Private banks entering rural areas: issues and challenges

Transcription

1 Private banks entering rural areas: issues and challenges

2 TABLE OF CONTENTS Particulars: Page No: Acknowledgements 04 Abstract 06 Introduction 09 Main Text 25 ICICI 25 UTI 33 IDBI 37 HDFC 42 Conclusion 45 References 49 3

3 Abstract Background Though India is one of the largest emerging markets for microfinance in the world, it covers only one fifth of the country s 75 million poor in need of financial assistance. And of the total micro-credit demand estimated at Rs 150,000 crore, the actual disbursement till now, according to the RBI, is only Rs 8,000 crore. That is the potential of microcredit in India. Sensing a large untapped market, even domestic and foreign retail banks are aggressively focusing on this sector The traditional image of lending to rural areas is one of a charitable activity conducted mostly by non-profit organizations and separate from the mainstream financial system. However, this image has been changing in India in the last few years as commercial banks have been widely entering the sector What's new is that India's biggest commercial lenders, such as HDFC and UTI banks, as well as the State Bank of India, have started to focus in on this sector in a serious way. Even multinational banks with operations in India like ABN Amro (ABN), Standard Chartered (SCBFF), HSBC (HBC), and Citigroup (C) are moving into the microfinance sector. They are striking up partnerships with other microlending specialists in India, and there is even talk of creating a secondary market for these loans. Microloans could be bundled together into larger bond issues and sold to Indian and global investors. If that happens, it could create the kind of liquidity that might take microlending in India into a higher realm. 4

4 The social need is definitely there. Despite India's spectacular growth this decade its economy has clocked 8%-plus growth over the past three years roughly 30% of India's 1 billion-plus population lives below the poverty line. That's a huge market, and these bigger banks are discovering that lending small amounts to credit-worthy rural borrowers is lucrative as well as socially progressive. Ranjan Ghosh, who heads financial institutions for India and South Asia at Standard Chartered Bank, adds: "With fewer defaulters in this sector, clearly the risk return rate is acceptable to banks. We look at it as investment. Icici has set up more than 100 tie-ups with small-town lending specialists and has about 3.2 million low-income customers. HDFC hopes to follow suit. Earlier this year, it created a microfinance unit with more than 100 employees and aims to double its lending levels in rural India to $22 million. ABN Amro began microfinance operations in September, 2003, and has 24 Indian microfinance partners and $23 million in outstanding loans to this sector. Sarma predicts the bank's lending to this sector will grow fivefold by the end of the decade. It has already surpassed the bank's microcredit operations in Brazil, which began four years ago. Vijay Mahajan, who runs a leading microfinance lender called Basix in the southern state of Hyderabad, thinks there is a $30 billion market for this kind of lending. There are about 350 million Indians living in poverty conditions, and more than 100 million households have no access to credit. "SAFER ASSETS". For well-managed lenders with the right kind of credit-risk controls, there is a vast market for loans in the $40 to $200 range. And big banks want to supplant neighborhood money lenders who currently meet about 80% of that demand. The Reserve Bank of India wants the nation's major banks and foreign lenders operating in India to complement the small-scale lending for small agricultural and business loans. 5

5 It is also good business for Indian banks, given the diminishing market for lending to companies and consumers in major cities. "With cutthroat competition in the urban market where basic credit is reaching a saturation point, banks are going into villages to seek safer assets," said Keya Sarkar, a board member of several microfinance companies. Still, setting up an extensive rural base of branches is costly, so major banks are looking for tie-ups with established microlenders, who know local markets better and have grown increasingly sophisticated. Typically, Indian banks have borrowed a page from Grameen Bank in Bangladesh by lending money to local microfinance firms that have contacts in small villages. They can identify worthy borrowers, which in many cases, means small enterprises run by women. Some 30 million women have formed 2.2 million small businesses and another 400,000 are expected to be in place by March, 2007, according to the National Bank of Agriculture and Rural Development. About $2.48 billion has been extended to these groups, which predominantly run by women, over the last decade. Many lenders are also customizing their loans to reach out to more customers. ICICI is also giving slightly larger loans to help families put their children through college. There's a concern that's emerging that the standardized cookie-cutter approach that had taken might not be suitable for all customers, hence the need to incorporate flexibility in loanproduct design. Other products for the rural population are being rolled out, such as savings plans, insurance, and even mutual funds. For instance, UTI Mutual Fund has tied up with Bank of India to sell its array of mutual fund products through the bank's rural network. Add it all up, and microfinance seems to have a very robust future in India. Right now at least, small will continue to be beautiful for Indian banks that can get this market right 6

6 While this sector is growing fast in India, challenges must be addressed in order to make this growth both effective and sustainable. Lending to this sector needs to become more accessible, more customized and more comprehensive. Don t compete with rivals. Make them irrelevant..kim & Marborough, The Blue Ocean Strategy About 100 million Indians have no access to credit. There is a $ 30 billion potential for this kind (microfinance), of lending..vijay Mahajan 1, Founder of Basix Introduction: For the first time in history, India s GDP has been growing at a rate greater than 8% for three years in a row. However, many people are concerned about how inclusive the growth is i.e. whether this growth can be called development. This is because approximately 400 million people in India still live below or close to the poverty line which could be roughly translated into 75 million households out of which around 60 million are rural household. So poverty in India has predominantly a rural character. While there are several structural dimensions to the rural poverty it is generally accepted that it arises due to the lack of capital or lack of surplus. The rural poor is perpetuating poverty and is the victims of the "vicious cycle of poverty" 1 Founder of basix 7

