Rapid progress in financial inclusion and the rise of fintech, over the last decade, have created a case for India to reimagine its microfinance sector and redefine the role of the existing intermediaries to enhance the scope of financial integration beyond loans. Controversies over fake apps and questions on the source of funds to fintech players notwithstanding, the fast growth of cheaper, personalised digital lending is a clear pointer that the high-touch, high-cost, self-help group (SHG)-based microlending has outlived its purpose.
Technology is an unstoppable force and has taken a few leaps forward than the monetary policy mandarins worldwide could imagine. This was epitomised by the rise of cryptocurrency. At the same time, Aadhaar's unique identity-enabled interoperable digital infrastructure is helping India to bridge many legacy gaps in financial inclusion, market creation and delivering public goods like COVID vaccination. It would be better to take the lesson forward to help people access a wider array of financial products at affordable rates. The Reserve Bank of India (RBI) can give it a shot in the arm by creating the right policy framework.
The Giant Leap
Financial inclusion has been in policy conversations in India since the Independence. The extension of basic banking services and ensuring access to credit for the poor were two main pillars of this initiative. The rollout of the banking correspondent (BC) model in 2006 was a major attempt to widen the coverage. As per the latest estimates, there were more than two million BC agents in the country. However, barely 53 percent of Indians aged over 15 years had bank accounts till 2014, according to the World Bank. This had impacted the access to bank credit by the underprivileged.
The solution came through SHG-based microcredit. The successful intervention by Muhammad Yunus in Bangladesh attracted the limelight to the sector, as an effective tool to empower the unbanked or marginalised. From an exclusive domain of microfinance institutions (MFI); microcredit became a part of the universal banking literature during the UPA rule (2004-2014). Granting banking licenses to MFIs was a natural conclusion of this process. The huge army of foot soldiers did a wonderful job for the microcredit sector in assessing the creditworthiness of borrowers and collecting payments. The SHG model offered additional safeguards to loan recovery. Overall, the model was a perfect fit for a credit-scarce economy. The layers of intermediaries added to the delivery cost of microloans to around 23-24 percent but that was distinctly cheaper than the rates offered by private moneylenders.
The series of developments beginning in 2014 has changed this perspective. First, the Pradhan Mantri Jan Dhan Yojana (PMDJY) pushed the bank account coverage to nearly 80 percent (World Bank), without any gender bias, in 2017. A recent report by the National Sample Survey Office in the ministry of statistics and programme implementation puts account coverage at 90 percent vis-à-vis 97-98 percent in Italy and South Korea. Both countries are ranked below India, in a financial inclusion index published by the US-based Principal Financial. The direct transfer of social benefits by the government is pushing the usage. Considering 137 percent household coverage of cooking gas (LPG), roughly every household has an active account to receive the subsidy.
Formalisation and Fintech
The biggest change was initiated by Aadhar-enabled UPI (Unified Payment Interface) mobile transactions. Together with the Goods and Services Tax (GST), UPI is formalising the Indian economy at a fast pace.
The benefits are going to fintech. UPI payments create tangible income proof and improve the credit rating of those like vegetable vendors or street food sellers. Such technology ensures the disbursement of loans and recovery, at any periodicity, without manpower deployment. Add to this, the dramatic reduction in absolute poverty from 55 percent in 2005-06 to a maximum of 16 percent in 2021 as per the UNDP estimates (World Bank, 10 percent) and high GDP growth; the loan appetite of India is rising.
The net result is: small ticket-size loans by fintech players at around 16 percent interest became an instant hit. The rising smartphone penetration is helping their cause. One97 Communications, the parent of Paytm, reported a three-fold rise in year-on-year disbursals to Rs 125.54 billion, in March 2023 quarter. From Rs 9,905 in December 2022, the average ticket size increased by 10 percent to Rs 10,897 in March 2023, indicating all-pervasive growth.
With the government gearing up to optimise the growth potential of the app-based economy, fintech should have a bigger play in the coming years. It doesn’t mean the death of traditional MFIs. But it surely means greater competition. Many private banks are investing heavily in fintech. Backed with depositors’ money, they may reach customers directly.
Unlock Finance
A school of thought in RBI feels fintech players are burning investors’ money for market acquisition. Even if that is correct, choking cheap finance would be counter-productive. Better, RBI should start working to unlock finance and mitigate the credit gap. India’s domestic credit to the private sector was 55 percent of GDP in 2020, one-third of the global average of 148 percent and the lowest among Asian peers. Investment trusts (InvITs) might be a good beginning but we are still far away from creating a bond market which is crucial for growth.
Meanwhile, fresh thought is required to redefine the role of existing intermediaries. Their high-touch model may be useful in increasing the penetration of complex financial products like insurance, pension, mutual funds, etc. Apps cannot do this job easily. In a series of recent reports, Grameen Foundation India recommended BC community take up non-fund activities seriously, increase exposure to technology and take advantage of the world of opportunities to be opened by open network digital commerce (ONDC).
Pratim Ranjan Bose is an independent columnist, researcher, and consultant. His Twitter handle is @pratimbose. Views are personal, and do not represent the stand of this publication.
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