Services and Financial Sector some perspectives

EEP II
Topic 3 & 4
 Introduction
 Services play a central role in the economies of both developed and
developing countries.
 They account for over half of the gross domestic product of all developed
 economies and constitute the single largest sector in most developing
economies.
 The service sector comprises Trade, Hotels & Restaurants, Construction,
Electricity,
 Transport, Storage, Communication, Banking, Insurance, Education &
Research,
 Medical & Health, Ownership of Dwellings, Real Estate & Business Services
and Other
 Services (Business Services, Computer & Related Services, Legal Services,
Real Estate
 Activities, Renting of Machinery & Equipment's and Social & Personal
Services).
Introduction (..Contd.)

 Main reasons behind the growth of services include rapid urbanization, the
expansion of the public sector and increased demand for intermediate
and final consumer services
 Access to efficient services has become crucial for the productivity and
competitiveness of the entire economy.
 The successful growth of the primary and secondary activities in the
economy, to a large extent, is dependent on services offered by banking,
insurance, trade, commerce, entertainment, maintenance of machinery
and equipment and numerous other services categorized as tertiary
activities
Services sector in India

 It is a large and most dynamic part of the Indian economy both in terms of
employment potential and contribution to national income.
 With the passage of time, the importance of skill-intensive services has risen
and this has coincided with a period of rising relative wages and quantities
of high skilled labour
 With increase in wages or income, people divert more towards services
and the share of service sector in Gross Domestic Product (GDP) increases
due to the consumption of more services
 To provide high skill services to the people, high skilled labourers lead to rise
of the service economy.
Services sector in India (..Contd.)

 The most important services in the Indian economy have been health and
education. They are one of the largest and most challenging sectors and
hold a key to the country's overall progress
 The era of economic liberalization has ushered in a rapid change in the
service industry. As a result, over the years, India is witnessing a transition
from agriculture-based economy to a knowledge-based economy
 One of the major functional pillars of this economy is Information
Technology (IT) and IT-enabled services (ITeS) industry. The 'Department of
Information Technology' has been making continuous efforts to make India
a front-runner in the age of Information revolution
Sectoral Shares
Services sub-sector percentage shares
Some points

• In India’s case, service-sector growth is widespread across activities

• But the fastest growing activities are business services, communication and
banking
• Business services include computer-related services, machinery rental,
research, and accounting, legal, and technical services (where the well-known
data-entry and call centers are located)
• Computer services, which accounted for more than four-fifths of business
services is the single fastest-growing member of this group
• Financial services include banking and insurance, with banking being the
largest and fastest growing
• There are also other rapidly growing services among them are hotels,
restaurants, education, health, and trade and transport.
• The stagnant service sectors have been public administration and defense and
miscellaneous other personal services
How Much Service-Sector Output Just
Outsourced Manufacturing Activity?
• Distinguish growth attributable to the intermediate demand for service
inputs from that attributable to final demand
 Let S refer to value added in services, A to value added in agriculture, I to
value added in Industry, X to exports and C to consumption
 ia,s to the input-output coefficient of agriculture for services inputs, and ii,s to
the input-output coefficient of industry for services inputs (both defined as
the use of service input per unit of value added in agriculture and industry
respectively)
 Then
How Much Service-Sector Output Just
Outsourced Manufacturing Activity?
 We can also express the above as:

 Equations 2 and 3 tell us that, for given input-output coefficients, the growth of services
equals the weighted average of the growth of various sectors, the weights being the
relative size of each sector relative to the size of the service sector as a whole
How Much Service-Sector Output Just
Outsourced Manufacturing Activity?
 Intermediate demand from industry accounts for about a third of value
added in services
 Since the coefficients have not changed and since industry has grown
more slowly than services, the share of value added in services accounted
for by intermediate demand from industry has evidently declined
 Similar calculations show that the share of services value added used in
agriculture was just two per cent in 2007
 In contrast, the share of services that is exported has risen from about three
per cent in 1991 to ten per cent in 2007
 This is a clear indication that exports and net domestic demand are
behind the growth of service sector
Other Factors behind Growth in Service
Sector
 Life expectancy has gone up which results in increase in share of retired
population.
 Due to increase in retired population demand is increasing for travel and
leisure,
 as well as for healthcare, nursing and life insurance.
 The number of working women has increased and led to perform
traditional functions outside the home. With this increase in income of the
households has created a greater demand for consumer services including
retailing, real estate and personal financial services.
 Living standard has increased due to increase in income which has led to
spending more on entertainment, travel and hospitality services.
 Other Factors behind Growth in Service
Sector (…Contd.)
 Due to communication and travel, aspiration level of children and adults has
increased. Due to this, they are making new demands for learning new things to grow
and learn new skills to compete. This has opened avenues for knowledge and
information based services.
 Due to Globalization, the demand for communication, travel and information services
has increased. Information technology has helped to fulfil this demand. Advertising and
marketing services are providing support to all sectors of the economy.
 The size of the government has grown creating a huge infrastructure of service
departments. With the growth in international trade, the demand on legal and other
professional services has increased across national boundaries
 Changing structure of the families in Indian economy has diverted people to service
sector. Emergence of nuclear family system in place of traditional joint family system,
has generated demand for service like transport, health care, entertainment,
telecommunication, education and so on.
Determinants of Service Sector Growth

 Per-capita GNP has the largest impact on rising share of service sector
 Degree of openness
 Domestic investment
Information Technology and its Role in
India’s Economic Development
 IT may have a special role to play in growth and development
 The recent and continuing rapid innovation in IT make it a dynamic sector
that is an attractive candidate as a contributor to growth
 IT may be one of the sectors in which countries such as India have, or can
develop, a comparative advantage
 A somewhat more special characteristic of IT may be that it is a ‘general
purpose technology’ (GPT, Bresnahan and Trajtenberg, 1995), distinguished
by pervasiveness, technological dynamism and innovational
complementarities
 IT has a special role in the process of innovation, because it affects the rate
at which potential new ideas are converted into additions to the usable
stock of knowledge in ways that nothing else can
IT-BPO Industry
 A decade ago, India’s share of the world market, in terms of global expenditure
on software and services, was about 2 percent, but the latest numbers
represent about a 10 percent share of the global market.
 To compare the IT-BPO sector to GDP, one has to estimate the fraction of sales
that constitutes value added. Assuming this fraction to be two thirds would
imply that IT-BPO directly contributed about 5 percent to GDP, well above the 1
to 2 percent estimated a decade earlier
 Exports continue to be critical to India’s IT-BPO sector, accounting for over 3/4
of its revenues
 India’s industry has broadened the scope of its exports, as well as steadily
moving up the value-added ladder.
 While call centers and accounting services remain the largest segments, areas
such as data management, data analytics and legal services have increased in
importance
BPO and ITES Types
Leading Indian IT Firms
IT and Rural Development

 There are many efforts underway in India and other developing countries
to demonstrate the concrete benefits of IT for rural populations
 IT may help leapfrogging in other forms of economic institutions: village
artisans may advertise and sell their creations on the Internet, without ever
having been part of a conventional retail supply chain
 Reductions in communication and transaction costs are particularly
beneficial examples include financial services, particular types of
education, health services, long distance communications, and expertise
on a range of production-related decisions. Whether this can be done in a
sustainable manner depends on the supply conditions for IT-based rural
services.
IT and Manufacturing

 Once basic IT investment is done, only then will Indian firms be able to
implement and take advantage of automation on shop floors.
 IT use was highest in the South, and lowest in the East, but also in Uttar
Pradesh
 IT use tended to be concentrated among managers, and to some extent
supervisors, with less IT use by operators on the shop floor
 Relatively low penetration of IT in Indian manufacturing, especially among
smaller firms, as well as its relatively low productivity in terms of value added
per capita
 Several studies have reinforced the conclusion that IT has a positive effect
on manufacturing productivity
IT and E-Governance