7 On one hand, it is our responsibility to raise the quality of life of these people. On the other hand, taking a marketer s perspective these masses represent a wholly untargeted market, especially, for banks and FIs i.e. a Blue Ocean. That's a huge market, and these bigger banks are discovering that lending small amounts to credit-worthy rural borrowers is lucrative as well as socially progressive. Even multinational banks with operations in India like ABN Amro, Standard Chartered, HSBC, and Citigroup are moving into the microfinance sector. They are striking up partnerships with other microlending specialists in India, and there is even talk of creating a secondary market for these loans. Microloans could be bundled together into larger bond issues and sold to Indian and global investors. If that happens, it could create the kind of liquidity that might take microlending in India into a higher realm. Ranjan Ghosh, who heads financial institutions for India and South Asia at Standard Chartered Bank, adds: "With fewer defaulters in this sector, clearly the risk return rate is acceptable to banks. We look at it as investment." Moumita Sen Sarma, head of microfinance at ABN Amro Bank, says, "Even as it is part of our sustainable development agenda, the trigger has been the large number of poor people residing in India". The microfinance operations of most banks are also registering strong growth rates. ABN Amro began microfinance operations in September, 2003, and has 24 Indian microfinance partners and $23 million in outstanding loans to this sector. Sarma predicts the bank's lending to this sector will grow fivefold by the end of the decade. It has 8

8 already surpassed the bank's microcredit operations in Brazil, which began four years ago. This study intends to study the rural banking strategies of banks with an emphasis on microfinance in India. First we will study the basics of Microfinance and the prevalent rural banking scenario. Then we will move on to studying strategies of two major private banks in India ICICI Bank and HDFC. I. ABOUT MICROFINANCE Micro finance includes thrift, credit and other financial services and products of very small amount. Micro Finance (MF) has now been widely accepted as an effective intervention strategy for poverty alleviation, which is easily accessible to the poor, reduces transaction cost and where repayments are designed to fit cash flow for the borrowers. The MF paradigm also fitted well with the adage of Growth with Equity, which is integral to the neo-liberal agenda for linkages with the market. Community Based Community Managed Community (self) financed Integrated (social & finance) Non profit / mutual benefit Only for poor 'Self regulated' Investor Owned Professionally managed Accepting outside funds for onlending Minimalist (finance only) For profit For all under served clients Externally regulated The four pillars of microfinance credit system (Fig. 1) are supply, demand for finance, intermediation and regulation. Whatever may the model of the intermediary institution, the end situation is accessibility of finance to poor. The following tables indicate the existing and desired situation for each component. 9

9 DEMAND Existing Situation fragmented Undifferentiated Addicted, corrupted by capital & subsidies Communities not aware of rights and responsibilities Desired Situation Organized Differentiated (for consumption, housing) Deaddicted from capital & subsidies Aware of rights and responsibilities SUPPLY Existing Situation Grant based (Foreign/GOI) Directed Credit - unwilling and corrupt Not linked with mainstream Mainly focussed for credit Dominated Desired Situation Regular fund sources (borrowings/deposits) Demand responsive Part of mainstream (banks/fis) Add savings and insurance Reduce dominance of informal, unregulated suppliers INTERMEDIATION Existing Situation Desired Situation Non specialized Not oriented to financial analysis Non profit capital Not linked to mainstream FIs Not organized Specialized in financial services Thorough in financial analysis For profit Link up to FIs Self regulating REGULATION Existing Situation Desired Situation Focussed on formal service providers (informal not regulated) regulating the wrong things e.g. interest rates Multiple and conflicting (FCRA, RBI, IT, include/informal recognise e.g. SHGs Regulate rules of game Coherence and coordination across regulators 10

10 ROC, MOF/FIPB, ROS/Commerce) Negatively oriented Enabling environment I.1. Potential Vijay Mahajan, who runs a leading microfinance lender called Basix in the southern state of Hyderabad, thinks there is a $30 billion market for this kind of lending. There are about 350 million Indians living in poverty conditions, and more than 100 million households have no access to credit. For well-managed lenders with the right kind of credit-risk controls, there is a vast market for loans in the $40 to $200 range. And big banks want to supplant neighborhood money lenders who currently meet about 80% of that demand. It is also good business for Indian banks, given the diminishing market for lending to companies and consumers in major cities. "With cutthroat competition in the urban market where basic credit is reaching a saturation point, banks are going into villages to seek safer assets," says Keya Sarkar, a board member of several microfinance companies. Some 30 million women have formed 2.2 million small businesses and another 400,000 are expected to be in place by March, 2007, according to the National Bank of Agriculture and Rural Development. About $2.48 billion has been extended to these groups, which predominantly run by women, over the last decade. I.2. Risk Return Profile "They have realized that the Indian poor are bankable," says Vikram Akula, head of SKS, a leading microfinance lender. The Reserve Bank of India wants the nation's major banks and foreign lenders operating in India to complement the small-scale lending for small agricultural and business loans. I.3. Issues & Challenge 11

11 High Administrative Cost: Setting up an extensive rural base of branches is costly, so major banks are looking for tie-ups with established microlenders, who know local markets better and have grown increasingly sophisticated. "What's also helped is the maturing of the intermediaries in India's decadeold microfinance industry," says Mahajan of Basix. Typically, Indian banks have borrowed a page from Grameen Bank in Bangladesh by lending money to local microfinance firms that have contacts in small villages. They can identify worthy borrowers, which in many cases, means small enterprises run by women. Need for Flexible & Customized Products: Many lenders are also customizing their loans to reach out to more customers. That's the reason for ICICI Bank's $130 loan to that family in Uttar Pradesh. ICICI is also giving slightly larger loans to help families put their children through college. "There's a concern that's emerging that the standardized cookie-cutter approach that we had taken might not be suitable for all customers, hence the need to incorporate flexibility in loan-product design," says ICICI's Mor. Other products for the rural population are being rolled out, such as savings plans, insurance, and even mutual funds. For instance, UTI Mutual Fund has tied up with Bank of India to sell its array of mutual fund products through the bank's rural network. Add it all up, and microfinance seems to have a very robust future in India. Right now at least, small will continue to be beautiful for Indian banks that can get this market right. I.4.Self-help Groups (SHG) There may be various medium of micro finance; however, the most prominent among them has been the medium of SHGs. So much so that for many, Microfinance and the concept of Self Help Groups go together. The SHG movement added a very significant dimension as it was to be linked with the micro finance. Let us now briefly look at SHGs and their role in rural finance sector. 12

