Harun R Khan: Rural finance - issues & challenges
Address by Mr Harun R Khan, Deputy Governor of the Reserve Bank of India at the National
Seminar on Rural finance organised by the National Bank for Agriculture and Rural
Development (NABARD), New Delhi, 24 July 2014.
* * *
The speaker acknowledges the contributions of Smt Rekha Misra, Smt Pallavi Chavan, Shri Radheshyam Verma
& Shri Surajit Bose of the Reserve Bank of India and Shri Satyajit Dwivedi of NABARD.
1. At the outset, I thank National Bank for Agriculture and Rural Development
(NABARD) for inviting me to this esteemed gathering of experts in the field of rural finance. I
am happy that NABARD has organised this National Seminar to mark the completion of
32 years of its existence. Built upon the legacy of Agricultural Credit Department of the
Reserve Bank of India and the Agriculture Refinance Development Corporation (ARDC),
NABARD today has carved for itself a special place, especially in the area of rural financing
and development. Many of the innovative financial products and services developed and
mainstreamed over the last three decades for the rural economy can be either directly
attributed to the NABARD or have been positively influenced by the NABARD. I am also
happy that topical issues in the field of rural finance were deliberated upon today as part of
this seminar. I am sure that the seminar has provided a lot of useful insights in the field of
rural finance for all of us and these inputs will help us in informed policy making.
Challenges in developing an inclusive rural financial system
2. Providing financial services in rural areas is a challenge as agriculture and other
rural economic activities have unique characteristics of dependence on natural resources,
long production cycles and vulnerability to multiple risks (all of us remember the old adage
"Indian agriculture is a gamble in monsoon"). Further, the sub-division of land and small
ticket size of rural non-farm activities require the provision of small sized loans in large
numbers often raising the operational costs for banks. Moreover, with the widening of the
ambit of non-agricultural activities, the need for non-agricultural rural finance too has gone up
considerably. While poorer groups might need basic savings services and micro-credit to
cover production costs and emergency expenses, farmers and farmers' organisations require
larger amounts of credit to finance production, inputs, processing and marketing besides risk
mitigation products, for example, insurance for loss of life and assets. The new rural finance
paradigm needs to be based on the premise that "rural people are bankable" and rural
clientele is not limited only to the farmers & uneducated but also includes a generation which
can use & adopt technology. It, in turn, advocates a demand-driven design and efficient
provision of multiple financial products and services through an inclusive financial sector
comprising sustainable institutions serving a diverse rural clientele.
3. Thus, developing an inclusive yet sustainable rural financial system is extremely
challenging and involves comprehensive understanding of host of complementary issues,
which I would like to subsume under a broad 7Ps' Framework:
• Product strategy: For catering to the varied needs of small ticket size transactions,
whether a bouquet of diversified products and services can be developed without
compromising on the flexibility, continuous availability and convenience of the
products? Which types of financial products have the greatest impact on reducing
poverty and lifting growth rates in deprived districts and regions?
• Processes: What kinds of business processes can help banks to reach
underserved segments and provide hassle-free near doorstep service to the
customers without jeopardising financial viability? How do we design an efficient hub
& spoke model to overcome the hurdles in the agent led branchless banking?
• Partnerships: What are the constraints faced by the underserved and/or excluded
segments in accessing financial services from different types of service providers?
Are the bank - non-bank partnerships, such as, Business Correspondents, SHGs,
MFIs, etc. working efficiently in easing the accessibility and availability of financial
services?
• Protection: What measures and mechanisms are needed to protect both the
providers and the receivers of rural finance from abuse and misuse of such
services? Whether enough risks mitigants are there for the borrowers given the
higher vulnerability in the sector? Are lenders protected against ebb & flow of
uncertainty in credit culture?
• Profitability: Whether the business strategies and delivery models are geared to
provide affordable and acceptable services to the rural clientele while ensuring that
rural finance service providers function profitably on a sustained basis? How do we
tap into the customer willingness to pay through an appropriate pricing model?
Productivity: How do we increase the productivity of financial services provided in
•
the rural areas? What are the strategies needed to synergize other resources with
finance (say, under a "credit plus" approach) to ensure more productive and optimal
use of financial services?
• People: Are the frontline staff of the financial service providers well-equipped to
meet the needs of driving the process of financial inclusion in terms of knowledge,
skill and attitude? Do these people have the capacity, comprehension and
commitment to identify potential customers and offer them timely advice and
comprehensive services?
