persuading government to foot the bill for financial inclusion is the only way to move forward. Even the UID may require to make a correction: the questionnaire asks the respondent (read poor) if he / she would like to have a bank account. This will help better if they are asked if they have any need for credit, which in turn then can be linked with the bank account. Caution: if correctives are not applied, financial inclusion is unlikely to happen even in this decade forget the revised target of 2012.

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5. The Role Of Self Help Affinity Groups In Promoting Financial Inclusion Of Landless And Marginal/Small Farmers Families
The Self Help Affinity Group movement has been largely rural based. Hence, this paper refers to landless/near landless and marginal/small farmers. Where the SHG movement is focused on the poor, a large number of the SHG members are from the landless/near landless. They cannot survive on agriculture alone and depend on the SHGs to provide them with credit for non-farm income generating activities, skills training and consumption. In some parts of the country some of the marginal/small farmers are increasingly diversifying their livelihood options both in the on-farm sector where the trend is towards a more integrated and organic strategy and cash crops, as well as towards livelihood options in the off-farm sector both in the vicinity as well as in other parts of the country that the youth are increasingly opting for. These families require several tranches of credit (not just one or two) to enable them to use the livelihood options available in order to rise above the poverty line and stay there. The SHGs have provided this credit in areas where they are functioning effectively. There are, however, parts of the country where the rate of overall growth is comparatively poor and agricultural growth is stagnant if not declining; plot sizes have decreased. Lands have been leased out. Out-migration is the only growth sector, and in some areas it is growing rapidly. Credit provision for agriculture, as a single bullet strategy in these areas to help marginal/small farmers to rise and remain above the poverty line, is inadequate to provide a secure livelihood base for families even if they are organised into SHGs. A strategy for all round growth needs to be implemented. Though this paper focuses on SHGs in the rural areas, it does not imply that a group strategy is not appropriate to an urban and peri-urban clientele; but the SHG movement is not large enough in these areas as yet, to draw any conclusions on which future strategy could be based. Further, several types of groups like the Joint Liability Groups (and there are many variations even here) are also being promoted both in the urban and rural areas; this paper does not cover such groups.

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Financial Inclusion is a key dimension of the overall strategy envisaged in the Approach Paper for the Eleventh Plan entitled Towards Faster and More Inclusive Growth. If the intention is to promote more inclusive growth, then the definition of Financial Inclusion cannot stop at opening a short-duration account in the name of a hitherto marginalised individual or group. Growth cannot be achieved by transferring a lump sum of money into this account as proof of one loan given, closing both the account after the loan is drawn (or letting it remain dormant) as well as the file itself after the loan is repaid and the subsidy adjusted. Financial inclusion is not a one-off event. In terms of finance provision, it means that hitherto excluded people either as individuals or as groups now have access to credit on a regular basis for as long as they continue to abide by the terms of such a credit relationship. For Financial inclusion to promote growth, it has to move from opening an account in the Bank, to regular savings and finally to a relationship which enables the borrower to access loans on a regular basis. If this definition is accepted, it follows that despite the plethora of schemes that have been promoted by various governments from pre-IRDP days to the current SGSY, the SHG-Bank Linkage Programme is the only formal-sector scheme till date that regards excluded people as regular customers who can take loans again and again, as against being one-time beneficiaries who have to fall back on their own resources once their turn to benefit from the government scheme is over. Is it only a group strategy through which such financial inclusion of poorer people can be achieved? Probably not, but there is little documented experience till date where marginalised individuals have successfully accessed a facility which enabled them to repeatedly borrow and repay from mainline financial institutions. A few NGOs and private banks have initiated efforts in this direction but data is not easily available and the scale of outreach is still far from what has been achieved through the medium of groups. This paper, therefore, focuses on SHGs as the strategy to achieve financial inclusion on a significant scale. This paper traces the growth of the Self Help Affinity Group (SHG) Movement particularly since 1992 when the SHG-Bank Linkage Programme was launched by NABARD.The evidence since 1992 suggests that the SHG strategy has played an important role in giving the poor and those on the margin of poverty the space to form their own institutions which could access credit quickly, easily, repeatedly and in sizes the members require and for the purposes they give priority to be it for so-called consumption, income generation or trading activities, or for paying back high cost debts to money lenders. It would be reasonable to conclude that the SAG strategy has played a significant role in promoting financial inclusion of the poor especially since 2000 when the movement took off. The key features of the official policy change which helped to provide this space for the SHGs strategy to grow are: (a) The willingness of the RBI to allow Banks to lend to nonregistered bodies provided they function according to specific norms; this has contributed to financial inclusion by encouraging responsible group behaviour and by protecting the group from having to cope with tedious (and often non-transparent) bureaucratic requirements demanded of registered institutions. (b) The freedom to lend to groups (as groups) and not only to individuals in groups; this has enabled Banks to enter into one agreement with the SHG thereby lowering transaction costs to both parties; loans are extended on the basis of the groups institutional functioning, repayment performance on loans from the groups own savings and cash flow, (c) The freedom to lend to the SHG without asking in advance for the purpose of the ultimate loan that the SHG extends to the member; this has freed both borrowers (groups) and bankers from having to prepare and debate on the merits of project proposals which, in most cases, do not

22

follow the proposed plan after the loan is actually delivered, and (d) the willingness to allow the SHG to lend for any purpose and at any size with its own rate of interest and schedule of repayments and sanctions. What this has achieved is to enable the pursuit of more need-based, interest-based and manageable loan taking on the part of group members, and more honest reporting on loan utilisation. Apart from these critical features of the new policy, NABARD provided a supporting environment consistently over a long period which is critical for the growth of a new initiative by providing funds and technical support for the capacity building of Bankers, Cooperative Societies, District Central Cooperative Banks, Panchayat Raj Institution members, Government officers, NGOs and SHGs, by refinancing Banks, by promoting the movement in States where the SHG-Bank Linkage Programme lagged behind, and finally, by extending loans to NGOs and MFIs for onward lending to groups. All these initiatives both on the policy and support fronts resulted in a tremendous growth of the SHG movement. Moreover, this growth in access to credit has been achieved without any credit subsidy and the need to bribe. It is these client friendly features that are the major explanation for the rapid growth of this movement since 2000. Table 1 gives a picture of the progress of the SHG-Bank Linkage movement. It must be noted however, that the number of SHGs formed and functioning is far greater than the number of SHGs linked to Banks and Financial Institutions (FIs). Many SHGs have not approached the Bank or have not been able to access Bank finance for one reason or the other. Others are new and have to go through a period of training and functioning to build their credibility. A rough guess would put the number of SHGs in the country at around 3 million, of which 1.6 million have had access to credit through the SHG Bank Linkage programme. It must also be noted that the source of data on the SHG-Bank Linkage Programme is NABARD, and is based on the refinance that Banks have claimed; there are many more SHGs financed where the banks have not claimed refinance and hence, the numbers do not make it to NABARD data sheets. SHGs financed by micro-finance institutions are also excluded from NABARDs data. Breakdown of the number of SHGs financed agency wise During 2005-06 Cumulative upto March 31, 2006 SHGs Bank Loan SHGs Bank Loan No. % Amount % No. % Amount % CBs 344,567 56 28,284.30 63 1,188040 53 69,874.50 61 RRBs 176,178 28 12,226.02 27 740,024 33 33,221.50 29 Coops 99,364 16 4,480.54 10 310,501 14 10,879.50 10 Total 620,109 100 44,990.86 100 2,238,565 100 113,975.50 100 (Amount in Million Rupees) Source: NABARD. CB = Commercial Bank, RRB = Regional Rural Bank, Coop = Cooperative Societies. What is also interesting to note is that in addition to the 539,365 SHGs financed for the first time in 2004-2005, NABARDs data also indicates that 258,092 SHGs received repeat finance in 2004-2005, to a tune of Rs.12,676 million. One of the major concerns was the slow progress of the SHG Bank Linkage movement in the North-east and Central parts of the country. It was even claimed in some quarters that the SHG Agency

23

strategy was not suitable to the social configurations that prevailed in the North East. NABARD made special efforts through its network to rectify this situation. As a result, progress in these States has picked up considerably, as the following Table indicates:

Region/State

NE Region KBK Region Orissa West Bengal Bihar Jharkhand Uttar Pradesh Uttaranchal Rajasthan Himachal Pradesh Madhya Pradesh 5,699 7,981 15,271 27,095 45,105 58,912 Chattisgarh 0* 3,763 6,763 9,796 18,569 29,504 Maharashtra 10,468 19,619 28,065 38,535 71,146 131,470 Gujarat 4,929 9,496 13,875 15,974 24,712 34,160 All India 263,825 461,478 717,360 1,079,091 1,618,456 2,238,565 Source: NABARD. NE = North-east, KBK = Kalahandi-Bolangir-Koraput *included in the undivided State. The evidence drawn from studies on the growth of the SHG-Bank Linkage movement since 1992 suggests that the high rate of growth especially since 2000 has had its downside. The strength of the self help groups is based on the close affinity (relations of trust and mutual support) that exists between its members, prior to any intervention .The first step is to establish a good rapport with the village people. Secondly the poor in the village must be identified a. through participatory methods; this takes at least a day. They should then be invited to form groups based on the level of trust among them. They are therefore free to decide on which group to join. Unfortunately, to achieve targets, groups have been formed in a hurry and based on external criteria, not on the choice of the members. Members of such groups may share some features indicated by external criteria, but this does necessary imply that they are willing to work together or trust one another, though this could be possible in some cases. Many government programmes insist on forming groups exclusively of families on the BPL (below poverty line) list even though they may not want to work together or have no affinity based on relations of trust and support among the members; as always there could be exceptions. As a result, an external agent like an NGO has to be present to ensure smooth functioning of the group and often to take control of management; if it withdraws, the groups collapse. The strategy to identify

March 2001 477 4,192 8,888 8,739 4,592 0* 23,152 0 5,616 2,545

March 2002 1,490 9,869 20,553 17,143 3,957 4,198 33,114 3,323 12,564 5,069

March 2003 4,069 18,934 42,272 32,647 8,161 7,765 53,696 5,853 22,742 8,875

March 2004 12,278 31,372 77,588 51,685 16,246 12,647 79,210 10,908 33,846 13,228

March 2005 34,238 45,976 123,256 92,698 28,015 21,531 119,648 14,043 60,006 17,798

March 2006 62,517 64,550 180,896 136,251 48,138 28,902 163,439 16,060 98,171 22,920

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poor families and to leave them free to form groups based on affinity takes time and requires that those forming groups in the context of anti poverty programmes are willing to keep the well-to do out of the groups. In some cases, to expedite the formation of groups in order to achieve targets as well as to avoid any conflict with the more well to do and powerful families in the village, women of these leading families have been asked to form groups; they have selected families who depend on them or over whom they have control. This scenario has easily slipped into money lending by the leaders. Major programmes promoting SHGs have budgeted/allocated up to Rs 10,000 to build the institutional capacity of each SHG; this requires at least 14 modules over a year and a half. Evaluations made in several States indicate that these funds were spent for other purposes; often only one-day training has been organised and that too only for the leaders, not for the whole group. Without any institutional capacity building the groups were provided with grants and loans. In some States, Panchayat secretaries and Government functionaries were made the promoters of groups; they had no training in the concept and in the methodology required to mentor a group; the promoters were paid a sum for starting a group which subsequently dissolved. Others went further and encouraged the members to save; these savings were either appropriated by the promoter or by the leaders of the groups who then became petty moneylenders. In other cases the groups were used to implement government schemes and became the final link in the delivery chain rather than respected as peoples institutions with their own mission. In most of these cases, no investment was made on institutional capacity building. Differential rates of subsidies for SCs and STs who in many cases were members of one SHG because they had a close affinity helped to break up well functioning SHGs. And finally, realising the vote potential of these groups, politicians endeavoured to claim ownership and to get their allegiance by offering them subsidies and in some cases demanding that the SHG gets a certificate from the BDO as a condition for a Bank linkage. As a result, though the number of groups formed is impressive, the quality of groups has suffered. If the movement is to survive and to promote a greater flow of credit to the poor, marginal and marginalised sectors, there has to be a period during which efforts to expand the number of groups goes hand in hand with a focus on quality. This requires (a) the ability of promoters to identify groups based on affinity among members and not on external criteria, as well as investment of funds and time in the institutional capacity building of each group- of all the members, not just of the leaders; (b) entrusting the formation, mentoring and assessment of each SHG to NGOs who are trained or have the experience in mentoring these groups and who have no other agenda besides supporting the poor to become self reliant; (c) a clear understanding in Government, Line Departments, Banks and Micro Finance Institutions about what a self help affinity group really is and what it can be expected to achieve without undermining its objective to function as a peoples institution with its own mission and functions. If serious efforts are made to promote these three critical requirements, the quality of the groups will improve and their credibility to manage funds will increase which in turn will result in a greater flow of credit to them from Banks and other FIs. This is one of the objectives that this paper seeks to promote as a priority in the next plan period. A brief explanation of the three critical requirements to improve quality is given below: (a) The need to train promoters to identify groups based on affinity among members (not just on external criteria) as well as to invest funds and time in the institutional capacity building of each group- of all the members, not just of the leaders.

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A group based on affinity is one in which the members self select themselves because there exist relationships of trust and practices of mutual support. Such members tend to have a similar income and to share similar risk. It is important to note that the affinity relationships exist before the intervention of an outside agent; they were adequate to support traditional actions like mutual help in times of sickness or childcare. The outside agent requires good rapport with the people and a degree of sensitivity to identify these affinity groups and to build their institutional capacity on these strengths. With new functions emerging in the self help affinity groups, they have to cope with the demands of effective financial and organisational management, as well as with the broader social roles that the groups are required to play, for example, to initiate change in society and in the home, to protect and further their interests, as well as to establish linkages with supporting services and institutions. The relationships that members of a group establish among themselves are motivated not only by material gain which the word capital popularly implies. These relationships are motivated by a mix of social and material needs. In the case of womens self help groups, social needs, however, often tend to get priority. Women need space in our traditional rural societies to meet freely, to share concerns, to express a sense of togetherness and fellowship. Women in particular, need a place to call their own, as they are unable to meet (like men) at the village corner or around a shop. As spots that traditionally provided women with a level of security and privacy have become scarce like water points some distance from the village the privacy and security of an affinity group meeting is a godsend. This is why womens affinity groups take a strong stand against men trying to interrupt their meetings. It is interesting to note that when other villagers are asked to express their opinion of a womens self help group, their assessments focus more on the social habits developed by the members, rather than on their material progress. The most appreciated qualities of the groups include their regular meetings, the ability of members to manage their affairs in an organised and transparent manner, to take collective decisions, to impose and accept sanctions for dysfunctional behaviour and to take the lead in improving their surroundings; these are the features that others appreciate, far more than their capital (which they build up by savings which are deposited in the groups common fund) or material progress. These are also indicators of a well functioning institution with a high quality of governance. The need to identify members of SHGs based on affinity will have an impact on the usual approach adopted in Government programme to target a fixed number of poor on the basis of certain criteria set under the programme, like SCs, STs, Minorities, BPL list etc. For example, the first programme sponsored by a State in which SHGs were part of the design was the one managed by the Tamilnadu Womens Development Corporation and partly supported by the International Fund for Agricultural development (IFAD); the credit was provided by the Indian Bank. It began in 1990 in Dharmapuri District. The project beneficiary target given to the NGO was to form SHGs of 10,000 poor women selected by external criteria. However, when the poor were identified in the villages through a participatory method and asked to form groups or to self select the members of their group, it was discovered that over 18,000 women had formed groups. The 10,000 which fitted the Government criteria were included in this number but had joined others to form SHGs. Fortunately the issue was resolved since all the members took loans from the SHGs savings (common fund); the income generating programmes under the project, however, had to be directed to those who fitted the criteria of the project. This did distort the programme both because of this directed approach as well as because of the subsidy component.