12 The uniqueness of these groups lies in the fact that to a large extent they are selfsupporting self-governing organizations free from bureaucratization and politicization. The process empowers the poor and enables them to control direction of own development by identifying their felt needs. Characteristics of SHG: Homogeneity has been the strongest feature of SHGs. The members are linked by a common bond like caste, sub-caste, community, the place of origin or activity. Even if the group members are from similar economic activity, say pottery, the basis of group affinity is a common caste or origin. Therefore, the nature of these groups is slightly different from what is globally known as solidarity groups In 1992, national bank (NABARD) gave a fillip to the movement when it started the SHG- Bank linkage programme. This was the first major attempt to link the mainstream financial institutions with the informal groups, thereby, linking them with the market. It also aimed at the re-assertion of the basic principle that the magic of market succeeds where the governmental intervention failed. This belief is based on the certain structural advantages of the mf in the SHG mode: Financing becomes cost effective According to a study conducted by NABARD, there has been a 40 per cent reduction in transaction cost for banks due to externalizing banks responsibilities in identification of clients, assessment of risk profile, loan monitoring and recovery Borrowing becomes cheaper. The borrowers transaction cost declined by 85 per cent with doing away of complex documentation and procedures and opportunity cost of wage loss due to repeated visits to banks Easy accessibility due to door step delivery of the credit Credit is long-term and continuing in nature Peer pressure and peer monitoring act as intangible collateral; consequently repayment rates are high Avoidance of high cost intermediation between bankers and client by credit brokers The sense of ownership of the programme due to community involvement. The people themselves take their credit decisions 13

13 Positive impact on the qualitative dimensions through empowerment Weaknesses of the SHG There are certain inherent weaknesses of the SHG mode of intervention. Such an intervention is being marketed as a tool kit for poverty alleviation and tends to ignore larger structural bottlenecks like inadequate agricultural infrastructure-irrigation, roads and highly in egalitarian distribution of land. Given the preoccupation with regularity of repayment, the credit programme shows a clear bias towards activities like petty trading (Due to daily cash flows), which do not result in significant value-addition to promote capital formation. Solidarity is an expensive input for financial services production as the costs of group formation and interaction outweigh the benefits of high repayment with group control. The mfis are generously assisted by grants and cheap credit. SHARE had a grant component to the tune of 69 per cent of their total fund in It is thus anticipated that to be effective and productive, the promotion of SHG for ensured assess credit is necessary. I.5. Literature Review Let us now look at relevant findings of an extremely insightful study on Microfinance by Basix a Hyderabad based NGO in the field 2. The Demand for Microfinance Services With a population of 1000 million, India has nearly 400 million people below or just above an austerely defined poverty line. Thus, approximately 75 million households need micro-finance. Of these, nearly 60 million households are in rural India and the 2 Dhaka Starting Microfinance in India by Vijay Mahajan, Bharti Gupta Ramola & Mathew Titus 14

14 remaining 15 million are urban slum dwellers. The current annual credit usage by these households is estimated to be Rs 495,000 million or US$ 12 biilion! Annual credit usage by 60 million rural poor households at an average of Rs 6000 is Rs 360,000 million per annum - about two-thirds for consumption and one-third for production needs (Based on a 1994 study carried out by the Vijay Mahajan and Bharti Gupta for the World Bank. The number has been rounded off and adjusted for 1998 prices). Annual credit usage by 15 million urban poor households at an average of Rs 9000 is Rs 135,000 million per annum - about 55percent for consumption and 45 percent for production needs. (Based on a 1995 study carried out by the first author for the SEWA Bank. The number has been rounded off and adjusted for 1998 prices). The Demand Supply Gap Bridging the demand supply gap, even at high growth rates requires an environment that attracts large numbers of microfinance providers. The approach recommended by Basix is a "three track approach", using mutually complementary strategies: Incentivising existing mainstream FIs to enter microfinance seriously, by establishing a supportive policy and regulatory environment. Encouraging new microfinance institutions (mfis) with a supportive policy and financial resources to enlarge and expand their services. Building a strong demand system in the form of community-based development financial institutions (CDFIs), with the help of NGOs and others. Such a system is required to convert latent demand into effective demand, wean away microfinance customers from moneylenders, remove the expectation of low interest rate and capital subsidies that have spoiled borrowers over the years 15

15 restore the repayment norm, and build local stake in grassroots financial structures These CDFIs may be unregistered or registered. If registered, they may choose to be societies, trusts, mutually aided cooperative societies (MACS) or even non-banking finance companies (NBFCs). I.5. Present Structure of Rural Finance Let us now look at the present structure of rural finance sector in India, the roles performed by various institutions in the sector, and the evaluation of the present system to find the problems and the drawbacks with the present structure. We begin by looking at the institutional structure. Institution Background Cumulative Disbursement (Rs million) National Bank An apex refinance Mar 98: 214 for Agriculture institution set up in and Rural Has promoted Mar 97: 118 Development linkage of self help groups with banks (NABARD) since Data for SHG linkage programme only. Small Industries Set up in Micro May 98: 57 Development Credit Scheme (a small Bank of India portfolio) started in (Sanctions (SIDBI) March : 166) Cumulative Intermediaries (Number) Mar 98: 260 Mar 97: 220 Mar 98: 116 Mar Mar 97: 79 Mar 96: 47 Access (Number) Mar 98: 250,000 (SHGs linked 14,283) Mar 97: 150,000 (SHGs linked 8,598) Mar 98: 89,000 Mar 97: 61,600 Housing Development Finance Corporation (HDFC) Mar 96: 20,900 Mainly involved in Jun 98: 1020 Jun 98: 75 Jun 98 housing finance-sanctioneincluding 118,000 to low income groups through NGOs 808 disbursed, since Started all of it except 8, 16