Many of these are the age-old questions which unfortunately remain pertinent even today
and pose a significant challenge to the policy-makers and regulators. Having spoken about
the challenges, let me outline some of the developments that have taken place in recent
times in rural finance space with specific reference to the three sub-themes of this seminar
and highlight some of the critical issues related to these sub-themes.
Capital formation in agriculture and rural infrastructure
Trends in capital formation in agriculture and agricultural credit
4. In any discourse on rural development, agriculture is put on the top of development
agenda and for valid reasons too. Around 50 per cent of population depends on agriculture
for its livelihood. A positive relationship has been found between agriculture growth and
poverty reduction. Also, improved growth in agriculture tends to trigger rural non-farm
activities which can bring down rural unemployment. Further, there are various forward and
backward linkages of agricultural sector with other sectors of the economy. In the past couple
of decades, a rapid decline in the share of agriculture in GDP, however, has been witnessed
without a commensurate decline in labour force dependent on agriculture. Another sign of
concern has been a deceleration in the growth of gross capital formation (GCF) in agriculture
in real terms in the recent past. Moreover, GCF in agriculture has generally grown at a rate
slower than the rate of growth in overall GCF over the last decade, except for a spurt
between 2007-08 and 2008-09 (Chart 1).
5. The elementary growth theory tells us that the growth of a sector depends upon the
investments made in that sector, its capital-output ratio, and the efficiency of capital in that
sector. During much of the period from 1980-81 onwards till 2007-08, the investment rate in
agriculture (GCF as per cent of GDP in agriculture) was always below 16 per cent. It is only
in recent years that this rate has crossed the 16 per cent mark and we have seen some
positive results on the agricultural growth front. In fact, the rate of investment was 22.7 per
cent in 2009-10. It has, however, shown fluctuations thereafter (Chart 2).
6. It is interesting to note that in the early 1980s, the share of public and private
investment in agriculture was almost equal, but subsequently the share of public investment
fell drastically. There was an attempt in the early 1990s to increase the share of public
investment, but the impetus did not last long. There was marginal improvement in this share
during 2003-07 but it declined in the subsequent period. In 2012-13, the share of public
sector in agriculture amounted to only about 15 per cent of total GCF (at 2004-05 prices)
(Chart 3). So, private sector, the farming community itself, was a major driver of growth in the
agricultural sector. The Union Budget 2014-15 has rightly recognised the need to revive
public investment and has enhanced the sum allocated towards agriculture investment and
warehousing.
7. Let us now turn to some of the trends in agricultural credit. Tenure-wise pattern of
agricultural credit suggests that the share of long-term credit in total agricultural credit
experienced a secular decline, reaching 37.8 per cent in 2011-12 from 74.3 per cent in
1990-91 (Chart 4). Focus on crop loans with availability of interest subvention only partially
explains this phenomenon. This is a disquieting trend. It suggests a possible neglect of
capital formation in agriculture. Given that private sector is the major driver of the capital
formation and that rate of investment in agriculture, which presently hovers around 20 per
cent need to be sustained and in fact raised further, there is a need to give immediate
attention to long-term agricultural credit. The issue of sharp decline in project based lendings
spearheaded earlier by the NABARD also needs urgent attention for improving share of
longterm credit. The key thrust areas of such schematic lendings will have to be in areas like
production and marketing of protein foods, vegetables & fruits, organic farming, supply chain
management and farm mechanization.
Select trends in rural infrastructure
8. While capital formation in agriculture directly reflects the investment in agriculture,
rural infrastructure, a much broader concept, refers to all possible physical and social
infrastructure that create a conducive environment for growth in rural areas. Several studies
confirm the positive link between rural infrastructure and improved livelihoods and
productivity and reduced poverty. While almost all rural infrastructure sectors are under State
Governments, Central Government spending has also been significant in recent years.
Overall, the outlay on rural infrastructure has increased over the years with around ₹ 3 trillion
spent under various heads for rural infrastructure by the Central Government during the year
2000-12. Out of this, largest sum went to development of rural roads followed by rural
drinking water and sanitation and rural housing. Irrigation received around 16 per cent of the
total rural infrastructure during this period (Table 1).