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Identifying affinity groups is only the first step. More important is the investment required to build the institutional capacity of these groups. Most of the Government sponsored groups have not received the level of institutional capacity training that is required for a group to function effectively. Government Departments, in general, do not realise the importance of building peoples institutions; they either assume that they exist once they are registered or that their function is to implement Government programmes. In several cases, only the leaders of the groups are trained, thus increasing the gap between them and the others. The Capacity Building Modules that programmes like Swashakti (a programme based on SHGs) found to be effective and which were given to all the members of each SAG over a period of 12 to 18 months included the following: 1. A structural analysis of Society; 2. Analysis of local credit sources; 3. Self-Help Affinity Group the concept; 4. How a meeting of an SHG is conducted; 5. Communication; 6. Affinity; 7. Vision Building; 8. Organisational Goals; 9. Need for Planning, Resource Mobilisation, Implementation, Monitoring & self-Evaluation (PRIME); 10. Rules and Regulations; 11. Responsibilities of Group Members; 12. Bookkeeping and Auditing; 13. Leadership; 14. Conflict Resolution; 15. Collective Decision Making; 16. Common Fund Management; 17. Self-Assessment; 18. Group Graduation; 19. Linkages with other Institutions; 20. Building Credit Linkages; 21. Federations; 22. Credit Plus, and 23. Analysing Gender Relations in the Family and Community. These modules have been originally published in a training manual by Myrada entitled The MYRADA Experience: A Manual for Capacity Building of Self Help Affinity Groups, and subsequently adapted and translated into several languages. Groups will continue to be formed within the context of a Government sponsored project; yet, in order to reduce the negative impact on institutional building that a project imposes with its time bound agenda and priority to disbursement, it is important to ensure the following: (i) the poor in the village need to be identified through participatory methods. (ii) They must then be free to form groups and to self select their members; they will normally do this on the basis of affinity, not on the criteria for beneficiary selection provided by outsiders (iii) At least six to eight months must be devoted to institutional capacity building before the group is asked to prepare plans for investment in infrastructure or to apply for grants/loans or for individual assets. During this period a significant investment in capacity building is required; this should focus on helping the group to build a vision and a strategy which is not limited by the need to implement the project on hand but encompasses what the group envisages in the long term. (iv) If the project envisages provision of credit by Banks, the group should be assessed on the basis of its institutional strengths (not on the viability of each individual loan) and a line of credit provided to the group, leaving the group free to decide on the purpose of each loan, on the interest rates, repayment schedules, and on sanctions where members fail to conform to agreed schedules or accepted norms of social behaviour. v) Subsidies of any kind need to be avoided. The approach to subsidies should be Do not subsidise the asset (cow, sheep etc) but subsidise the support services required to keep this asset productive vi) As far as possible, credit should be provided by Banks and FIs including MFIs; no village level institution or even a federation of SHGs should be entrusted with the function of lending money even if it is asked to manage a socalled revolving fund. vii) Project interventions should promote MFIs from the beginning; it may be more difficult to do so, but if properly managed, the MFI is the appropriate solution to credit provision in the long run in areas where the formal financial institutions are reluctant to enter.

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(b) Entrust the formation, mentoring and assessment of each SHG to NGOs who are trained or have the experience in fostering these groups and who have no other agenda besides supporting the poor to become self reliant It is recommended that the institutional capacity building of SHGs be entrusted to NGOs. This is not because NGOs are better than others. It is because even in a situation where Government Departments are equally as good as NGOs, the former are accustomed to delivering services, not to building peoples institutions which have their own vision, mission and agenda. For one, the NGO has the experience of institution building while Government staff work in well-established institutions. An NGO which has no agenda (political or religious) is a more appropriate institution to build another institution. Other comparative advantages of NGOs are given below. NGOs: generally small, face-to-face Government refers to a SEA of people interactions between cadres, better continuity grey, faceless, frequently interchanging posts. of tenure. Limited objectives. Generally, the ones that are engaged in SHG promotion may only have one or two other closely related programmes like livelihoods development, reproductive and child health, etc. SHGs will not be their only programme (e.g. anganwadi staff have to carry this responsibility in Karnataka in addition to their already heavy workloads).

Limited area of operation. Staff-SHG ratios Large-scale operations. Staff have to cover are generally within manageable proportions. large areas. Hence, most often, they end up working through NGOs anyway, for SHG development. New staff can easily be oriented to understand concepts and pick up skills. Continuity of uniform quality support can be better ensured. There is generally only a one-time investment in staff training, with abysmal budgets within which it has to be done. If staff change due to resignations, transfers, etc., the replacement staff are not trained. Target-based monitoring. Quality is not only un-defined but even meaningless. The definition of quality changes with the person in authority. The cadres are well-trained on how to say just what their managers want to hear.

Monitoring focus is less on targets and more on processes. Quality carries some specific definition that is generally understood by all the staff. Even though power relationships exist, the NGO tradition is still to speak their minds as far as programme quality is concerned.

Authority is locally located; hence, there is Flexibility is difficult. The scale of operations much shorter turnaround time to respond to makes it difficult to be other than changes in programme requirements. standardised and rigid. The boss is either far away or a nebulous entity or both.

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Budgets can be enhanced with donations and Budgets are severely limited, with no scope local mobilisations. People are familiar with to enhance locally; no system to account for being asked to contribute to demonstrate their local mobilisations. Any attempt to mobilise stake in the programme. local resources is interpreted as corrupt. Assessment of performance is critical for the growth of any institution. SAGs are no exception. In fact, the centrally sponsored SGSY programme made provision for this, but the follow up required to identify who should do this assessment and the methodology to do it was not undertaken. As a result, except for one or two States, nowhere was this assessment taken up. The criteria used to assess the performance of SHGs were prepared by several NGOs; an assessment format was vetted and published by NABARD. The methodology of assessment needs to be participatory; there are several approaches which can be adopted and adapted to the local situation. The need for participatory assessment must be part of the inputs in the capacity building training. This assessment should be yearly feature, at least. Banks do make an assessment before extending loans, but the criteria used is usually restricted to the amount of savings (often perceived as collateral) and the over-all financial performance in terms of repaying previous loans. There are several cases where an analysis of SHGs with excellent repayment rates showed that the common fund was controlled by one or two leaders who were basically moneylenders. The group functioned more like a chit fund than an SHG. (c) A clear understanding in Government, Line Departments, Banks and Micro-finance Institutions about what a self help affinity group really is and what it can be expected to achieve without undermining its objective to function as a peoples institution with its own mission and functions. Some of the major reasons identified for the weakness of the SHG movement relate to the lack of understanding that an SHG is an autonomous peoples institution with its own vision and mission; it is not the final link in the delivery chain of the government department. One official indicated with pride that the SHGs were doing a good job by taking over the ration shops and implementing the PDS programme. This may be true, but if this is the only function of the SHGs in this area, they are far from being independent peoples institutions. Several well-intentioned initiatives of Government as well as the gap between concept/ design of a programme (which is often good) and the implementation (where all the hurdles arise) have contributed to lowering the quality of the SHGs and even to their collapse. The SGSY is a good example of where this gap exists. In brief, these initiatives have had a negative impact on the quality of the SHGs which is so critical to improve the credibility of the SHG which in turn will promote a greater cash flow from Banks and FIs. Government recognition of an initiative (and its mainstreaming as part of official policy) is often pursued by NGOs as an indicator of success, but it could, and often has, an unintended negative impact. On the one hand it provides the thrust required to expand the initiative rapidly; on the other it becomes vulnerable to the usual Government pattern of management namely, high (and often unrealistic) targets, the subsidy pattern of Government programmes and in the case of the SHG programme, predetermined criteria to identify beneficiaries and form them into groups without assessing the affinity among the members. The SGSY, for example, offers different subsidies for general castes, scheduled castes and scheduled tribes even though in many cases all families are poor and members of the same SHG. This tends to break up the groups. Different rates of interest on loans to minorities from the Minorities Financial Corporation adds to the problem. There are several instances where such mixed groups which are functioning well were asked by government functionaries to break up into separate castes/tribes/minority groups to

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facilitate the different rates of subsidies and interest (in the case of loans from the Minorities Financial Corporation). The policy of divide and rule is not a feature monopolised by the past. A policy decision is required which a) standardises the rate of interest on loans given to all SHGs whether their members are from the minority or majority groups b) standardises the management of subsidies which seem to be a necessary component of government programmes- so that the impact of their distortion can be reduced as far as possible? Can all subsidies, if they have to be given, be transferred to the SHGs common fund? Can subsidies be used to ensure that supporting institutions have adequate funds to provide services instead of being used to subsidise the asset given to the beneficiary? At least can all subsidies be back-ended? Government schemes promoting peoples groups do not place value on institutional capacity building. Even where adequate sums were budgeted for capacity building, as in the SGSY programme, the Government Departments implementing the programme used these funds in several States not for training SHGs but for other purposes - like organising large gatherings with a political agenda at the behest of some Minister, or funding infrastructure of institutions which did little training. In other cases, funds for capacity building of the whole SHG as described above, were often used for training only the SHG leaders and not the whole SHG, and even in this case, for a day at most. As a result, the institutional capacity of the whole group did not improve. The gap between the leaders and others also tended to increase, which is not a healthy development. In general, Government functionaries tend to give little weight to institutional capacity building. Most of them take the stand that once a group is registered, it becomes an institution. Building an SHG involves identifying an affinity group, providing training to the whole group and mentoring it over 2 years. In many Government driven programmes, this period of stabilisation and strengthening is cut short or totally left out since the targets in terms of numbers and disbursement of grants have to be achieved. As a result, groups are formed without any participation of people to identify the poor and those linked by affinity and, in many cases, grants and subsidies from Government are given to these groups within a month of their formation. Adequate time and resources for training in institutional capacity is not provided for. Government functionaries do not have experience in this area as there has not been any previous Government sponsored scheme to promote institutions of people. They understand training in particular skills mostly if they are related to production or at most for training in book keeping skills required by SHGs. As a result, the confidence of groups to provide larger loans to its members was undermined; this in turn had an impact on the confidence to access larger loans from financial institutions. Politicians are keen to translate the success of the SHG movement into political capital; so political parties begin to claim ownership of these groups instead of realising that they are owned by the members. (One politician who insisted on giving grants to SHGs was very upset when she lost the election and considered the SHG members to be ungrateful. In fact the capacity building training and mentoring provided had made them capable of exercising their franchise with greater care and to avoid external pressure and persuasion to vote for particular people. It is not uncommon to hear in election speeches that this politician or that was the originator of the SHG movement. In fact, most of them did not even know of the SHG movement till the late 1990s, a good 15-20 years after it started). Many SHGs are tempted not to repay their loans once they come under political patronage. The practice of the bureaucracy to use the SHGs to implement state sponsored programmes is another hurdle to the growth of good SHGs which, in turn, see themselves as

