Can Rural Banks Reduce Poverty? Evidence from the Indian Social Banking Experiment

We exploit the introduction and removal of a nation-wide bank branch licensing rule which sought to increase and equalize bank branch presence across Indian states to estimate the e¤ect of rural bank openings on poverty. Between 1977 and 1990, to qualify for a license to open a branch in a census location which already had one or more bank branches an Indian bank had to open four branches in locations with no bank branches. This policy caused banks to open relatively more rural branches in Indian states with lower initial …nancial development between 1977 and 1990. The reverse was true outside this period. We use these policy-induced trend reversals in the relationship between a state’s initial …nancial development and rural branch expansion as instruments for rural branch expansion and …nd that rural branch expansion in India signi…cantly reduced rural poverty. We thank Esther Du‡o for very helpful and detailed comments. We have bene…ted from comments and suggestions from Josh Angrist, Abhijit Banerjee, Tim Besley, Richard Blundell, Bronwen Burgess, David Card, Anne Case, Ken Chay, Jonathan Murdoch, Atif Mian, Andrew Newman, Dom Leggett, Debraj Ray, Mark Rosenzweig, Ken Sokolo¤, Duncan Thomas, Robert Townsend, two anonymous referees and seminar participants at the Bureau for Research in Economic Analysis of Development (BREAD) 2002 Meeting, Caltech, CEPR Public Policy Meeting 2003, Cornell, Harvard, IMF, LSE, MIT, NYU, Michigan, Penn State, Princeton, Southampton, Stanford, Stockholm, UBC, UCLA, UCSD, World Bank and Yale. Juan de Laiglesia, Mattia Romani, Gaurav Shah, Heidee‡ower Stoller and Grace Wong provided exceptional research assistance.