Microfinance: Rehabilitated

Confusion in Batticaloa-Monday 28th April 2014

The dynamic development of Microfinance (M ! "orld"ide continues# The $eserve Ban% of &ndia ($B&! recently created history' (y )rantin) for the first time a (an%in) license to a microfinance or)anisation * Bandhan inancial +ervices# Bandhan "as set up in 2001' (ased in ,ol%ata and "or%s "ith -socially disadvanta)ed and economically e.ploited "omen/# &t has 2'010 (ranches across 22 states# &n e(ruary 2014 Bandhan had over 1'222'000 (orro"ers and in e(ruary 2014 had dis(ursed &ndian $s# 302 crores of loans# The total loans outstandin) are &ndian $s# 1'404 crores# The $B& in a statement said that it had assessed the 5uantitative and 5ualitative aspects of the application' includin) Bandhan/s financial statements' 10-year trac% record of runnin) a financial services company' proposed (usiness model and demonstrated capa(ilities' "hen decidin) to )rant the -in principle/ license# Bandhan/s Mana)in) 6irector said that the a"ard of the (an%in) license "as reco)nition of the microfinance sector and the hard "or% to reach out to un(an%ed sectors (y Bandhan# 7o" Bandhan "ill (e a(le to offer fully-fled)ed (an%in) services to the poor and mar)inalised#

M reputation under attac%

The reputation of M has (een under attac% recently' especially on the issue of over-(orro"in) and resultant over inde(tedness (y M clients# 8o"ever a recent comprehensive study of 2'000 households in ei)ht villa)es over a 20-year timeframe' released (y the 9orld Ban% (6ynamic :ffects of Microcredit in Ban)ladesh!' has reha(ilitated M and esta(lished that; -there is no evidence that (orro"in) from multiple sources leads to over inde(tedness/ and that -M loans do (enefit "omen more/# &n fact the report concludes that access to -multiple credit institutions encoura)e households to diversify their income earnin) activities/# The fact that M helps the poor is confirmed# Mean"hile on 4 April' in +ri <an%a' the +ecretary to the Ministry of inance 6r# =#B# >ayasundera deliverin) the first 6r# 9#M# Tila%aratna Memorial <ecture on -The Contemporary Thrust of +ri <an%a/s 6evelopment +trate)y'/ referred to the consolidation of nine re)ional development (an%s into one institution' "hich "as dedicated primarily to "omen entrepreneurs# 8e also made a reference to the -stren)thenin) of micro financial institutions/ in the course of his lecture# 6etails "ere not provided' (ut reports on the on)oin) consolidation of the financial sector tal% of dedicated Microfinance &nstitutions (M &! and proposed le)islation for re)ulation of M &s are possi(ilities#

But the role of

microfinance as a developmental tool for poverty alleviation has its detractors# 8u)h +inclair' in -Confessions of a Microfinance 8eretic'/ provides an analysis of "hat the purposes of microfinance is' "hat positive outcomes it leads to' and "hat can (e done to ma%e it "or% (etter# 6avid $odman in -6ue 6ili)ence/ ar)ues that -Microfinance is only no" (ein) su(?ected to )enuine vi)our in its analysis of outcomes' there is little evidence that microcredit has a poverty alleviation effect' (ut that there are foundations to (e (uilt upon/# +inclair is also thou)ht to (e the anonymous source of the 7e" @or% Times e.pose on corruption "ithin the microfinance industry# An the other hand Milford Bateman in -9hy 6oesn/t Microfinance 9or%/ ar)ues that microfinance (y its very nature supports only the simplest' least productive and lo"est )ro"th potential activities# Most loans are in fact simply used for consumption' "hich the 9orld Ban%/s Consultative Broup on =overty (CBA=! reco)nises implicitly in its attempts to redefine microfinance in terms of financial inclusion' i)norin) the issue of the micro loans sustaina(ility# This is lin%ed in turn to the dan)er of over-(orro"in) and over-inde(tedness' "hich "as (rou)ht in star% terms in Andhra =radesh' and (y the farmer suicides' "hich resulted in politicians and administrators )oin) over(oard in attemptin) to control microfinance institutions# This resulted in ne)ative conse5uences for the microfinance industry and the $eserve Ban% of &ndia presentin) a draft Microfinance Bill to the ne.t session of the &ndian =arliament# >ac5ues Toureille' Beneral Mana)er of the A)a ,han oundation' says -since the 1330s micro financin) of small (usinesses has started to (ecome (i) (usinessC these social fundin) institutions are esta(lished as microfinance (an%sC they/ve (een ma%in) a lot of money over a short period of time' )ettin) e.tremely hi)h returns and ma%in) a very lar)e mar)in#/