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part of government rather than as institutions which can grow by accessing credit from a financial institution. This practice of the bureaucracy flows from the subsidy pattern of Government programmes and a culture that these SHGs are the final link in the delivery chain and not institutions with a mission and programme of their own. As often happens, the SHG strategy has frequently been promoted as the answer to the search for a one bullet strategy to eradicate poverty; this tends to place undue importance on credit provision while neglecting the other initiatives required that promote all round development which creates livelihood options and opportunities for the effective use of credit to improve livelihoods in a sustained manner by reducing risk, providing appropriate infrastructure and inputs to increase productivity. When the one dimensional strategy did not achieve the objective to promoting livelihoods, the SHG approach was discredited. The unhealthy competition among States to claim the best performance in terms of forming SHGs without concern for quality led to a rapid increase in forming SHGs; many were formed on the basis of external criteria (not affinity) and provided matching funds and even loans within the first month, with little or no institutional capacity building. As a result, many SHGs collapsed or were hijacked by the leaders who became moneylenders using the common fund of the group; this in turn led to a certain hesitation on the side of promoting agencies to pursue the programme and thereby the flow of credit from financial institutions declined or did not grow as expected. Several Micro Finance Institutions, especially those pursuing a high growth curve (often at all costs) have broken up many good SHGs. They have done this by insisting on extending loans to individuals in the SHGs without adequate investment in group capacity building as well as by carving out Joint Liability Groups from good SHGs thus breaking up the SHG into smaller groups for their administrative convenience. Banks are reluctant in some parts of the country to adopt the linkage programme wholeheartedly; this is coupled with poor banking infrastructure and performance in some States. Some States in the north, some central States, and most of the States in the east of the country fall in this category. However NABARD has made serious and sustained efforts to correct this imbalance. Another development which could have a negative impact on the SHG Bank Linkage programme and the level of credit flow is the amalgamation of RRBs. As Banks grow bigger, the trend is for loans sizes to grow larger. Based on available data, a loan to an SHG does not exceed Rs. 4 lakhs and this is in rare cases, mostly with MFIs. Therefore it is difficult to expect large RRBs after amalgamation to push the SHG Linkage programme. Their smallest loan will probably hover around Rs.10 lakhs. Besides, the corporate culture of RRBs is also changing, leaving little difference between them and the Commercial Banks. As the SHG movement spread, promoting institutions had different interpretations of the organisational structure and functions of a self help group. The SHG concept is also mixed up with previous groups under Government programmes (e.g. DWCRA) formed on the basis on common activity (which was expected to provide the link to keep members together) or on the basis of all members being self employed which allowed Government programmes to provide them with subsidies and loans for their income generating activity. The SHG group concept is also not distinguished from the Joint Liability Groups where loans are given separately to each member but the liability to repay is shared. There are also the Grameen Bank Groups where loans are given to individuals in groups with the group applying pressure for repayments. Since the major drive to collect data on SHGs came from financial institutions, their function was

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largely viewed as financial provision and management; this tended to downplay the major role they have played (or have the potential to play) in empowerment of the poor and marginalized sectors. Though this did not inhibit the spread of the SHG movement, it surely gave it a bias towards financial functions, which tended to distort the concept. Given the obstacles to growth in our country, it is not enough to teach the poor to fish when they cannot reach the river. Their access to the river is obstructed by social, political and cultural hurdles including their inability to read the sign posts and their vulnerability to disease which holds them up. Unless SHGs therefore are provided with the space and the networks and the members with the skills required to influence change in society and the family, the confidence and capacity to access and use a larger flow of credit required by members will not materialise. The second objective of this paper is the following: To convince policy makers that the rural poor and those on the margin have major problems to achieve food security entirely from an agricultural base. Therefore, for financial policy to focus only on loans for agriculture and related activities will not open all the windows that these families require to be included into the financial system. It needs to focus on livelihood options. But given the seasonal and increasingly uncertain sources of livelihood options that leave gaps in the income/input flow of these families, focusing on livelihoods alone is also not adequate; they also need credit to live, to have access to credit for consumption and for urgent needs like illness in order to survive. The SHGs have provided credit for agriculture, for several non-agricultural livelihood options as well as for consumption. These loans have been provided quickly, easily, repeatedly and in sizes they require. This is a major reason for their growth and success. An emerging issue is the increasing evidence that marginal and even small farmers especially those in dryland areas no longer find agriculture a worthwhile occupation. Most of the youth of these families are outmigrating for non-farm jobs. Only the older generation is left behind to attend to the fields or lands leased out. As a result, the potential for growth of credit in agriculture especially to marginal and small farmers in drylands is limited. For example, a recent analysis of the purposes of loans given by 238 SHGs - all in rural areas during a one year period (2003-2004) - showed that out of a total of 5,880 loans advanced to 3558 members during one year (2003-2004) , 1,574 loans were for agriculture (27%); while the amount lent for agriculture was Rs.6,568,397 (25%) out of a total amount of Rs 26,280,230. Animal husbandry accounted for 457 loans (8%) amounting to Rs 3,131,854 (12%). The average amount lent for agriculture was Rs.4,173 which was the lowest when compared to averages of all other purposes except consumption (Rs.2,915). The highest average amount was Rs 12,672 for repayment of high cost loans from moneylenders and towards release of mortgaged lands and assets. Apart from the poor and those on the margin of poverty, there is another group (both in urban and rural areas) that is already integrated into the farm and non-farm growth sector in terms of livelihood occupations (like farmers growing cash crops and youth in farming families who have acquired some off farm skills, like pump mechanics, etc.). This group is not able to access the daily or weekly requirements of credit to pay for the inputs they require; they may not be classified as poor but they are marginalized from the financial sector, Several initiatives to address this need for credit like the Kissan Credit Card for the farming sector have been introduced, but there are still millions to be reached both in and outside the farming sector. This paper proposes that the SHG strategy be extended to cover even these groups (who may not fall strictly in the poor category) so that they have access to credit. Adaptations in the SHG strategy may be required to cope with the different aspirations of the members.

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There is another reason why the SHG may be a strategy that is timely for farmers falling in this group of those who have adequate assets or skills to earn a livelihood but are marginalized from credit institutions. Farmers who have committed suicides fall largely in this category. Most of them have adequate land, have invested in cash crops and due to several reasons (including erratic and poor rainfall, the collapse of the marketing support structure and their lack of marketing experience since it was provided as a safety net by Government, the crash of financial institutions and fall in output prices due to subsidised imports, etc.) decided to take their lives since they could not earn enough to feed their families and to repay moneylenders. In a recent article by Pratap Bhanu Singh (President, Centre for Policy Research) he points out to another possible cause: In times of great social change, as traditional structures break down, settled moral norms dissolve, special bonds become less effective and the individual is thrown upon himself and he continues The need of the time, therefore, is to invent new forms of sociability; associations and support structures that reconnect individuals to society. The SHGs could fill this role. The article then refers to farmers suicides: Surveys done in districts with high farmer suicides suggest that they were pretty much on their own. Most people, including their own family members, did not have intimations of the depth of their economic problems or suffering. As they are drawn into wider and more extensive chains of dependency on outside forces - the State and the market - structures of cooperation within villages begin to weaken. But perhaps the most dramatic illustration of the kind of anomie facing most farmers is this: the lack of a real associational life in which they can participate and be recognised. The Third objective of this paper is to present a case that the SHGs have the potential to extend several loans and of adequate and manageable sizes for the poor to build a sustainable livelihood base. Critics who point out to the limited impact of the SHG approach on livelihoods argue that the average loan is small the amount differs from study to study but hovers around Rs 2,000 to Rs 2,500 and insufficient to increase incomes substantially to raise the members above the poverty line. Secondly, they argue that evidence points out to the SHGs being appropriate institutions to provide loans to smoothen consumption but not to support income generation and livelihoods. Let us first address the perception that the structure and functioning of an SHG is appropriate only to extend small loans for consumption smoothening and to provide only loans that are too small to provide an adequate livelihood base. If this is true then one cannot expect the SHG approach to carry the members further in developing an adequate livelihood base. Several studies of the purposes of loans including and the recent sample study of 238 SHGs referred to above, indicate that it is misleading to give an average of all loans given by the SHG as is often done to support the claim that the SHG can give only small loans. For example in the sample study, the average size of a loan for clothing is Rs 1080, for travel it is Rs.360. But the picture that emerges when the averages are disaggregated differs considerably; this is described in detail in the following paragraph. The average size of a loan within each Sector (like Agriculture, Household expenses, animal husbandry etc.), and of each purpose within a sector (within the Agricultural Sector there are several purposes like purchase of inputs, payments for labour, hire of equipment/bullocks, development of land etc.), gives a more relevant picture. Further these studies also show that a large number of loans are given for income generation and to lessen the outflow of income resulting from earlier high cost loans taken from moneylenders. For example, the pilot study of 238 SHGs indicates that the purposes of loans fall at least into 7 broad Sectors. Each of these seven Sectors has several purposes as indicated in the

