Jan Dhan Yojana: Ambitious but Ambiguous Plan

The Jan Dhan Yojana (People’s Wealth Plan)—an ambitious financial inclusion programe—was launched amid much fanfare in India on August 28, 2014. The initial target of the Jan Dhan Yojana is to cover 75 million unbanked households by January 26, 2015. The government claims that on the inaugural day, a record 15 million bank accounts were opened across the country under this initiative. Nowhere else in the world, such a large number of bank accounts have been opened on a single day. In less than a month, nearly 40 million accounts have been opened under this initiative.

The Jan Dhan Yojana (JDY) is to be implemented in two phases. In the first phase, the aim is to provide universal access to banking facilities through a business correspondent or bank branch, zero-balance bank accounts with overdraft facility of Rs 5000 after six months and RuPay debit card (domestic card payment network which competes with MasterCard and Visa) with inbuilt insurance cover of Rs 100,000. Those who open accounts by January 26, 2015 will be given life insurance cover of Rs 30,000. In the second phase starting from August 15, 2015, the focus of the JDY would be to provide additional financial services such as micro insurance and pension schemes meant for the unorganised workers.

The government claims that the JDY is a major departure from the earlier initiative launched in 2005 which was primarily aimed at promoting financial inclusion in the rural areas with focus on the coverage of villages, whereas the JDY aims to provide banking services in both the rural and urban areas with focus on the coverage of individual households. One of the new features of the JDY is the creation of local monitoring committees and a web-portal to monitor its implementation at the national level. The JDY is being run in a mission mode with the Finance Minister as head of the mission.

What is Financial Inclusion?

Even though there is no universally accepted definition of financial inclusion (FI), it has become a buzzword in development circles lately. From Queen Maxima of the Netherlands to the World Bank to G-20, everyone espouses the concept of financial inclusion. In simple terms, financial inclusion means delivery of banking services (such as savings accounts, loans, remittance and payment services) at an affordable cost and in a convenient manner to the poor and marginalised sections of society.

For India, financial inclusion has become a key policy concern as there are over 600 million citizens who lack basic banking and financial services. In India, financial exclusion has strong linkages with poverty and is predominantly concentrated among the vast sections of the disadvantaged and low income groups. One of the important factors behind the rising farmers’ suicides in the countryside is the lack of access to cheap credit from banks and institutional sources.

In India and elsewhere, financial exclusion is not merely restricted to the rural population. A large number of urban dwellers, migrants and informal sector workers also lack access to banking and other financial services.

The JDY is not the first major initiative to promote financial inclusion in India. It should be rather viewed as financial inclusion 3.0—as two policy initiatives on FI were launched previously.

Financial Inclusion 1.0

After independence, the first initiative on financial inclusion was launched in July 1969 when 14 of the largest privately-owned banks were nationa-lised. Bank nationalisation marked a paradigm shift as the policy aim was to take the banking services to the poor people. Before nationalisation, privately-owned banks were located in metro-politan and urban areas. Much of bank lending was concentrated in a few organised sectors of the economy and limited to the big business houses and large industries, whereas farmers, small entrepreneurs, labourers, artisans and the self-employed were totally dependent on informal sources (mainly traditional moneylenders and relatives) to meet their credit requirements. The share of agriculture in total bank lending was a meagre 2.2 per cent during 1951-67.

There were several policy objectives behind the bank nationalisation strategy including the transformation of “class banking” into “mass banking”, expanding the geographical and functional spread of institutionalised credit, mobilising savings from the rural and remote areas and reaching out to the neglected sectors such as agriculture and small scale industries. Another policy objective was to ensure that no viable productive business should suffer for lack of credit support, irrespective of its size.

Rapid Expansion of Branch Network in Unbanked Locations

At the time of nationalisation, scheduled commercial banks had 8187 branches through-out the country. But in 1990, the branch network increased to 59,752. What is even more important is that out of 59,752 bank branches, 34,791 (58.2 per cent) were located in the rural areas. In contrast, the share of rural branches was 17.6 per cent in 1969. Such a massive expansion of bank branches in the rural areas was the result of 1:4 licensing policy under which banks were given incentive to open one branch in the metropolitan and one branch in the urban areas, provided they opened four branches in the rural areas.

In the early 1970s, the concept of priority sector lending (also known as directed lending) was evolved to ensure that adequate credit flows to the vital sectors of the economy and according to social and developmental priorities.

