Aadhaar’s Potential for Financial Inclusion

By Bindu Ananth & Malavika Raghavan, IFMR Finance Foundation

We should care deeply that millions of Indians are still turning to expensive informal financial services in the face of seasonal and volatile incomes, despite years of trying to improve access to basic financial services. Any innovation with a promise to provide disruptive solutions deserves careful attention and a concerted effort to ensure success. It is in this spirit that we approach the Aadhaar debate.

Test and learn—but then evolve

For years, our country’s financial inclusion strategy tried to expand access by opening more bank branches. One reason this has not scaled is because providers face high operating costs for “low-value” services, driven in part by physical “know your customer” (KYC) procedures and paper-based verification of transactions. Previous work by our colleagues Anand Sahasranaman and Deepti George showed that the cost of delivering a rural loan of Rs10,000 through a branch could be Rs4,153 (41.53%) for a public sector bank and Rs3,207 (32.07%) for a private sector bank.

Aadhaar and IndiaStack have held out the promise of overcoming these costs using technology—through e-KYC for users, remote verification of transactions and lowering transaction costs of payments. Taken with other inclusion efforts, we are within striking distance of every Indian having access to a bank account and being able to easily send and receive payments. Not a panacea by any means but a definite milestone for inclusive development.

However, we have also arrived at an inflexion point for the unique identifier (UID) system. If the first part of the task for this system was about technology implementation, now it faces an important next step—creating trust and confidence in that technology and the institutions that administer and oversee Aadhaar. We must have the openness and the humility to leverage the potential of Aadhaar to deliver access to basic services while continuing to work on gaps and weaknesses, some of which we will only learn as we go.

Improving protections for users

We have some specific suggestions that need immediate attention with respect to financial service providers, the Unique Identification Authority of India (Uidai) and users, when considering Aadhaar and its use in digital financial services.

We must make providers liable to put customers back “in the money” for failed/unauthorized transactions: it is important that the users of Aadhaar-linked accounts and Aadhaar-enabled payment processes do not bear the costs of failures in this system as the volume of digital payments increases. The Reserve Bank of India (RBI) has taken the right steps by releasing a draft circular on limiting liability of customers in unauthorized electronic banking transactions. We need to move this into live regulation and extend it appropriately for non-bank providers and third parties.

Over 1.15 billion Aadhaar numbers are now in existence. Such a massive public database containing citizen information needs clear audit and accountability procedures.

We should support an independent observatory to monitor Aadhaar-based transactions: more hard data about the successes and failures of Aadhaar-based transactions will help drive an informed discussion about the system’s efficacy. An independent body monitoring Aadhaar transaction failures and user experiences, and publishing this data periodically, could be a strong accountability mechanism and improve Aadhaar.

We need a “living will” for Uidai: in large-scale projects of this nature, it is helpful to think about worst-case scenarios. In the banking world, “living wills” have been an interesting policy tool to force systemically important institutions to lay down their game plan in the event of bank failure. Similarly, no matter how improbable it might seem today, it would be useful for Uidai to lay out a plan to deal with a severe security breach.

We also need to reform the Aadhaar redress mechanism: currently, we have an opaque redress and complaints system at Uidai, especially a concern since the Aadhaar Act empowers only Uidai or its officers to initiate proceedings for disclosure or misuse of users’ information. Renuka Sane and Vrinda Bhandari’s writing addresses these lacunae clearly. We need a new framework and investment to set out accountability, reporting and performance expectations of Uidai on the Aadhaar grievance process.

We need market conduct oversight for data use by firms across the financial sector: in addition to stronger data protection laws, we need active oversight for firms using personal data. This applies more widely to the financial sector, but we highlight it in this discussion since Aadhaar-seeding of bank accounts is rising, requiring enhanced monitoring to prevent risks, and as more financial firms use IndiaStack as authorized user agencies. We must actively supervise how these firms and government use the Aadhaar system in conjunction with other customer data they hold.

We need to protect the privacy of all residents of India across all platforms, including Aadhaar: the idea that poorer people are less entitled to privacy should be dispelled. Compromising financial privacy could set back wider financial inclusion efforts, if improper disclosure of data leads to denial of credit or reputational harm. This issue goes well beyond Aadhaar, but the ubiquitous use of the Aadhaar number, including for finance, makes this more pressing.

To conclude, a project such as Aadhaar with implications for transforming service delivery must be strengthened in specific ways discussed here so that confidence and trust in the system grows.

This article first appeared in Livemint.


