Correct Option
The correct option is 2 only.
Explanation
The credit market in India is divided into the formal sector (banks and cooperatives regulated by the RBI) and the informal sector (moneylenders, traders, employers, friends, and relatives). Expanding the formal sector is a key objective of financial inclusion to protect borrowers from exploitative practices and ensure sustainable economic growth.
Statement-wise Analysis
- Statement 1 is Incorrect. Informal lenders typically charge much higher interest rates than formal lenders. Unlike the formal sector, where the Reserve Bank of India (RBI) supervises interest rates and lending practices, the informal sector operates without such regulation, often leading to exploitative rates.
- Statement 2 is Correct. A higher cost of borrowing implies that a larger proportion of the borrower's earnings must be allocated to repaying the loan. This reduces the disposable income available for meeting daily needs or investing in productive activities. In extreme cases, high interest rates can lead to a debt trap, where the interest obligation exceeds the borrower's income.
- Statement 3 is Incorrect. High-cost credit is detrimental to a country's development because it discourages investment and entrepreneurship. Conversely, cheap and affordable credit is crucial for development, as it enables individuals to start businesses, invest in agriculture, and set up small-scale industries with manageable repayment burdens.
Key Takeaway
Formal sector credit is essential for economic development because it provides loans at reasonable interest rates under regulatory supervision, whereas the informal sector often hinders growth through high costs and exploitative terms.