Financial inclusion is the ability to access formal financial products and services. Across contexts, experts maintain that households and individuals that own such products and use such services are better able to participate in the larger economy and make decisions that improve their welfare. However, the evidence that substantiates this relationship remains thin and ambiguous at best. The pathways from inclusion to welfare, in particular, remain largely unknown.

In India, there are broadly two dimensions to financial inclusion policy, led by the Reserve Bank of India (RBI), India’s monetary authority and the Government of India (GoI), respectively. The RBI uses inflation-targeting practices to promote bank account ownership and makes policies to advance the density of banking and financial services across the country.

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Over the years, the Government of India (GoI) has linked financial inclusion – defined as access to bank accounts – with welfare schemes. A prime example of this is the Pradhan Mantri Jan Dhan Yojana (PMJDY), the flagship policy for financial inclusion which is a core delivery channel for GoI’s Direct Benefit Transfer (DBT) schemes.

These two dimensions attest that, for the most part, Indian policymakers approach financial inclusion from the lens of improving access to banking services and addressing the mechanics of operating bank accounts. The prioritisation of access, usage, and ease of operating bank accounts in the recently released Financial Inclusion Index (FI-Index) further underscores this point. Reading from the access/usage lens, India has indeed made several massive leaps towards achieving universal financial inclusion.

Digital financial inclusion has gained priority besides business correspondents (BC), payment banks and small finance banks. Innovations like IMPS, UPI and AePS have revolutionised access to payments. Reported numbers show that in June 2021, ₹280 crore worth of transactions were processed through UPI alone, which is also reflective of the upswing in digital payment adoption across income classes during the pandemic.

For instance, PhonePe, a digital payments and financial services company that controls over 40 per cent share in the UPI ecosystem, reportedly recorded phenomenal growth in the volume of P2P transactions (182 per cent) and online payments (150 per cent) in 2020-21.

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However, while encouraging, these numbers tell us precious little about whether and how financial inclusion is affecting the lives of hitherto excluded people. In particular, at present, there is a significant lack of empirical evidence that can inform policymakers about the extent to which financial inclusion – as access to bank accounts – can trigger efficient decision making by households, and how this, in turn, can produce welfare effects.

Efficient decision making is the key that will turn households from reactive units to deliberate goal-driven agents of economic change. Current policies for financial inclusion are not cognizant of the central role of household decision-making in manifesting welfare gains.

Building this type of cognizance calls for a substantial readjustment of the policy-level view of financial inclusion. We posit that financial inclusion is not equal to operational access to formal financial services. While access is the logical first step, financial inclusion is more appropriately seen as a process or a pathway through which households build their capacity for rational economic decision making, which subsequently unlocks superior welfare outcomes.

Policymaking that draws upon robust and relevant evidence may lead to sharper design and more rigorous implementation of policies. For this, not only is it necessary to work with an extended definition of financial inclusion, but it is also imperative to empirically investigate the pathways and channels through which financial inclusion initiatives affect household behaviour.

It is only then that one can inform policy triggers for improving household welfare through financial inclusion. If instead, implementation and design of policy continue through broad brush strokes such as access, coverage, and interest rates, as is the case now, there is a risk of missing the trees for the forest.

Interestingly, we find that the present-day policy position on financial inclusion is in contrast with the view fintechs are taking. The Indian fintech market is one of the fastest developing business sectors in the world. With a net investment tally of $2 billion in just the first half of 2021 and an estimated total industry valuation of $150-160 billion over the next five years, Fintechs are poised to play an instrumental role in driving financial inclusion in India.

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We see that, unlike policymakers, fintechs are laying emphasis on the design of financial products and services, and are showing interest in tracking whether proffered products effectively enable households (users) to make efficient decisions. One of the stumbling blocks for them as well, however, is the paucity of empirical evidence on one, the specific pathways of change that connect financial access to decision making and welfare gains and, two, the particular product design elements that can activate such pathways.

It is therefore expedient to mount a comprehensive empirical investigation into the long term impacts of financial inclusion on households in the Indian context, and relentlessly track pathways of change that can trigger measurable welfare gains. This calls for innovative research, technical sophistication and the creation of unique data sets that make such analysis possible. More importantly, however, for any effort to yield actionable results towards evidence-based policymaking and informed engineering of financial products and services, it must have deep roots in academia-industry exchange and collaboration.

We believe that effective financial inclusion is a capability enhancing process. Its unique promise lies in how it can empower rural households to organically smoothen existing inefficiencies in the organisation of productive resources.

(Abhiman Das is Professor of Economics and the RBI Chair of Finance and Economics at the Indian Institute of Management Ahmedabad (IIMA); Hari K. Nagarajan is a Professor and Infosys Chair for Societal Development at Indian Institute of Management Ahmedabad (IIMA); and Anirudh Tagat is a Research Author at the Department of Economics, Monk Prayogshala, Mumbai, and a Consultant, Insights at CIIE.CO)

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