Credit Sources in India

  • There are various types of loans that can be grouped as formal sector loans and informal sector loans

Formal Sector Credit in India :  

  • The formal sector includes loans from banks and cooperatives.
    • Banks: Banks are financial institutions that accept deposits and also pay an amount as interest on those deposits.
    • Cooperatives: Cooperatives are organisations that are owned and run by their members . Members pool their resources for cooperation in certain areas.

Informal Sector Credit in India

  • The informal sector includes loans from moneylenders, traders, employers, relatives and friends, etc.
    • Moneylenders: Moneylenders and traders are those individuals that lend money to individuals with a high-interest rates.

Difference between formal and informal sector:

Formal Sector

Informal Sector

  • The RBI supervises the functioning of formal sources of loans .

  • RBI monitors the banks in actually maintaining cash balance and sees that the banks give loans not just to profit-making businesses and traders but also to small cultivators , small-scale industries , small borrowers etc.

  • Banks have to submit information to the RBI on how much they are lending to whom at what interest rate , etc.
  • Interest rates are limited and is decided by the RBI.
  • There is no organisation which supervises the credit activities of lenders in the informal sector .


  • In the informal sector moneylenders, traders and employers can lend to anyone at whatever interest rate they want.


  • There is no one to stop informal lenders from using unfair means to get their money back .


  • Compared to formal lenders, most informal lenders charge much higher interest on loans. Thus, the cost of informal loans to the borrowers is much higher.

 

  • Cheap and affordable credit is crucial for the country’s development .

  • Most loans from informal lenders carry a very high-interest rate and do little to increase the income of the borrowers.

  • Thus, banks and cooperatives need to increase their lending , particularly in rural areas , so that the dependence on informal sources of credit reduces.
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Davneet Singh

Davneet Singh has done his B.Tech from Indian Institute of Technology, Kanpur. He has been teaching from the past 14 years. He provides courses for Maths, Science, Social Science, Physics, Chemistry, Computer Science at Teachoo.