Key steps taken by the government to improve financial inclusion
Government initiatives, parallel support infrastructure, SFBs and fintech

To improve financial inclusion, especially in rural areas, the government is focusing on improving the overall and rural
infrastructure for penetration of financial services as well as empowering the development of parallel supporting
institutions. This has provided an opportunity for small-finance banks and other financial institutions to cater to the
unserved population or act as a channel between the larger financial institutions and other service providers to the
underserved customers. The RBI has awarded SFB licenses to 10 institutions, which aim to service the underserved
through savings instruments, and supplying credit to small business units, small and marginal farmers, micro and small
industries, and other unorganised, sector/lending through informal channels. SFBs are also required to dedicate 75% of
their ANBC towards priority sector. For the SFBs, nearly 23% of their deposits arise from the rural areas, whereas the
credit view shows a geographic skew with 35% of the advances in rural and semi-urban areas. This has led to increasing
credit penetration in the rural areas, thereby ensuring financial inclusion.

Priority sector lending aimed at facilitating financial inclusion

The definition of ‘priority sector' was formalised in 1972, based on a report submitted by the Informal Study Group on
Statistics, relating to advances to priority sectors, constituted by the RBI in May 1971. The requirement was set at 33.3%
for SCBs in 1979, and raised to the current 40% in 1985. Targets and sub-targets for banks were further classified under
the priority sector; and revised at intervals. As per the latest regulations, medium enterprises, social infrastructure and
renewable energy are part of the priority sector, in addition to the existing categories. Also, non-achievement of priority
sector targets has been assessed on a quarterly average basis at the end of the respective year, from fiscal 2017 onwards,
instead of annually.

Considering the differentiated nature and focus of small finance banks and the role they can play in supply of credit to
unbanked regions, SFBs have a target of 75% for priority sector lending (PSL) of their adjusted net bank credit (ANBC).
With 40% of ANBC to be allocated under different sub sector under PSL as mentioned below, the remainder 35% can be
allocated to any one or more sector where the SFBs have a competitive advantage.

As per the RBI, these sub-divisions include: (i) agriculture; (ii) social infrastructure; (iii) renewable energy; (iv)
microcredit; (v) advances to weaker sections; (vi) education loans; and (vii) housing.

INDIAN BANKING INDUSTRY
Evolution of SFBs

Despite various measures taken by the Government to increase financial penetration in India, a significant percentage of
India’s population does not have access to basic financial services. In 2013, the RBI constituted a committee that
recommended differential licensing in the form of payment bank and SFB. Accordingly, on November 27, 2014, the RBI
released guidelines for a new class of banking entity, ‘small finance banks’, to cater to the diverse needs of the low income
group. Further, on September 16, 2015, the RBI awarded SFB licenses to 10 players on account of the Government’s
focus towards financial inclusion and inclusive banking. Out of the 10 SFBs, there were eight microfinance players, one
local area bank and one NBFC. The objective of SFB’s is to extend banking services to the underserved and unserved
population through savings instruments, and providing credit to small business units, small and marginal farmers, micro
and small industries, and other unorganized sector.

The SFBs are technologically driven in order to reduce the cost of operations and also ensure faster reach to the untapped
market. According to World Bank’s Global Findex Database 2017, India’s financial inclusion level has improved
significantly with the adult population’s bank accounts rising from 53% in 2014 to 80% in 2017 on account of various
Government initiatives, institution support and increase in usage of mobile phones as a medium for distributing financial
services. Technology improvements help in financial penetration, however, the primary challenge for SFBs is still the
ability to generate low cost deposits. While there exists a significant opportunity, SFBs will need to innovate further in
terms of introducing customized and flexible offerings to target the untapped market.

Regulation

The following table set forth certain key features of the RBI regulation in relation to SFBs:

 

 

Parameter Key guidelines

Scope of | © — Basic banking activities such as, acceptance of deposits and lending to underserved sections of the society;

activities e Financial services such as distribution of mutual funds and insurance products with prior approval from
the RBI;

 

 

 

 

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