Effecting Financial Inclusion Through Microfinance

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  • 7/29/2019 Effecting Financial Inclusion Through Microfinance



    - Arathy Nair H(112CM002) Rathnavel Subramaniam college of Arts and Science,- Barathram B(112CM004) Rathnavel Subramaniam college of Arts and Science,


    The Reserve Bank of India (RBI), which became an official member institution of

    the Alliance for Financial Inclusion in 2012, set up the Khan Commission in 2004 to look into

    financial inclusion and the recommendations of the commission were incorporated into the mid-

    term review of the policy (200506).Reserve Bank permitted commercial banks to make use ofthe services of non-governmental organizations (NGOs/SHGs), micro-finance institutions, and

    other civil society organizations as intermediaries for providing financial and banking services.

    As evidently seen above, the RBI puts significant importance on financial inclusion and

    taken quite big steps in that direction. This is because the economic stability dependsamong

    many thingson the financial inclusiveness of the country by influencing the overall savings of

    the country. This paper intends to study how microfinance plays a role in making the countrys

    financial system financially inclusive.


    Financial inclusion is delivery of banking services at an affordable cost to the vast

    sections of disadvantaged and low income group. Unrestrained access to public goods and

    services is the sine qua non of an open and efficient society. As banking services are in the

    nature of public good, it is essential that availability of banking and payment services to the

    entire population without discrimination is the prime objective of the public policy.

    This paper intends to analyze how microfinance in India enables this financial inclusion.

    On this note the discussion following immediately will be about a briefing on financial inclusion

  • 7/29/2019 Effecting Financial Inclusion Through Microfinance



    The Reserve Bank of India (RBI), which became an official member institution of

    the Alliance for Financial Inclusion in 2012, set up the Khan Commission in 2004 to look into

    financial inclusion and the recommendations of the commission were incorporated into the mid-

    term review of the policy (200506). In the report RBI exhorted the banks with a view of

    achieving greater financial inclusion to make available a basic "no-frills" banking account. In

    India, financial inclusion first featured in 2005, when it was introduced by K C Chakraborthy,

    the chairman of Indian Bank. Mangalam Village became the first village in India where all

    households were provided banking facilities. Norms were relaxed for people intending to open

    accounts with annual deposits of less than Rs. 50,000. General credit cards (GCCs) were issued

    to the poor and the disadvantaged with a view to help them access easy credit. In January 2006,the Reserve Bank permitted commercial banks to make use of the services of non-governmental

    organizations (NGOs/SHGs), micro-finance institutions, and other civil society organizations as

    intermediaries for providing financial and banking services. These intermediaries could be used

    as business facilitators or business correspondents by commercial banks. The bank asked the

    commercial banks in different regions to start a 100% financial inclusion campaign on a pilot

    basis. As a result of the campaign, states or union territories like Pondicherry, Himachal

    Pradesh and Kerala announced 100% financial inclusion in all their districts. Reserve Bank of

    Indias vision for 2020 is to open nearly 600 million new customers' accounts and service them

    through a variety of channels by leveraging on IT. However, illiteracy and the low income

    savings and lack of bank branches in rural areas continue to be a roadblock to financial inclusion

    in many states and there is inadequate legal and financial structure.

    In India, RBI has initiated several measures to achieve greater financial inclusion, such as

    facilitating no-frills accounts and GCCs for small deposits and credit. Some of these steps are:

    Opening of no-frills accounts: Basic banking no-frills account is with nil or very low minimum

    balance as well as charges that make such accounts accessible to vast sections of the population.

    Banks have been advised to provide small overdrafts in such accounts.

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    Relaxation on know-your-customer (KYC) norms: KYC requirements for opening bank

    accounts were relaxed for small accounts in August 2005, thereby simplifying procedures by

    stipulating that introduction by an account holder who has been subjected to the full KYC drill

    would suffice for opening such accounts. The banks were also permitted to take any evidence as

    to the identity and address of the customer to their satisfaction. It has now been further relaxed to

    include the letters issued by the Unique Identification Authority of India containing details of

    name, address and Aadhaar number.

    Engaging business correspondents (BCs): In January 2006, RBI permitted banks to engage

    business facilitators (BFs) and BCs as intermediaries for providing financial and banking

    services. The BC model allows banks to provide doorstep delivery of services, especially cash

    in-cash out transactions, thus addressing the last-mile problem. The list of eligible individualsand entities that can be engaged as BCs is being widened from time to time. With effect from

    September 2010, for-profit companies have also been allowed to be engaged as BCs. India map

    of Financial Inclusion by MIX provides more insights on this.

    Use of technology: Recognizing that technology has the potential to address the issues of

    outreach and credit delivery in rural and remote areas in a viable manner, banks have been

    advised to make effective use of information and communications technology (ICT), to provide

    doorstep banking services through the BC model where the accounts can be operated by even

    illiterate customers by using biometrics, thus ensuring the security of transactions and enhancing

    confidence in the banking system.

    Adoption of EBT: Banks have been advised to implement EBT by leveraging ICT-based

    banking through BCs to transfer social benefits electronically to the bank account of the

    beneficiary and deliver government benefits to the doorstep of the beneficiary, thus reducing

    dependence on cash and lowering transaction costs.

    GCC: With a view to helping the poor and the disadvantaged with access to easy credit, banks

    have been asked to consider introduction of a general purpose credit card facility up to `25,000 at

    their rural and semi-urban branches. The objective of the scheme is to provide hassle-free credit

    to banks customers based on the assessment of cash flow without insistence on security, purpose

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    or end use of the credit. This is in the nature of revolving credit entitling the holder to withdraw

    up to the limit sanctioned.

