By Moin Qazi
Indias financial inclusion index, CRISIL Inclusixs readings for fiscal 2016 (the latest for which figures are available) is cheerful news. Financial inclusion has improved significantly, with the all-India score surging to 58.0 in fiscal 2016, compared to 50.1 in fiscal 2013.
Measuring financial inclusion
The index measures progress on financial inclusion in each of the 666 districts in the country based on data provided by RBI, the Microfinance Institution Network (MFIN), and the Insurance Information Bureau of India. It is based on four indices: deposit penetration, credit penetration, insurance penetration and branch penetration. It uses a statistically robust, transparent, and easy way to understand the methodology, and is based on a modular, scalable architecture.
There has been a marked increase in both deposit and loan accounts. Nearly 600 million deposit accounts were opened between fiscals 2013 and 2016, or twice the number between 2010 and 2013. This is reflected in the surge of deposit penetration by over 16 points. On the credit side, there was a sharp increase of 31.7 million new credit or loan accounts (banks and MFIs) in the two years up to fiscal 2016, which is the most since fiscal 2013.
- Branch Penetration: It is measured as the number of bank branches per one lakh population. This refers to the penetration of commercial bank branches and ATMs for the provision of maximum formal financial services to the rural population.
- Credit Penetration: It takes the average of the three measures: number of loan accounts per one lakh population, number of small borrower loan accounts per one lakh population and number of agriculture advances per one lakh population.
- Deposit Penetration: It is measured as the number of saving deposit accounts per one lakh population.
- Insurance Penetration: It is measured as the ratio of premium underwritten in a particular year to the GDP.
What is financial inclusion?
Financial services are like clean water and electricity; they are essential to leading a better life. The frenetic global effort to bring those outside the financial world into it is part of a philosophy popularly called financial inclusion. Greater financial inclusiveness is a gateway for more balanced development and a more cohesive society.
Financial inclusion implies an absence of obstacles to the use of these services, whether the challenges are price or nonprice barriers to financing. It is important to distinguish between access to, the possibility to use, and actual use of financial services. Exclusion can be voluntary, where a person or business has access to services but no need to use them, or involuntary, where price barriers or discrimination, for example, bar access. Failure to make this distinction can complicate efforts to define and measure access. Financial market imperfections, such as information asymmetries and transaction costs, are likely to be highly imposing on the talented poor and micro and small enterprises that lack collateral, credit histories, and connections.
Understanding the necessity
Without inclusive financial systems, these individuals and enterprises with promising opportunities have their capital constrained to their own savings and earnings. This access dimension of economic development has often been overlooked, mainly because of severe data gaps on who has access to which financial services and a lack of systematic information on the barriers to broader access.
Access to the right financial tools at critical moments can be a crucial element in overcoming the stubborn realities for those who operate in penny economies. It can provide them with an opportunity to move out of poverty or absorb a shock without being pushed deeper into debt. The poor need to set aside money in times of plenty and draw it out in lean times. Without a safe place to save money, it is difficult to cope with the unexpected or to plan for the future. Improved access to finance increases savings, reduces poverty and promotes employment. Without access to affordable credit, it is difficult to get a business idea off the ground or acquire an asset like a house. In the absence of insurance, all of one’s security can be wiped out by one misfortune. Financial services allow one to insure for health care, save for childrens education and borrow for wedding or funeral costs.
Financial literacy
A bank account acts as a means of fulfilling these needs. However, merely opening accounts for the unbanked will not help unless they are actively used them for managing their money. To make this possible, people have to be given the ability to understand and execute matters of personal finance, including basic numeracy and literacy, budgeting, investing, and risk diversification. This skill is known as financial literacy. It is a combination of financial awareness, attitudinal and behavioural changes necessary to make sound microeconomic decisions. It is necessary to teach them the basic nuances of finance so that they keep a distance from unscrupulous and dubious investment schemes that have lacerated the financial lives of so many.
The challenge of financial inclusion is to understand what is best about all the different ways of reaching underserved customers. It is about understanding what works and building on it. The Consultative Group to Assist the Poor (CGAP), the development arm of the World Bank puts it well:
The financial system is, in a sense, the nerve system of an economy. It is the platform used for market transactions to occur, the means by which governments distribute benefits, and the mechanism used by citizens to demonstrate their civic responsibilities by payment of taxes and government services. Ensuring the financial system is inclusive is paramount in the process of creating a more inclusive, equal and peaceful society.
What makes this theory special?
With billions of people already using mobile phones, the means to introduce people to formal banking and financial services already exist. Technology has enabled contact with villages half a day away from bank branches and unreachable by road. This has transformed both business and family life. The rapid spread of mobile phones is the game changer that can make the economic benefits of digital finance possible. Fortunately, mobile phone penetration is growing far more quickly than access to financial services.
The father of behavioural economics Richard Thaler generated enthusiasm about his nudge theory when he won the Nobel Prize earlier this month. Unlike usual economic theories that assume that all participants can take rational decisions, behavioural economics says that as mere human beings, we are prone to irrational actions and therefore, need to be ‘nudged’ in the right direction. The same is true with finance. To use financial services to their full potential, the low-income people need products well suited to their needs and appropriate training and education for adapting to these financial services.
The issue is a lot more nuanced than what we see or imagine today. Nuances change from culture to culture and consumer segment to consumer segment. Consumers will come into the formal financial sector and embrace the new opportunities only when they believe that if they change their behaviour and exert the effort to get into the new world, then specific pains will disappear. We must strive to develop tools that empower lower-income people to take charge of their financial health and hygiene. We have thus to address real pains, not just offer benefits. If the industrys priorities are tweaked even slightly in favour of the poor, barriers to inclusion will fall.
Let us not forget the lessons of the past.The milestones which we have recorded in our financial inclusion journey should spur us forward with renewed vigour. Let us not reduce them to mere flag posts and consign our financial revolution to the driftwood of history. Instead of looking back and resting on our laurels, we should look forward to leading the revolution to its goalpost.
Featured Image Source: Visual Hunt