New bank licences: the meaning of inclusion
The basic functions of the banks and their impact on inclusion should inform the choice of the new banks----BY Sri M S Sriram ---Live Mint
The Reserve Bank of India (RBI) has issued final guidelines for new bank licences. It is time to reflect on what the new banks should achieve, including expectations on financial inclusion. While inclusion, articulated as the physical presence of banks in unbanked locations, is important, it glosses over exclusion in urban areas. In general, policy equates inclusion with poverty, rural areas, agriculture and small-ticket credit. As RBI examines the business plans and issues licences to new applicants, it should go beyond these generalized targets to look at some nuanced parameters.
Banks perform multiple roles. The basic functions of the banks and their impact on inclusion should inform the choice of the new banks. Each of them should be expected to bring at least one game-changing idea on inclusion to the table—an idea that addresses the issue profitably and sustainably. While examining the traditional approach, we call for a new thinking in inclusive banking.
A bank’s basic function is to provide intermediation between the savers and borrowers, helping resources to move across time, regions and sectors. Banks aggregate savings in small ticket sizes and open an avenue for big-ticket investments in the infrastructural, industrial and manufacturing sector, in addition to providing access to small borrowers. The equity, debt and derivative markets open possibilities for disintermediation. However, the Indian banks continue to derive 85-90% of their income from intermediation. So, the primary role of the banks is intermediation.
The inclusion targets come from three broad policy stances:
•Coverage—monitored by number of no-frills accounts, Kisan Credit Cards and other such products
•Outreach—branches in different categories of habitation
•Deployment—priority sector, agriculture and weaker sections
While this is welcome, some links are missing. These links should address:
•Movement in the relative share of gross domestic product (GDP) over decades and the role of banking in the changing scenario
•The regional spread or skew in banking operations over decades
•The mismatch between aggregation of resources (deposits) and deployment (credit). If we consider inclusion from these parameters, we see the need for redefining the RBI stance on inclusion
Over a period, we have moved from being an agrarian economy to an economy driven by the services sector. Agriculture contributed about 53% of GDP in 1950-51. Now it is about 14% of GDP. The loss of agriculture was filled initially by the manufacturing sector (16% of GDP to 27%) and later services (30% of GDP to 59%). The manufacturing sector has remained at roughly the same proportions in the last three decades. This has resulted in the movement of labour from one sector to the other, but that movement has not been proportional.
Our banking policy continues to focus on agriculture by compulsorily allocating a part of bank credit to it, while the relative share of growth in agriculture does not indicate changes in the credit absorptive capacity. This policy is sustainable if a large portion of agricultural credit is coming from the informal sector and this target replaces informal credit.
Alternatively, this should represent a misreporting of end use. The land-holding patterns over the decades show fragmentation. The loan sizes and number of agricultural loan accounts show con
solidation. This only leads us to conclude that there is large-scale misreporting. This is compounded by the fact that this sector has interest-rate caps, subventions and waivers affecting the sectoral business model of a bank. If new banks are expected to do more of such “inclusion” in a similar framework, they are starting with an invitation to misreport. Therefore, importance for agriculture should be accorded by measuring priority sector targets on account sizes and number of accounts, benchmarking it with land-holding patterns rather than allocating resources to be captured by the elite and rationed or used adversely.
The regional skew in banking services continues with the historical trends and has not dramatically changed over the decades. The skew is in favour of the south. The penetration in the north-east was weak and has remained so.
In the last decade, the action in banking was in the north where the rate of growth of offices was the highest. The disaggregated data for semi-urban and rural areas—areas where RBI has spatially concentrated—even shows growth across regions after adjusting for reclassification of rural areas into semi-urban areas causing no proportional impact on the regional skew. In the past few years, RBI has mandated provision of banking services in small habitations but we are yet to see the numbers captured and the effects of the initiatives. The insistence of RBI on reservation of 25% branches for unbanked areas has not addressed the germane issue of regional disparity. We need to redefine inclusion differently when new bank licences are issued.
The third issue reveals more than the mere presence of branches. The regions having weak penetration of branches are net suppliers of capital to the other regions. The deployment of credit as a proportion of deposits collected in the north-east has never crossed 50%. In the central and the eastern regions it is around 60%. The regions that are getting credit are the ones that have the best penetration of bank branches, particularly the southern region where the deployment of credit is higher than the collection of deposits. The mismatch between aggregation and deployment needs to be addressed.
If new banks will do more of what the existing banks are do, would it not be wise to opt for an organic growth? RBI has insisted that the new banks need a thrust on financial inclusion. The final guidelines do not make inclusion a central point of discussion. The first set of licences offered to the private sector in 1993 brought in fundamental changes—state-of-the art technology, a better customer interface, professionalism and data-driven decision making. It had a positive effect on the banking sector and can be termed as game changing.
The second phase in which two banks were licensed did not change fundamentals. RBI’s policy guidelines indicate that the learning from the earlier experiences informs them, but they don’t contain game-changing conditionalities. What is the strategy of RBI on regional, sectoral and aggregation disparity? Will any of the new players come out with a business plan that will appeal to RBI on this count? Is there a game-changer applicant lurking out there? It will be interesting to watch this space.
M.S. Sriram is a visiting faculty member at the Indian Institute of Management, Bangalore.
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