 IT has a dual role to play in the case of governance and administrative

reforms aimed at increasing efficiency and effectiveness
 The use of IT for improving internal government processes is important,
through its potential to increase the efficiency of these processes. For
example, the costs can be lowered, and accuracy improved, of data entry
for tasks such as the preparation of electoral rolls and lists of welfare
eligibility.
 Transparency, accountability and responsiveness can all be enhanced by
using IT to alter the citizen-government interface. This second avenue is
particularly relevant in rural areas, where government is both extremely
important and also stretched very thin: effective access to government
services can be difficult and costly for the average rural citizen
Financial Sector
Reforms

 India embarked on a substantial liberalisation in the early nineties

 In the field of finance, the major elements of reform were the easing of
capital controls to give Indian firms access to foreign capital, gradual
liberalisation of interest rates and reduced state pre-emption of bank credit
 Alongside these, attempts were made to develop the equity market
because of the importance of equity as a mechanism for financing firms
and the recognition of the then weaknesses of the equity market
 This involved establishing a new regulator, the Securities and Exchanges
Board of India, and the National Stock Exchange
Select Outcomes
Some Issues with the sector

 Indian financial regulatory framework is sectoral in nature. Laws and

regulations are organised around sub-sectors such as banking, securities,
insurance, pensions and payments.
 Sectoral approach to financial regulation is ill-equipped to deal with
entities that are hybrids, such as banks cum insurers.
 Sectorally oriented regulation often results in turf wars between regulators.
For instance, the introduction of Unit Linked Insurance Products (ULIPs)
sparked a turf war between the securities regulator (SEBI) and the insurance
regulator (IRDA)
 While significant progress was made in the field of equity markets, other
segments of financial markets are weak. The bond and currency markets
are characterised by illiquidity and inefficiency.
Some Issues with the sector

 Another concern with the present framework is the limited reference

towards financial consumer protection. While consumer protection is part
of the mandate of all existing financial regulators, the regulatory strategy is
inadequate
 The financial regulatory framework inhibits competition and innovation.
Regulators in India have often been reluctant to grant permission for new
businesses to operate.
 In the area of government borrowing, regulations require that financial firms
allocate a part of their assets towards investment in Government bonds.
Banks, insurance companies and pension funds are required to place part
of their assets in government bonds.
Sources of market failure

 Information asymmetry
 Anti-competitive behaviour
 Risks attached to financial promises
 Negative externalities
 Public goods of financial market infrastructure institutions
Concluding Remarks

 India continues its journey towards a financially inclusive regime through

innovative policies involving a multi-pronged approach.
 India has come a long way from a financially repressive regime to a
modern financial sector where public sector financial institutions tend to
compete with the private sector financial institutions.
 The Indian authorities while reforming the financial sector had to constantly
keep the issues of equity and efficiency in mind.
Financial Inclusion - Definition

 According to the Planning Commission (2009), financial inclusion refers to

universal access to a wide range of financial services at a reasonable cost.
 GOI (2008) defines financial inclusion as the process of ensuring access to
financial services and timely and adequate credit where needed by
vulnerable groups such as weaker sections and low income groups at an
affordable cost.
Financial Inclusion – Definition
(..Contd.)
 According to Chakraborty (2011), financial inclusion is the process of
ensuring access to appropriate financial products and services needed by
all sections of society including vulnerable groups such as weaker sections
and low income groups at an affordable cost in a fair and transparent
manner by mainstream institutional players.
 Dr. Raghuram Rajan’s committee on financial sector reforms defined
financial inclusion as, “Expanding access to financial services such as
payment services, savings products, insurance products and inflation-
protected pensions.”
Global Scenario