Table 1: Central Government spending on rural infrastructure (2000-12)
(at 2006-07 prices) (₹ billion)
Items Total expenditure Share (%)
Rural roads 905.17 29.8
Rural drinking water and sanitation 623.42 20.5
Rural housing 485.11 16.0
Irrigation 481.84 15.9
Rural electrification 241.00 7.9
Telecommunication 138.51 4.6
Watershed 105.57 3.5
Integrated Action Plan (IAP) 36.54 1.2
Storage 19.72 0.6
PURA 2.06 0.1
Actual expenditure on rural infrastructure 3038.94 100
{Note: All figures include both Plan and non-Plan expenditure; Storage data (for constant 2006-07
prices) consists of expenditure on construction of rural godown, investment in the Food Corporation
of India and the Central Warehousing Corporation. Figures may not add up exactly to 100 due to
rounding off.}
(Source: India Rural Development Report, 2012-13)
9. Looking at the state of physical infrastructure in rural areas, we see that it has
certainly improved but it still leaves a lot to be desired. It is estimated that rural roads have
connected around 69 per cent of habitations that were planned to be covered by 2013, but
the smaller and more remote ones are yet to be connected. Further, in 2011 almost all
villages were connected to the grid, but as much as 45 per cent of rural households still
lacked electricity connections1. Electricity supply is often unreliable and water supply is
unavailable or polluted.
10. Irrigation is one of the most important inputs for agriculture. Though the country has
made significant strides toward development of irrigation facilities since independence, more
than 50 per cent of the agricultural land is still unirrigated. Further, huge variations are found
across States in terms of the proportion of irrigated agricultural land. Punjab has an irrigation
index of 98 per cent while only 6 per cent of the agricultural land in Jharkhand is irrigated
(Chart 5). Further, large scale delays, huge cost escalation, implementation delays, etc. have
contributed to slow down in expansion of areas under irrigation. Dwindling public sector
control support for critical extension related activities and programme for land development
and soil conservation are major gaps that need urgent redressal. These disparities in rural
infrastructure too need to be addressed.
11. One significant component of rural finance is the value chain finance. It derives its
significance from the fact that there are about 140 million farming households of which more
than 80 per cent are small and marginal farmers. Linking these farmers to formal financial
services is a significant challenge. If agriculture has to support investment for the small and
marginal farmers, promoting agri-business through development of value chains looks very
promising. Promoting agricultural value chains will bring about better market opportunities,
technology adoption, private investments and reforms that would increase their access to
finance besides significant positive impact on end-consumers in terms of reasonable prices
of products. New generation private sector banks and foreign banks who have now priority
sector obligations contribute a lot in this regard. NABARD has in the recent past, conducted
some ground level studies to understand the supply chain management issues related to
onion, potato & tomato and is now according priority to warehouse funding and creation of
cold storage capacities in the country, besides providing negotiable warehouse receipts to
the farmers which, in turn, will prevent distress sale of farm produce by the farmers.
12. It is widely recognised that commercial interests of small-scale producers are best
bridged by producer organisations including co-operatives and their federations. Realising
the importance of collective investments in productive assets, Government of India has set
up Equity Grant Fund for providing matching assistance and credit guarantee fund (with
85 per cent default guarantee cover) for financing Farmer Producer Companies. The
Reserve Bank has also included financing producer companies under the ambit of priority
sectors. Further, NABARD has also constituted a Producer Organisation Development Fund
with a corpus of ₹ 500 million for financing producer companies. Need of the hour is to
scaleup the operations of the producer organizations.
Hassle-free financial services to the rural sector
13. Since independence, expanding the outreach of financial services to the poor has
been at the centre of the poverty alleviation policy in India. The successive surveys of the
National Sample Survey Organisation (NSSO) {All-India Debt and Investment Surveys
(AIDIS)} document a steady rise in the importance of banks as a source of rural household
credit since 1951-52. While there was a decline in the share of banks in debt of rural
households between 1991-92 and 2002-03, we can hope for a revival in this share over the
last decade going by the extensive policy efforts for financial inclusion by the Reserve Bank
and the Government of India in collaboration with institutions oriented towards rural areas,
such as, the NABARD.
14. Financial inclusion is a buzzword nowadays, not just in India, but globally as well. At
RBI, we view financial inclusion as a process that seeks to ensure access to appropriate
financial products and services at an affordable cost in a fair, transparent & secure manner
by mainstream institutional players. This availability of financial products and services is not
only for society in general, but importantly, for the vulnerable groups, such as, weaker
sections, small business units and low income groups as well. Such small customers do
provide a big & stable market for retail deposits and other credit and third party products.
