India’s microfinance industry is in the eye of a storm. On Friday, Andhra Pradesh moved a Bill in the assembly which will change the way the business of tiny loans is being conducted. The southern state is unhappy with the high interest rates that the microfinance institutions (MFIs) charge on loans extended to poor people and the way they recover these loans. Chandra Shekhar Ghosh, chairman and managing director of Kolkata-based Bandhan Financial Services Pvt. Ltd, one of the top five MFIs in India, had envisaged the current glare on lending rates much ahead of most others in the industry. Ghosh, 51, not only pared the lending rate to 18%—without any pressure from the government or regulator—but also stayed away from private equity (PE) funding because he didn’t want to make commitments on Bandhan’s profitability. Ghosh, who cut his teeth in microfinance while working in Bangladesh, doesn’t seem as much worried about the current situation as he is about long-term evils such as multiple lending and reckless expansion of loan portfolio. Edited excerpts:
Taking the lead: Chandra Shekhar Ghosh says larger lenders should take a bold decision and cut rates, setting an example for smaller firms. Indranil Bhoumik/Mint
What in your view led to the current crisis?
I blame this crisis on high interest rates charged by some MFIs, which forces a lot of borrowers to take new loans to repay old ones and, eventually, to application of force for recovery—it’s like a chain reaction. You cannot expect all MFIs to reduce lending rates because how much one could reduce depends a lot on size. But I think the larger players should take a bold decision and cut rates, setting an example for the smaller players. Having said that, people should appreciate ground realities—it isn’t easy to make credit available at the doorsteps of the rural poor.
Why do even hugely profitable MFIs charge such high rates of interest?
It’s the valuation game…Indian MFIs are, in my view, the most efficient in the world, and foreign investors understood the profitability of this business much ahead of Indian government-owned institutions. So people were able to sell stakes to PE (private equity) funds at fancy valuations, but while doing so they committed huge returns. Now they are helpless. At Bandhan, we were always skeptical about this. Last year, we sold 10% stake to Sidbi (Small Industries Development Bank of India) for Rs 50 crore, while PE funds were offering us substantially better valuations. But we decided to sell stake to Sidbi only because we were skeptical about making commitments. Another problem is some MFIs splurge on their top management. People need to keep a tab on costs—once costs go out of hand, it is almost impossible to regain control.
How do you think this crisis will impact the industry?
Firstly, let us understand that the crisis has hit only one state—Andhra Pradesh—and not the whole country. But yes, its impact is being felt across the country, though not directly. The situation has left bankers and investors hesitant about committing more money. For the smaller players, coping with this situation is certainly going to be more difficult, but the bigger players should manage to stay afloat, at least for some time.
However, if the current situation continues, there could be a shakeout in the industry: some MFIs would have to shut shop; some would merge.
But what’s happening is good in a sense…because there was no entry barrier, a lot of people had got into this business; many are running MFIs out of suitcases. And because of these people, who are desperately seeking to expand, we are facing a lot of problems, the most crucial being multiple lending (competing MFIs in an area lending to the same set of poor).
Do you say even at this juncture that multiple lending is a big problem?
Yes, of course. Lending rates are surely going to go down…MFIs will have to pare rates or else banks won’t lend to them. But multiple lending is a very serious threat: it could lead to widespread delinquency. In West Bengal, we have been very careful about this. Four years ago, we formed an association of MFIs, which brings together the heads of all lenders in West Bengal once every two months. Post this crisis, members are meeting every Saturday. At this forum, a wide range of issues are discussed across the table, and so far, it has been quite effective in eliminating unhealthy competition…we have managed to curb multiple lending to a great extent. Other states could also consider setting up such bodies.
Your lending rates are linked to your cost of funds. So if banks don’t agree to lend cheap, how would you cope?
I am sure banks, too, would, in due course, reduce lending rates. But there are a couple of other things that the government could do to create access to cheap funds. For instance, MFIs, in my view, should be allowed to collect deposits from savers. This would, on the one hand, substantially reduce our cost of funds, and on the other, reduce wilful and politically-backed defaults. In Bangladesh, MFIs receive 60-65% of their funds from borrowers.
The other thing that the government could do is create a professionally-managed fund—say Rs 5,000-10,000 crore—to incubate MFIs. If the government began providing equity or subordinated debts to MFIs, it would have greater control over the industry. And for MFIs, it would be a great help: they would be less dependent on PE funds.
Where do you see lending rates headed?
Well, the interest rate that an MFI charges depends largely on its age, size, geographical location and so on. It may not be possible for all MFIs across India to charge the same rate…MFIN (Microfinance Institutions’ Network, an industry lobby of 44 key firms) is conducting a study. It believes ethically an MFI should not charge more than 30%. But do remember, a massive cut in lending rate would result in microfinance loans going into the hands of moneylenders.
The spread (between what moneylenders pay and the borrowing rate) would be so huge that our borrowers would simply deposit money with moneylenders and sit at home. Also remember, it is impossible to stamp out the moneylender from the system because he is the only person who lends for unforeseen cash needs—no one else does.