The Reserve Bank of India's (RBI) decision to grant 'in-principle' approval for banking licence to two new players - Bandhan and IDFC - out of a list of 25 applicants surprised many.
New banking licences were being offered for the first time in a decade with the objective of expanding the reach of financial services to masses and the decision to grant only a couple of licences appeared to fall short of expectations. The applications of large corporate houses such as Anil Ambani's Reliance Group, Kumar Mangalam Birla-led Aditya Birla Group and the Bajaj Group were ignored even though industry analysts felt that their deep pockets would have accelerated the progress of financial inclusion.
"One of the challenges with the existing licencing regime is that regulatory opportunity determines market entry rather than business need and preparedness of applicants. One would hope that licensing of these two banks is just the start," says Shinjini Kumar, leader-banking and capital markets at Pricewaterhouse-Coopers (PwC) India. (Click for tables)
Financial inclusion is certainly not a new dispensation that Indian policymakers are craving. The nationalisation of banks in 1969 and the thrust on branch building that followed were attempts at including the financially excluded. Even in the previous round of bank licensing (in 2003-04) new players were directed to open branches in rural and semi-urban geographies.
In recent years, RBI has adopted a planned and structured approach to improve financial inclusion. In January 2010, it directed all public and private sector banks to submit a board-approved, three-year financial inclusion plan starting in April 2010. Lenders were advised to devise plans congruent with their business strategy and make them an integral part of their corporate objectives.
Banks were asked to prepare self-set targets in respect of opening rural brick and mortar branches, hiring business correspondents, covering un-banked villages and offering financial products like basic savings bank deposit (BSBD) accounts, kisan credit cards (KCC) and general credit cards (GCC). The implementation of financial inclusion plans was closely monitored by the regulator on a monthly basis through quantitative reporting format. The qualitative aspects were reviewed through quarterly reports submitted by banks.
The progress has been encouraging in the first three years (April 2010 to March 2013). Banking outlets in villages had increased to 268,454 from 67,694, close to 7,400 rural branches were opened and nearly 109 million BSBD accounts were added. Also, around 9.48 million farm sector households and 2.24 million non-farm sector households were included leading to higher disbursement of small entrepreneurial loans.
To continue the process of ensuring access to banking services to the excluded, lenders were asked to sketch another three-year financial inclusion plan for the period 2013-16.
Technology played a key role in expanding the reach of formal banking services. "If this (financial inclusion) is something we have been working on since 1969 what is the difference now? Critically it is technology, which enables undreamt of outreach. For financial inclusion to succeed and an effective business delivery model to be in place it is essential that servicing costs are brought down and large numbers covered rapidly. This exponential growth is a possible dream with the use of technology," said Deepali Pant Joshi, executive director at RBI, at a seminar in Kolkata in October, 2013.
Banks, including regional rural banks, have migrated to core banking system and developed in-built capability to provide remittances using electronic payment systems such as the real time gross settlement system (RTGS), national electronic funds transfer (NEFT), national electronic clearing service, immediate payments service and Aadhaar enabled payment systems.
Lenders are increasingly using alternate channels of delivery (such as ATMs, net banking and phone banking) and depending on information and communication technologies (ICT) to expand their reach. Nearly 490 million transactions were carried out in ICT-based accounts through business correspondents between April, 2010 and March, 2013.
But despite these efforts a large section of India's population still does not have access to formal banking services.
The numbers are mind-numbing. According to the government's population census 2011, only 58.7 per cent of households were availing banking services in the country. While compared to the previous census 2001 there is a significant improvement in the access to banking services, it indicates that still over 40 per cent of India's 1.2 billion people continue to remain financially excluded.
Also, a survey on financial access in 2011 revealed that India had 10.6 branches and 8.9 ATMs per 0.1 million population. Compared to this China had 23.8 branches and 49.6 ATMs, while Brazil had 46.2 branches and 119.6 ATMs per 0.1 million people. This is probably the reason why the government wanted more banks in the country. That new players will be offered banking licence was revealed for the first time by former finance minister (and now president) Pranab Mukherjee during his budget speech in February, 2010.
While RBI reluctantly agreed to invite applications from industrial groups, ultimately it stopped short of granting approval to any of the corporate houses. The central bank admitted that its decision to offer only two new licences may be categorised as 'conservative', but it justified its stance as appropriate because of the public concern on governance.
Globally, it is fairly common to permit industrial houses in the banking business. Only 12 per cent of countries restrict the mixing of banking and commerce, according to RBI's discussion paper on new bank licensing (released in August, 2010).
It is believed that the regulator's dilemma in allowing industrial houses in banking stems from the fact that these groups, if permitted, could undermine the independence of banks.
"There is no contradiction in the principle of financial inclusion and fit and proper criterion. It is a scrutinised criterion to make sure that other people's money, which is what banks deal with, are disbursed and allocated in a manner which is appropriate and fit and proper," Bimal Jalan, former governor of RBI, said earlier this week while responding to queries on why only two new banking licences were offered. Jalan also headed the high-level advisory committee that scrutinised the applications for new banking licences.
However, there is still hope for industrial groups in getting a permit to set up a bank. RBI has kept the door open saying that it intends to use the learning from this round's licensing exercise to revise the guidelines appropriately and move to give licences more regularly, almost on tap.
The central bank also indicated that it plans to frame categories of differentiated bank licences, building on its prior discussion paper. RBI felt that some of the entities who did not qualify in this round for a full-fledged banking licence could apply in future.
In October, 2007 RBI had prepared a discussion paper on differentiated bank licensing, wherein it stated that the case for such licensing may be reviewed after a certain degree of success in financial inclusion is achieved and the central bank is satisfied with the quality and robustness of the risk management systems of the entire banking sector.
The banking regulator, in a discussion paper on banking structure in India (released in August 2013), said that banks have shown significant progress in financial inclusion and in improving the quality of risk management but added that a "lot more needs to be done".
The universal banking model still remains the dominant model, but there are countries like the United States, Australia, Singapore, Hong Kong and Indonesia that grants differentiated banking licence.
"While RBI has been conservative in granting in-principle approval to only two applicants in this round based on the eligibility criteria defined and other quantitative and qualitative aspects, what is very heartening to note is the stated outlook to review the guidelines and make this a regular process moving towards an on-tap policy including differentiated licences," says Shashwat Sharma, partner-financial services at KPMG in India. This, along with RBI's own assessment that a lot remains to be done, means there can be no ambiguity about speeding up the task of financial inclusion.