Given the dominance of banks, bank-led model for financial inclusion has been emphasized,
but at the same time, synergies embedded in non-bank financial players are also being
tapped.
15. Several initiatives have been undertaken to expand banking services to remote
areas of the country. The branch authorisation policy has recently been rationalised, with
commercial banks directed to open not less than a quarter of their total branches in hitherto
unbanked areas. Given the challenges involved in opening brick-and-mortar branches at a
rapid pace due to resource and time constraints, banks have been encouraged to avail of
Business Correspondents (BCs)/ Business Facilitators (BFs) to further their inclusion efforts.
Further, the Reserve Bank has now removed some of the major restrictions on use of BC
model; it has allowed for-profit NBFCs to work as BCs and the requirement of BC touch-point
being within 30 km radius of the bank branch has been dispensed with. Banks have been
persuaded to switch over to Core Banking Solutions (CBS) and leverage technology to the
maximum extent possible. The growing focus on mobile technology to deliver banking
services is a manifestation of this initiative. Similarly, importance being attached to
non-banks and quasi-banks ("payment banks", which are in the offing, can also function as
BC of other banks), is also to be seen in the context of efforts to expand financial inclusion
through technology based payment system products. With the cloud over Aadhar based
unique identity being cleared, the pilots sponsored by the Reserve Bank for remittance
related cash-outs using pre-paid instruments are expected to gather momentum and could
turn out to be a major initiative in financial inclusion without the necessity of having bank
accounts.
16. Since 2010, commercial banks have adopted Board-approved Financial Inclusion
Plans (FIPs) containing self-set targets for financial inclusion for a span of three years. The
first span of three years ending 2013 has been quite encouraging. Taking the process
further, banks have been advised to draw up a 3-year FIP for the next three-year period, of
which one year is already behind us. A key feature this time is that banks have been advised
that their FIPs should be disaggregated to the branch level. The disaggregation of the plans
is being done to ensure the involvement of all stakeholders in the financial inclusion efforts.
17. Having said all this, the present extent of financial inclusion does not adequately
match up to our peers, not to mention the advanced economies (Table 2). For example in
2011, just 38 per cent of the adults had accounts at formal financial institutions in India as
compared to over 50 per cent in other BRICS economies, and even higher in the United
States. Of course, the statistics would have improved in the last three years given the policy
push of the Government, the Reserve Bank and the stakeholders. Clearly, there is a
substantial distance that we still need to cover to achieve universal financial inclusion.
Table 2: Select financial inclusion indicators for 2011
Brazil Russia India China South United
Africa States
Account at a formal financial institution, older
62.0 51.9 38.0 63.3 59.1 90.7
adults (%, age 25+)
Loan from a financial institution in the past year,
8.1 8.5 8.8 7.9 11.8 21.6
older adults (%, age 25+)
{Source: World Bank(Global Findex)}
18. In the last few years, there has been notable quantitative and qualitative
improvement in the process of financial inclusion. Today, we have realized the need for
deeper penetration of financial services in the unbanked sectors with more and more people
using various modes of banking, such as, traditional brick & mortar, BCs/BFs channel,
mobile banking, etc., to avail financial services. There are signs of financial inclusion
graduating from a policy obligation to a business proposition. The concern, however, remains
that still a large number of people remain excluded. For instance, formal credit to small and
marginal farmers and small business units continue to be limited. Consequently, rural
indebtedness from non-institutional sources among these farmers continues to be high. Thus
questioning the efficacy of the players and their partnerships in creating a sustainable
financial inclusion plan. At the same time, too much of mandated programmes for financial
inclusion with focus on meeting quantitative targets and the perception that financial inclusion
drives are meant to be doling out government subsidy only could degenerate the programme
to the likes of some of the populist measures without sustainable business proposition for the
providers and receivers of financial services. Hence, there is a need for careful planning and
qualitative evaluation of these programmes. A specific case of concern is the growing fatigue
in the SHG-Bank Linkage Programme, to which I turn now.