Batticaloa developments
=ro(a(ly reflectin) these concerns' the 6istrict +ecretary (6+! of the Batticaloa 6istrict in the :astern =rovince of +ri <an%a' summoned a meetin) of Micro inance &nstitutions (M &! operatin) in the 6istrict on 1 April# A representative of the Central Ban% "as also present# $epresentatives of M &s present at the meetin) say that the 6+ declared that 7on Bovernment Ar)anisations shall not implement M services in the district# Ar)anisations "hich do not have permission from the Central Ban% shall not implement M pro)rams# The 6+ also is reported to have stated that a $e)istration Certificate of a Company shall not (e treated as license for the

provision M services# An 4 April the 6irector =lannin) ' Batticaloa 6istrict +ecretariat issued a series of )uidelines under reference BTD6=+D =DMicro 2014 (y "hich' amon) other thin)s' the ma.imum rate of interest for -micro credit activity/ "as fi.ed at 12E per annum# urther the letter stated that M &s have to "or% "ith the BA/s approval and "ith 6ivisional +ecretaries/ recommendation# The letter (anned "ee%ly collection of instalments# The M &s "ere advised to avoid -duplication of (eneficiaries/# :ach and every M loan should (e recommended (y the 6iv +ec# The M & -should (e re)istered under Central Ban%/s Buidance/# &ndividual house visits to collect loan instalments or to evaluate loan application "ere not allo"ed# All 7BAs in M & activities should )et special permission for M activities# M loans for consumption "ere prohi(ited# &t is no"here stated under "hat le)al authority the Bovernment A)entD6istrict +ecretary has issued these orders# The <an%a Microfinance =ractitioners Association (<M =A!' the ape. or)anisation' too% this issue up "ith the authorities in the Ministry for :conomic 6evelopment and it "as su))ested that a meetin) (e held to discuss the matter "ith the 6istrict +ecretary' Batticaloa# 7e"spapers reported the crisis faced (y (oth lenders and (orro"ers in the Batticaloa 6istrict (y the sudden imposition of these draconian rules' most of "hich have no le)al (asis# 8o"ever on 4 April 2014' the same 6irector =lannin)' of the Batticaloa 6istrict +ecretariat issued a letter' reference' 6=+D7BACDB:7$<D2014' captioned -+pecial Approval for Micro inance =ro?ects'/ statin) that -special approval/ is re5uired for M pro?ects in the Batticaloa 6istrict# &t also re5uested M &s to "hich it "as sent -to su(mit a list of selected (eneficiaries and the re)istration copy of the Central Ban% "hich is sayin) that you are entitled to implement Micro inance activities/# The letter also refers to a -Concept 7ote/ anne.ed# This so-called -Concept 7ote/ seems to (e a form to (e filled in (y M &s and su(mitted to the Bovernment A)ent' throu)h the 6ivisional +ecretary and the 6irector =lannin)# An a plain readin) it is' (eyond dou(t' one of the most meanin)less documents ever to emanate from a 6istrict Administration# 9hile it is (eyond comprehension (y a reasona(le person' it simply cannot (e filled in a meanin)ful mannerF &t is reported that most M &s have suspended operations in Batticaloa 6istrict# The <M =A has "ritten to the 6+ Batticaloa and re5uested an early meetin) to resolve this crisis# An 22 April the <M =A met the 6+ Batticaloa' the outcome is not yet %no"n#

