TYBMS SEM-6: Finance: Financing Rural Development (Most Imp Write Short Notes with Solution)

  Paper/Subject Co: 86614/Elective: Finance: Financing Rural Development

TYBMS SEM-6: Finance: 

Financing Rural Development

(Most Imp Write Short Notes with Solution)

Q.5. Write short notes on any three.           (15)

1. ROSCAS

A ROSCAs (Rotating Savings and Credit Association) is a traditional financial system that facilitates savings and credit among a group of individuals, typically within a community or social network. It is a popular form of collective savings that is widely practiced in many parts of the world, especially in rural and developing regions. The core principle of ROSCAs is that a group of people contribute a fixed amount of money at regular intervals into a common fund, and each member takes turns receiving the total accumulated amount.

Features of ROSCAs:

1. Group Formation: A group of individuals, often from similar socio-economic backgrounds, form a ROSCA. The group can range from a few members to larger groups, depending on the size of the community.

2. Contributions: Each member of the group contributes a fixed sum of money into a common pool at regular intervals (weekly, bi-weekly, monthly, etc.).

3. Rotating Fund: After each contribution, the total pooled amount is given to one member of the group. The rotation continues until each member has received the pooled amount once. The order in which the members receive the fund can be decided through a lottery or any other agreed-upon method.

4. Social Cohesion: ROSCAs function on trust and social ties. Since members often know each other well, there is a social pressure to honor the agreements, and defaulting is generally avoided to maintain group harmony.

5. No Interest or Collateral: Unlike formal financial institutions, ROSCAs usually operate without interest, and no collateral is required. The group itself acts as a form of social collateral, with members relying on trust to ensure repayment.

Advantages of ROSCAs:

• Access to Immediate Lump Sum: Members can access a larger lump sum of money when their turn arrives, which can be used for significant expenses like starting a business, paying for education, or handling emergencies.
• Promotes Savings Discipline: Since contributions are mandatory, ROSCAs encourage regular saving habits, even among low-income individuals who may find it difficult to save otherwise.
• Social Support: ROSCAs strengthen social ties among community members and provide a sense of collective responsibility and support.

Disadvantages of ROSCAs:

• Risk of Default: If a member defaults or cannot make their contribution, it can disrupt the functioning of the entire group.
• Lack of Interest: The lack of interest on contributions means that the savings do not earn returns, unlike traditional savings accounts in banks.
• Limited to Small Amounts: The amounts involved are typically small compared to loans or savings in formal financial institutions, which may limit their use for larger investments.

2. Categories of priority sector lending.

Priority Sector Lending (PSL) is a banking concept in India where financial institutions are mandated to allocate a specific portion of their loans to sectors that are considered crucial for the overall economic development, especially for disadvantaged sections of society. The Reserve Bank of India (RBI) has categorized these sectors to ensure that essential sectors receive adequate credit and support, promoting inclusive growth.

Here are the key categories of Priority Sector Lending:

1. Agriculture

• Objective: To promote agricultural growth and ensure food security by providing credit to farmers.
• Scope:
  • Loans to farmers for cultivation, dairy farming, poultry, fisheries, etc.
  • Support for agriculture-related activities, including agro-processing and mechanization.
  • Financing for farmers’ cooperatives and rural infrastructure.
• Target Group: Farmers, rural entrepreneurs, and agricultural organizations.

2. Micro, Small, and Medium Enterprises (MSMEs)

• Objective: To promote entrepreneurship and employment in small-scale industries and help generate income in rural and semi-urban areas.
• Scope:
  • Loans to micro and small enterprises in the manufacturing, services, and trading sectors.
  • Support for setting up or expanding small-scale businesses, including for women and other underserved groups.
• Target Group: Micro-enterprises, small-scale industries, and entrepreneurs.

3. Export Credit

• Objective: To boost India's export performance and strengthen its foreign exchange reserves.
• Scope:
  • Financing of export-related activities, including the export of goods, services, and software.
  • Loans provided to exporters to enhance competitiveness in the global market.
• Target Group: Exporters and exporters' associations.

4. Education

• Objective: To provide affordable credit for education, especially for students from economically weaker sections.
• Scope:
  • Loans for higher education, both domestic and international, at affordable interest rates.
  • Loans for professional courses, technical training, and skill development.
• Target Group: Students pursuing education and skill development programs.

