By Shreyans Kasliwal, Saarthi Microfinance, Jaipur Rajasthan.
The author heads an NBFC which has microfinance operations in the state of Rajasthan. He may be contacted by email at shreyans (at the rate) saarthifinance (dot) com .
The year 2010 has been a watershed year for Indian microfinance in more ways than one. On the one hand, we witnessed the hugely successful IPO listing of SKS Microfinance bearing testimony to the strength of the microfinance business model and marking the advent of microfinance as an industry to be reckoned with. On the other hand, we saw a growing acrimony against the practices and profits of the microfinance players culminating in the Andhra Pradesh government deciding to wipe them out from its shores.
It is in the backdrop of such extreme turmoil that the RBI had constituted the Malegam Committee to look into the issues and concerns in the microfinance sector. And it is because of such extreme turmoil that all the players, participants and observers were keenly looking forward to the Malegam Committee Report to bring in some uniformity and order.
The Committee, for its part, must be appreciated for tackling a difficult subject and for completing their report within a short time. However, not only does the report falls short of providing a comprehensive solution to the problems plaguing the microfinance sector and but it also fails to create a healthy regulatory environment which would allow the industry to foster and grow in a responsible manner. At best, the report should be treated as a starting point for a greater and more meaningful dialogue on the microfinance sector as a whole.
Our views on some of the issues raised by the Malegam Committee in its report are set out below.
1. The Microfinance Sector (para 2.2) – microfinance is more than just credit
It is a historic folly on the part of the Committee to view microfinance in terms of credit only. The Committee itself in para 2.1 recognizes the multi-faceted scope of microfinance and yet it chooses to look at the credit services in vacuum. If the intent is “to assist the poor to work their way out of poverty” then it is essential that we develop a regulatory regime where a microfinance institution is allowed to provide comprehensive services to the poor and not just credit.
Granted that the Committee’s mandate was to look only at entities governed by the RBI, i.e. Banks and NBFCs, but that does not translate into looking only at the credit aspect of microfinance.
2. Regulations regarding loan product (para 5.9) – Unnecessarily restrictive
It is my belief that the greatest reason for the success of microfinance has been its ability to constantly innovate and adapt to the needs of its varied customer base. Companies have frequently tinkered with the core tenets of the loan product, like loan amounts, loan tenures, repayment frequencies, add-on services, group sizes, collection methodology, etc. in a bid to ensure that their product becomes more palatable to the customer.
The proposed regulations completely restrict this ability of the companies to respond to market needs and challenges. Such a restrictive regulation can only harm the sector and would ultimately be detrimental to the interests of the customer.
Some of the anomalies in the Committee’s recommended loan product are set out below:-
Annual household income of Rs. 50,000 –
Translates to just over Rs. 4,000 per month for an entire household, with a typical family size of around five members. That is less than Rs. 1000 per head per month, or less than Rs. 30 per day per head. By any stretch of the imagination, this is an extremely narrow view of poverty and would leave out significantly large numbers of the population which are poor in the real sense of the term.
Furthermore, it is nearly impossible to conclusively verify and implement such a limit.
Maximum loan amount of Rs. 25,000 – The number seems to have just been arbitrarily arrived at. No rationale is advanced for the figure and none seems to present itself. It is inconceivable to suggest that a Rs. 25,000 loan may be advanced to a household where the total annual income is only Rs. 50,000. Such a recommendation is cause enough for creating over-indebtedness.
Fixed loan tenures – Makes the product too rigid and leaves no scope for innovation. For example, currently a lot of MFIs give short term loans (ranging from 1-6 months) for dealing with emergencies like pregnancy, medical emergencies, some seasonal dip in income cycle of the borrower, etc. However, all such products would now have to be stopped.
Loan should be unsecured and for income generation only – I simply fail to understand why. The idea of microfinance is to improve the living standards of the poor, that is to say, to make meaningful and sustainable changes to their lives.
So, say a company wants to extend loans for the purchase of assets like cycle, rickshaw, clean stove, solar lighting, water purification system, etc. My vote says such loans are an integral part of microfinance as they would directly assist in improving the recipient’s lifestyles. However, as per the Committee’s recommendation they would not qualify.
Similarly, extending low-income housing loans is another desirable as housing loans are necessary for creating sustained economic growth in the long term. However, it would not be possible for companies to bring out such products in the recommended framework of things.
Loan repayment should be weekly, fortnightly or monthly – It is another recommendation that is overly restrictive and limits the scope of future innovation. For example, companies would no longer be able to work with a daily repayment product or even one with no installment repayment at all…a loan that works like an overdraft facility. Or for that matter, what is wrong if a company comes out with a flexible installment facility…something where the customer pays the principal whenever she has the surplus and just serves the interest otherwise?
