Photos by Mint

Photos by Mint

MFIs revival: Responsible lending is key

MFIs revival: Responsible lending is key

Indian microfinance institutions (MFIs) need to learn from their past mistakes and responsible lending is the key to make a fresh beginning for the industry which has shrunk from 30,000 crore to half of it, following a phenomenal rise in bad debts in Andhra Pradesh that roughly accounts for one-fourth of the industry.

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K.P. Krishnan, secretary, economic advisory council to the Prime Minister; P.D. Rai, member of Parliament and member of the standing committee on finance; Jayanta K. Sinha, chief general manager (rural business) State Bank of India; Jennifer Isern, regional manager, access to finance, IFC; Samit Ghosh, chairman, Ujjivan Financial Services; and Alok Prasad, CEO, Microfinance Institutions Network, were the panellists.

Mint’s deputy managing editor Tamal Bandyopadhyay moderated the discussion. Edited excerpts:

What went wrong with the microfinance industry?

Prasad: In the last five-six years, the industry has been growing at a breakneck speed. After the developments in Andhra Pradesh in October 2010, around 70% annual growth rate came to a halt. The industry has been struggling hard after that and things are looking better now. The question is what should be the dharma of MFIs as we look ahead? Even after 65 years of independence and intervention from the government and the Reserve Bank of India, the fact remains that over 50% of India’s population are not being served by the mainstream banks. This is the category of people MFIs are reaching out to.

Sinha: Microcredit in India came through MFIs in the last 15 years but even before that micro credit was there in the 1990s through the self-help group (SHG) model. Now the question is: Why MFIs succeeded in one state—Andhra Pradesh—and what is the reason for a huge amount of concentration there? I feel that the microfinance industry rode on the success of the SHG movement in Andhra Pradesh.

The important thing is responsibility. MFIs are equally responsible to shareholders, customers and the larger society. There are instances of multiple lending, high interest rates and also wrong recovery practices. MFI loans were given to consumption purposes unlike SHGs, where it was only for income generation.

Rai: I think there has been some amount of not-so-good players in the industry. Once we had a tsunami and that sent the industry to the verge of collapse. I think it’s time that the government acted and we brought in new regulations. We have 120-crore population and a substantial portion of this live below the poverty line. There is a huge deficit of deploying capital to those who really need it. Microfinance companies were going to this space.

Today, we have actually driven the poor back to the money lenders. We have a situation that the real problem of poverty alleviation, or inclusive growth, or ways and mechanism to reach out to poor is not working. That has probably prompted the government to think there is a need for regulation in the MFI sector and thus make the sector grow.

In the North-East, we still have a credit-deposit ratio of less than 30% in most of the states. This means the portion of credit available compared with the deposit mobilization is less. The deposits then move away from them to other places. We need to look at the whole issue of microfinance sector afresh.

In the North-East, there is demand for credit but the supply-side remains an area of concern. They are not being served well by the banking industry and any other financial institution. They need to struggle even to get 10 crore or 20 crore.

Ghosh: I would like to disagree with the doomsday theory in microfinance industry. The underlying reason for the crisis was uncontrolled and undisciplined growth as far as MFIs are concerned. That is not something new; it has happened in many part of the world and corrective actions have been taken to incidents similar to what happened in India.

At the end of the day, still only 20% of the market is in Andhra Pradesh. Today, we are seeing that the market is coming back to normalcy with new regulations coming in. One should remember that MFIs are only a vehicle for financial inclusion and not a panacea for all ills of the poor.

Isern: In a growing population, access to finance is important for the poor. There is also a need for diversified financial services like insurance, which can perhaps be more meaningful than credit for households. Obviously, we are in the middle of a crisis. We have found that debt and equity investments can be very meaningful for microfinance institutions. Financial inclusion is a need to provide access to poor to various financial services.

Krishnan: The SHG-MFI sector is very important both in terms of number of accounts and amount outstanding, particularly in the small accounts segments. It is more important than public sector banks, RRBs (regional rural banks), and co-operative banks. They come to play a very important role in the provision of credit—which is not a poverty alleviation instrument but a consumption smoothing instrument.

Other than the MFI Act in Andhra Pradesh, in all other states, there is a prohibition of charging of exorbitant interest Act. For instance, in Karnataka, there is an Act of 2004 where NBFCs (non-banking financial companies) have been issued imprisonment notices notwithstanding the fact that RBI Act explicitly says state governments do not have jurisdiction. There is a need for clarity on these Acts. This is not specific to the microfinance sector.