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footnote below. There are purposes where the average size of each loan is over Rs.10,000 (For example: Under the Household sector, the average size of loans for Purchase of jewellery is Rs.15,750; Under the Debt release sector, the average size of loans for repaying high cost loans to Moneylenders is Rs.12,903 and for Release of mortgaged lands Rs.10,000. Under the Animal Husbandry sector the average size of loans for Poultry Units is Rs.16,000; for purchase of milch animals the average size is Rs.7,217; for sheep/goats it is Rs.5,686; and for Donkeys, rabbits etc Rs.6,233. Under the House related sector the average size of loans for House repair is Rs.16,549). In the Non-Farm sector, the average size of loans for Cottage industries is Rs.9,528, for Small businesses it is Rs.5,363. Under the Agriculture sector, the average size of loans for Purchase/Hire of Agricultural equipments is Rs.5,904, for Fencing of lands adjacent to forests it is Rs.8,500; for wells, pumpsets, etc. Rs.7,922 and for Sericulture it is Rs.8,840. Interestingly, loans for agriculture inputs mostly on drylands averaged less than Rs.5,000. It is reasonable to conclude, therefore, that the SHGs do provide a window that allows a wide diversity of purposes as well as a significant difference in the size of loans for various purposes. However, it is also becoming evident that loans for inputs in agriculture are smaller than for all other purposes except for consumption. Does this indicate peoples assessment of the viability of such loans in dryland agriculture? While Government may have its own priorities based on good intentions, people decide to take loans to meet their most urgent need (in order to live) as well as for investments that they consider manageable rather than what financial institutions may consider viable. Further, sectors that Government may consider a priority in the national interest may not be the same for the small and marginal farmers cultivating dryland below three acres. As for the opinion that the SHGs are mainly providing: consumption smoothening loans, the pilot study indicates otherwise. Of the 5,880 loans given to 3,558 members of 238 SHGs during one year (2003-2004), 1,954 loans (33%) were for food, clothing, other household expenses and socio religious ceremonies which could be called consumption smoothening. However the total amount for these loans is only 21% of the total amount loaned. 66% of the number of loans advanced and close to 80% of the amount advanced as loans went into sectors that were production related (including getting out of earlier debts, and investment in education). There is also an implicit assumption behind many of the official programmes that one or two loans are adequate to raise and keep a family above the poverty line. Hence, comparatively large loans are required. Evidence from the SHGs indicates that as many as 5 to 7 loans are required over a period of 5 to 6 years before a family has a stable livelihood base. The total amount borrowed through these 5 to 7 loans may equal and even exceed the amount borrowed by one or two large loans under government programmes. This indicates that people tend to borrow in amounts that they find manageable rather than what is considered viable; for this, they also need to have the confidence that there is a source from where they can borrow more than once; this prevents them from bargaining for a large loan in the first or second instance which they cannot utilise productively. The pilot study itself indicates that in one year 5,880 loans were given to 3,558 members. Assuming that all the members took loans it works out to an average of 1.65 loans per person in a year. A trend analysis also indicates that the loans are small during the first two years but increase in size after that. The example of Sundaramma given in the footnote (6) describes one case where several loans were taken. There are thousands such Sundarammas in the SHGs. It will therefore be reasonable to conclude that well functioning SHGs do have the potential to provide loans for purposes and in sizes and numbers that have the potential to

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support a livelihood base. However, much more support of a focused nature is required to release this potential - which is the next objective that this paper seeks to promote as part of future strategy. This leads to the next objective of this paper. The fourth objective of this paper is to highlight the need for certain supporting initiatives if SHG members are to graduate from income generating activities to Micro-enterprises. To achieve this graduation in a systematic and cost effective manner, it is necessary to (a) analyse the purposes of loans given to members by the SHGs; (b) accept that all the SHG members may not want to graduate to micro enterprises and that even if many so desire they may not be able to since the supporting infrastructure and linkages are missing; (c) test a new form of community based organisation which may be more appropriate to support members who engage in micro enterprises than SHGs If the loans taken by SHG members are considered comparatively small, many of them do provide an income, which, though important for the member, may not be adequate to meet rising expectations. The trend of loan taking in the SHG is towards several small loans rather than one large one. There are thousands of examples where the members prefer to take several small loans rather than a large one; these small, loans together amount to anywhere between Rs 40,000 to Rs 60,000, which is a substantial amount. This trend is due to several reasons the member may not be comfortable to manage a large loan, and/or the SHG members may decide to distribute their risk Yet, there is also need to address the need for a one-time large loan of Rs 50,000 and above which some members may require to meet with rising expectations. . Some of the Banks may be willing to provide loans of this size directly to the individual. If this individual is a member of an SHG, the Bank may base its decision on his/her performance in the SHG, but if he/she is not a member of an SHG the bank may require some kind of institutional guarantee apart from other forms of collateral. In both cases (member of SHG as well as non-member) there is a need for a community based organisation similar to an SHG which could provide an institutional framework to lessen the risk of repayments and improper use of funds as well as ensure that the borrower can be easily contacted. Each of the three supporting initiatives required will be considered in greater detail in the following paragraphs. a) The need to analyse the purposes for which loans are given to the members. The national programme led by NABARD to promote micro finance has laid emphasis on the following major dimensions of the programme: Strengthening the capacity of SHGs. Training bankers and NGOs. Starting and promoting the SHG bank Linkage Programme. Persuading and supporting Banks to lend directly to SHGs and to intermediaries for on lending. Promoting initiatives of Banks to form SHGs and to build their capacity before lending to them. Refinancing Banks loans to SHGs. Investing in extending and promoting the programme where it is lagging like in the central, north and eastern states Performance in repayment of loans Integrating the programme in State sponsored programmes to form SHGs, albeit under different names. Introducing changes in policy, practice and systems so that structural and organisational hurdles to the programmes growth are removed.

