In this excerpt from ‘Quest For Restoring Financial Stability In India’, ex-deputy RBI governor Viral V. Acharya stresses on the need to make finance more accessible to India’s underserved population
Even seasoned statisticians can be thrown off by India’s scale. Its GDP is currently about $2.9 trillion, which makes it the world’s fifth-biggest economy in nominal terms and the third in purchasing power parity (PPP), only behind China and the USA. But there is another way to look at these numbers. India has a population of 1.3 billion and the average Indian makes only $2,100 a year in nominal terms and $6,900 in PPP terms. That ranks India 142nd on a GDP per capita basis. So there is a long way to go before everyone shares in the nation’s prosperity.
Among the first to realize that India is one of the world’s most paradoxical markets, both simultaneously large and small, was the FMCG industry. Up to the late 1970s, most Indians were not even buying shampoo. This was not because they did not want to, but the average bottle of shampoo cost more than most Indians were willing or able to pay. In response, an ingenious entrepreneur put single-use quantities into a sachet that could be sold for 1 rupee each. Sales took off. Customers were offered a first rung on the ladder of consumption and this encouraged them to take the next step.
Big problems, small solutions
FMCG companies showed that big problems in India can be addressed by providing small solutions. The act of making affordable, bite-sized packets out of regular products came to be known as ‘sachetization’. Sachetization of everything from biscuits to body creams changed the FMCG industry in India. Indians wanted the same things as everyone else, but they could only afford it one sachet at a time.
As a central banker for India, I wondered if we could ‘sachetize’ finance to lift people out of poverty. India remains one of the most financially under-penetrated large economies in the world. An estimated 50 per cent of the people are employed informally in India. They may earn as much as those in formal employment, but they remain invisible to the banking system. So when they want a loan, the bank denies them credit unless they can offer a hard asset as collateral. The average Indian cannot do this and ends up resorting to informal finance, with usurious rates and onerous terms. These underserved Indians are square pegs; the banking system a round hole. It is no surprise that India’s credit-to-GDP ratio stands at just 55.7 per cent, compared to China’s 208.7 per cent.
Sachetization in finance
The RBI has taken two important measures to make sachetization in finance happen. The first is initiating steps towards the creation of a PCR. The PCR aims to be a comprehensive database of information for all credit relationships in the country, from the point of origination of credit to its termination (repayments, restructuring, default, resolution and so on).
This eventually covers all lender-borrower accounts without a size threshold. The primary reason for building a PCR is to remove information asymmetry, providing lenders with a 360-degree view of the borrower’s liabilities. The secondary reason is to provide bankers with up-to-date information on the quality of their credit portfolio.
The second measure is the creation of the account aggregator — a new financial institution that manages how other financial institutions access your data, based on your consent. It enables users to demand their data from their financial services providers in real time, in a machine-readable format. The account aggregators can gather data from all financial institutions — including banks, NBFCs, mobile money wallets, mutual funds, tax receipts and others who are willing to offer their data over apps. Regulations ensure that the business model of these account aggregators does not encourage reckless collection of data. They have a fiduciary responsibility to you and are not data brokers for the bank. They simply manage the flow of encrypted data and do not actually read it.
Rethinking the formula
Together, the PCR and the account aggregator will allow financial intermediaries to see in near real time the complex patterns of financial cash flows of individuals and businesses. When these systems kick in over the coming months, banks will be able to lend judiciously to India’s large underserved population. By employing the power of big data analytics and machine-learning, banks will be able to create individualized financial products for each user.
To get back to shampoo sachets, financial services providers must reduce the size of the packaging and also rethink the formula itself. What is the point of a one-year loan repaid in monthly instalments to a farmer who earns only during harvest? If the formal financing system can understand better the cash flow patterns of individuals, then it can serve the unique needs of Indian customers. This way, with the aid of smarter technology, there is no reason why we can’t raise India’s credit-to-GDP ratio to bring it in line with those of more high-income nations. Making cash flow-based credit available to every Indian is our small solution to India’s big problem of financial exclusion.
(Courtesy of Penguin Random House India)