16 Rashtriya Mahila (RMK) support to Micro-fofinance low income initiatives in housing 1997 Department of Women Apr 98: 353 April 98: 257 April 98: Kosh and Child Development (Outstanding in 250,462 (Govt. of India). Set upmar 98: 160) in March 1993 with corpus of Rs 310 million. The Existing Rural Finance Sector As far as the formal financial institutions are concerned, there are Commercial Banks, Housing Finance Institutions (HFIs), NABARD, Rural Development Banks (RDBs), Land Development Banks Land Development Banks and Co-operative Banks (CBs). As regards the Co-operative Structures, the Urban Co.op Banks (UCB) or Urban Credit Co.op Societies (UCCS) are the two primary co-operative financial institutions operating in the urban areas. There are about 1400 UCBs with over 3400 branches in India having 14 million members, Their total lending outstanding in has been reported at over Rs 80 billion with deposits worth Rs 101 billion. Similarly there exist about credit co.op societies with over 15 million members with their total outstanding lending in being Rs 20 billion with deposits of Rs 12 billion. Few of the UCCS also have external borrowings from the District Central Co.op Banks (DCCBs) at 18-19%. The loans given by the UCBs or the UCCS are for short term and unsecured except for few which are secured by personal guarantees. The most effective security is the group or the peer pressure. The Government has taken several initiatives to strengthen the institutional rural credit system. The rural branch network of commercial banks have been expanded and certain policy prescriptions imposed in order to ensure greater flow of credit to agriculture and other preferred sectors. The commercial banks are required to ensure that 40% of total credit is provided to the priority sectors out of which 18% in the form of direct finance to agriculture and 25% to priority sector in favour of weaker sections besides maintaining a 17

17 credit deposit ratio of 60% in rural and semi-urban branches. Further the IRDP introduced in 1979 ensures supply of credit and subsidies to weaker section beneficiaries. Although these measures have helped in widening the access of rural households to institutional credit, vast majority of the rural poor have still not been covered. Also, such lending done under the poverty alleviation schemes suffered high repayment defaults and left little sustainable impact on the economic condition of the beneficiaries. Following risks are generally perceived by the formal sector financial institutions: Credit Risk High transaction and service cost Absence of land tenure for financing housing Irregular flow of income due to seasonality Lack of tangible proof for assessment of income Unacceptable collaterals such as crops, utensils and jewellery The Existing Informal financial sources: The informal financial sources generally include funds available from family sources or local money lenders. The local money lenders charge exorbitant rates, generally ranging from 36% to 60% interest due to their monopoly in the absence of any other source of credit for non-conventional needs. Chit Funds and Bishis are other forms of credit system operated by groups of people for their mutual benefit which however, have their own limitations. Lately, few of the NGOs engaged in activities related to community mobilizations for their socio-economic development have initiated savings and credit programmes for their target groups. These Community based financial systems (CBFS) can broadly be categorised into two models: Group Based Financial Intermediary and the NGO Linked Financial Intermediary. The Present Legal and Regulatory Structure of Rural Finance a critical Analysis 18

18 There are many aspects of the existing legal and regulatory framework which discourage mainstream FIs from increasing outreach and achieving sustainability in microfinance. Further growth in microfinance can only be possible by redressing these limitations in the legal and regulatory framework. Mainstream FIs find it difficult to significantly expand into microfinance for the following reasons: Policy makers view of the market for microfinance services stems from over a 100 years of attempts to get farmers out of the clutches of "usurious" moneylenders. Thus, it is accepted wisdom that farmers and poor people need low interest, subsidised credit. This shows up in policy: interest rates for loans below Rs 25,000 and Rs 200,000 by commercial banks are still capped at 12 and 13.5 percent respectively. Some attendant beliefs are that the poor cannot save, they are unwilling to repay loans, and administrative costs of serving them are high. Consequently microfinance has historically been seen as a social obligation rather than a potential business opportunity. The leadership and managers of mainstream FIs see the microfinance market as difficult to serve, risky and having a low or negative net spread. Contributing to this position has been the fact that small loans (IRDP, DIR, SC/ST) have been utilised historically as a tool for disbursing political patronage, undermining the norm that loans must be repaid. This has made bankers cynical about lending to the poor. There are specific problems with legislation: for example the NABARD Act does not allow it to refinance any private sector FI and do any direct financing (NABARD s direct lending to micro-finance NGOs so far has been out of donor funds) NABARD also refinances commercial banks/rrbs/cooperative banks who lend to mfis. Similarly, the SIDBI Act restricts it from extending loans to the agricultural and allied sectors, whereas many of the members of self-help groups are engaged in such activities. The Regional Rural Banks Act does not permit any private shareholding in any RRBs, and the Cooperatives Acts of all states do not permit district level coop 19

19 banks to be set up except by the state government. The result of these two laws together is that rural credit has been a monopoly of state owned institutions. Some suggestions to improve the legal and regulatory framework Deregulation of interest rates for all small loans and supporting the policy that small loans can indeed be charged a higher rate. Delinking poverty alleviation subsidised government programs from banks and mfis. Removing the government s monopoly on establishing formal institutions in the rural sector. This includes privatising RRB and allowing independent Rural Coop Banks on the lines of independent Urban Coop Banks. The LAB policy should also be implemented. Modification of the NABARD and SIDBI Acts to legitimately allow these apex bodies to finance mfis as part of their regular operations and not as "promotional" activity. Tools for Evaluation of Rural Finance Services Twin Performance Measures: Access and Sustainability High Sustainability Low Access Sustainable financial services with Sustainable financial services High low access by the target clients reach the target clients Access Highly subsidised financial services Highly subsidised financial with low access by target clients services reach the target clients 20

