Mumbai, Nov 20: Indian banks may be hard at work on financial inclusion. They are wooing more customers with lower interest rates, but they are still up against stiff competition from informal lenders. Nearly 33 million bank customers borrowed funds in the past two years, but only 43% sourced these loans with their banks, according to a survey by Invest India Foundation.

The survey says that out of all borrowers with bank accounts who borrowed from sources other than banks, 32% of them borrowed from money lenders, 47% from relatives and friends, 12% from co-operative societies, 2% microfinance institutions, 8% from thrift linked self-help groups and 2% from chit funds.

Part of the explanation, according to the survey, is that two-thirds of all loans were taken by rural borrowers, for whom access to banking is severely limited. Banks obviously still face stiff competition from traditional, informal lending sources, even though interest charges from non-banking sources are significantly higher in most cases and up to seven times higher on an average.

The story is almost the same, when it comes to both urban and rural lending segments. Money lenders continue to maintain a strong position in the loans space, including in urban areas. They have an aggregate debt portfolio of nearly Rs 14,000 crore from loans disbursed in the past two years. Money lenders also extend loans for the full-range of borrower needs, including housing loans. Most of the loans, accessed outside the banking system, are consumption loans rather than production loans. The portfolio of non-banking and non-relatives and friends amounts to Rs 22,100 crore, the survey notes.

The two major reasons for 50% of the borrowings from non-banking sources, according to the survey, are financial emergency and medical expenses. The reason they avoid banks on such occasions is that the money is required at a very short notice, and at times, it's not possible for them to provide banks with collateral, but banks do not offer loans at a such short notice without any collateral.

According to a recent survey by Boston Consulting Group (BCG), in India, the problem of financial exclusion is acute. About 40% of Indians who had a savings account used it less than once a month. With barely 34% of the population engaged in formal banking, India has the second-highest number of financially-excluded households in the world, after China - nearly 135 million.

This estimate considers financial inclusion, which BCG measures not just by ownership but also by frequency of use of an account, is low. BCG terms the financially-excluded as the 'next billion' consumers. The report notes that the next generation wants suitable products and services - not watered down versions of the main stream offerings - but they can afford them only at lower price points or in smaller installments.

It suggest that banks need to deconstruct their value chains and determine which activities they should keep in-house and which they should outsource or pursue through partnerships. They can develop leaner and, more cost-effective business models. Government initiatives and regulatory reforms are also needed to optimise some parts of the value chain, it said