35

 Collecting and publishing data to assess progress in the SHG-Bank Linkage programme. Progress however focused on: i) the number of SHGs formed by region ii) the number of SHGs linked to banks which have taken loans iii) the amount of loans, iv) the average size of loans for all purposes taken together nation wide, v) the number of loans given to a SHG (one or more) and vi) performance in repayment. An analysis of the above initiatives shows that the focus and thrust has been on the supply side largely on the credit flow to SHGs and the repayment. The RBI allowed the Banks to lend to groups without asking in advance for the purpose of each loan given by the group top each member. Banks/MFI are expected to assess the SHG as an institution including its performance in organisational and finance management and in achieving certain social objectives that it set for itself. Criteria for assessing the SHGs as institutions were designed by NABARD and several NGOs. Several studies showed that people who were given loans in governmentsponsored schemes, based on standard sizes and costs (viable units and unit costs) and purposes (restricted to income generating/assets) used these loans not only for the stated purpose but also for several others. On the other hand, when loans were extended to SHGs under the SHG-Bank Linkage Programme the members were free to take loans for any purpose and of any size. Yet this did not increase the default rate. In fact, it raised the repayment rate to over 95%. Interestingly, an in-house study by Myrada of purpose-driven loans where the repayment was over 75% showed that over 60% of the repayment did not come from the asset for which the loan was provided; repayments were based on cash flow, which originated from various activities including labour wages. While this decision of the RBI to lend to groups without asking for the ultimate purpose was historical and path breaking, it should have been followed up by a requirement that an analysis is made subsequent to the loan utilisation of the purposes of loans given by the SHG to members. Since the SHGs were free to decide on the size and purpose (as well as on the scheduled of repayments and interest rate) it was reasonable to assume that the purpose and size would be much closer to reality. This analysis among other learnings would have provided the basis on which to build strategy which is more focused to promote and support livelihood activities of scale and with added value and micro enterprises. For example if the analysis showed that several members of 10-15 SHGs in a village or two borrowed for buying and selling raw hides, these members could be brought together to be trained in tanning. If all (or even a few) of them decided to take the step, they would borrow from their respective SHGs and perhaps come together later for better marketing. The training would then be far more effective as it builds on the initial free choice of members. This in turn would increase the potential to access and use larger loans as well as the success rate of their enterprises. However, no serious effort has been made to collect and analyse this data and to evolve future strategy to support income-generating initiatives. The next phase in the SHG movement needs to fill this gap. The learnings from this analysis would also help to assess whether development initiatives have had an impact in the area by increasing the potential for credit flows, as well as to plan for the future. More specifically, this analysis will help in the following: To find out whether the purposes and amounts of loans for consumption (food and clothes) decreases over a period of 3-4 years. If there is no reduction then it is reasonable to assume (allowing that consumption patterns and expectations do change) that the other investments/interventions made to lessen the risk in dryland agriculture, to increase productivity and market access, for promotion of on-farm and off-farm livelihoods and linkages have not

36

been sufficiently effective; in other words, that incomes have not increased to cope with basic needs especially for food and clothes. To find out whether a pattern of similar loans emerges since this may indicate that there is a comparative advantage in the area which supports such activities. For example, in a particular village where 56 SAGs function, data shows that one or two members from each SAG borrow for a particular activity like poultry or weaving. A focused strategy would follow up by organising a training programme for these individuals to help them add value or scale but not to form them into a new group; after the training they return to their own SHGs from where they borrow for the new activity if they decide to take it up. The new activities would require large loans which in turn would increase the quantum of credit required by the SHG. The current programmes in enterprise development training are often not really effective since they are rarely based on an analysis of the purposes of loans which SAG members decide on. Rather, they cater to those who raise their hands when asked whether they are interested in joining any training programme To find out whether the size of loans in agriculture and related activities grows at a faster rate in some areas than in others. This indicates that extension work may have been effective in some areas when compared to others. The reasons for this success or failure would help to develop appropriate strategy and take remedial measures which together will increase the credit flow in agriculture. To find out whether the average size of loans for a particular purpose can give financial institutions some indication of the amount that people really require to ground an activity, and whether the official unit costs tend to coincide with these average figures. b) It is realistic to accept that all the SHG members may not want to graduate to micro enterprises and that even if many so desire they may not be able to since the supporting infrastructure and linkages are missing There is a prevailing assumption behind some programmes that all the members of an SHG want to or can graduate from smaller to larger loans. This assumption is not substantiated by data. There are members who continue to take a number of small loans for income generating activities over several years. Each member of the family is engaged in a separate activity which requires only one member to manage it. As observed above, the SHGs are appropriate institutions to provide several loans in small amounts as and when required for productive purposes. Many members will continue to remain in the SHGs and not opt to approach the banks for a large individual loan. The assumption that all families need one large loan for a micro enterprise in which all members of the family (and even workers from outside) are engaged is not borne out by evidence from the field. In some cases this is because there is ample potential for small activities but not for larger ones. In other cases, it is because the family does not wish to put all its eggs into one basket. Larger enterprises require linkages and skills which the family does not possess. There is also ample evidence that a single bullet strategy of providing credit is far from adequate to trigger growth. Credit needs other supporting services and linkages in order to be used. Members of SHGs functioning within the context of NGO sponsored projects which are broad based (and where these interventions lower the risk of investing in drylands, increase productivity and linkages with institutions providing services and with markets, improve literacy, health, confidence and skills) and those which function in areas where there is all round economic growth tend to take large and more numerous loans for an increasingly diverse portfolio of purposes. The members are able to find opportunities which they can exploit.

37

However, for micro enterprises to be successful, the all round investment required is much larger, which NGOs cannot provide. Besides a large loan they would require a regular line of credit, reliable power supply, adequate transport to reach the market, market information and the power to access resources in a scarce scenario where bribes are required for sanction s and permission. This is where there are several major blocks. c) It will be necessary to develop/test a new form of community based organisation other than SHGs which may be more appropriate to support members who engage in micro enterprises. Those members of an SAG who opt to graduate to micro enterprises could be formed into Joint Liability Groups (JLG) or into some similar organisation. Banks may be more inclined to lend to individuals in this group based on the performance of each member in the SHG as well as on the assumption that a JLG will provide some degree of mutual guarantee. There is evidence however, that the relations of mutual trust and support which is described as affinity in a SAG tend to be weaker in a JLG. Therefore, new forms of collateral or guarantee may have to be worked out.

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6. Financial Inclusion in India: Industry Trends and Policy Beyond Microfinance

I.
Microlending: Current Industry Trends:

In the Indian context, microfinance is no longer the purview of development institutions. While the rhetoric of development has been retained, banks have embraced it as an extremely profitable business, for two reasons. First, Indian banks are required to lend a certain percentage (currently 40%) into priority areas called priority sector lending which includes agriculture, SMEs, and government securities. Compared to returns on government bonds of 6-7%, MFI lending provides returns of 10-14%. Banks, therefore, have expanded investments in these areas. Second, microfinance lending - as it is currently practiced - is simply not very risky. In the absence of individual credit assessments, MFIs lend to groups or through referral, leading to repayment rates of 95% or more. Banks then get the best of both worlds - higher rates of return with very low risk. The result is massive expansion in microlending. ICICI Bank, the largest private bank in India, had 1.2 million microfinance clients in 2005 and a portfolio of $227 million. A year later, ICICI has multiple partnerships and 3 million clients, targeting 25 million in 3 years. Other banks, such as ABN Amro, and YES Bank have smaller but still sizable operations that generate goodwill benefits for their entire operations (both featured on FT's sustainable banking awards last year). Public sector banks usually operate as integrated micro-lenders, creating self-help groups (SHG) to which they disbursing loans directly rather than through an intermediary. Private sector banks, by contrast, operate through a partnership model, contracting with existing MFIs to function as the banks retail arm to acquire and manage micro-clients. In return, MFIs retain a percentage of the interest earned on loans. Many MFIs are now financially independent of such funds, but high effective rates (of over 30%) have also led to a regulatory backlash. Mismatch between Credit and Deposit Growth: This expansion of rural credit tracks a more general expansion of retail credit in India. In 2006, non-food credit expanded by over 30%, up from a growth rate of 28.8% in the 3 years prior. Simultaneously, the share of retail credit in overall credit stood at 46% in 2005-06, up from 6.4% in 1990-91. II.

39

Interestingly, this growth has not been accompanied by growth of deposits, particularly in rural areas. As a result: Banks have been financing much of the incremental credit expansion by unwinding their surplus investments in government securities. What deposit growth that has been observed is, moreover, concentrated in the larger cities[this] could also mean that financial inclusion may have suffered. The implications of this mismatch are important to understand some of the constraints faced by an expanding microbanking industry. In the absence of deposit growth banks face a liquidity problem which limits further credit expansion. This problem is evident in recent policy changes to reduce the statutory liquidity ratio (SLR) of Indian banks. In other words, the banking system will be expected to increasingly provide larger quantum of funds to existing and emerging enterprises. And without adequate deposit growth, however, credit expansion might not be sustainable over the medium-term, without putting immense pressure on real interest rates and impacting the overall stability of the financial system. Financial Inclusion: Consequences and Benefits: The preceding discussion does not distinguish between rural and urban markets. However, the expansion of financial services to all sections of society (financial inclusion) is important, in order to leverage development and growth benefits. There are obvious reasons to encourage such financial inclusion and deepening: Countries with low levels of income inequality tend to have lower levels of financial exclusion, while high levels of exclusion are associated with the least equal ones. In Sweden, lower than two per cent of adults did not have an account in 2000 while in Portugal, about 17 per cent of the adult population had no account of any kind in 2000. The Gini index for Sweden was 24, and for Portugal 37 in 2001 (lower is better). Sweden ranked 119, and Portugal 59 in income inequality in 1996. At the macro-level a well-developed and widespread financial system accelerates growth through expansion of access to those who do not have adequate finance themselves. In its absence, the sources of finance available to individuals and enterprises are limited. The McKinsey Quarterly reports that companies in emerging markets demand further development of financial systems, and remain limited in their ability to access external finance. This results in fewer economic activities being financed, resulting in lower growth potential. Further, financial exclusion is self-propagating and limits growth prospects: It is the incumbents who have better access to financial services through relationship banking. Moreover, incumbents also finance their growth through internal resource generation. Thusgrowth is constrained to the expansion potential of incumbents. At the individual, micro-level, however, the consequences of financial exclusion are very different. Exclusion results in a susceptibility to cash flow disruptions, inability to benefit from interest rates, and lack of long-term financial security and planning through saving opportunities. It is very important to note the distinction between the enterprise level macro benefits and the individual micro benefits, as the two are often confused in development literature. In the former, the benefits of inclusion are productivity and higher trend growth. These are benefits commonly ascribed to microfinance, yet microfinance as it is currently practiced is targeted not at enterprises but at individuals. The benefits that accrue therefore are smoothening consumption and safeguarding assets from major disruptions (e.g. disease, natural disaster). Recent studies seem to suggest as much. III.

