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The Menace of Microfinance in India
Highlights
Financial inclusion- the epicentre of Indian government’s poverty reduction policy has pushed up the mushrooming growth of Microfinance institutions (MFIs) with the expectation to lend more loans to the needy, and mainstream the micro-enterprises into the industrial economy.
Financial inclusion- the epicentre of Indian government’s poverty reduction policy has pushed up the mushrooming growth of Microfinance institutions (MFIs) with the expectation to lend more loans to the needy, and mainstream the micro-enterprises into the industrial economy.
Microfinance institutions have been primarily made to believe to come up as a tool to alleviate poverty by creating more employment opportunities for the Small and medium enterprise (SME) sector, better healthcare systems, extending small and trouble free credit to the poorer section of society for their immediate business and social needs.
But what we see today is the opposite- cumbersome processes in obtaining loans, security and guarantee linked micro credits, very high interest rates, slower growth rates, less employment opportunities, highly indebted rural and urban poor and resultant unending subsistence poverty. The underlying question is to what extent these Microfinance Institutions have had an effect on mainstreaming the poor into economic polices - whether it is a menace or a reassurance for the poor.
Growth in MFIs sector
The concept itself is not new to us. Rural money lenders who lent money to the needy in the rural areas at the time of immediate need and recovered it with equal inhuman way along with a very high interest are known to our policy makers for times immemorial. It was this concept that led to establishment of Regional Rural Banks (RRB) in India way back in 1975- ‘to save the rural poor from the clutches of money lenders’.
However, that concept or philosophy no more exists as RRBs moved to more lucrative business centres giving in to lobbying strengths of new cult of licensed moneylenders who christened themselves micro financiers. Later, the National Bank for Agriculture and Rural Bank Development (NABARD) was created in 1982 in furtherance of the philosophy of RRBs and to streamline Microfinance.
Thus, the microfinance concept started to grow with government endeavours to engage itself in financing the poor, and later with the involvement of private sector by setting up MFIs, however the concept of public sector micro credit was sold to private sector at the cost of state sponsored RRBs.
The Microfinance sector with private sector participation witnessed continuous growth from 2006 onwards. The industry for micro lenders has grown for fiscal year 2015, thus registering a quantum jump in loans given and the number of new MFIs.
According to Microfinance Information Exchange (MIX), the total loans given over the year 2014-15 increased by 37 per cent as compared to previous fiscal year. Such a growth rate shows that Indian microfinance sector has an impact on the economy in an enormous way. The doubt comes in when, whether those loans are helping poor to come out of poverty or throwing them into indebtedness, and irreversible poverty.
To support its growth, the Government of India (GOI) came up with Micro-Units Development and Refinance Agency (MUDRA) Bank to refinance the existing MFIs to attain development in an inclusive and sustainable manner by supporting and promoting partner institutions and creating an ecosystem of growth of micro enterprises. This is a way to groom the existing MFIs to provide ample loans to its client base- the poor households and SMEs. According to GOI a total of 19,373.62 crores of rupees has been disbursed in the name of Pradhan Mantri MUDRA Yojana (PMMY) to these institutions with a ‘noble prediction’ that it would go to the poor.
In lieu with the enormous growth, contradicting the MUDRA ‘s vision, the Reserve Bank of India was concerned with the amount of money being lent leading to over indebtedness of the poor households in erstwhile Andhra Pradesh wanted that MFIs activities be checked. The RBI came in with its regulatory policies for the functioning of MFIs that never stooped them from their activities. However, commercial banks became a little cautious in lending to MFIs from October 2010 onwards.
Some Indian scholars and politicians then opined that alleviating poverty through microfinance was crap. But now, the Government of India itself is boosting the MFIs by bringing in policies like MUDRA, and releasing large amounts of tax payers money to private players as refinance.
What is it doing?