20 Low Sustainability The Grameen Bank Model for Microfinance in Bangladesh At this point it will be worthwhile to study briefly the model and experiment of Grameen Bank in Bangladesh. The concept is the brainchild of Dr Muhammad Yunus of Chittagong University who felt concern at the pittance earned by landless women after a long arduous day's work laboring for other people. He reasoned that if these women could work for themselves instead of working for others they could retain much of the surplus generated by their labors, currently enjoyed by others. Established in 1976, the Grameen Bank (GB) has over 1000 branches (a branch covers villages, around 240 groups and 1200 borrowers) in every province of Bangladesh, borrowing groups in 28,000 villages, 12 lakh borrowers with over 90% being women. It has an annual growth rate of 20% in terms of its borrowers. The most important feature is the recovery rate of loans, which is as high as 98%. A still more interesting feature is the ingenious manner of advancing credit without any "collateral security". The Grameen Bank lending system is simple but effective. To obtain loans, potential borrowers must form a group of five, gather once a week for loan repayment meetings, and to start with, learn the bond rules and "16 Decisions" which they chant at the start of their weekly session. These decisions incorporate a code of conduct that members are encouraged to follow in their daily life e.g. production of fruits and vegetables in kitchen gardens, investment for improvement of housing and education for children, use of latrines and safe drinking water for better health, rejection of dowry in marriages etc. Physical training and parades are held at weekly meetings for both men and women and the "16 Decisions" are chanted as slogans. Though according to the Grameen Bank management, observance of these decisions is not mandatory, in actual practice it has become a requirement for receiving a loan. 21

21 Number of groups in the same village are brought together into a Centre. The organization of members in groups and centers serves a number of purposes. It gives individuals a measure of personal security and confidence to take risks and launch new initiatives. The formation of the groups - the key unit in the credit programme - is the first necessary step to receive credit. Loans are initially made to two individuals in the group, who are then under pressure from the rest of the members to repay in good time. If the borrowers default, the other members of the group may forfeit their chance of a loan. The loan repayment is in weekly installments spread over a year and simple interest of 20% is charged once at the year end. The groups perform as an institution to ensure mutual accountability. The individual borrowing member is kept in line by considerable pressure from other group members. Credibility of the entire group and future benefits in terms of new loans are in jeopardy if any one of the group members defaults on repayment. There have been occasions when the group has decided to fine or expel a member who has failed to attend weekly meetings or willfully defaulted on repayment of a loan. The members are free to leave the group before the loan is fully repaid; however, the responsibility to pay the balance falls on the remaining group members. In the event of default by the entire group, the responsibility for repayment falls on the centre. The Grameen Bank has provided an inbuilt incentive for prompt and timely repayment by the borrower i.e. gradual increase in the borrowing eligibility of subsequent loans. A survey has shown that about 42% of the members had no income earning occupation (though some may have been unpaid family workers in household enterprises) at the time of application of the first loan. Thus, the Grameen Bank has helped to generate new jobs for a large proportion of the members. Only insignificant portion of the loans (6 per cent) was diverted for consumption and other household needs. 22

22 About 50 per cent of the loans taken by male members were for the purpose of trading and shop keeping. 75 per cent of loans given to female members were utilized for livestock, poultry raising, processing and manufacturing activity. Savings Programme It is compulsory for every member to save one Taka per week which is accumulated in the Group Fund. This account is managed by the group on a consensual basis, thus providing the members with an essential experience in the collective management of finances. Amounts collected from fines imposed on members for breach of discipline is also put into this account. The amount in the Fund is deposited with Grameen Bank and earns interest. A member can borrow from this fund for consumption, sickness, social ceremony or even for investment (if allowed by all group members). Terms and conditions of such loans, which are normally granted interest free, are decided by the group. Factors behind success of the Grameen Bank are : participatory process in every aspect of lending mechanism, peer pressure of group members on each other, lending for activities which generate regular income, weekly collection of loans in small amount, intense interaction with borrowers through weekly meetings, strong central management, dedicated field staff, extensive staff training willingness to innovate, committed pragmatic leadership and decentralized as well as participatory style of working. The Grameen Bank experience indicates the vital importance of credit as an entry point for upliftment programme for rural poor. If a programme is to have an appeal for people living in abject poverty, it must offer them clear and immediate prospects for economic improvement. Thereafter, it is easier to sell other interventions of social development, however unconventional they may appear, once improvements in standard of living are demonstrated. The Grameen Bank clearly shows that lack of collateral security should not stand in the way of providing credit to the poor. The poor can utilize loans and pay them if effective procedures for bank transactions with them can be established. In case of the Grameen 23

23 Bank, formation of groups with a small group of like minded rural poor has worked well, and group solidarity and peer pressure have substituted for collateral security. Main text: As per the study done the rural banking strategies of some leading private banks is illustrated in the following pages: II. ICICI Bank Rural Strategy We believe that to break into the top league of global banks, ICICI will have to follow a course that few banks in the world have done and that is, leverage the rural economy. - K V Kamath, Chairman ICICI Bank. II.1.The Opportunity: The opportunity as perceived by ICICI bank is best described in the following 3 : Though agriculture constitutes only 20% of India s GDP, rural economy (agricultural + non agricultural) constitutes about 50% of GDP Rural population of about 780 million with limited access to financial services II.2. Challenges: Following are the major challenges identified Nature of demand Doorstep banking Flexibility in timings Low value and high volume of transactions Require simple processes with minimum documentation High costs of delivery through conventional Channels Looking at the above challenges, the bank evolved a comprehensive strategy to succeed in the peculiar market of rural banking. The strategy at top level can be seen as two pronged i.e. that of both Organic and Inorganic growth. II.3. Organic Growth Strategy: More than just aggressive, ICICI Bank s rural banking strategy can be dubbed as highly proactive and innovative especially considering the prevalent banking scenario in India. The beauty of the strategy lies in the fact that it is in perfect synchronization of rural realities on one hand and the bank s strengths on the other. Comprehensive Channel Strategy Multiple channels targeting specific segments of the rural population 3 Kalpana Morporia, ICICI Bank Performance & Opportunities Analysts Meet

