Why Financial Inclusion Depends on Lending

by Minda Zetlin

May 2015

With 115 million new bank accounts opened since August 2014, India’s Pradhan Mantri Jan-Dhan Yojana (PMJDY) financial inclusion program looks like a tremendous success. But will that success last?

“A program along similar lines was launched more than five years ago, wherein more than 25 million ‘no-frills’ accounts where there was no minimum balance were opened,” recalls Vidyasagar Bedida, vice president of technology and processes at Janalakshmi Bank. “The accounts were open, but within no time they became nonoperational. Customers continued to use cash.”


Opening an account is only the first step toward financial inclusion. To really bring the unbanked into the financial system, they need access to loans. “You need a relationship other than just opening a bank account,” says Fariborz Ghadar, distinguished scholar and senior adviser at the Center for Strategic and International Studies, a bipartisan nonprofit in Washington DC that seeks practical solutions to the world’s most pressing problems.

Indeed, encouraging both the rural and urban poor to start their own businesses is a major step toward both economic development and financial inclusion. Janalakshmi Bank, for example, provides loans of no more than 50,000 rupees (about US$800), at least 85 percent of them to women. Janalakshmi Bank focuses on the poor within Indian cities, where, Bedida says, more than half the country’s population will soon live if current trends continue.

Providing small loans to poor customers in both rural and urban locations comes with challenges. In rural areas, lenders must convince customers to abandon the existing system of local money lenders who, according to Atul Kumar, general manager at Syndicate Bank, may charge up to 20 percent for a small loan. But choosing a more cost-effective institution requires a cultural shift. “Today, a villager is probably not very comfortable entering a bank branch,” says Kumar. “He may feel that he’s not literate enough to talk to the people in the bank.”

Efforts to open more rural branches and provide mobile banking services via business correspondents and micro ATMs will certainly help. But both lenders and borrowers face another challenge: How can a villager or indigent urbanite with no collateral guarantee a loan?

When women borrow from Janalakshmi Bank, for instance, they form a joint liability group (JLG), Bedida explains. “It’s a group of women who stand guarantee for each other,” he says. “In case of any defaults, the group members promise to make good.”

Indeed few defaults occur, because members of the JLG group do not want to disappoint their peers, Ghadar says. And this kind of lending can be an inspiration to others. “My experience has been that if the loan goes through a group where members know each other really well, the likelihood of the loan not being paid back goes down dramatically. Also, the village group sometimes shares in the benefits of the loan, which leads them to enter the banking system themselves.”

Those small loans can make a big difference in the borrowers’ lives, says M.A. Nayagam, general manager at Canara Bank. “If you take a 500-rupee loan, you pay only 25 rupees a week. Now you can develop yourself and your family, earn more rupees, pay 10 rupees interest, and close the loan.”

This access to microfinancing can over time create economic development in rural areas, Nayagam says. “With that access to capital, a rural borrower can build a bigger, more profitable business. He can reach the sky.”

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