Mumbai: Can financial innovation be the primary tool to achieve sustainable growth in the world’s second-fastest growing major economy?

The notion that fast-paced financial innovation can help emerging economies achieve growth turned out to be a myth in the aftermath of the 2008-09 global financial crisis that tested market fundamentals. For India, too, experts say the path to sustainable growth lies in business innovation and sectoral reform rather than in mere innovation.

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India’s banking system has seen some major financial innovations in the past decade as well as steps to promote financial inclusion, schemes that aim to take banking services to yet-to-be-banked areas.

These include mobile and Internet banking, introduction of no-frill accounts and the introduction of business correspondents, who are individuals or institutions acting as agents of banks in far-flung areas.

At the macro level, some of the innovations include the loan securitization process, or the pooling of parts of loan portfolios and selling these to other parties, and recently, the deregulation of savings deposit rates, which were the last set of regulated interest rates in the country.

These reforms, though touted as measures towards moving closer to inclusive and sustainable growth, are unlikely to succeed in making a difference at the grassroots, experts say.

“There is still a long way to go," says A.K. Khandelwal, former chairman and managing director of Bank of Baroda. “Even when we talk about rising ATM usage, there are many locations which are not getting even 300 hits per day because many banks have put up ATMs in the same place."

Though banks should be commended for implementing CBS, they are not utilizing it fully, Khandelwal said. “Some bank tellers still do not have universal rights, which means they cannot pass all checks, so what is the point of having CBS?" he said. “Investing in technology is fine but it should not on its own become an NPA (non-performing asset)."

For instance, though several banks have introduced mobile banking, few customers use the service either because of a lack of awareness or a fear of security lapses. According to the Reserve Bank of India’s (RBI) latest data, on an average, only around 680,000 transactions amounting to 61 crore are settled through this channel every month.

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Of the 39 banks that were granted approvals for mobile banking, 34 banks have started the service, RBI said in its annual monetary policy statement in May.

RBI is pushing commercial banks to open more branches in rural areas and speed up ongoing efforts towards financial inclusion. The regulator’s data shows that till June, Indian banks had opened banking outlets in 107,000 villages, up from just 54,258 in March 2010.

Of these, 22,870 villages have brick and mortar branches, 84,274 have business correspondents and 460 are covered by other modes such as mobile vans.

The apex bank has set a target to take banking services to every village with a population of 2,000 or more by March. The government has the same deadline. In his 2011-12 budget speech, finance minister Pranab Mukherjee set a target of achieving total financial inclusion by March.

As of June, 79 million no-frill accounts were opened by banks with a total outstanding balance of 5,944.73 crore. Corresponding figures in March 2010 were 49.3 million and 4,257.07 crore, respectively. No-frill accounts have a low minimum balance requirement and do not charge for not maintaining a minimum balance.

“Financial innovation in India has so far concentrated on opening no-frill accounts, which has created many accounts but no transactions on them," said Robin Roy, associate director, financial services, PricewaterhouseCoopers. “People who have gotten by without a bank account sometimes do not need an account but in fact a credit line to get them into the habit of banking."

Financial innovation should ensure that the right products reach the right audience through distribution, technology or partnerships, he said.

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“I feel a full solution will come when we recognize that a poor household needs not just savings accounts but full financial services; there is a role for smaller banks, RRBs (regional rural banks) and NBFCs (non-banking financial companies) in the financial inclusion ecosystem, not just large banks," said Nachiket Mor, a former director at India’s largest private lender ICICI Bank Ltd and now chairman of SughaVazhvu Health Care, a Tamil Nadu-based rural healthcare firm.

M. Narendra, chairman and managing director of Indian Overseas Bank, seconds Mor. “The challenge before banks is to treat financial inclusion as an opportunity than an obligation. But at the same time, banks alone cannot achieve financial inclusion. There is a need for cost effectiveness, understanding the need of people in rural areas and imparting financial literacy," he said.