Question

why is the supervision of the functioning of formal sources of loans necessary?

Answer 1

Formal source of loans means loans from banks, financial institutions. Informal source includes private lenders like seth sahukars, mahajans, etc.

There is absolutely no monitoring for informal lenders and rates of interests are high but RBI supervises formal lenders in India. The bank primary work is accepting deposits and giving loans. It works for all citizens of India of all types of background and status. Therefore loans should be available to all sections of society. Availability of loan to poor people can give them an opportunity to increase their earnings and contribute to the nation, It saves them from the ill practices of informal lenders.
However, supervision is necessary, as giving loans only to rich people may deny equality rights to weaker sections. Credit for only profit making or earning a cut in the loan may give birth to several corruption practices. Banks have to maintain cash reserve ratio which ensures the liquidity and smooth functioning of branches. Giving out loans more than required, improper background check, poor valuation of collateral etc can eventually lead to crisis, recession or fallout in an economy. 

Answer 2

Supervision of formal sources of loans is necessary for the following reasons:
1) So that the targeted groups for whom specific loans have been designed can avail of such loans.
2) In order to check the creditworthiness of prospective clients to minimise defaults.
3) So that the appropriate rates of interest are charged.
4) In order that the targeted economic activity gets a boost.
5) So that the Banks and other lending institutions have adequate resources to meet their lending objectives.