Contents

Members’ List and Terms of Reference vii

Acknowledgements ix
List of Abbreviations xi

1. Introduction, Executive Summary, and List of Main Proposals 1

2. The Macroeconomic Framework and Financial Sector Development 22

3. Broadening Access to Finance 49

4. Levelling the Playing Field 77

5. Creating More Efficient and Liquid Markets 103

6. A Growth-Friendly Regulatory Framework 124

7. Creating a Robust Infrastructure for Credit 151

8. Special Topics 181

 List of Abbreviations vii

No. A-43011/17/2007-Adm.-I
GOVERNMENT OF INDIA
PLANNING COMMISSION

Yojana Bhawan, Sansad Marg

New Delhi, 17th August 2007

ORDER

Subject: Constitution of a High Level Committee on Financial Sector Reforms

With a view to outlining a comprehensive agenda for the evolution of the financial sector indicating especially the priorities and
sequencing decisions which the Govt. must keep in mind, it has been decided to set up a High Level Committee on Financial
Sector Reforms with the following composition:

(i) Shri Raghuram G. Rajan, Professor, Graduate School of Business, University of Chicago—Chairman.
(ii) Suman Bery, Director General, NCAER.
(iii) Uday Kotak, CEO, Kotak Mahindra Bank.
(iv) Rajiv Lall, CEO, IDFC.
(v) Vijay Mahajan, Chairman, Basix.
(vi) Zia Mody, Senior Partner, AZB Partners.
(vii) O.P. Bhatt, Chairman, State Bank of India.
(viii) K.V. Kamath, MD & CEO, ICICI Bank.
(ix) Chitra Ramakrishna, Deputy MD, NSE.
(x) R. Ravimohan, MD & CEO, CRISIL.
(xi) J.R. Varma, Professor, Indian Institute of Management, Ahmedabad.
(xii) R. Sridharan, Adviser (FR), Planning Commission—Convenor.

02. The Terms of Reference of the Committee will be as follows:

(i) To identify the emerging challenges in meeting the financing needs of the Indian economy in the coming decade and to
identify real sector reforms that would allow those needs to be more easily met by the financial sector.
(ii) To examine the performance of various segments of the financial sector and identify changes that will allow it to meet
the needs of the real sector.
(iii) To identify changes in the regulatory and the supervisory infrastructure that can better allow the financial sector to play
its role, while ensuring that risks are contained; and
(iv) To identify changes in other areas of the economy—including in the conduct of monetary and fiscal policy, and the operation
of the legal system and the educational system—that could help the financial sector function more effectively.

03. The High Level Committee may invite such person(s) as it deems appropriate to participate in any of its meetings as
special invitee(s).
72 A HUNDRED SMALL STEPS
done at a reasonable transaction cost. This
would greatly incentivize the poor to make
micro-savings and eventually become full-
participants in the financial system. The
government should explore on an expedited
basis, together with deposit taking institu-
tions, business correspondents, and tech-
nology providers, what aspects of the NEFIS
could ride on the current backbone, what
will need new infrastructure and common
standards, and whether any incentives need
to be provided to the system to undertake
this task. The ambitious timeline should be
adhered to.
Improving infrastructure for
financial inclusion
The Committee believes that it is important
to improve the infrastructure for inclusion.
Section on ‘Use technology to reduce cost
of delivery’ discusses the creation of NEFIS,
which would be instrumental in facilitating
the poor’s access to the payments system.
Chapter 7 deals extensively with the issue of
credit infrastructure, including the creation
of a national ID, the use of land as collateral,
and personal bankruptcy, which are all
measures that would improve the poor’s
access to financial services.
Another area that falls broadly in the
ambit of financial infrastructure for inclu-
sion is the provision of interest-free banking.
Certain faiths prohibit the use of financial
instruments that pay interest. The non-
availability of interest-free banking products
(where the return to the investor is tied to
the bearing of risk, in accordance with the
principles of that faith) results in some
Indians, including those in the economic-
ally disadvantaged strata of society, not being
able to access banking products and ser-
vices due to reasons of faith. This non-
availability also denies India access to
substantial sources of savings from other
countries in the region.
While interest-free banking is provided
in a limited manner through NBFCs and co-
operatives, the Committee recommends that
measures be taken to permit the delivery of
interest-free finance on a larger scale, in-
cluding through the banking system. This
is in consonance with the objectives of in-
clusion and growth through innovation. The
Committee believes that it would be possible,
through appropriate measures, to create a
framework for such products without any
adverse systemic risk impact.
Financial literacy
The Committee also believes that a signifi-
cant investment in financial literacy is re-
quired if the poor are to make effective use
of various initiatives to foster financial in-
clusion. A good understanding of the costs
and benefits of various financial services,
the impact of inflation on savings, and the
trade-off between risk and return can help
households choose the right products for
their needs and weed out dubious schemes
from truly beneficial ones. The Committee
believes that efforts to promote financial
literacy should start early. Starting around
Vth standard, students could be introduced
to terms such as income, expenditure, sav-
ings, deposits, interest, insurance, etc. In
addition, TV channels could be encouraged
to run educational programmes on financial
issues such as household budgeting, savings,
insurance, and pensions. The proposed Of-
fice of the Financial Ombudsman could
aggregate the funds currently set aside by
various regulators for this purpose, and
sponsor these shows (for example, SEBI has
the Investor Education Fund and IRDA has
the Insurance Fund). These efforts could also
be sponsored by individual banks, insur-
ance companies, etc.
NOTES
1. This evidence comes from the results of the 2007
IIMS Dataworks survey that was used as an input
to this chapter.
2. For example, for priority sector loans below Rs.
2 lakh, the interest rate is capped at the Prime
Lending Rate (PLR). Banks do have some flexibility
in determining their PLR, an in addition, a nominal
additional charge is allowed over and above the PLR
 Report of the Committee on
Financial Sector Reforms (CFSR)
Submitted by Dr. Raghuram Rajan on Sept. 12, 2008 to PM

Recommends interest free banking in India

“Another area that falls broadly in the ambit of financial infrastructure

for inclusion is the provision of interest-free banking. Certain faiths
prohibit the use of financial instruments that pay interest. The non-
availability of interest-free banking products (where the return to the
investor is tied to the bearing of risk, in accordance with the principles
of that faith) results in some Indians, including those in the economically
disadvantaged strata of society, not being able to access banking
products and services due to reasons of faith. This non-availability also
denies India access to substantial sources of savings from other
countries in the region.

While interest-free banking is provided in a limited manner through

NBFCs and cooperatives, the Committee recommends that measures be
taken to permit the delivery of interest-free finance on a larger scale,
including through the banking system. This is in consonance with the
objectives of inclusion and growth through innovation. The Committee
believes that it would be possible, through appropriate measures, to
create a framework for such products without any adverse systemic risk
impact.”

Chapter 3: Broadening Access to Finance, Page: 72