The Malegam committee report largely says RBI does not have the machinery to control this growth and therefore this growth should be curbed. RBI is neither going to facilitate the growth and nor it is willing to find a solution to the problem of consumer protection.

I think there is this fundamental clash of how do you want to handle development. We need to look for solutions. In the process, there will be mistakes, but obviously the entire sector should not be hanged because there are two or three bad apples. I think we need to figure out smarter solutions.

The state of affairs now:

Prasad: Even before the crisis, some of the MFIs like Ujjivan outside Andhra Pradesh has been far more responsible in doing business. Ultimately, the business is all about meeting the clients’ needs. The organization has to be conscious about the clients’ requirements and the set of products needed. The crisis has hit the operations of only a few companies in Andhra Pradesh but outside the state, the repayment rates remain good. The whole sector should not suffer for actions of a few.

Sinha: Post October 2010, there was a whole lot of confusion and when the entire environment is not clear, banks will like to contain their exposure. But, after the new RBI regulations in December, there has been clarity and banks’ MFI portfolio is growing. There is good growth outside Andhra Pradesh.

Ghosh: We have been getting bank loans from August.

The reason for clustering of MFIs in Andhra Pradesh is the fact that when you have a successful enterprise, you will have copycats going around it. When we first started, after a few cycles of loans, customers told us that the biggest benefit of MFIs are that we are no longer scared of moneylenders. After the crisis, we thought we should give financial literacy. Customers said they are aware about need to service the loans but didn’t have means to save the money. Unfortunately, RBI is not favouring MFIs taking deposits. So, poor people are actually going to chit funds.

It is not true that all private investors push for aggressive growth. Investors are working with us and supporting us. They are not trying to push us for an astronomical growth.

Krishnan: Monitoring the end use of all loans is very difficult for any lender.

At one level, the entire distinction between moneylending and banking is faulty. There are different degrees of risks. MFIs are a good mix of banking and moneylending. They have nicely married both these features and I think we should protect them.

The consumer protection issue is weak not just in the MFI sector but across the financial sector. In the MFI space, bulk of the borrowers is seen as weak and therefore it becomes a political issue. Regulations and policies have choked all avenues of this sector to grow. Broadly, it is like I will not be able to regulate you and hence and I will not allow you to grow.

Isern: Even prior to the crisis, we used to promote responsible lending, risk management and collection. We have also supported efforts for setting up credit bureaus. The topic of financial inclusion to me is not only about MFIs—it is also about SHGs and how MFIs and banks can tie up and evolve business models like banking correspondents. At the end of the day, we want to see best products and best models.

The way forward:

Prasad: Indian MFI industry is not a divided house, but it is a house, which is getting reformed. While the pace of growth for some MFIs is fast, for some others it is slow. The industry has now come forward to solve some of the basic issues such us the unified code of conduct.

The code of conduct focuses greatly on client protection. To my mind, what is at the heart of the matter is what should be the architecture to deliver financial services to the poor. Despite various agencies like cooperative banks, RRBs and lead banking scheme coming into the picture, financial exclusion is so very large in the country. We have a large problem looming in front of us. We need to work together. There is a need for partnership model between banks and MFIs.

Sinha: The architecture for the distribution of credit is very important and there cannot be a simple model as India’s geography is very large. There is a big divergence in the infrastructure facilities of northeast and south India. So, there needs to be a model encompassing everybody. We have created several institutions besides banks like regional rural banks and cooperative banks but these models have not really worked well in some parts.

I feel that definitely a collaborative model and holistic approach should be taken. The entire problem cannot be solved by the financial sector alone; the government has a role to play. Unless development of infrastructure happens, it will be extremely difficult to spread financial inclusion.

Ghosh: One of the lessons MFIs have learnt is that we are much more focused on credit management. The progress MFIs have done in credit bureaus are much faster than what banks have done. Secondly, because of the cap on margin and interest rate, we are now forced to become much more efficient. We are also diversifying our services to other financial products to serve the poor better.

Krishnan: A committee under justice Srikrishna is currently working on reforms in the entire financial sector. It will give clarity to a lot of issues. We need to take a relook at the entire financial architecture where definitely MFIs have a meaningful place.