In addition, the establishment of the regional rural banks (RRBs) in the mid-1970s also widened the reach of the banking services. The RRBs were jointly owned by the Central Government, the State Government and the sponsor bank. Between 1975 and 1987, 196 RRBs were established in rural India. The mandate of the RRBs was to serve small and marginal farmers, agricultural labourers, artisans and small entrepreneurs in the rural and remote areas. Further, banks were directed to maintain a credit-deposit ratio of 60 per cent in the rural and semi-urban branches in order to ensure that rural deposits were not used to increase urban credit.

In the rural areas, there was significant rise in bank deposits and credit. According to official data, the share of rural deposits in total deposits increased more than five times, from three per cent in 1969 to 16 per cent in 1990. The share of agriculture credit in the total bank credit increased from 2.2 per cent in 1968 to 13 per cent in 1980 and further to 15.8 per cent in 1989. The share of small-scale industry in the total bank credit, which was negligible before nationalisation, reached 15.3 per cent in 1989, a significant achievement by international standards.

There is no denying that the banking system under the nationalisation regime was not perfect as it could not reach out to each and every household but at least a serious effort was made to spread the banking services geographically, socially and functionally. There are very few parallels in the history of banking in the world where such large-scale geographical expansion and functional diversification of the banking system (with social and developmental orientations) took place within a span of two decades.

Admittedly, there were cumbersome lending procedures, inadequate supervision, corruption and political interference which affected func-tional efficiency and profitability of the banking system. Nevertheless, the bank nationalisation drive was inspired by a larger objective to promote social and development banking in India.

The Neglect of Financial Inclusion under Banking Sector Reforms

One of the adverse consequences of the banking sector reforms, launched in the 1990s, was the steady decline in the number of bank branches in rural India. During 1994-2006, bank branches in the rural areas were closed down to meet the profitability criteria and to achieve higher efficiency levels. In absolute terms, the total number of rural bank branches declined from 35,329 in 1994 to 30,119 in 2006. In other words, as many as 5210 bank branches in rural India were closed down during 1994-2006. On an average, two bank branches were closed down on each working day during this period.

On the other hand, a rapid expansion of branches in the metros and urban areas has been witnessed in the post-liberalisation period. According to the Reserve Bank of India (RBI) statistics, 5960 new branches were opened in the six metros during 1994-2006.

In 1994, the share of rural branches was 57.16 per cent but it declined to 37.18 per cent in 2013, indicating the worsening of the rural-urban ratio of bank branches in the post-liberalisation period.

In the 1990s, the banking sector witnessed a secular decline in agricultural credit. This was in sharp contrast to the 1970s and 1980s when a significant shift in bank lending in favour of the agricultural sector took place. The propor-tion of bank credit to agriculture and small sector industries declined from 30 per cent in 1994 to 18 per cent in 2013 despite several initiatives launched by the government to revive bank credit to these sectors which generate largest employment opportunities in the rural areas. The share of deposits raised from the rural areas declined from 15 per cent in 1994 to nine per cent in 2012. All these statistics revealed a sheer neglect of the banking needs of the people living in the rural and semi-rural areas during the post-liberalisation period.

Financial Inclusion 2.0

Concerned over these adverse developments, another initiative towards FI was launched in 2005 with greater emphasis on the branchless business correspondent model to provide last mile connectivity to unbanked villages.

In 2005, the RBI pushed the banks to provide a “no-frills” zero-balance account with minimum charges for other services. Other major policy-initiatives under this drive included relaxation in the know-your-customer (KYC) norms, easier credit facility, introduction of General Purpose Credit Card (GCC), and support to microfinance institutions and Self-Help Groups.

The focus on FI was further intensified in 2009 when the RBI directed banks to draw up a roadmap to cover nearly 74,200 villages with more than 2000 population with one banking outlet by 2012. To achieve this target, several new regulatory measures were introduced. For instance, the domestic banks (both public and private) were given freedom to open branches in Tier-2 to Tier-6 centres without prior approval from the RBI. In order to encourage banks to open branches in the predominantly unbanked North-East region, domestic banks were allowed to open the branches in the rural, semi-urban and urban centres without the prior approval from the RBI. Later on, banks were mandated to open at least 25 per cent of their new brick-and-mortar branches in the unbanked rural areas.

Under the financial inclusion plans adopted by the banks, 7459 new branches were opened in the rural areas in three years during 2010-13. However, this period saw the domination of banking correspondents (BCs) to provide banking services to the unbanked population. Most of the villages covered under this drive were through BCs. As discussed in more detail below, the BC model failed to adequately accomplish its intended purpose despite a rapid increase in its outreach.