The Public Sector Microfinance Institutions (RRBs) that have been established by the Government to alleviate poverty in rural areas have today turned commercial. They gave way to moneylenders get licenses to lend, and draw credit from public sector banks. According to Md.Yunus, well known guru of Microfinance by private players “these small loans would generate income and the poor clients would be able to repay the loans.” Today, the story is different- the poor are thrown into poverty after taking up loans from MFIs.
The poor are trapped in a viscous debt cycle- they take up loans to start small businesses, they cannot compete with big business houses, become unable to repay the instalments, fail to pay the interest at which they borrowed, so they again take up loans to payback old loans from other institute and the cycle goes on. The interest charged by well known, often discussed as successful institutes, is sometimes as high as 36 percent per year flat plus administrative and processing fee, collateral not be mentioned again.
To this Banerjee, Duflo, Pranab, Bardhan argued that “ When it works well, microfinance can be a win-win situation, as the poor can borrow money at rates that may look high, but are much lower than those offered by moneylenders; and banks can make a sustainable business in lending to the poor.
MFIs need to be more diligent in their lending and screen borrowers better — if too many borrowers can't repay their loans, the social obligation will start to fall apart.” The question still remains that Microfinance loans are coupled up with high interest rates which makes the poor lender to default on replaying the loans.
The MFIs are very clever in selecting their beneficiaries, and identifying their needs. They select the richest of the poor who can afford a collateral security, a guarantee, and who are avers to social stigma. Then they lend them in small amounts, recover them with heavy interest in installments, increase the amount next time, and next time slowly throwing them into debt trap.
Thus, MFIs in India have now grown as all India presence institutions with thousands of branches, and billions of rupees of business.
Rani, a client of a leading MFI in India hailing from the suburbs of Warangal town, summarizes by saying “Loans from banks are always better because nobody will coerce us for repayment delays of one or two days and their interest too is lower.
We lost more than what we gained in borrowing from this MFI.” Another example, a woman borrower says that “Microfinance brings happiness in the beginning, tension at the end”. This shows that MFIs ‘force’ their clients to repay on time- which puts pressure on the lender thus resulting in taking up more loans to repay old loans and falling into poverty trap and contingent poverty.
The harsh truth
Microfinance- camouflages like the silver-lining to a dark cloud. Economists, politicians, NGO activists believe that it will generate an alternative economy and eliminates poverty but they forget the real consequences in the long run. Experts say that micro-loans are coupled with interest rates, which are higher than the bank rates and coercive recovery practices. The menace that face microfinance institutions created include the high-interest rates, poor governance, lack of transparency, vicious debt cycles, poverty trap, and debt trap.
The harsh truth is, the new Government which promised good governance to the people, instead of ending the menace of Microfinance institutions, has created a MUDRA Bank to refinance the Micro financiers, and transfer small amounts from the poor to public sector banks through Pradhan Mantri Jan Dhan Yojana (PMJDY).
The road ahead
The focus on financial inclusion and the growing debates on the accessibility of financial services to rural poor has created a chaos in microfinance sector. The growth in MFIs in India has brought more problems with it than goodies. Due to the argument of failing to repay the loans, there is a possibility of increasing contingent poverty. Increasing contingent poverty can lead to adverse consequences and will slower the overall growth rate of the economy with poor performance and less employment opportunities.
Having seen how the MFI sector performs, from a cave’s mouth, the results seem to be darker. The concerns about providing better financial services to the poor through Microfinance are a challenging task keeping in mind all the flaws. There is a need for MFIs to continue to mature in ways that will allow it to view poor customers as individuals in need of support.
However, we cannot expect humanity and service will not go hand in hand with profit maximisation efforts of growing MFIs.
In conclusion, it can be said by encouraging the banks to lend out to the poor will help overcome the problems created by MFIs.
More involvement of formal sector in providing financial services to the poor at their doorstep is a way forward in dealing with contingent poverty and saving them from falling into viscous debt cycles. It is not a ‘reassurance’ for the poor unless the state run MFIs mend their ways of lending to the poor and relocate back to rural areas.
By Gargi Rao
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