No microfinance, then what?

No microfinance, then what?

Hyderabad/Chennai: Encouraged by a stringent law to regulate the activities of the microfinance industry in their state and egged on by local politicians, poor borrowers in Andhra Pradesh have stopped repayments.

Repayments fell below 20% from a much-trumpeted 99% before Andhra Pradesh issued the ordinance that preceded the legislation, according to a November report by Credit Rating and Information Services of India Ltd.

Also See The Scripting of the MFI Story (PDF)

Such strategic defaults will undoubtedly ease the fiscal stress of overstretched borrowers in the southern state, some of whom are reported to have taken their lives because they couldn’t meet payments. But this could drive poor families back to those who lend money at usurious rates.

“If politicians start telling local people to not repay, quite a few microfinance institutions (MFIs) will shut down and the poor will be forced to seek credit with money lenders," said Justin Oliver, executive director of the Centre for Micro Finance, a think tank in Chennai.

Even as the national debate on microfinance continues to hover around issues such as the validity of the Andhra Pradesh regulations, the financial viability of microlenders in the state and the potential problems of banks that have lent to these MFIs, a visit to the areas where the repayment problem is rife tells a story of aggressive lending, immediate relief for borrowers and the revival of money lenders.

About 110km from Hyderabad past paddy fields, the village of Domakonda branches off from a national highway.

Here, five lenders—Bhartiya Samruddhi Finance Ltd (part of the Basix group), L&T Finance Ltd, SHARE Microfin Ltd, Spandana Sphoorty Financial Ltd and SKS Microfinance Ltd—parcelled out loans, processed in a few days, to village women at their doorstep.

In 2007, 24-year-old Domakonda resident Hafeeza Sheikh borrowed up to 1.2 lakh from a local moneylender to finance her policeman husband’s Dubai voyage to become a construction worker. Soon after, the fast-talking seamstress and mother of two children enrolled with all five MFIs in the village to service various debts.

“All of these guys want money at any cost and it is a very fluid system," said Vijay Chidambaram of consultancy Centre of Gravity that in 2008 studied the financial pulse of 1,200 poor households in six slums in Bangalore. “So they will take money out of self-help groups (SHGs) to pay off microfinance debts and vice versa. The requirements of money and the way they handle it is haphazard."

An October report published by Centre for Micro Finance shows that multiple borrowing exists among 83.7% of the 1,920 rural Andhra Pradesh households surveyed, largely due to loans from informal sources. The study signalled 11.4% of the sample group borrowed from MFIs, 17% from moneylenders and 53.5% had an outstanding loan from an SHG. A few women in Domakonda acknowledged they would even borrow from MFIs to lend to a friend who would pay the processing fees and shell out weekly or monthly payments. In return, the legal borrower would get a 1,000 cut.

With an income that barely helped her scrape through the month, Sheikh was obviously relieved when television news channels splashed news of the ordinance. She promptly stopped juggling 1,200 in average weekly payments against a monthly income of 5,500 after combining remittances from her husband. “I used to get tense paying off defaults of group members," said Sheikh in Hindi, pointing to the widely used joint liability or group guarantee system. Under this, MFIs offer a loan to groups of five women who have to pay up for defaulting or absconding team-mates. “Now, the kids go to school on time and we are also eating better," said Sheikh, referring to the increased time and money available in the absence of weekly MFI meetings for payment collections.

The temporary relief hasn’t completely unshackled her fiscal duress. She still has to repay the 1.2 lakh that she borrowed from a moneylender at 36%. And recently, when her mother was prescribed medical tests as her blood pressure shot up, the family borrowed 4,000 from a pawn broker against a gold chain, a ring and a pair of silver anklets.

It also hurt her chances to make some extra money by trading sarees, for which the MFI loans provided working capital within days as against SHG loans that took at least a month or two to be processed.

“The current conflict between MFIs and the government has become intense because of the nature of regulation," said Narasimhan Srinivasan, a former development banker and the author of State of the Sector–Microfinance India Report. “It does little for customer protection and more for business restriction."

P. Jayamma, a 35-year-old mother of four children and a cleaner in a neighbouring college, lives in the redeveloped slum of LB Nagar in south Hyderabad. A few years ago, Jayamma borrowed from India’s largest MFI, SKS Microfinance, to help her husband buy a 65,000 autorickshaw. Her family graduated to an attached toilet in their home using several cycles of MFI loans, more recently from Chennai-based Equitas Micro Finance India Pvt. Ltd.

Like Sheikh, Jayamma finds the non-payment wave a relief. But she’s uncomfortable with monthly instalments of interest and principal loan amount and worries that her husband’s daily income of 300-400 from driving the autorickshaw that easily supported weekly repayments will be frittered away. “I’m illiterate, but I do know that a monthly payment will make things tough and so we’ve requested MFIs to consider fortnightly payments," said Jayamma in Hindi. “The new system also increases our liability when someone defaults."

In a situation where there’s multiple lending, a non-paying borrower pinches fellow members across several MFI groups. Taking on multiple loans of others hurts the financial health of the remaining group members, who get pushed into a debt trap to meet ends.

The current credit drought, as fresh MFI loans dry up, has already brought out the loan sharks. Jayamma said moneylenders have approached slum dwellers with loans at 60-100% interest.

Still, Domakonda’s Sheikh claims she is done with MFI borrowings and is waiting get a share of an SHG loan that is likely to be sanctioned by a bank in January. At an 11 December meeting with government officials, she chimed in with other women for better access to SHG loans at interest rates as low as 3%.

“The microfinance institutions’ idea was to minimize contact with clients and maximize business," said M.S. Sriram, a former professor at the Indian Institute of Management, Ahmedabad who has been on the board of several MFIs. “There was no engagement with the clients to provide a suite of financial services. Naturally, public support slipped."

This is the first of a three-part series. Next: MFIs are discarding the model that seeks to sign up as many customers as possible and trying to focus instead on a smaller crop of clients.