3. Non MFI NBFCs cannot have a significant microfinance portfolio (para 5.10) – Restrictive, prevents diversification of existing players
The cap of 10% for non-MFI NBFCs would only serve to restrict the entry into the microfinance sector of companies with a proven track record in other financial products. Indeed, companies which have displayed the ability to maintain sustainable and organized financial operations should be welcomed into microfinance as it is to be expected that they would bring their best practices with them.
As per current RBI regulations, there are clear cut directions regarding the portfolios to be maintained by NBFCs. An asset finance company is required to keep 60% of its total assets in asset backed loans and the rest can comprise of other loans.
It is suggested that this existing limit should be allowed to continue. This would allow existing players to launch microfinance operations, grow them and then hive them off into independent units once a significant scale has been achieved.
4. Minimum capitalization of Rs. 15 crores (para 15.3) – Keeping only the Wall Marts and shutting down all kirana shops
The Committee has argued that small MFI operations are detrimental to the customers as they carry higher costs, on the belief that any MFI with an asset size of less than Rs. 100 crores should be considered small. Hence, they have recommended a minimum capitalization of Rs. 15 crores.
I agree with the view that there should be some minimum capitalization to ensure a degree of stability and commitment on the part of the company concerned. However, to say that anyone with a portfolio less than Rs. 100 crores is too tiny to exist is a fallacy. Yes, they may pale in comparison with the Rs. 1000 crore plus behemoths, but it is another thing altogether to say that they cannot function effectively.
It is like arguing that all small co-operative banks, local area banks, rural banks, etc. should be closed down because they cannot operate in like manner as the bigger public or private banks.
The net effect of such a high entry barrier is to wipe out all smaller players and create a monopolistic and anti competitive market for the handful of bigger players…an end result, which is certainly not in the best interests of the customer concerned. Nor is it desirable in a country like ours where self-employment and entrepreneurship should be encouraged.
I would suggest that the existing capitalization requirement of Rs. 2 crores for a new NBFC should be continued for a new NBFC-MFI also.
5. Interest pricing caps (para 7.11) – Regressive, against regulatory ethos
In the beginning of their report, the Committee observes that for the poor, easy access to credit is more important than cheaper credit (see para 2.3(d) of the report). This is a very perceptive observation. Unfortunately, having said that, the Committee fails to follow up on its own observation and throughout the report no attempt is made to improve the access to credit for the needy but the focus is on reducing the cost of such credit.
In my experience I have always found that the poor are willing to pay for prompt and efficient services. Further, they are extremely conscious of the rates being charged by various companies and are able to exercise a choice about which company they want to turn to. In such circumstances, it is imperative that the regulator respect the customer – company relationship and refrain from specifying the pricing caps.
Competition alone should be the key to bringing the rates down, like in all other sectors of the economy.
7. Limitation of income heads (para 8.7) – Limits the potential of the sector
I fully endorse the view that there should be absolute transparency between the customer and the company and there should be full disclosure by the company of the total earnings being made by it.
However, I fail to understand why a company cannot work on providing additional services. Indeed, to my mind, the need for the regulator is to ensure that the companies provide more services to the poor and not less. By this recommendation, the Committee has betrayed their complete lack of confidence in the bottom of the pyramid as a bankable market which can appreciate and absorb a variety of services.
8. No collections at residences or places of work (para 11.12) – Undermines the entire doorstep delivery model
I can well understand the concern for avoiding coercive means of recovery and to prevent undue harassment of customers. Yet, it must be borne in mind that what makes microfinance so successful is its ability to provide doorstep delivery to clients. Not only does that ensure client convenience but, in the absence of mainstream banking instruments, ensures timely collection of installments.
The success of the doorstep delivery model lies in its practicality. No person is keen to leave their work regularly and travel long distances to pay an installment of Rs. 230 every week. Yet, if the same installment is collected from her house / work place without them having to spare more than 10 mins, then the whole transaction becomes immensely more attractive for the customer.
We must remember that coercive measures and harassment of clients occur only in cases of persistent delinquencies, which is in turn a result of faulty or excessive lending by the company. The recommendations in this context about creation of a credit bureau to improve the credit appraisal and avoid excessive lending are welcome.
9. A study of 9 large and 2 small MFIs (para 5.1) – Too small a data sample to be credible
It is difficult to understand why the Committee has restricted itself to such a small data pool. The MFI sector is very well researched and there is significantly more data available than what has been referred to by the Committee. There are organizations which have taken great pains to collect data not only from India, but from MFIs across the world and have given comparative studies. Further, the Committee has looked at only one year financial results of the said 11 companies.
The Committee’s failure to refer to a broader set of data certainly affects the credibility of their report. The Committee owes it to the industry to make a more thorough and accurate assessment of the figures.