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Policy Responses to Financial Exclusion Despite the massive growth in micro-credit mentioned previously, Dr. Mohan expresses serious concern over financial exclusion in India, backing those concerns with data. For instance, spatial distribution of banking services indicates that rural credit, deposits, and offices as a share of overall services decreased between 1996 and 2005, with most expansion restricted to metropolitan areas.

IV.

120

100

80 RURAL 60 SEMI-URBAN URBAN 40 METRO-POLITAN

20

0 1969 1996 2005 1969 1996 2005 1969 1996 2005

OFFICES

DEPOSITS

CREDITS

[ ALL Y-AXIS INFORMATION ARE IN PERCENTAGES]

There are two obstacles to greater financial inclusion. The first is simply commercial. Transaction costs for both banks and clients remain high, particularly in disbursing credit, which is essentially a high cost, distributed business. Further, interest rates remain high in the absence of structured credit assessments. The second obstacle is policy requirements such as know your customer (KYC) procedures that limit the geographical reach of financial services beyond physical bank branches. Yet, the importance of financial inclusion becomes important, particularly in the context of doubling agricultural productivity, targeted for Indias 11thfive year plan. Consequently, the RBI has moved to enforce multiple policy and industry changes:

41

 Banks have been asked to voluntarily make available a no-frills account, and all printed bank material has to be made available in regional languages. KYC procedures have been simplified for low income groups. Significantly, since January 2006 banks can provide a full range of banking services through business facilitator and correspondent (i.e. MFI partnership) models. Previously, MFIs could only provide credit, but not open bank accounts. The Credit Information Bureau Act, 2006, will eventually establish a credit bureau that makes available credit histories of individuals and small businesses. This should lower risk for banks, in extending credit further.

7. FINANCIAL INCLUSION FOR BANKS

An integral part of our vision, to become India's premier payment services provider, is to extend convenient payment and banking solutions to the 'unbanked' rural majority of India. Flowing from this vision, we offer mobile micro-banking solutions for banks and MFIs (Micro Finance Institutions) that facilitate financial inclusion and socio-economic mobility. We support banks and MFI's by taking care of all their transaction recording functionalities, and deliver additional value to them by supporting multiple products such as asset/liability/micro-insurance distribution, multi-access that supports the magnetic stripe, and contact as well as contact-less cards covering comprehensively the entire 'unbanked' and 'micro-finance' spectrum. The atom platform is of special value as a model of financial inclusion for banks, governments and MFIs because of: Innovative use of available infrastructure and technologies to provide optimal ROI Multi access channel for enrollment and transactions Local language support for receipts as well as voice intimation specially targeted at the population that understands only the local language

42

8. Financial inclusion is key to inclusive Finance Minister

growth:

Finance minister of India,Pranab Mukherjee urged private sector banks to build in financial inclusion plans in their respective business strategies. Financial inclusion is integral to the inclusive growth process and sustainable development of the country. However, the financial inclusion models that banks come up with should be replicable and viable across the country. Stating this in his special address at the Financial Inclusion Summit, organised by Confederation of Indian Industry (CII) in New Delhi today, Mr Pranab Mukherjee, Minister of Finance, Government of India, said that although the banking network has rapidly expanded over the years, the key challenge would be to extend the banking coverage to include the large population living in 6 lakh villages in the country. Expressing his immense confidence in the Indian banking system to deliver on the plan for financial inclusion, Mr Mukherjee said the system, which demonstrated its resilience in the face of the recent global financial crisis, should adopt strong and urgent measures to reach the unbanked segment of society and unlock their savings and investment potentials.

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9. Venture Infoteks: Financial Inclusion

I. INTRODUCTION:

Project

PURPOSE: With RBI tightening its screws by intensifying its drive on banking the unbanked. The financial inclusion scenario has finally evolved in India. This concept has already been tried & tested in the African continent & in UK, with the projects turning out to be highly satisfactory. On view of the global developments done in this field, RBI formed a committee under the supervision of C. Rangaranjan to constitute the rural banking scenario in the country. This committee came out with a virtual roadmap to uplift the poor. This roadmap shifted the onus of financial inclusion drive on the major PSBs & Private Banks. The findings of this report highlighted that more than 51% of the rural population does not have access to basic banking facilities. This disparity further outlooks a grim picture, as its a pan India issue. With many hurdles coming its way like highly inaccessible areas, transportation, communication barrier, the committee was of a view that only innovative technologies could help resurrect this gloomy picture. Venture Infotek with its mission to lead the financial revolution in India towards payment services for customers and business accounts, provides world-class technology, industry experience, technology expertise and excellent service to its customer and business partners. This document describes the scope of the financial inclusion project. The document covers the basic breakdown of activities involved while implementing a financial inclusion project.

SCOPE OF THE PROJECT: The solution will be smart card based where the Bank will use the smart card to execute banking transactions along with loan schemes run by the bank. Basic supporting applications:

44

1. No frills account 2. Cash Deposits 3. Cash withdrawal 4. Loan acceptance Venture Infotek will comply with guidelines issued by RBI and IBA for the Financial Inclusion Project, appointment of BCs etc. Venture Infoteks end-to-end solution to manage the Financial Inclusion project will seamlessly integrate the following activities a. Enrollment & account opening b. Smart card issuance c. POS deployment d. Connectivity e. Back-end data maintenance and updations Enrollment & Acct opening i. Enrollment of Customers in coordination with the Bank. ii. Account opening as per the parameterization of banks CBS system iii. Render banking and financial services as entrusted by the Bank thru Business Correspondents at designated locations to all the customers covered in the project, duly complying with RBI guidelines. iv. Cash management and acceptance and payment of cash as per the requirements of Government Bodies and the Bank and providing proof of payments to the Bank periodically. Smart card issuance i. Supply of smart cards ii. Venture Infotek to undertake personalization of cards & initiate a Card Management System. iii. This process would flexible and can be scaled up to absorb additional load. POS deployment i. Providing BCs with a hand held terminal ii. These POS should run applications capable of account opening, accepting transactions/Customer enrolment data from various devices deployed for the purpose of Financial Inclusion. Connectivity i. Connectivity between Intermediate System and devices placed in the field. ii. Provide interface and establish connectivity between Intermediate System and the backend banking system. iii. Provide interface with Banks Core Banking Solution. Back-end data maintenance & updations i. Interface for migration of data related to account opening in to banks CBS system ii. Ability to handle last volume of trnxs iii. The backend banking system would be maintained and managed by the Venture Infotek at banks premises or at VIs datacenter.

II.