5. Housing

• Objective: To promote affordable housing and improve the living conditions of the economically disadvantaged sections of society.
• Scope:
  • Loans for construction or purchase of houses, especially in rural, semi-urban, and urban areas.
  • Financing for low-income individuals and economically weaker sections to buy homes.
• Target Group: Low-income families and individuals in need of affordable housing.

6. Renewable Energy

• Objective: To promote sustainable energy practices and reduce reliance on conventional energy sources.
• Scope:
  • Financing of renewable energy projects like solar, wind, and bioenergy.
  • Support for rural electrification through sustainable energy sources.
• Target Group: Individuals, companies, and cooperatives involved in renewable energy projects.

7. Social Infrastructure

• Objective: To develop infrastructure that improves the quality of life for rural and underserved populations.
• Scope:
  • Loans for building hospitals, schools, sanitation facilities, and other public infrastructure that benefit society.
  • Support for projects in health, education, and rural sanitation.
• Target Group: Government bodies, NGOs, and institutions involved in social development.

8. Weaker Sections

• Objective: To provide financial support to disadvantaged and marginalized groups in society.
• Scope:
  • Loans to individuals from Scheduled Castes (SC), Scheduled Tribes (ST), women, minorities, and other economically backward classes.
  • Special credit schemes to promote their economic empowerment and welfare.
• Target Group: SC, ST, women, and other economically weaker communities.

3. Credit Guarantee Trust for Medium and small enterprises

The Credit Guarantee Trust for Micro and Small Enterprises (CGTMSE) is a scheme launched by the Government of India to encourage lending to the micro and small enterprise (MSE) sector. The CGTMSE aims to enhance the flow of credit to this vital sector by providing guarantees to lending institutions against defaults in loans extended to micro and small enterprises.

Objectives of CGTMSE:

1. Encouraging Credit Access: To facilitate easier access to credit for micro and small enterprises (MSEs), especially those that do not have adequate collateral to offer.
2. Promoting Entrepreneurship: By providing financial guarantees, CGTMSE encourages banks and financial institutions to lend to start-ups, women entrepreneurs, and businesses in the MSE sector, fostering entrepreneurial growth.
3. Boosting the MSE Sector: It aims to improve the financial inclusion of small businesses, enabling them to expand, innovate, and contribute to economic growth.

Features of CGTMSE:

1. Collateral-Free Loans: CGTMSE provides guarantees for collateral-free loans extended by banks and financial institutions to eligible MSEs. This significantly reduces the barriers to credit for small and medium businesses.
2. Coverage: The scheme covers both term loans and working capital facilities extended to micro and small enterprises in the manufacturing, services, and retail sectors.
3. Guarantee Limit: The credit guarantee provided under the scheme typically covers up to 75% to 85% of the loan amount, depending on the nature of the business and the type of borrower.
   • For loans up to ₹2 crore, the coverage can be up to 85%.
   • For loans above ₹2 crore, it can be up to 75%.
4. Types of Enterprises Covered: The scheme is open to all micro and small enterprises, including those owned by women, individuals, or groups. It covers both existing and new enterprises.
5. Premium Payment: Lending institutions pay a fee (guarantee premium) to CGTMSE for the guarantee cover, which is typically borne by the borrower.

Benefits of CGTMSE:

1. Easier Access to Credit: MSEs can obtain loans without the need to provide collateral, improving their access to credit and financial resources.
2. Risk Mitigation for Lenders: The guarantee coverage reduces the lender's risk of non-repayment, encouraging them to extend more loans to the MSE sector.
3. Boost to Employment: By facilitating the growth of small businesses, CGTMSE indirectly helps create more job opportunities, especially in rural and semi-urban areas.
4. Growth of New Enterprises: The scheme fosters innovation by supporting new enterprises, helping them grow and contribute to economic development.

4. NPAS

Non-Performing Assets (NPAs) refer to loans or advances that are in default or arrears. In banking terminology, an asset (loan or advance) is classified as non-performing when the borrower fails to make interest or principal payments for a certain period, typically 90 days or more. NPAs are a major concern for banks and financial institutions as they negatively impact their profitability and financial health.

Classification of NPAs:

1. Substandard Assets: These are assets that remain non-performing for less than or equal to 12 months. They are considered high-risk, as the repayment may not be fully recovered.

2. Doubtful Assets: If a non-performing asset remains unresolved for over 12 months, it is classified as doubtful. There is a higher level of uncertainty about full recovery in this category.