Top 5 Game changers for the Indian financial system in 2012

Here are our picks:

  1. Direct Cash Transfer Scheme – To be rolled-out from January 1, under this scheme government plans to provide subsidies and other benefits directly to the poor in cash rather than in the form of subsidies.
  2. Release of the approach paper by FSLRC – Financial Sector Legislative Reforms Commission (FSLRC) was set up by the Indian Government to help rewrite and harmonize financial sector legislation, rules and regulations. In October, the commission came out with an approach paper that outlines preliminary findings about the strategy that will be adopted.
  3. Passage of the Banking Bill – Indian parliament passed the banking bill that paves the way for setting up new private banks.
  4. Aadhaar as proof of address for opening bank accounts – The Reserve Bank of India (RBI) has allowed banks to accept Aadhaar cards issued by the Unique Identification Authority of India (UIDAI) as a valid address proof for opening a new account, widening the know your customer (KYC) norms.
  5. Guidelines for alternative investment funds – SEBI had notified its guidelines in May for Alternative Investment Funds, which are funds established or incorporated in India for the purpose of pooling in of capital from Indian and foreign investors for investing as per a pre-decided policy.

We would like to wish our readers a very happy and peaceful new year and look forward to your continued readership in the coming year. You can follow us via Twitter or subscribe to receive email updates from our blog by signing up here.

Once again, happy new year!


Unconditional Cash Transfers – What does research say?

By Vishnu Prasad, IFMR Finance Foundation

As the government plans to transfer 29 benefits (pensions, scholarships, fuel subsidies etc.) through the direct cash transfer scheme, we look at what research tells us about unconditional cash transfers.

1. Unconditional cash transfers could lead to positive outcomes

The South African Old Age Pension scheme is a means tested, unconditional cash transfer scheme for women above 60 and men above 65 years of age. Edmonds (2006) finds that these pension transfers are associated with a decline in hours worked per day of a child living with an elder. A complementary rise in school attendance rates is also seen among these children. In a similar study, Edmonds and Schady (2008) find that children in households that receive Bono de Desarrollo Humano (BDH) payments, an unconditional cash transfer scheme in Ecuador reduce their time spent in economic employment by 78% and unpaid economic activity inside their home by 32%.

Case, Hosegood and Lund (2005) examine the South African means-tested, unconditional child grant that is provided to the child’s parents or primary care giver. The study finds that the average child for whom the grant is obtained have parents who are less educated, less likely to be employed and own fewer assets and luxury items. Using longitudinal data, the study finds that there is a significant, positive association between receipt of the transfer and school enrolment.

2. The outcomes are highly positive when the beneficiary is a woman

Duflo (2003) finds that women receiving pensions in South Africa significantly improves the health and nutritional status of their granddaughters. Duflo’s estimates suggest that the pensions received by women helps their granddaughters to bridge the entire gap in height for age scores with American children1. There was no discernible effect when male beneficiaries received the pension.

In an evaluation of the same scheme, Case and Deaton (1998) find that households headed by a woman beneficiary spend a lot less of their pension on alcohol and tobacco.

Yanez-Pagans(2008) finds that a woman receiving old age pension in Bolivia increases schooling expenditures of the household by 56% to 91% (depending on the cultural background of the recipient). There was no statistically significant increase in schooling expenditure among households with a male beneficiary.

3. Conditional transfers create desired outcomes; denying benefits to households that do not meet them could be detrimental

Schady and Araujo (2006) examine the effect of the BDH program in Ecuador on school enrolment. BDH was initially conceived as a conditional cash transfer and was advertised in the media as a program linked explicitly to school enrolment. The conditions were never monitored in practice and the scheme did not penalise households for not meeting the conditions making it, in effect, an unconditional transfer scheme. However, a quarter of the respondents in the study continued to believe that school enrolment was a program requirement. The study estimates that school enrolments were about four times as large when the households believed the program to be conditional.

Baird, Macintosh and Özler (2011) describe the results of a randomized control trial (RCT) in Malawi that provided cash transfers to households with school-age girls. One treatment arm of the RCT received condition transfers, another arm received unconditional transfers and a control group received no transfers. The results focused on two sets of outcomes- schooling & human capital formation and marriage & fertility. Although, households receiving unconditional cash transfers exhibited a modest improvement in school enrolment, it was just 43% as large as the improvement in the conditional transfer arm. Girls in the conditional arm also scored better at English tests. However, the conditional transfers had little impact on reducing the likelihood of teenage pregnancies or marriages. The unconditional transfer arm was far more effective in delaying child bearing and marriage (by 27% and 44% respectively). Surprisingly, these impacts were almost entirely seen among girls who had dropped out of school after the start of the intervention.

