Date: 06/12/2022

Relevance: GS-3: Inclusive growth and issues arising from it.

Key Phrases: formal credit system, Returnable Grant, Samhita Social Ventures, Collective Good Foundation (CGF), multiplier effect, pre-credit score, the vicious cycle of financial exclusion.

Why in News?

• The economic impact of the pandemic spared few, but there is now evidence that those in the informal sector faced especially devastating consequences. A key reason was the challenge of raising capital.
• India’s formal credit system is inhospitable to informal sector workers and micro-entrepreneurs — they cannot even get a small personal loan to tide over cash flow issues in their businesses because they lack the papers and the collateral usually required for admission to the formal credit market.

Returnable Grant (RG)

• The returnable grant (RG) is a new type of financial instrument that aims to leverage the best of a grant and a loan. It is like a loan in that there is an expectation of repayment.
• It is like a grant in that there is no legal obligation to repay; the expectation is only ‘moral’, i.e., the recipient is encouraged to repay when she has achieved some intended milestones of financial recovery.
• And unlike a traditional loan, it does not carry any interest and has no requirement for collateral.
• RG allows customization of grant amounts, repayment period, and repayment method (i.e., instalments or lump-sum) to suit the individual’s economic realities.
• Once the RG is repaid, it circulates back into the system to support others with similar needs.

A returnable grant:

• Systematic evaluation of a pioneering new blended finance instrument called a returnable grant (RG) suggests this vicious cycle of financial exclusion can be broken.
• Developed as part of the Revive Initiative by Samhita Social Ventures and Collective Good Foundation (CGF), and supported by philanthropic funding, the RG concept is simple and innovative.
• Timely return:
  • Beneficiaries are told that the timely return of the grant will allow Samhita-CGF to support other workers like themselves and that additional benefits, such as interest-rate subsidies or access to skilling and insurance products, may be forthcoming for them.
• Civil societies:
  • The grants are disbursed in partnership with local civil society organisations that have prior relationships with the beneficiaries.
• Data:
  • Starting in 2020, the RG programme has grown to reach more than 1,00,000 beneficiaries across over 50 unique cohorts.
  • Samhita-CGF invested in a rigorous evaluation framework that utilised third-party survey organisations to collect baseline, midline, and endline data on individual recipients.
  • Analysis of the data provides valuable insights about how we can serve the financially marginalised better.

Findings:

• High repayment rate:
  • The most striking finding is that the average repayment rate is high. Of the 13,000 participants who have either completed their repayment or are close to doing so, 60% made their payments on time, yielding a capital recovery rate of 72%.
• Multiplier effect:
  • These repaid funds have been ‘revolved’ to new beneficiaries, resulting in a multiplier effect of 3X on the initial philanthropic investments.
• Proper utilization of funds for the economic purpose:
  • There is no legal obligation to repay and since it was interest-free, there were no financial penalties either.
  • Yet, not only did the RG recipients repay at a high rate but also used the funds to invest in their economic futures.
  • For instance, a cohort of ‘beautypreneurs’ reported using the funds to continue to purchase supplies so they could provide service at homes when parlours were locked due to COVID-19 regulations.
  • Artisans used the funds to buy materials and keep up production even when global value chains paused their orders. This allowed them to service their contractors as soon as the lockdown was lifted.
• These findings are seen across cohorts; across gender, age, income and educational categories; and in urban and rural localities.

Reasons for the programme’s success:

• Strong financial expertise:
  • It is critical to work with implementation partners which have long-term relationships and are deeply embedded in the communities being served.
  • Those with strong financial expertise understandably fare better at managing returnable grants and at securing timely repayment.
• Make regular calls:
  • Working with partners willing to make regular calls to beneficiaries to check on their progress and provide timely reminders of their repayment obligations yields measurable benefits.
  • Relatedly, providing flexible and customised repayment options is key to maintaining high repayment rates. People want to do the right thing; they just need a helping hand.
• Regular Innovations:
  • The RG innovation spawned other innovations. For instance, an RG-as-voucher spin-off provided recipients from a farmer cohort with vouchers they could redeem for fertilizers and equipment. Other cohorts were offered subsidised interest-bearing loans. Timely repayment was rewarded with interest reductions.

Way forward:

• The RG experience could create a ‘graduation’ pathway to formal credit for informal sector workers and entrepreneurs.
• The repayment data from the RG can be used to create a ‘pre-credit score’, which banks could use to make a ‘starter loan’ to these borrowers.
• An ideal pre-credit score would be a document-less, surrogate-driven but triangulated methodology which attempts to build statistically validated default indicators that lending institutions could use to assess ‘new-to-credit’ cohorts.
• These starter loans could be supported by credit guarantees or interest subvention, using philanthropic funding, in order to incentivise banks to get started.
• The repayment track record of these starter loans could feed into a formal credit score, essentially opening the door to mainstream formal credit in subsequent cycles.

Source: The Hindu

Mains Question:

Q. Examine the various obstacles faced by the informal working class in accessing formal credit. How can financial instruments like "Returnable Grants" (RG) solve the problem?