In a step forward from the notification that almost accepted the Malegam committee recommendations, the Reserve Bank of India (RBI) on 2 December came out with another notification, which has sweeping implications for the microfinance sector. This notification has formally created a regulatory framework for microfinance within the ambit of RBI. It recognizes another category of non-banking financial companies (NBFCs) dedicated to microfinance institutions (MFIs). This puts MFIs on a par with other categories such as infrastructure finance and asset-finance companies. The minimum capitalization required for such a company is indicated to be Rs 5 crore and RBI defines the activities that can be undertaken by such MFIs. In addition, to preserve the uniqueness of MFIs, the central bank has prohibited other companies that are not deeply involved in microfinance to build an asset size of more than 10% of the loan book from the MFI portfolio. This settles the matter.
If we look back at the crisis that engulfed MFIs in the past year, it emanated from three fundamental allegations—high (and sometimes usurious)] interest rates charged from borrowers, multiple lending by various MFIs driving the members into a debt trap and coercive recovery practices. We have to remember that most of these institutions were indeed regulated and were NBFCs, but there was no regulation that specifically recognized and dealt with the peculiar nature of the transactions with their clients. We also have to remember that most of these problems did not emanate from not-for-profit trusts and societies. The MFIs that were in the news were large NBFCs, most of them based out of Andhra Pradesh.
With RBI defining what an NBFC-MFI is, and what it could do, the regulatory framework for the for-profit MFIs in India is indeed in place. There are problems with the clauses and the sub-clauses of the notification, but RBI could tweak these as it gains insights from the field and feedback from implementation. Surely the MFIs, along with their industry associations, will continue to engage with the regulator on the several pain points.
So, do we really need the MFI Development and Regulation (MFIDR) Bill that is going to be presented to Parliament (as and when it works)? The answer might be a resounding no. The current notification provides adequate protection to the borrowers—by restricting the loan size (from all sources) to Rs 50,000, specifying repayment periodicity, and by putting an upper ceiling on the loan amount. It takes care of multiple lending, too. The notification also has an interest rate cap, which will check possible usury. The only other aspect that cannot be effectively monitored is about recovery practices. Hopefully, like in the case of banks, RBI will come out with a code for MFIs as well. Currently, it is assumed that the self-regulatory organizations will take care of the code of conduct.
What does the MFIDR Bill have, that is not there in the current framework? The Bill has a much broader definition of microfinance—it includes thrift, risk cover, pension and payment services under its definition. While none of these aspects is fleshed out in the Bill, these are issues that RBI can adequately take care under the NBFC-MFI regulation. There is a crying need for providing multiple and friendly savings options for the poor. However, it is dangerous to open up thrift without adequate safeguards, with weakly capitalized institutions such as trusts and societies. What would be needed is partial opening up of thrift and savings services, with a deposit insurance/guarantee cover.
The other aspect that the Bill provides is that any institution with a capital of Rs 5 lakh can register and operate as an MFI. This is already happening without the legislation, with limited supervision. These small organizations never posed a big problem. Moreover, since trusts and societies are governed under the respective provincial laws, the states are in the best position to look at these institutions, including examining the extension of the moneylenders Act to such institutions.
The MFIDR Bill makes RBI responsible for registration and supervision of the sector. Now that RBI has taken the initiative of defining this space, it might be best left to the central bank to continue refining the regulation than create confusion with multiple laws governing the same space.
It is time that the Andhra Pradesh government repealed the Micro Finance Institutions (Regulation of Money Lending) Act. The concerns of the Andhra Pradesh government are adequately addressed by the limits set up in the notification. These limits, of course, were incorporated in the earlier notification issued by RBI, but since it was only to avail of the priority sector lending window, it appeared to be non-binding. The current notification makes it binding and gets institutions to commit that they are MFIs. This is a big step forward. Since RBI has taken this step, the Centre should possibly desist from tabling the MFIDR Bill. The Andhra Pradesh government should continue to monitor its wonderful database of borrowers it has built. This architecture should be available to RBI’s supervisory arm so that the limits can be adequately monitored.
There is nothing else of substance in the MFIDR Bill that needs attention on an urgent basis. RBI has cleared up some space so that the Union government can concentrate on other legislative business.
M.S. Sriram is an independent researcher and consultant, and former professor of the Indian Institute of Management, Ahmedabad
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