3. Loss Assets: These are assets that are considered uncollectible or written off in the books of the bank. They represent loans where recovery is highly unlikely.

Impact of NPAs:

1. Reduced Profitability: NPAs generate no income for the bank, affecting its interest earnings and profitability.
2. Capital Adequacy: A high level of NPAs can impact a bank’s capital adequacy ratio (CAR), which is essential for maintaining the stability of the bank.
3. Increased Risk: A higher number of NPAs indicates increased credit risk for banks and lenders, making them more cautious in issuing loans.
4. Provisioning and Reserves: Banks are required to set aside a certain amount of money (provisions) to cover potential losses from NPAs, which affects their financial position.

Reasons for NPAs:

1. Poor Credit Assessment: Inadequate assessment of a borrower’s ability to repay the loan.
2. Economic Downturn: Changes in economic conditions, such as recession, can affect the ability of borrowers to repay loans.
3. Management Issues: Poor management practices in lending institutions can lead to high NPA levels.
4. Fraud or Misuse of Loans: In some cases, loans are misused or diverted by borrowers, leading to defaults.

Measures to Manage NPAs:

1. Recovery Mechanisms: Banks use legal means like the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act (SARFAESI) to recover NPAs.
2. Restructuring Loans: In some cases, banks may restructure loans to allow borrowers more time or better terms to repay their debts.
3. Prudential Norms and Monitoring: Financial institutions closely monitor loan portfolios and set prudential norms to minimize NPAs.

5. Apex institutions in Rural Finance

Apex institutions in rural finance refer to central organizations or entities that provide financial services, guidance, and support to the rural financial system, including banks, cooperatives, and other financial intermediaries. These institutions play a critical role in promoting financial inclusion, providing credit, and facilitating economic development in rural and underserved areas. Apex institutions generally act as intermediaries between the government, financial institutions, and end borrowers in rural areas.

Apex Institutions in Rural Finance:

1. National Bank for Agriculture and Rural Development (NABARD):

   • Role: NABARD is the primary apex institution for rural finance in India. It was established in 1982 with the mandate to promote rural development by providing credit and other services to farmers, rural artisans, and small entrepreneurs.
   • Functions: NABARD provides refinancing facilities to rural banks (such as Regional Rural Banks and cooperative banks), supports rural infrastructure projects, and promotes self-help groups (SHGs) and microfinance institutions (MFIs).

2. Small Industries Development Bank of India (SIDBI):

   • Role: SIDBI is an apex institution focused on the development and promotion of micro, small, and medium enterprises (MSMEs) in India. It provides financial support to the MSME sector, including those in rural areas.
   • Functions: SIDBI offers direct financial assistance to MSMEs, provides refinancing options to banks and financial institutions, and fosters entrepreneurship and job creation in rural areas.

3. National Cooperative Development Corporation (NCDC):

   • Role: NCDC is an apex institution that promotes the development of cooperatives in various sectors, including agriculture, dairy, textiles, and handicrafts.
   • Functions: NCDC provides financial assistance to cooperative societies and helps in the formation, strengthening, and expansion of cooperative enterprises in rural India.

4. Rural Development Banks:

   • Role: Regional Rural Banks (RRBs) serve as apex institutions at the regional level, specifically aimed at providing credit to rural populations, particularly for agricultural and small-scale rural enterprises.
   • Functions: RRBs offer loans to farmers, artisans, and small entrepreneurs and act as intermediaries between central banks (like NABARD) and rural borrowers.

Functions of Apex Institutions in Rural Finance:

1. Credit Mobilization: Apex institutions facilitate the flow of credit to rural areas, particularly to underserved sectors like agriculture, small industries, and low-income groups, by providing refinancing facilities to local financial institutions.

2. Policy Formulation and Guidance: They play a role in framing policies, guidelines, and strategies to promote rural finance and ensure efficient credit delivery to rural populations.

3. Capacity Building: Apex institutions support the training and development of rural financial institutions and enhance the skills of rural borrowers through various programs.

4. Financial Inclusion: They aim to improve access to financial services in rural areas, ensuring that underserved populations, including farmers, women, and small entrepreneurs, are included in the formal financial system.

5. Development of Rural Infrastructure: Apex institutions often support infrastructure projects, such as irrigation, roads, and rural electrification, which are essential for sustainable rural development.

6. Self help groups

Self-Help Groups (SHGs) are small, informal associations of people, often women, from similar socio-economic backgrounds who come together to address common financial and social challenges. These groups play a significant role in financing rural development by promoting financial inclusion and empowering marginalized communities.