24 Branches at major agricultural markets Franchisees, internet kiosks, MFI & corporate partners Comprehensive product strategy Suite of six key credit products: farmer financing, farm equipment financing, working capital loans, jewel loans, commodity based financing and microcredit Savings and investment products Insurance The culmination of the whole strategy comes in the following words which should be considered as a meaningful contribution to marketing literature: No White Spaces: Penetrate a cluster with all channels and products. Let us now try to study this strategy in some detail. ICICI Bank has divided the rural market into R1, R2, R3 and R4 categories for identifying the rural markets. R1 and R2 represent the rich farmers, while R3 and R4 represent the poor landless laborers. ICICI Bank plans to increase its points of delivery five times - from 3,500 to 17,500 by March 2006, said ICICI Bank executive director Nachiket Mor. He said the total demand for microfinance was around Rs 45,000 crore, while the supply was just about Rs 2,000 crore. The bank will support over 200 microfinance institutions (MFIs) in creating an asset base of Rs 2,00,000 crore and also rollout penetration strategy to cover 60 districts in the country. ICICI Bank is significantly moving ahead with its rural networking plan. Nachiket Mor, executive director, said, There is immense potential in the rural market. The requirement may be setting up around 100 touch points in every district. So far, they have been able to establish 8,000 touch points. Our model for rural business will be establishing touch points, so that every rural citizen can access banking facility within decent distance. The aim is to have one franchise in every block in the country. We may not end up with all the blocks but it will demand driven, he explained. About the bank s strategy of reaching out to rural population through touch points, Mor said informal credit in India was $82 billion, with around 780 million rural population with limited access to financial services. 25

25 Around 400 million people do not have any access to financial service. The yearly credit demand from poor and marginal poor population was around Rs 1,50,000 crore out of which Rs 4,000 crore was actually met, he added. So their challenge is to invent a new business model where they can create a distribution base effectively in 600,000 villages in India, and to learn to do that at one-tenth the cost of urban India. Just to put that on a scale that someone could understand, they believe that to succeed in urban India, they need to do be able to do business at one-tenth the cost of the West. The reason is that the ticket size of the banking product in India is one-tenth that in the West. If it is a deposit of $10,000 in the West, it will be $1,000 in urban India and $100 in rural India. Loans operate at a similar scale. They will have to be able to work with partners because they believe that the branch-led model will not work in this context. The branch-led model would simply replicate their existing structure. The bank will be looking for franchise partner who will be willing to deliver full range of products to its customers, Mor said. That is why they need to work with partners who are either already present in the local community or who need to be there. For example, they might partner with a local financial institution, a micro-finance agency or a company someone who is already in the village for a business purpose. They might even partner with someone who is selling fertilizer or seed or tractors. How can they leverage these partnerships to do business? That question drives the need for a new business model to reach out to this market. If they can do this the rewards could be enormous. Meeting this challenge of lending to India's farmers also involves other complexities. Agriculture here heavily depends on the monsoons or rains. The biggest risk is the failure of the monsoon. Now can you lend to rural India without fixing this risk? What they did was to ask if this was an insurable risk. Could they get such insurance? The answer was yes. Could they then sell this insurance to the farmers? Again, the answer was yes. Finally, they asked if this insurance could be further reinsured outside India so that the risk was shared even more widely. Yet again, the answer was yes. 26

26 This strategy allowed them to develop a viable proposition where they could scale up the rural lending model realistically. I don't believe anyone has implemented this model before. The typical approach to rural lending has been through micro-loans, and that has certainly had some degree of success. But a large-scale rural banking model where you are ultimately trying to reach a population of 600 million people has not been done. That is their challenge -- and also their opportunity. Let us take a specific instance. While foraying in the rural areas ICICI Bank encountered a particular problem. The bank had financed 200,000 villagers across the country to buy buffaloes. But these customers were unwilling to buy more than two to four buffaloes. The bank could not convince these customers to increase their stock to a sizeable number, such as 20 buffaloes. The rationale of the villagers was simple. More buffaloes would mean hiring additional help to look after the herd. On the contrary, four buffaloes can be managed by the family members. Then, the buffaloes could be accommodated in a small courtyard, rather than building a large shed for the herd. Importantly, as Nachiket Mor, executive director, ICICI Bank points out, "The implication of a financial risk is high when you own a large herd." The bank embarked on a pilot project with a company that supplies cattle feed. Around 150 rural households who were the bank's customers were covered during this trial phase. Buffaloes owned by these households were put on a diet of cattle feed supplied by the company and the milk yield from these buffaloes increased by 50 per cent. "We could now give loans for fodder. We had discovered a market for a new product," says Mor. The company now plans to tap its existing client base (200,000 buffalo owners) for fodder finance. 27