    Simplified branch authorization: To address the issue of uneven spread of bank branches, in

    December 2009, domestic scheduled commercial banks were permitted to freely open branches

    in tier III to tier VI centers with a population of less than 50,000 under general permission,

    subject to reporting. In the north-eastern states and Sikkim, domestic scheduled commercial

    banks can now open branches in rural, semi-urban and urban centers without the need to take

    permission from RBI in each case, subject to reporting.

    Opening of branches in unbanked rural centers: To further step up the opening of branches in

    rural areas so as to improve banking penetration and financial inclusion rapidly, the need for the

    opening of more bricks and mortar branches, besides the use of BCs, was felt. Accordingly,

    banks have been mandated in the April monetary policy statement to allocate at least 25% of the

    total number of branches to be opened during a year to unbanked rural centers.


    Microfinance is the provision of financial services such as loans, savings, insurance, and

    training to people living in poverty. It is one of the great success stories in the developing world

    in the last 30 years and is widely recognized as a just and sustainable solution in alleviating

    global poverty.

    The industry began by providing small loans to emerging entrepreneurs to start or expand

    businesses. Over the years, the microfinance sector has expanded its financial service offerings

    to better meet client needs.

    Microfinance organizations make it a priority to serve the particular needs of women,

    since a staggering 70 percent of all those living in extreme poverty are female. Women are often

    excluded from education, the workplace, owning property and equal participation in politics.

    They produce one half of the worlds food, but own just one percent of its farmland. When

    women improve their circumstances, they also improve the lives of their children. By investing

  • 7/29/2019 Effecting Financial Inclusion Through Microfinance


    in nutrition and education, they help to create a better future for their children and their


    Despite the success of life-transforming microfinance services, the World Bank says that

    the industry is not close to meeting the demand. Five hundred million people living in poverty

    could benefit from a small business loan and only one-third of the worlds population has access

    to any kind of bank account. The lack of access is particularly severe in sub-Saharan Africa

    where the World Bank estimates that microfinance is reaching only a small percentage of the

    economically active population. In sub-Saharan Africas poorest countries, less than 10 percent

    of the population has an account with a financial institution. In response, Opportunity has

    committed to building scalable, sustainable and accessible banks throughout the developing

    world to provide loans, training, savings and insurance products tailored to the specific needs ofeach region.

    As the microfinance industry continues to mature, there is a danger that it will drift

    toward a more secure client base. It is critical that microfinance organizations continue to focus

    on those with the greatest needsthose who have been displaced, those in rural areas, those who

    traditional institutions consider unbankablethe most marginalized people. Maintaining that

    focus, microfinance can help create a world in which the underserved have fair access to

    economic opportunities and the hope to move beyond poverty.


    The microfinance in India has evolved over the years. There is no single appropriate form

    of legislation for institutions undertaking microfinance. MFIs have been registered under these


    Non profit MFIs

    Societies registered under the societies registration act, 1860 or similar state acts. Public trusts registered under the Indian trusts act, 1882. Non-profit companies registered under section 25 of the companies act, 1956.

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    Mutual benefit companies State credit cooperatives National credit cooperatives Mutually aided cooperative societies

    For profit MFIs NBFCs registered under the companies act, 1956.


    The impact of microcredit is a subject of much controversy. Proponents state that it reduces

    poverty through higher employment and higher incomes. This is expected to lead to improved

    nutrition and improved education of the borrowers' children. Some argue that microcredit

    empowers women. In the US and Canada, it is argued that microcredit helps recipients to

    graduate from welfare programs.

    Critics say that microcredit has not increased incomes, but has driven poor households into a

    debt trap, in some cases even leading to suicide. They add that the money from loans is often

    used for durable consumer goods or consumption instead of being used for productive

    investments, that it fails to empower women, and that it has not improved health or education.

    The available evidence indicates that in many cases microcredit has facilitated the creation

    and the growth of businesses. It has often generated self-employment, but it has not necessarily

    increased incomes after interest payments. In some cases it has driven borrowers into debt traps.

    There is no evidence that microcredit has empowered women. In short, microcredit has achieved

    much less than what its proponents said it would achieve, but its negative impacts have not been

    as drastic as some critics have argued. Microcredit is just one factor influencing the success of a

    small businesses, whose success is influenced to a much larger extent by how much an economy

    or a particular market grows.

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    A report produced by BL centre for development research and action and sponsored by

    the Planning commission, Government of India, puts forth the following findings pertaining to


    Microfinance institutions have to be very careful in assessing the repayments capacity ofthe borrowers especially in individual based lending technologies.

    There is considerable scope for microfinance in India since there is enormous unmetdemand for financial services in this sector.

    The MFIs need proper regulation and operation of business transactions. Therefore RBI,SIDBI, NABARD and other organizations should evolve proper mechanism for

    monitoring, supervision, direction and appraisal of MFIs.

    The main problems in micro financing as observed were related to documentation, lack ofcooperation, lack of knowledge, outreach of banking services, etc.

    To conclude, it may be said that the role of MFIs in establishing and supporting financially

    inclusive financial system can only be defined by the extent of awareness about the facilities of

    micro financing among those people to whom it could actually be of some use. Measures are to

    be taken in respect of the afore mentioned aspects in order to better utilize the micro financing

    facilities in the direction of economic development of the nation.


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