A little more than five years after financial inclusion became one of the central features of Indian banking policy, senior bankers said at a conference organized by this newspaper on 15 March that offering banking services to the poor was not a profitable activity—as yet.
In a December 2005 policy statement, the Reserve Bank of India had “advised” banks to open basic banking accounts with either zero or minimal balances, and with low charges that would make such no-frills accounts accessible to vast sections of the population.
Banks also tried to step up micro lending to poor borrowers, though the US experience with subprime lending and the microfinance crisis in Andhra Pradesh suggest that the more sensible first step to draw the excluded into the formal financial system is by offering them deposit products rather than lending products. The first task is to offer the poor a way to keep their money in financial instruments that at the very least offer protection against stealing and the ravages of inflation, something which cash does not. On the other hand, inclusive lending can sometimes lead to poor families taking on too much debt. But there’s a catch. Banks will not make money from deposit products alone; they need to eventually sell credit and insurance to poor clients. Sequencing this transition is an underrated challenge.
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The bankers speaking at the Mint conference offered a sober reality check when they indicated that financial inclusion was not yet a viable business activity for them, though none offered hard numbers on the amount of money they are losing while reaching out to the hitherto unbanked. However, they optimistically indicated that there would be a pot of gold at the end of the rainbow.
State Bank of India chairman O.P. Bhatt said the losses would decline as the number of people serviced by a particular branch or outlet increases. Others such as ICICI Bank chief executive Chanda Kochhar and Neeraj Swaroop, regional chief executive of Standard Chartered Bank, said the key to profitability would be the development of new business models and the use of technology to drive down transaction costs.
Partnering with agents who have local knowledge and reach—be it the village shopkeeper or a telecom company—was also seen to be essential. Kochhar added that banks would have to offer more products to holders of basic accounts to make the relationship profitable. A few added that financial inclusion is just part of the bigger jigsaw called inclusive growth. The former cannot deliver on its potential unless the other pieces of the jigsaw fit in.
Despite the optimism about the future, it is clear that the road till now has been a rocky one.
Most policymakers agree that financial inclusion is a goal worth pursuing, though HDFC Bank CEO Aditya Puri helpfully pointed out during the Mint conference that even the US has a large proportion of its population outside the formal banking system. In a speech he gave in January 2008, Vijay Kelkar described financial inclusion as a “quasi public good”. Public policy thus becomes an important part of the solution. “It is incumbent on the government to provide (financial inclusion) in partnership with other agencies,” said Kelkar.
There is a good reason why profitable financial inclusion is important from the policy perspective. The current push for financial inclusion is not the first one in India. The entire edifice of priority-sector lending has been built on the premise of giving more people access to bank loans. But the current round differs from the earlier one in an important respect—the policy tool is not a regulatory diktat but the promise of profits at the end of the road; not coercion but voluntary initiative. That is why the admission by bankers that they have yet to make money out of financial inclusion attains significance.
The debate on financial inclusion in India has several strands. Should financial intermediaries target deposits or loans? Is the cost of loans being provided by microfinance institutions too high or is it reasonable given the elevated risks and high transaction costs? Does India need a more competitive banking market, with more banks, for financial inclusion to be a success? Should the new banks be small ones or big ones? Can technology and bank correspondents in rural areas really drive down costs? How should financial inclusion fit in with other parts of economic policy? For example, can subsidy delivery through cash transfers boost lending in case such cash flows to poor families can be securitized and offered as collateral?
The questions keep piling up. But it is time to add another question to the policy broth. Will banks make money on their financial inclusion activities at least in the next five years? Can they make money? The answers matter because profitability is what will eventually drive banks to reach out to more and more customers, rather than nudges from regulators.
Niranjan Rajadhyaksha is managing editor of Mint. Your comments are wel-come at firstname.lastname@example.org