27 "In a rural finance strategy it's important to find viable revenue chains," says Mor. The bank is also looking to provide a bundle of services i.e. looking at cross selling opportunities. Provision of financial services to rural and urban poor is their most recent effort. In this area, we have gone from serving fewer than 25,000 clients with less than $5 million of assets a few years ago, to over 2.5 million clients and about $350 million of assets at the end of the current year. To this market, in addition to credit products, we have also been able to sell over 1 million insurance policies comprising principally life, health, personal accident and weather insurance policies. However, India is a market of over a billion people with anywhere between 300 million to 400 million un-banked. The numbers that we have achieved, while apparently large, barely represent a beginning and we have a very long journey ahead. I want to take this opportunity to briefly share with you how we have gone about addressing this market and what their plans for the future are. Development of the Partnership Model No White Spaces (NWS) Starting with the Partnership Model we have gradually developed a comprehensive plan for the provision of financial services within rural India with a hybrid channel and product structure designed around one coordinating branch per district, with franchisees, internet kiosks and micro finance institutions forming an interdependent delivery chain to deliver credit, savings, insurance and risk management products to the full range of rural customers. The aim, over the next three to four years, is to go to 450 of the 640 districts that make up rural India with this No White Spaces (NWS) approach under which no individual would be more than 5 to 10 kilometres away from an ICICI Bank touch point. This model allows them to offer a complete suite of products, with all of the necessary documentation and technical support close at hand, to the micro finance customer and smoothly opens up graduation possibilities should an MFI client want to move to a level of credit and other financial services that the MFI is not comfortable providing through its own branch network. It also allows them as a bank to participate not just in lending to 28

28 individuals but also in rural infrastructure finance and rural corporate finance 5 both very necessary for the comprehensive growth and development of rural India. Launch of the Centre for Micro Finance (CMF), Centre for Insurance and Risk Management (CIRM), Small Enterprise Finance Centre (SEFC) and the Centre for Development Finance (CDF) at the Institute for Financial Management and Research (IFMR) in Chennai These centres have been launched with the help of leading finance and economics professors from MIT, Harvard, Yale University and Columbia at IFMR in Chennai 6. These Centres are staffed by well trained researchers and practitioners from around the world and have the objective of carrying out product design, action-research, impact evaluation, training and course design and consulting in each of their areas of focus and will be important partners of ICICI Bank in helping it fulfil its financial inclusion objectives. These Centres are in part sponsored by ICICI Bank but are completely independent and are free to publish all their findings and work with all the other players in the system 7. With the help of these centres an intensive development effort in areas such as health insurance for the poor, livestock insurance, livelihood partnerships, individual and small enterprise lending and financing of rural infrastructure has already been launched. Facilitating the launch of FINO and Technology both at the client interface end and the back-end has been identified as a key impediment to the growth of MFIs, along with a shortage of trained manpower. FINO has been conceived of an ASP (Application Services Provider) platform which will provide advanced banking and front-end technologies such as smart cards and biometric POS (Point-of-Sale) terminals and will be formally launched shortly on a commercial scale Proof-of-Concept Pilots have already been successfully completed at three MFI locations. An attempt is also being made to see if FINO can partner with the National Bank for Agriculture and Rural Development (NABARD) and an internationally accredited Credit Bureau to launch a national rural identify card and a rural credit bureau. The micro finance job site is expected to recruit over 2,50,000 suitably qualified individuals for these 200 MFIs in partnership with CMF s MFI Strategy Unit (MSU) and provide them with all the necessary training. In addition to seeking applicants from the 29

29 market, it proposes to tie up with a number of local business schools so that graduating MBA can find an opportunity to work in an MFI which is based in his or her neighbourhood itself this will ensure that these employees will pursue longer-term careers with the MFI and will come with, in addition to business skills, a strong facility with the local language of the region. Launch of Grameen Capital India (GCI) to Provide Capital Market Solutions to MFIs and provision of Equity Buy Back Loans to Assist Venture Capitalists GCI is a joint effort between Grameen Foundation of USA, ICICI Bank and Citibank in India, to develop a deep domestic and eventually a global capital market for MFI issued paper, including straight bonds, Micro Finance Asset Backed Securities (MFABS) and Equity. GCI is expected to launch formally shortly and will act both as a credit guarantee company and a dedicated investment bank for MFIs. The MFI Strategy Unit (MSU) of the Centre for Micro Finance (CMF) at IFMR is also developing comprehensive consulting capabilities in this area that it will offer to MFIs. ICICI Bank has also offered a committed equity-buy-back loan facility so that MFIs may be able to repurchase the equity invested by Venture Capitalists (VCs) into new MFIs, offering both a take-out and a reasonable rate of return to the VCs. II.4. Evaluation of the Strategy: 30

30 4 ICICI Bank s rural asset base is worth Rs 18,000 crore and is expected to grow further, he added. The bank had disbursed around Rs 2,500 crore to more than three million customers through micro finance institutions (MFI) in and significant growth in this path was expected, he noted. II.5. Inorganic Strategy: ICICI Bank, the largest private sector bank in the country, is all set to acquire the capitalstarved Sangli Bank. This will be the bank's second acquisition after taking in Bank of Madura in ICICI Bank will pay Rs 302 crore to acquire the Maharashtra-based 4 Source: ICICI Bank investor presentation

31 bank. It is known that ICICI bank acquired Sangli bank to strengthen its rural network. Sangli Bank fits in their current business strategy which aims at strengthening the rural business. The proposed acquisition will give them skilled personnel to work in rural centres and also give the bank footprint in Sangli, Kolhapur and parts of Karnataka. Sangli Bank has 198 branches 158 in Maharashtra and 31 in Karnataka. Approximately 50% of its branches are located in rural and semi-urban areas. 32

