Question

Distinguish between formal and informal sources of credit.

Analyse the differences between formal and informal sectors of credit.

Answer 1

Formal sector of credit	Informal sector of credit
RBI monitors the formal sector of credit.	There is no organisation which supervise the credit activities of lenders.
They charge a normal interest rate on loans.	They can lend at whatever interest rate they choose.
E.g., Banks and cooperative societies.	E.g., Local money lenders, traders and relatives etc.

Answer 2

Aspect	Formal sector of credit	Informal sector of credit
Regulation	The formal sector of credit is regulated by the Reserve Bank of India (RBI) and the government.	The informal sector of credit is not regulated by any government authority.
Interest Rates	In the formal sector, interest rates are low and fixed according to RBI guidelines.	In the informal sector, interest rates are usually high and vary according to the lender.
Borrower Protection	The formal sector provides legal protection and ensures transparency for borrowers.	The informal sector does not provide legal protection and may lead to exploitation.
Accessibility	The formal sector has limited accessibility in rural areas due to strict formalities and documentation requirements.	The informal sector is easily accessible, especially in rural and village areas.
Repayment Terms	The formal sector has fixed EMIs and a structured repayment system.	The informal sector may offer flexible repayment but can involve coercive practices.
Impact on Borrowers	The formal sector promotes financial stability among borrowers.	The informal sector can lead to debt traps and exploitation.
Loan Procedure	Loans in the formal sector require proper documentation and collateral.	Loans in the informal sector are often given without formal procedures and may be based on verbal agreements.
Examples	Banks, Cooperatives, Government Institutions	Moneylenders, Traders, Relatives, Landlords