The economists like Edwin Cannon and Walter Leaf have criticised the above theory of multiple creation and concluded that banks cannot lend anything more than the deposits received from the customers. Their arguments may be summarized as under:

(i) It is not correct to say that the initiative in the credit creation lies with banks. But, it would be more correct to say that the initiative lies with depositors who de­posit their money with bankers. A banker is no more than middlemen between lender and borrowers.

(ii) By granting loans the bank credit the account of the customer with the amount of loan granted to him. But the deposit amount, i.e., the loan amount can be with­drawn by the customer at any time. If he withdraws cash from the bank it will reduce the cash reserve of the bank. Thus, it cannot grant loans beyond the cash deposited by customers with it.

(iii) The bank can lend only because all the customers do not withdraw their money at one time and consequently there are some funds of the depositors left with it. Prof. Canon compares the bank with a cloakroom. He supports his argument with the following example.

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Suppose on a rainy day, 100 people come to a music concert with umbrella. They left these 100 umbrellas with the counter clerk of the concert hall. The clerk knows that only 10 members alone require umbrellas from him during an hour.

Then he may send out the other 90 umbrellas for the duration of the concert and make some money. Does it mean that the clerk has created 90 umbrellas? Cannon argues obviously no.

Similarly the banker when he knows that all the depositors do not withdraw their money at the same time may lend a part of deposits. But, it cannot be said to be creating money, just as the clerk at the counter has not created umbrellas.

Answers to These Criticisms

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1. The Economists fail to consider the whole Banking System:

From the point of an indi­vidual bank, their argument may have some validity. But the argument loses its force when we take the banking system as a whole where there are a number of banks. The banking system can expand the credit in multiplication.

2. Argument of Cloakroom is wrong:

They compare the banks with the cloakroom-clerk, but it is a wrong comparison. Because, the clerk does not do business with the articles kept with him, whereas the business of a bank is to trade in the money deposited with it.

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Commercial Banks and Rural Financing

India is basically agricultural country. Although the share of Agriculture in the GDP of our country is falling year by year it can be said that India lives in villages. India’s economy till recently was predominantly agricultural. Agriculture is the most important occupation in the country.

The problem of poverty and low standard of living cannot be solved unless and until agriculture is placed on a sound footing. One of the basic conditions for improv­ing and developing agriculture is the provision of cheap, efficient and adequate credit fa­cilities to agriculture.

Agriculture provides raw materials to the industrial sector. Thus, these two sectors are to be developed for the economic progress of the country. The impor­tance of commercial banks in the process of economic development is much felt by the economists. Thus, rural financing becomes inevitable and it is the catalytic element for the accelerated economic growth of the country.

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India has passed through the Green Revolution and the banks have made a departure from their past neglect of agricultural sector. Today, agriculture is becoming a viable com­mercial activity due to introduction of scientific methods of cultivation, hybrid seeds, fertil­izers and pesticides.

The incomes of agriculturists in rural areas are increasing. All these changes made the commercial banks to reach rural areas in a big way to mobilize the rural savings and to grant farm credit on a large scale. The State Bank of India and the nationalized banks have opened rural branches all over the country. Besides, the banks organized “Lead Banks” in the rural areas to popularize banking habits and for rural development.

The commercial banks provide rural credit on the following lines:

Besides the above, the commercial banks introduced different methods for rural credit. Let us see some of the important methods.

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1. Village Adoption Scheme

Village adoption scheme was introduced in 1973. Under this scheme, a survey of the village proposed to be adopted was first done. The village should satisfy the following criteria:

(a) The village should be within a short radius from the branch.

(b) It should have assured irrigation.

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(c) The village should not have been financed by the co-operative sector.

(d) The village should have large number of small and medium farmers.

(e) The benefits offered by the banks to the villages should be easily accessible.

(f) Others.

2. Service Area Approach

The concept of service area approach was first introduced in April 1989 to bring about an orderly and planned development of villages. Better co-ordination and accountability were the chief advantages envisaged under the concept.

Primary objective was to assign specific areas of villages to rural/semi-urban branches and ask the banks to provide ad­equate credit for productive purposes. This system will help cover all the villages in the country for total development.

Service area approach was a move towards decentralized credit planning which aims at offering the prospect of integration of credit planning with the process of development at the grass root level.

All the rural and semi-urban branches have been allotted specific area of operation comprising of 10 to 15 villages for the purpose of rural lending.

The basis of allotment of villages to each bank branch is (I) Proximity of villages (II) Contiguity of villages (III) Existing coverage of finance made in the village, etc. The five distinct stages involved in its implementation are:

(a) Identification of Service villages to each bank branch.

(b) Survey of the villages for assisting the potential for lending for different economic activities.

(c) Preparation of annual credit plans.

(d) Co-ordination between banks branches and field level development agencies, on an ongoing basis.

(e) Monitoring the progress of both individuals benefiting from the schemes and the credit plan as a whole.

Advantages of Service Area Approach

The main aim of service area approach has been effective supervision of rural credit which was earlier suffering from sporadic lending, multiple financing and higher cost of supervision.

Villages being compact and functioning of the branch is based on a non-clientele group in a common agro-climatic condition, planning becomes easier and realistic. The branches will also function at minimum transaction costs.

The Strengths of Service Area Approach

1. Better rapport:

Being in constant touch with villagers, the service area branch has been able to create better rapport with people which facilitate tapping of deposits as well as credit dispensation/supervision.

2. Quality lending:

The major success of the service area approach has been avoid­ance of multiple financing. Compactness of the service area only has resulted in better assessment of credit needs of individuals thereby leading to quality lending.

3. Full coverage:

Subsequent to introduction of service area approach, banks are able to reach out the neglected group comprising small farmers, landless labourers and belong to the weaker sections of the society.

As each of the rural and semi-urban branches of the banks has been allotted specific number of villages for comprehensive development, the village adoption scheme has been brought under the service area approach.