Misplaced Emphasis on BC Model

A business correspondent is a representative of the bank that provides doorstep banking services through the use of smart card handling devices which are connected to the main servers of the bank. The handheld device can identify the bank customer through fingerprints and facilitates basic transactions such as depositing and withdrawing cash. The RBI has allowed banks to use the services of NGOs, microfinance institutions, non-banking finance companies and post offices as BCs.

Since 2006, the policy-makers have supported the expansion of the banking services through the BC model on the pretext that it provides services at the doorstep of customers living in unbanked locations and reduces the costs involved in putting up and operating a brick-and-mortar branch.

There is no denying that the BC model has expanded its reach across the country in the last eight years. The RBI’s annual report for 2013-14 notes that “nearly 248,000 BC agents had been deployed by banks as on March 31, 2014 which are providing services through more than 333,000 BC outlets”. Close to 117 million zero-balance accounts have been opened up by BCs as on March 31, 2014. In addition, there were 60,730 BC outlets in the urban locations as on March 31, 2014.

These are pretty impressive numbers. But empirical evidence from Sundergarh in Odisha to Surendranagar in Gujarat suggests that access to bank accounts has not been translated into use. More than 80 per cent of the zero-balance bank accounts are dormant.

In cases where customers receive wages under the National Rural Employment Guarantee Act (NREGA), they simply withdraw the entire amount immediately after the NREGA disburse-ment. Not even five per cent of the zero-balance account holders make deposits into their bank accounts. If people are not actively using their bank accounts, it defeats the very purpose of financial inclusion.

Banks, on their part, are not interested in promoting awareness activities on the usage and benefits of the formal banking services as they lose money on zero-balance accounts due to few transactions and low balances. Most banks view zero-balance accounts as a corporate social responsibility thrust upon them by the government. For banks, serving poor clients is a social obligation rather than a viable business opportunity. With the result, the potential benefits of access to formal banking services are not fully realised.

The Inherent Weaknesses of BC Models

Some caution is obviously warranted because the JDY relies heavily on the BC model for expanding the banking network in both the rural and urban areas. One of the primary reasons behind the unsatisfactory performance of the BC model is the poor remuneration (Rs 2000-3000 per month) paid to business correspondents. For such a meagre amount, it is unfair to expect a BC to visit villages or slums at regular intervals, open new bank accounts for the poor people, process financial trans-actions, educate customers about banking services and answer all queries of the customers. With the result, there is a high attrition rate among the BC agents across the country. Surveys have found that more than half of the BC agents are untraceable.

Under the JDY, the BCs will get a minimum compensation of Rs 5000 per month. This is a welcome move but there are several other important factors which act as a barrier in the delivery of banking services through the BC model. Some of these factors include inordinate delay in issuing smart cards to customers (three to six months); limited utility of smart cards as services such as remittance are not loaded; inadequate cash handling limit given to BCs; devices not working properly due to technical problems or poor network connectivity; lack of trust in BCs; lack of customer-centric banking products and services; poor governance and inadequate supervision of BCs; and absence of a comprehensive strategy for financial education.

If these impediments are not addressed, the JDY may turn out to be another government pro-gramme under which ambitious targets of opening millions of bank accounts are achieved on paper but very little meaningful financial inclusion is actually accomplished on the ground.

It is imperative that the policy focus should shift from the quantity of inclusion to the quality of inclusion. The success of the JDY should not be measured only on the basis of the number of new accounts opened. The measure of success should also include clearly-defined targets for usage and transactions.

The JDY Should Emphasise on Physical Branches

Given the unsatisfactory outcomes of the BC model, the JDY should give greater emphasis on brick-and-mortar branches which enjoy a high degree of trust and acceptability among the rural people. Besides, there are several transactions (for example, loans) that require physical branches and direct interaction with the bank officials.

In a rural setting, a mini-branch (consisting of two staff persons) can easily serve four-to-five villages and provide a full range of banking services. This would ensure that the villagers will no longer have to take substantial travel and expense to visit a mini-branch. A mini-branch linked to the nearest large branch could function as a hub-and-spoke system. In Andhra Pradesh, for instance, the HDFC bank has recently established several mini-branches and found it to be a commercially viable model to offer full banking services to the rural people.

The last-mile connectivity is very crucial for the success of the JDY. Given the large outreach of post offices across the country, postal net-works could be explored to provide banking products and services at a low cost.

Like the “Post Office on Wheels”, which provides a variety of postal services through a mobile van in the country, the mobile van banking is another credible delivery model which could be used to serve large customers located in the far-flung rural areas at regular intervals.

