Tuesday, January 17, 2017

Financial Inclusion: Do the poor benefit from banking ?

The conditions attached to exchanging old notes that came with the notebandi from November 8th 2016, the subsequent scarcity of cash, and the current government campaign for cashless transactions have put intense pressure on the unbanked to open bank accounts and transact with banks.

Bringing the working poor into the fold of banking - presented as a welfare initiative with its terminology of “financial inclusion” - has been an ongoing project in India. In the current phase, it has become extremely coercive.

The standard narrative (see for example a recent Live Mint piece titled “How moving money to the bank helps the poor”) is that certain obstacles prevent the working poor from accessing banks, but once these are removed, they will be able to save more, derive additional income and avail of credit on favorable terms.

The problem of access

The biggest obstacle – the problem of access to a bank for rural customers - has been acknowledged by the government for many years. The Regional Rural Banks (RRB’s) – focused on rural geographies - were first thought to be the answer. With their limitations becoming apparent, the idea of banking correspondents (BC’s) was put forward in 2006. Including BC’s, there are still too few banking outlets in rural India, particularly in less developed districts.

Take Karnataka for example. While in urban Bengaluru, there are 24 bank branches and 77 ATM’s per lakh population, when it comes to districts such as Yadgir, Bidar and Koppal, this falls to 9-11 branches, 6-8 ATM’s and 5-8 banking correspondents per lakh population (Data culled from the RBI, a report in the The Hindu and the State Level Bankers Committee, Karnataka). Given that population density is much lower in these districts compared to Bengaluru, people have to travel much longer distances than their urban counterparts to avail of banking and the bank offices that service them deal with far too many customers.

Access to banking is not only about physical access.

The working poor in both rural and urban areas are often illiterate or versed in only the local language. They have to contend with the complexities of banking in the presence of unsympathetic bank officials. The recent incident of demonetized notes being deposited and then withdrawn the same day from the accounts of 250 MNREGA workers in Rajo Majra village of Punjab, all without their knowledge shows how the poor can be exploited. The workers apparently expected government transfers into their accounts and signed bank forms that they could not read.

A large number of the working poor are migrants who move from one work site to another. Accessing their accounts – which would be with a bank branch near home – presents many problems for these workers; opening multiple bank accounts also makes no sense.

Leaving aside the obstacles in accessing formal banking services, will the poor reap benefits once forced (as in the current situation) into the formal financial system?

Do bank deposits make sense?

Take the question of savings. A recent large sample national household survey reported in Live Mint shows that the difference between income and routine consumption expenditure of households in the bottom two quintiles of income is under Rs 2000. This is the monthly saving potential of 40% of households in India. In case of unforeseen expenses such as a medical emergency, this money will have to be accessed quickly. How would it make economic sense for these households to deposit these savings in a bank? The paltry interest that can be earned will not justify the costs of banking – the time and expenses on travel.

The lack of savings potential in the poor is ironically demonstrated by the “Jan Dhan Yojana” (JDY), a scheme promoted by the government to bring the unbanked into the fold of banking. Under this program 266 million accounts had been opened till the first week of Jan 2017 with the help of some inducements such as free insurance, free debit card and some overdraft facility.

About a quarter of these accounts, 65 million, still have zero balance. The average deposit in the accounts with money was less than Rs 2300 before notebandi. By the first week of January (after the expiry of the deadline for depositing old notes) this had gone up to Rs 3400. Most JDY account holders who have been brought recently into the banking system clearly did not have much in the nature of financial assets in cash.

Bank accounts then do not make sense as a savings instrument for the poor not only because of the difficulties of accessing a bank but also because the poor hardly have any savings.

The false promise of credit

What about access to credit? Banks with their commercial objectives can obviously provide credit only to those with predictable earnings or having assets such as land or housing that can serve as collateral. The reserve bank statistics on the credit extended by banks is revealing.

There were a total of 137 million individual credit accounts in the Indian banking system in 2015. Individuals could have more than one credit account – for example one for a vehicle loan and another for a housing loan. So the number of people with access to credit from the banking system is lower. For comparison, the number of eligible voters in 2014 was about 814 million.

These 137 million borrowers can be divided into petty borrowers whose credit limit is 2 lakhs and large borrowers with a higher credit limit. There were 29 million large borrowers and their average borrowing was nearly Rs 6 lakhs each. These borrowers would typically belong to the top quintile of household income earners and avail credit for housing, vehicles, education, etc.

On the other hand, the average borrowing of 108 million petty borrowers was only Rs 50,000. These would be typically farmers and self other employed persons. These numbers show up the limits of access to credit from the banking system for poor households.

Anecdotal evidence suggests that even the farmers who have access to credit borrow from informal channels as the institutional credit available does not meet their requirements. For the self employed without assets and for informal wage workers, credit from informal sources at high interest is the only recourse. For the typical vegetable cart vendor who requires credit on a daily basis, the wholesaler in the mandi serves the function as no bank would be able to fulfill his need.

The real motivation for “financial inclusion”

The poor when provided access to banking save little and can avail of only limited credit small; they cannot be important for the profits of the banks. In the words of the former RBI governor Raghuram Rajan, banking is not easily available to the poor “not just because the financial system is underdeveloped, but because they are hard to service profitably”.

The economic non-viability of making the poor transact with banks - the BC model too may have run its course as recent studies reported in The Wire indicate -  has pushed the government to promote ever newer models of service providers to carry forward the financial inclusion project, the latest being the Payments Bank. The latter can open accounts, hold small deposits and process payments but is barred from providing credit. The thinking behind the Payments Bank concept is that with relaxed regulatory requirements, it will be able to make profits from transactions of poor account holders where regular banks are unable to.

What accounts for the persistence of the government with financial inclusion when neither the banks nor the poor account holders benefit?

The answer could lie in the fact that a bank account for every worker is an essential requirement for moving India’s massive informal economy - that supports 90% of livelihoods - in the direction of formalism. The informal economy effectively shuts out corporate India from a large part of the domestic market and the government from potential revenue. Government policy has long favored the growth of the formal/corporate economy.

“Financial inclusion” then is not so much about benefiting the poor as it is about creating the infrastructure for formalizing the informal economy. In this project, if the poor have to bear some costs, that is just collateral damage.

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