These two studies provide some evidence to show that conditional transfers are better at creating desired outcomes. However, as the Malawi RCT results show, denying benefits to those who fail to meet desired conditions could be detrimental.

4. Cash transfers could reduce leakages

Dutta, Howes and Murgai (2010) find that social pension schemes (old age pension and widow pension) in Karnataka and Rajasthan have much lower levels of leakage than the public distribution system (PDS). The authors argue that one of the possible explanations of this could be low levels of discretion in the cash transfer process. A beneficiary might have to pay a bribe to get her name on the list but once she is on the list there is little scope for diverting funds. In the PDS, a beneficiary has to face the discretionary challenges of signing up and also persuade the shopkeeper to sell her the food.

5. Electronic transfers are cheaper, beneficiaries under-use their accounts

Bold, Porteous and Rotman (2012) examine cash transfer schemes in Brazil, South Africa, Mexico and Colombia2. The study finds that the move from cash to electronic payments via mainstream financial accounts need not be more expensive. Secondly, recipients in all four countries preferred the convenience of electronic payments over previous procedures where cash was distributed at a particular time or place. However, there is no evidence to show that beneficiaries use their accounts for anything more than withdrawal of transfers. The study attributes this to widespread confusion among beneficiaries about the functionality and existence of the account.

6. Replacing food subsidies with cash transfers need not compromise food security

Gangopadhyay, Lensink and Yadav (2012) describe the results of an RCT conducted in Delhi that provided a cash transfer instead of PDS support3. The study focused on the impact of cash transfers on six parameters- food security, change in consumption pattern, indebtedness, savings, sanitation and change in consumption of alcohol. The study finds that there is no significant difference in per capita calorie consumption between households that received transfers and households that received PDS support. There is also evidence to show that households receiving transfers shift consumption from cereals to non-cereals. The study also finds no support for the argument that unconditional transfers will shift consumption to ‘bads’ like alcohol. There was no significant difference in the per capita expenditure on alcohol between households.


  1. Bold, Chris, Porteous, David and Rotaman, Sarah, 2012. “Social Cash Transfers and Financial Inclusion: Evidence from four countries,” CGAP Focus Note No. 77
  2. Case, Anne and Angus Deaton, 1998. “Large cash transfers to the elderly in South Africa,” Economic Journal 108(450), 1330-61
  3. Case, Anne, Hosegood, Victoria & Lund , Frances , 2005. “The reach and impact of Child Support Grants: evidence from KwaZulu-Natal,” Development Southern Africa Vol. 22, No. 4.
  4. Duflo, Esther, “Grandmothers and Granddaughters: Old-Age Pensions and Intrahousehold Allocation in South Africa,” World Bank Economic Review, Vol. 17, no. 1, (June 2003): 1-25
  5. Dutta, Puja, Howes, Stephen and Murgai, Rinku, 2010. “Small but Effective: India’s Targeted Unconditional cash transfers,” ASARC Working Paper18
  6. Edmonds, Eric V. & Schady, Norbert, 2008. “Poverty alleviation and child labor,” Policy Research Working Paper Series 4702, The World Bank.
  7. Edmonds, Eric V. 2006. “Child Labor and Schooling Responses to Anticipated Income in South Africa, ” Journal of Development Economics, Vol. 81, pp. 386-414
  8. Gangopadhyay, Shubhashis, Lensink, Robert and Yadav, Bhupesh, “Cash or Food Security through the Public Distribution System? Evidence from a Randomized Controlled Trial in Delhi, India” (October 1, 2012). Available at SSRN: http://ssrn.com/abstract=2186408 or http://dx.doi.org/10.2139/ssrn.2186408
  9. Sarah Baird & Craig McIntosh & Berk Özler, 2011. “Cash or Condition? Evidence from a Cash Transfer Experiment,” The Quarterly Journal of Economics, Oxford University Press, vol. 126(4), pages 1709-1753.
  10. Schady, Nobert and Aruajo, Maria Caridad, 2006. “Cash transfers, conditions, school enrollment, and child work : evidence from a randomized experiment in Ecuador,” World Bank Policy Research Working Paper Series 3930
  11. Yanez-Pagans, Monica, 2008. “Culture and Human Capital Investments: Evidence of an Unconditional Cash Transfer Program in Bolivia,” IZA Discussion Paper No. 3678

  1. About 1.20 standard deviations in height for age z scores
  2. All transfer schemes except the one in South Africa are conditional
  3. Households selected for the program were divided into three groups- 1. Households that received cash transfer and opened a bank account, 2. Households that opened bank accounts but did not receive transfers and 3. Households that neither opened bank accounts nor received transfers