Other Pertinent Questions

During a recent visit to my bank located in East Delhi, I found that many low-income customers enrolled under the JDY already had zero-balance accounts in another bank. They have opened new accounts under the JDY scheme to avail special privileges of overdraft facility, insurance covers and a RuPay debit card, while they had opened bank accounts last year to receive LPG subsidy under the direct benefit transfer (DBT) scheme. Currently there is no system in place to ensure that one person does not open multiple bank accounts.

In another bank, I found that the bank staff is demanding a minimum deposit of Rs 500 for opening an account under the JDY. If such practices are widespread in a metropolitan city, one can well imagine what the implementation of the JDY in the rural and remote areas entails.

The JDY will be spearheaded by domestic banks (both state-owned and private) though the bulk of the task would be carried out by state-owned banks which have over 43,000 branches in the rural and semi-urban areas. It is heartening to note that the government has realised the importance of state-owned banks in promoting inclusive development despite a strong anti-statist slant.

But why is there no participation of foreign banks in the JDY? Why have foreign banks not been directed to join the JDY initiative? There are 43 foreign banks operating in India with 332 branches and 1207 ATMs. Since 95 per cent of their branches are located in the metros and urban locations, foreign banks should be given targets to serve the urban poor. This would induce foreign banks to tweak their niche banking model as they “cherry-pick” the most profitable businesses and affluent customers residing in the metros and urban areas.

Will JDY Cause a Financial Burden?

Some commentators have questioned the financial feasibility of the JDY on the ground that the estimated costs involved in its implementation will be a drain on the entire banking system. Such concerns are unconvincing on four counts. Firstly, banks in India have not accurately worked out the per account cost. As K.C. Chakrabarty (former Deputy Governor of the Reserve Bank of India) has pointed out, costing is opaque in the banking services and therefore it is very difficult to determine the exact cost of maintaining a zero-balance account.

Secondly, a cost-sharing model could be worked out between banks and various govern-ment agencies as the government is considering cash transfers of subsidies and welfare payments directly into the bank accounts of beneficiaries under the DBT scheme. Banks can levy a transaction fee in the range of 0.5 to two per cent on the value of each payment made to the beneficiary’s account.

Thirdly, the adoption of appropriate and affordable technology can bring down tran-saction costs over time. The introduction of low-cost smartphones provides a unique oppor-tunity to deliver affordable banking services to the poor people. The M-PESA in Kenya, GCash in the Philippines and Celpay in Zambia are notable examples of providing a variety of financial services to low-income households in cheap and convenient ways.

Lastly, the total annual cost of the JDY— estimated at Rs 150 billion—is just one-tenth of the total operating expenses of Rs 1566 billion incurred by banks in 2012-13. If the domestic banking system can spend Rs 1566 billion to provide banking services to 600 million people, can’t it spend Rs 150 billion to serve another 600 million people? Many studies in India and elsewhere have proved beyond doubt that the poor are bankable and trustworthy. If 50 per cent of the country’s population joins the mainstream banking system, it can vastly improve the lives of the people in the base of the pyramid and contribute to inclusive economic growth.

If Rs 80 trillion Indian banking system can bear huge losses due to bad loans given to big corporate willful defaulters, can’t it share the costs involved in providing affordable banking services (a public good) to millions of poor people?

Hence, the contentious issue is not the financial viability of the JDY but its design and actual implementation.

No Silver Bullet to Financial Inclusion

More than four decades of experience tells us clearly that there is no single silver bullet approach towards FI given the sheer scale of financial exclusion in India. To ensure sustai-nable universal financial inclusion under the JDY, both supply-side and demand-side challenges have to be addressed simultaneously in a systematic manner.

The government should develop a holistic framework and infrastructure support focused on four core dimensions of financial inclusion—affordable products; reliable and viable delivery models, diverse customer needs; and multilingual financial education programms. The key to the success of the JDY will lie in the government’s ability to address these challenges in a coordinated, coherent and collaborative manner with banks and other stakeholders.

It is widely known that financial inclusion is a means to an end and not an end in itself. Financial inclusion alone cannot lift millions of poor Indians out of poverty but the regular usage of banking products and services can provide them with an opportunity to overcome poverty and improve their lives. The real challenge is to encourage poor people to actively use a variety of formal banking services (including savings, credit and remittance) so that their dependence on informal sources is greatly reduced.

Kavaljit Singh is the Director of Madhyam, a policy research institute based in New Delhi. The Madhyam website is www.madhyam.org.in