32 UTI bank s rural initiatives and strategy With deposits of Rs 40,000 crore and advances of Rs 25,000 crore, UTI Bank is one of the fastest growing banks in the country. It is growing at 45 per cent every year and will make all efforts to sustain the growth According to Mr Hemant Kaul 1, President, retail banking division bank had a network of 359 branches, 95 extension counters and 1,914 ATMs in the country UTI Bank plans to set up seven more branches in Andhra Pradesh during the current financial year, in addition to the existing 31, and 100 more in the country, "We are not operating in the urban centres alone. Ours is the first among the new generation banks to enter the rural areas. Many of our 100 proposed branches will come up in the semi-urban and rural areas," he said. He said all the services available in the urban branches were also available to rural customers and the bank was offering the customers at-par cheque facility, Internet banking, anywhere banking and several other facilities. UTI Bank will open 100 more branches during the current year all over the country and about 40 to 50 per cent of them in rural and semi-urban areas. There is a huge opportunity for growth in those areas and they are appreciating our services,'' he told a press conference here on Monday after inaugurating the bank's second branch in the city. In Andhra Pradesh, it will open seven more branches: at Adilabad, Proddutur, Bapatla, Narasaraopeta, Gudivada, Machilipatnam and Srikakulam. With the present 31 branches, its business stands at Rs.3,500 crores in the State. The bank has a network of 359 branches, 95 extension counters and 1,914 ATMs spread across 268 cities, towns and villages in 26 States and two Union Territories in the country. 1 President retail banking division, UTI bank at a inaugral meeting at dwarakanagar, Andhra pradesh. 33

33 The bank offered the same services to its customers, whether it's urban or rural areas. The UTI Bank has been a pioneer in taking technology to rural masses to provide urban amenities for rural poor by way of networked branches, any-time banking, electronic enabled Kisan Card and mobile ATM which provide service at the door step of the rural customer. In October 05 the bank extended its banking services to the rural milk producers in Anand and Kheda districts in Gujarat In feb 05, UTI Bank launched a powerful version of Kisan Credit Card UTI Mutual Fund will launch its micro-pension scheme for rural women at Tiruchi in Tamil Nadu in Feb The fund house has tied up with a NGO, Self-Help Promotion For Health and Rural Development (SHEPHERD), to provide the pension initiative to around 5,000 women. The fund house has earlier tied up with various groups to provide micro-pension scheme. The Micro-Pension initiative facilitated by Bank aims to provide the much needed social security cover for the low income group during their old age. Under the initiative members of the Self Help Groups maintaining accounts with Bank will contribute minimum amount of Rs.100 every month towards UTI-Retirement Benefit Pension Fund up to the age of 55 years so as to enable them to receive pension in the form of periodical income/cashflow after they reach the age of 58 years. Self Help Group is a voluntary association of low income group mostly from the same socio-economic background. They come together for the purpose of solving their common problem through mutual help and the group promotes savings amongst its members. Self Help Group thus provide saving mechanism suitable to the needs of the 5 Source: moneycontrol.com. 34

34 member. Their savings shall be tapped and will be channelized in UTI Retirement Benefit Pension Fund. This micro pension initiative -- a pioneer in this sector, aim to provide an old age social security cover a periodical stream of income generated out of small savings invested by creating group saving synergies and by bringing in best benefits of investments in capital markets by bringing in expertise of seasoned fund managers of UTI MF. Bank shall be distributing this product to low income group through Self Help Groups. Shri U K Sinha, Chairman and Managing Director, UTI AMC said, The Micro-Pension initiative will help inculcating the habit of regular savings among the low income group, which will help them in planning for their future and will also enable them to share the benefits of growth of the Indian economy. 6 The aged of today have no choice but to depend on their own lifetime savings to survive for nearly 20 years if they stop working at age 60. And if they have not saved enough during their working lives by then, they face the grave risk of outliving their savings and of facing poverty at a period of their lives when they may be physically unable to work. This micro pension initiative will enable the low income group to receive periodic income in their old age. Shri Sinha added UTI Bank is ready to lend to clients via the e-choupal platform. these will enable the bank to penetrate a very difficult and under-served market in India: the e-choupal promotes choice of products/insurers, this gives economies of scale/scope, advantages in distribution and also reduces cost of delivery while promoting competition among service providers; these make the choupal channel vibrant and facilitate delivery of quality insurances services to the farmers at an affordable cost; and the e-choupal is perceived to provide value added and cost-effective services to farmers. 6 shri U.K. Sinha, chairman and M.D., UTI AMC. 35

35 It will Broaden access to livelihood opportunities for target groups, particularly women The target segment consists of almost half a million families. Women would constitute a large portion of the target group. The project will generate employment opportunities The project is also going to increase the income level of the Sanchalak (1,800 sanchalaks) and give an alternate employment channel 36

36 IDBI BANK IDBI Bank s rural initiatives: Inorganic strategy: The amalgamation of United Western Bank (UWB) with Industrial Development Bank of India is likely to change the rules of the game in the banking space. The merger is markedly different from takeover of Global Trust Bank and Nedungadi Bank by healthier rivals. In both the cases, shareholders went away without any consideration for the shares surrendered. Apart from synergies to the participating banks, the IDBI-UWB merger is likely to be a positive for old private sector banks. A good fit for IDBI. The amalgamation of UWB with IDBI is likely to add value to the latter over the long term. The merger is likely to help IDBI expand its retail presence, though its size may not increase substantially. Of the several benefits the deal brings, we believe access to the branch network is most significant. IDBI, with a balance-sheet size of Rs 81,700 crore, has a network of 181 branches now. It scores poorly on this parameter compared to like-size peers. The merger 37

37 would give IDBI immediate access to the 230-branch network of UWB, thereby widening its deposit franchise. For IDBI, growing at 25 per cent over the past two years, addition of branches would help sustain the momentum. Deposits may expand by over 20 per cent and the asset base by about 10 per cent. The Reserve Bank of India's (RBI) strict licensing norms that restrains opening new branches has placed a scarcity value on branches. The merger would, therefore, give IDBI access to a ready physical infrastructure, enabling it to mobilise low-cost funds. Second, the merger with UWB is likely to help IDBI diversify its credit profile. Dominant in industrial financing, IDBI should get exposure to agriculture credit through UWB;nearly half the number of UWB its branches is in semi-urban and rural areas, and should complement IDBI's loan book. The third aspect relates to the benefit of an improved deposit mix for IDBI. As it manages its transformation from a financial institution to a commercial bank, it finds 38