 Globally 2 billion adults are unbanked (Global Findex Database, World

Bank Report 2015)

 South Asia, East Asia and Pacific together contain half of the world’s
unbanked people i.e 1 billion adults

 In South Asia 625 million adults are without bank account

 India alone accounts for 21% of global unbanked adults

Various reasons for barriers to Financial
Inclusion-Supply side
 financial institutions are far off from the dwellings
 accounts are too expensive to maintain
 lack of necessary documents to open an account etc.
Various reasons for barriers to Financial
Inclusion-Demand side
 religious reason
 lack of trust
 lack of financial literacy
 financial capability of individual
 psychological and cultural barriers
 not enough savings
In South Asia, East Asia and Pacific, lack of savings is major reason for not
having an account
Dimension of Financial Inclusion

The level of Financial Inclusion in India is measured in terms of three tangible

and critical dimensions:
 Branch Penetration
 Credit Penetration
 Deposit Penetration
Branch Penetration

 Penetration of a bank branch is measured as number of bank branches per

one lakh population. This refers to the penetration of commercial bank
branches and ATMs for the provision of maximum formal financial services
to the rural population.
Credit Penetration

 Credit Penetration takes the average of the three measures: number of

loan accounts per one lakh population, number of small borrower loan
accounts per one lakh population and number of agriculture advances per
one lakh population.
Deposit Penetration

 Deposit penetration can be measured as the number of saving deposit

accounts per one lakh population. With the help of this measure, the extent
of the usage of formal credit system can be analyzed.
India’s position in respect ‘Three
Dimension of Financial Inclusion’
 “Among the three dimensions of financial inclusion, credit penetration is the
key problem in the country as the all India average ranks the lowest for
credit penetration compared to the other two dimensions. Such low
penetration of credit is the result of lack of access to credit among the rural
households “(Singh et.al 2015)
Source: Noelia Cámara and David Tuesta (IMF) (2014)
Source: Noelia Cámara and David Tuesta (IMF) (2014)
Source: Noelia Cámara and David Tuesta (IMF) (2014)
Microfinance Sector

 “ Microfinance is an economic development tool whose objective is to

assist the poor to work their way out of poverty. It covers a range of services
which include, in addition to the provision of credit, many other services
such as savings, insurance, money transfers, counseling, etc.” (Y.H
Malegam, 2011)
Essential features of credit for
Microfinance
 The borrowers are low-income groups
 The loans are for small amounts
 The loans are without collateral
 The loans are generally taken for income-generating activities, although
loans are also provided for consumption, housing and other purposes
 The tenure of the loans is short
 The frequency of repayments is greater than for traditional commercial
loans (Y.H Malegam, 2011)
 Indian Microfinance Model
Reserve
Bank of
India (RBI)

Unscheduled
Bank
Micro-Finance
Delivery
Model

Scheduled
Bank

SBLP Model-
SHG-Bank
Linkage
Micro Finance Program
Institution
Approach
Commercial Bank

Co-operative Bank
Trust
Societies
Public Bank
Co-operative
Private Bank
NBFC-MFI
Foreign Bank
NBFC- only credit
Regional Rural Bank
Urban Co-operative Payment Bank
Model I Bank Bank finance Small Finance Bank
Model I-SHGs promoted,
Model II State co-operative through loan
guided and financed by banks
Model III Bank
Model II-SHGs promoted by
NGOs/Government agencies
and financed
by banks
Model III- SHGs promoted by
NGOs and financed by banks Bank Partnership Model
using NGOs/formal agencies Banking Correspondent Model (except NBFC)
as financial intermediaries
DIFFERENCE BETWEEN SMALL FINANCE BANKS AND
PAYMENT BANKS
SIMILARITIES BETWEEN SMALL FINANCE BANKS AND
PAYMENT BANKS
SIMILARITIES AND DIFFERENCE BETWEEN
VARIOUS BANKS