The success of Modi's Jan Dhan Yojana depends on rapid expansion of cash transfers

On my morning walk today on Ganesh Chathurthi, I saw a rickshaw driver getting out of his phat-phati and stop before a Dena Bank branch in Santacruz in midtown Mumbai. I too halted midstride to check what had caught his interest. He was devouring the details of the Pradhan Mantri Jan Dhan Yojana (PMJDY) scheme which promised him Rs 1 lakh accident insurance, Rs 30,000 life cover, a free debit card and an overdraft facility.

If an auto driver is interested in PMJDY, it is clear that the scheme has got the right people targeted. So, it is fair to presume that the structuring of the PMJDY is a political masterstroke by Narendra Modi. But second thoughts are also in order. His real challenge is to prevent a political masterstroke from triggering a fiscal stroke that can cripple the exchequer just when it is about to turn around.

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The air of self-congratulation over the first-day-first-show estimates of 1.5 crore account openings need to be tempered with thoughts on how these accounts will be operated and the scheme executed. Last year, some six crore no-frills bank accounts were opened in the name of financial inclusion, but few see transactions. Bankers are already fretting over accounts that transact no business and cost them a small fortune to maintain nevertheless. The key to PMJDY’s success will thus be to ensure that enough “dhan” flow to the “jan” consistently.

This is exactly what PMJDY tries to do by making an overdraft available upto Rs 5,000 after six months. And this is also why there could be a fiscal stroke coming up if 7.5 crore accounts are opened by 26 January without a thought on how these accounts are going to be used - or used at all. Not all 7.5 crore account-holders may get the overdraft, for there is a six-month wait and watch period before they can access the overdraft, but if even half of them do, banks will have to worry about Rs 18,750 crore of potential bad debt lurking in millions of difficult-to-monitor accounts. Since it is the government that has to pay the bills through loss reimbursement to banks or capital support, that’s where a potential fiscal stroke is possible.

The only way to avoid this disaster is to make legitimate “dhan” flow to the poor “jan” and make these accounts alive and kicking. This means three things:

One, every government payment, subsidy or financial transaction with specific beneficiaries must be routed compulsorily through PMJDY accounts. Every payment means nearly every feasible payment - from NREGA wages to minimum support prices and fertiliser, food, LPG and kerosene subsidies paid to eligible beneficiaries, every government-to-citizen payment must be mandated to flow only through PMJDY accounts over, say, three years. Payments of scholarships, old age pensions, etc, which are anyway financial schemes, are, of course, no-brainers.

There is no doubt the Modi government plans to use PMJDY to route fiscal subsidies to the poor (which is why it developed a belated interest in UPA’s Aadhaar), but this part of the agenda is fraught with political risk. Remember UPA’s Aapka Paisa, Aapke Haath slogan for shifting almost all major subsidies to direct cash transfers by mid-2013? The scheme was partly abandoned midway due to implementation delays, but more importantly because the scheme’s political masters were worried that if it clear identification of beneficiaries reduces middlemen and fake accounts, there could be an electoral price to pay. PMJDY will work as a route for financial inclusion and benefits transfer only if there is solid political will behind it.

Secondly, financial inclusion will be half-baked without financial literacy. Everyone understands cash or bank credit; but which villager will know that an overdraft is actually a loan and not a free grant to him? Which villager will know the difference between accident insurance and life insurance? Clearly, financial inclusion is not going to work without a parallel effort to improve financial literacy and knowledge about financial products. This means banks must not just use rural camps to open accounts, but use the opportunity to explain basic financial ideas, including usage of debit cards, when and how to use overdrafts, and when to claim what insurance if bad things happen to citizens. It is not clear if banks have thought the process through.

The third plank for financial inclusion is the expansion of the delivery mechanisms for cash and transactions. While the aim should be to minimise cash use, the debit card will be useful only if ATMs reach rural areas fast enough and are located in safe places. This means institutions that already reach inaccessible places without a problem - rural credit societies, banking correspondents, mobile service providers, the postal service, and the new payment banks (even traditional moneylenders and gold loan companies) - must be roped into the financial inclusion plan. PMJDY cannot be just about opening bank accounts.

Some of this is already happening (banks have appointed many business correspondents, etc), but apart from ATMs, mobile service providers should be allowed to become payment banks quickly, so that they can use their wireless networks to enable safe, mobile payments for low fees. India Post, which fancies itself as a regular bank, should in fact be asked to focus on financial inclusion and become a payment bank. With over 1,50,000 post offices, many in rural areas, it has all the strengths to become a payment bank, none to become a lender to all and sundry. In fact, India Post should be enabled to offer small-time credit against deposits - just like banks do against deposits.

If PMJDY involves pushing along all three fronts - accounts, financial literacy, and payment and mobile banking - simultaneously, it will bring about a revolution in financial inclusion without exposing banks to an excess of bad loans. Without financial education, there is a danger that the PMJDY will become a gigantic loan mela that will set back banks and the fiscal recovery.

Modi has to ensure that all three prongs are activated and created simultaneously. And yes, he has to push direct cash transfers - the fourth prong - politically. This prong is what will juice up the financial networks of the poor.

If implemented well, PMJDY will monetise the economy, expand financial inclusion and lower subsidy bills. There are three wins possible. This year, subsidy payments will top Rs 2,60,000 crore. Other rural payments - from food procurement to NREGA wage payments - will easily top another Rs 1,00,000 crore. Next year, payments could rise beyond Rs 4,00,000 crore.

There is enough money sloshing in the system to make PMJDY viable. All it needs to political will and an eye for execution. PMJDY’s success hangs crucially on Modi’s execution skills.