SHGs operate on the principles of mutual help, savings, and credit. Members regularly contribute small savings to a common fund, which is then used to provide loans at affordable interest rates for various needs, such as agriculture, education, healthcare, or small business ventures. This process reduces dependence on informal moneylenders who often charge exorbitant interest rates.

To enhance their impact, SHGs are often linked with banks under schemes like the SHG-Bank Linkage Programme in India. This connection enables them to access formal credit and government welfare schemes. SHGs also help in skill development and entrepreneurship, fostering sustainable livelihoods and improving rural infrastructure.

Through these initiatives, SHGs contribute significantly to poverty alleviation, women's empowerment, and overall rural development, making them a cornerstone of grassroots economic progress.

7. National Rural in Livelihood Mission

The National Rural Livelihood Mission (NRLM), launched by the Government of India in 2011, aims to reduce rural poverty by promoting sustainable livelihood opportunities. It seeks to empower poor rural households by organizing them into Self-Help Groups (SHGs) and strengthening their financial and social capabilities.

NRLM focuses on enhancing the income and skills of rural communities by facilitating access to credit, markets, and government services. It emphasizes building a robust institutional framework, fostering entrepreneurial ventures, and promoting social inclusion, especially for women and marginalized groups.

features of NRLM include:

1. Financial Inclusion: Linking SHGs with banks to provide affordable credit for livelihood activities.
2. Capacity Building: Training members in entrepreneurship, vocational skills, and sustainable practices.
3. Livelihood Promotion: Supporting traditional crafts, agriculture, and non-farm activities with technical and financial assistance.
4. Convergence: Aligning with other rural development programs to maximize benefits.

NRLM plays a vital role in reducing poverty, empowering women, and driving inclusive rural development. It was later renamed as Deendayal Antyodaya Yojana – National Rural Livelihood Mission (DAY-NRLM) to emphasize its focus on uplifting the poorest sections of society.

8. SMERA

SMERA (Small and Medium Enterprises Rating Agency) is an Indian credit rating agency specifically established to evaluate the creditworthiness of small and medium enterprises (SMEs). Launched in 2005, SMERA was a pioneering initiative aimed at addressing the unique challenges SMEs face in accessing finance and building credibility with lenders, suppliers, and customers.

Features:

1. Focus on SMEs: SMERA provides independent ratings tailored to the specific financial and operational circumstances of small and medium businesses.
2. Credit Access: By providing transparent credit assessments, SMERA helps SMEs gain easier access to loans and credit from banks and financial institutions.
3. Risk Assessment: The agency evaluates financial health, operational efficiency, and growth prospects, enabling informed decision-making by stakeholders.
4. Collaboration: SMERA works closely with industry bodies, banks, and government agencies to support the SME sector.

9. Section 11 of Banking Regulation Act, 1949

Section 11 of the Banking Regulation Act, 1949, pertains to the requirement of minimum paid-up capital and reserves for banking companies operating in India. It lays down financial criteria to ensure the stability and soundness of banks.

Provisions:

1. Capital Requirement:

   • Banking companies must maintain a prescribed minimum paid-up capital and reserves to operate legally in India.
   • The specific amount varies based on the bank's location (e.g., urban or rural) and whether it conducts banking operations within or outside India.

2. Reserve Maintenance:

   • Banking companies must retain sufficient reserves to cover liabilities, ensuring financial solvency.

3. Foreign Banks:

• For foreign banks operating in India, additional requirements apply, including ensuring that their head offices maintain adequate reserves in their home countries.

10. Credit Risk

Credit risk refers to the potential loss a lender or financial institution may face if a borrower fails to repay a loan or meet contractual obligations. It is one of the most significant risks in banking and finance, as it directly impacts profitability and financial stability.

Aspects of Credit Risk:

1. Causes:

   • Default on loan repayments.
   • Delays in payments.
   • Economic downturns affecting borrowers' financial health.

2. Assessment:

   • Creditworthiness is evaluated through credit scores, financial history, and repayment capacity.
   • Financial institutions use risk models to predict the likelihood of default.

3. Mitigation Strategies:

   • Diversifying the loan portfolio.
   • Collateral-based lending.
   • Monitoring credit exposure and setting credit limits.

Proper management of credit risk is essential to protect the interests of lenders, ensure financial stability, and maintain the trust of depositors and investors.