PROJECT STRATEGY

45

The proposed Card of the Bank would be a contact chip-based smart card with fingerprint identification facility, having provision to support multi accounts with a minimum of 10 to 12 accounts including deposit, loan and other accounts. The Smart Card Solution would have an interface with the banks Core Banking Solution. The cardholders should be able to perform selected banking transactions through authorized business agents. These representatives of the Venture Infotek will extend banking and financial services and basic banking services like savings, credit, remittance, insurance and pension to card holders at their door step, on behalf of the Bank to its customers during the time window and at the frequency stipulated by the Bank. The entities appointed by Venture Infotek as Business Correspondents/ Business Facilitators for extending banking and financial services on behalf of the bank shall conform to Banks, RBI and Government guidelines. Business Correspondents will enroll customers adhering to the existing KYC norms. The BCs would operate at Customer Service Points (CSP) and will execute transactions with hand held POS. Account Opening and Activation Account would be opened in the Backend banking system if all the mandatory information viz name, address, finger prints, family info etc about the applicant / beneficiary has been captured. Account activation will take place only after fulfillment of stipulations given by the Bank. Issue of Smart Cards Each of the smart cards would have minimum 64 K EEPROM memory, Java enabled, PKI enabled and would contain the finger print template corresponding to a minimum of 4 fingers. In addition raw images would also be stored in the central site. Each card would have provision for at least 10 to 12 accounts and will contain particulars of the last 10 transactions for each account. Card contain full particulars of the account holder with limit sanctioned / available, balance outstanding, photo, finger prints etc with provision for data updation and the unique citizenship number, if any allotted in future. Venture Infotek would make a provision to link multiple cards to single account, multiple accounts to single card and multiple accounts to multiple cards. POS The devices would be used in remote areas. Venture Infotek will provide a bio metric Pos to the BC. The trnxs will be authorized on the basis of the fingerprint scanning. The BC will able to view the customer data @ the CSP level thru the web interface developed my Venture Infotek. Card Management System Venture Infotek will include card management system as part of their solution. The system will provide for issue of cards including personalization, inventory management of cards, Key Management and life cycle management. The entire activity with regard to card management will be handled by Venture Infotek from either the premises of the Bank or Venture Infotek. Intermediate System The data from the Customer Service Points (CSP) would be received in Bank's centralized server via an intermediate system. All the transactions from the fields as well as customer enrolment data from Business Correspondent will be uploaded to the Intermediate System. Banks Backend System Accounts under Financial Inclusion will be individually opened under the Bank's existing Core Banking System. Venture Infotek will be responsible for providing the data in the required

46

format and structure prescribed by the Core Banking Solution service provider so that the accounts are smoothly uploaded to the CBS system. Data Backup a. Venture Infotek will be responsible for data protection, complete data backup and other data safeguards including disaster recovery in respect of the Banks Financial Inclusion project. b. The data to be retained includes information processed / stored on account of the transactions, account information, balances, charges and the information captured relating to the customers. c. Data Backups will be tested periodically for restoration. d. Venture Infotek will comply with the banks policy on data-backups, disaster recovery and business continuity requirements. e. Venture Infotek would develop a Disaster Recovery and Business Continuity Management platform. Management Information System a) Venture Infotek will put in place a MIS system in order to monitor all the activities connected with the Financial Inclusion project. b) Banks will be able to centrally monitor and obtain reports on cash movement, cash balances, cash payments, etc at each of the front-end functionaries thru a web interface provided by Venture Infotek. Technology Controls a) The Technology supporting this project would conform to requirements of the bank. b) Security of the customers identity and transaction data must be, using at least 3DES or higher encryption standards. c) Raw Finger print image would be stored without compression and will conform to RBI guidelines. d) Fraud prevention technologies would be implemented for detecting multiple enrollments, for de-duplication of finger print information, replay of transactions, etc e) The solution would have provision to incorporate other Govt. Schemes. f) Authentication mechanisms would verify individuals, devices and other systems interacting with each other. g) Venture Infotek will provide banks with an authorization mechanism to enforce restricting access, limiting amount of money that can be transacted, etc as required by the Bank.

III.

TECHNICAL SPECIFICATIONS

The proposed solution will support authentication of customers, secured communication, transaction processing through fingerprint matching, customer enrolment system, uploading/downloading of transactions/ customer enrolment data through online or offline mode, generation of printed chargeslip for completed transactions & failed transaction. The solution will provide various types of MIS report. Sl.No Minimum Functions of Application software

47

a) b) c)

Cash deposit Cash withdrawal Transfer transaction (both deposit & withdrawal) between two cards, provision to collect commission, etc Uploading / Downloading various transactions Offline and Online and maintain data integrity Wages (NREGS) & Pension disbursements (SSP) Reconciliation and reliable updation of credits and debits transactions through centralized batch posting A report generation module for generation of various MIS reports

d)

e) f)

g)

Sl.No. Minimum Functions of Application software h) Highly parameterized Enquiry module for online query of data yielding standard or adhoc formats and help-line related activities Flagging for Inactive Accounts Account closure module Smart Card Surrender Calculation and posting of commission/fees etc payable to Venture Infotek / third parties and claims from Government/Venture Infotek/third-parties. Generation of Statements, books of accounts, balancing of books, reconciliation, Balance-sheet, receivables/payables, reports for submission to Auditors, RBI, Government, etc Generation of Control Reports for monitoring and control including reports on the Cash entitlement, cash drawn, cash paid, cash receipts, cash on hand at every service delivery point. Any other specifications required by the Bank.

i) j) k)

l)

m)

n)

IV.

SMART CARD SPECIFICATIONS

a. Should conform to ISO 14443/ ISO 7816 standards for contact less/Contact Smart cards and support read and write operations. b. The card should be of best quality PVC/polycarbonate material. Should be durable and should withstand flexing/abrasion/static electricity/humidity/magnetic field c. Should be of standard dimension d. Key Length Supported (1024 to 2048) e. Symmetric Key Support (DES/ TripleDES Algorithm) f. EMV compliant
48

g. Should have a minimum of 64 K EEPROM memory h. Card will have the photo of the customer as per design approved by Bank. i. Application Area will contain personal information, Fingerprint j. Templates corresponding to a minimum of 6 fingers, secure storage of information regarding multi accounts k. Should provide for minimum10 accounts. l. The data relating to each account will have corresponding Account No., Opening balance, details of the last 10 transactions and Closing balance. Additional information can be stored on req of the bank m. Multi Utility Card n. Card should be able to deliver financial and non-financial products o. The personal information will have name, date of birth, date of issue, validity, residential address, instruction to return the card if found lost, etc printed on it. p. Provision for Unique number for card serial number. q. Should guarantee Card work life of at least 5 years. r. The card should allow the reader to compare the fingerprint template stored on the card and the live fingerprint of the cardholder read by the fingerprint reader. s. The smart card solution should also be capable of handling the distribution of benefits under NREGS of Central / State Government

V.

REPORTS

Customized report. Bank can extract following report from the web interface. Daily Summary summary of the transactions done on a daily basis. Agent Report Report on the numbers of client visit done by the agent Loan Outstanding Loan outstanding status of any account holder. Transaction history- Trnxs history of any of the account holder. Terminal Reports Settlement Summary report Settlement Detailed report Other pre-defined reports

49

VI.

NETWORK CONNECTIVITY

Connectivity between Bank and VI will be achieved as follows. The proposed connectivity will be carried out thru web interface. The Terminal will be connected to Central host thru the PC with the help of Internet. Given below is the network architecture

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10. Conclusion

The financial system in India has grown rapidly in the last three decades and more. The functional and geographical coverage of the system is truly impressive. Nevertheless, data do show that there is exclusion and that poorer sections of the society have not been able to access adequately financial services from the organized financial system. There is an imperative need to modify the credit and financial services delivery system to achieve greater inclusion. The implementation of the recommendations made in this Report could go a long way to modify particularly the credit delivery system of the banks and other related institutions to meet the credit requirements of marginal and sub-marginal farmers in the rural areas in a fuller measure. However, creating an appropriate credit delivery system is only a necessary condition. This needs to be supplemented by efforts to improve the productivity of small and marginal farmers and other entrepreneurs so that the credit made available can be productively employed. While banks and other financial institutions can also take some efforts on their own to improve the absorptive capacity of the clients, it is equally important for Government at various levels to initiate actions to enhance the earnings capacity of the poorer sections of the society. The two together can bring about the desired change of greater inclusion quickly.

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BIBLIOGRAPHY
I, Susmita Panda sincerely thank all those who have contributed a part of their precious time helping me take up & successfully completing this project report on FINANCIAL INCLUSION.

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A note of special thanks to the commerce faculty members of my college to give us this topic amongst the other topics for our 6th semester project work & for their timely needful assistance. When preparing this report I got an opportunity to learn many facts about the financial problems relating to financial exclusion & the various steps taken by RBI, various banks & other companies in our country. The wide arena of the internet has greatly influenced my writings in this project report. Some of the reports or writings that have helped me are the following: I. Economic Growth, Financial Deepening, and Financial Inclusion. Address by Dr. Rakesh Mohan, Deputy Governor of the RBI at the Annual Bankers' Conference, at Hyderabad on Nov 3, 2006. An executive perspective on global capital markets: A McKinsey Survey. The McKinsey Quarterly, January 2007. Power Point Presentation by Mr. M.K.Samantaray, General Manager, RBI, Guwahati. Report by Aloysius P. Fernandez, MYRADA, Bangalore on August 2006. Statement given by the Finance Minister Of India, Mr. Pranab Mukherjee. Report regarding efforts by Venture Infotek.

II. III. IV. V. VI.

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