Issues in the SHG Bank Linkage Programme (SBLP)
19. India introduced the SHG-Bank Linkage Programme (SBLP) more than two decades
back on a pilot basis. Today, it is a regular banking programme mainly due to active
involvement of NABARD and also due to the role of the Reserve Bank in creating a
conducive regulatory environment for this programme to grow. By end of March 2013, India
had about 7.3 million bank-linked SHGs with a range of financial institutions including
commercial banks, Regional Rural Banks, and co-operative banks, marginally down from
8 million recorded in 2012, exhibiting some signs of fatigue in this programme. Further, the
number of SHGs having outstanding loans with banks has declined from 4.8 million to
4.4 million between 2011 and 2012 and stood at 4.5 million in 2013. Similarly, the number of
SHGs to whom bank loans were disbursed declined from 1.6 million in 2010 to 1.2 million in
2011 and has stagnated thereafter. (Table 3).
Table 3: Progress in micro-finance programme by banks: self help groups
(as at end-March)
Number (in millions)
2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13P
Loans disbursed 1.1 1.2 1.6 1.6 1.2 1.2 1.2
Loans outstanding 2.9 3.6 4.2 4.9 4.8 4.4 4.5
Amount billion)
(₹
2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13P
Loans disbursed 66 88 123 145 145 165 206
Loans outstanding 124 170 227 280 312 363 394
{Source: NABARD}
20. The major issues confronting the SHGs include inadequate number of quality
agencies required for capacity building and hand-holding, governance and leadership
challenges, lack of management information systems, inconsistent reporting, supervision and
management capacities, excessive dependence on promoter agencies for essential services,
skewed distribution of SHGs across the regions, decline of banking sector's involvement in
the programme with primacy being attached to financial inclusion programmes which have
almost excluded SHGs from their focus, increasing incidence of NPAs, etc. The new
challenges for SHGs are how do they move up in the value chain to livelihood activities
leading to sustained income generation supported by different backward and forward
linkages. Therefore, the focus needs to shift towards consolidation of SHGs by addressing
these deficiencies. In order to overcome the fatigue of the SBLP and as part of its poverty
alleviation strategy, NABARD has taken various initiatives like SHG-2, Joint Liability Groups
(JLG) and Producer Organization related initiatives. It aims to cover all eligible poor rural
households in the country through SBLP by March 2017 and promote 2 million new SHGs
during 2013-17. There is also a strategic shift from State/district-based planning for SBLP to
block-based planning to address the issue of intra-district imbalances in promotion of SHGs.
There has also been a focus on convergence of SBLP with financial inclusion initiatives of
the Reserve Bank and government programmes like the National Rural Livelihood Mission
(NRLM) to maximise benefits to the SHG members. In respect of the latter, it is important to
underscore that Government sponsored initiatives should not crowd out agencies already
doing good work in the field as there is enough space for multiple stakeholders & SHGs to
function. Focus on credit at the cost of savings should also not be over emphasized and
distortions leading to misuse and abuse of the system through interest subvention also need
to be avoided.
Concluding thoughts
21. It has been repeatedly recognized that majority of the people in rural areas depend
on agriculture as a source of living though non-farm activities are gradually gaining
significance in the rural economic development. It is also recognized that agriculture is more
risky economically than industry and trade and, therefore, the perception that rural populace
are unbankable. Let us acknowledge that rural economy is imperfect, lacks information and
communications infrastructure and coupled with geographical spread of rural population and
diversity of need for small ticket size financial transactions, developing an inclusive rural
financial system is a challenge. I have flagged some of the major challenges through a 7Ps
framework involving issues of Product strategies, Processes, Partnerships among different
players, Protection of both the providers and the receivers, Productivity of the financial
services flowing to the rural sector, and capacity, competence and commitment of People
involved in providing financial services. I am sanguine that none of these challenges are
insurmountable and have reasons to believe that the seminar has provided several
alternative solutions for achieving a sustainable financial inclusion in India.
22. Let me conclude by saying that the Reserve Bank remains committed to create a
conducive regulatory environment where financial entities can ensure hassle free financial
services to the poor without jeopardising financial stability. Contextually, banks may be given
the freedom to determine their own financial inclusion strategies as part of their overall
business philosophy and pursue it as a commercial activity, taking on board their risk
appetite and product sophistication. With a couple of financial service providers, and
especially an erstwhile microfinance service provider, allowed to become banks and with the
possible introduction of on-tap licensing of small banks and payment banks in addition to
entry of foreign banks in the context of priority sector requirements, we hope to expand the
size and scope of the rural financial system landscape and, thereby, address the persistent
and emerging challenges relating to rural finance and substantially improve the level of
financial inclusion in the country, both qualitatively and quantitatively.
Thank you all for your attention.