Sometime in 2015, Raghuram Rajan, the then-governor of India’s central bank and regulator, the Reserve Bank of India, introduced the idea of small finance banks (SFBs). It was an attempt to take the entire suite of banking services to low-income households—the ‘small’ here referred to the kind of customer the banks would deal with.

It was a licence gold rush. Around 72 different financial institutions applied, including large microfinance institutions (MFI), local area banks and non-banking financial institutions (NBFCs), and some individuals. Only 10 got the licence.

Cut to 2021, though, and the situation couldn’t be more different. In April, the RBI received just four four Bloomberg Quint Applicants Line Up For RBI’s On-Tap Banking Licences Read more applications for this class of banks—Dvara Kshetriya Gramin Financial Services, an MFI with a loan book the size of Rs 832 crore ($113.2 million); VSoft Technologies, a banking tech company; Akhil Kumar Gupta, an executive at conglomerate Bharti Enterprises; and Calicut City Service Co-operative Bank.

Those such as Paytm Payments Bank and Airtel Payments Bank, which had earlier expressed interest in becoming SFBs, did not apply. A Chennai-based investment banker with expertise in financial services described the response and the types of applicants as “disappointing”.

The disinterest is puzzling because in four short years, the 10 licensees grew their cumulative assets to almost Rs 1,10,000 crore ($15 billion). They grew 20% year-on-year in the year ended March 2021. Deposits also grew 40% year-on-year to about Rs 85,000 crore ($11.5 billion)—0.5% of all the deposits collected in the country—while 1% of all lending in the country happened via these banks. “Their profitability is better than even large private sector banks,” says Nidesh Jain, analyst at Investec, an asset management company.

In India, banks are the symbol of ultimate trust, the only currency financial institutions thrive on. So the lack of demand for these licences—among the near top 40 NBFCs and MFIs, and over 1,500 urban cooperative banks no less—begs the question, why are more financial institutions not applying to what was supposed to be a revolution for small borrowers and savers?

One obvious reason for the poor turnout is the onslaught of Covid-19. The pandemic has kept lenders busy, trying to work out just how badly they’ve been hit. The second wave will only make things worse. The RBI has also made these licences on-tap—financials institutions can apply for them any time they want. “Scarcity creates demand. Most likely, financial institutions are waiting for external conditions to stabilise before applying,” said Jain.

But it’s not just the pandemic. There are larger, institutional problems plaguing SFBs, including their very design.

SFBs can’t afford to take deposits from their low-income customer base, so they have to compete with other banks for depositors. Trying to diversify away from microfinance loans could also impact near-term profitability.


Arundhati Ramanathan

Arundhati is Bengaluru-based. She is interested in how people use money in the digital age and how new economies will take shape based on that interaction. She has spent over 10 years reporting and writing on various subjects. Previous stints were at Mint, Outlook Business and Reuters.

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