7o re)ulatory mechanism in place

This situation has come a(out currently in +ri <an%a today due to the fact M seems a lucrative profit centre amon) financial service providers' (ut there is no re)ulatory mechanism in place# All financial service providers ran)in) from licensed commercial (an%s' finance companies' 7on Bovernment Ar)anisations' cooperatives' money lenders' pa"n (ro%ers' cheetu schemes ($otatin) +avin)s and Credit Associations G$A+CAsH!' re)istered voluntary social service or)anisations' re)istered societies' Bovernment pro)rams' etc# are all promotin) themselves as providers of M to the poor and the mar)inalised# Many of these are )lorified hire purchase schemes at very hi)h interest# The popularity of microfinance may have (een tri))ered (y =rof# @unus of Ban)ladesh (ein) a"arded the 7o(el =eace =riIe for his "or% "ith the Brameen Ban% of Ban)ladesh' the first M & to (e )ranted a (an%in) license# &ronically' since then' the Bovernment of Ban)ladesh throu)h its Central Ban% has ousted =rof# @unus from the Brameen Ban%# The Bovernment is appointin) his successor# Another success )oin) do"n the drainJ The politicians in Ban)ladesh

seem una(le to for)ive @unus for tryin) to start a rival political or)anisation some time a)oF

+ri <an%a/s history of microfinance

+ri <an%a has a very lon) history of microfinanceK the first cooperative rural (an% too% in savin)s deposits and )ave out its first small loan' "hat is today fashiona(ly referred to as micro credit' in the early 1300s at Meni%hinna' in the ,andy 6istrict# The Bovernment has from time to time promoted microfinance' for e.ample throu)h the Central Ban%/s &suru =ro?ect' the >anasaviya Trust und (>T ! and its successor' the 7ational 6evelopment Trust und (76T !# The +ri <an%a +avin)s Ban% no" has a special "indo" for "holesale lendin) to microfinance institutions' usin) the 76T loan repayment funds' after the latter "as "ound up# The current incarnation is 6ivi 7e)uma# The Act defines microfinance as; -A type of (an%in) service that is provided to employed or lo" income individuals or )roups' "ho "ould other"ise have no other means of )ainin) financial services#/ This is the only le)al definition availa(le in an enacted la"# The definition is far from satisfactory# or e.ample' the -unemployed/ are not eli)i(le for microfinance# Ane recent estimate put the num(er of M &s at 10'400# Microfinance has an important role to play in )ender empo"erment in +ri <an%a as it is estimated that over 40E of depositors and (orro"ers are "omen# &n +ri <an%a/s recent history of the financial services sector' there have (een some spectacular lapses in prudential re)ulation' "hich has resulted in depositors losin) money# +tartin) from the crash of 8=T' LT&' the collapse and ta%eover of Mercantile Credit' to =ramu%a Ban%' to +a%vithi' to 6andu"an Mudalali (deceased! and 6adi 6andu"an Mudalali' Ceylinco +hriram' and the Bolden ,ey episode' the financial re)ulator has (een found "antin)# A recent ne"spaper headline screamed -Central Ban%/s ailure on Bolden ,ey Comes to <i)ht/ in (loc% capitals' "ith the lead story in multicolourF Ane "itness (efore the =+C on the C>/s impeachment is reported to have stated that the -Monetary Board discontinued the investi)ation/#

$e)ulatin) microfinance
9hile the Central Ban% of +ri <an%a is the primary re)ulatin) authority for (an%in) and financial services' the Commissioner of Cooperative 6evelopment at the national level and his =rovincial counterparts' the $e)istrar of Companies' the re)ulators under the la"s )overnin) $A+CAs (cheetu!' money lenders' pa"n (ro%ers' insurers and all other le)ally-reco)nised providers of financial services have desi)nated re)ulators' under "hich the institutions under their purvie" have (een set up# The Central Ban%' recently under the caption Microfinance &nstitutions' has stated; -The CB+< "as involved in preparin) le)islation for the re)ulation of microfinance institutions# There are several cate)ories of microfinance institutions that are re)istered under various la"s' (ut are not re)ulated or supervised accordin) to prudential criteria# 8ence' to safe)uard the interest of depositors and customers and also to stren)then the )overnance and service delivery of these entities' it "as decided to (rin) them under a common re)ulatory um(rella#/ &n terms of a Microfinance Bill' hereinafter referred to as -6raft Bill 7o# 02/ on microfinance announced recently' as havin) (een approved (y Ca(inet' the Monetary Board of the CB+< is the re)ulator for M &s# This is a "elcome step# &n +ri <an%a althou)h there is no le)al definition as to "hat specifically falls "ith the definition of -microfinance/ (e.cept in the 6ivi 7e)uma Act!' the 6raft Bill 7o# 02 provides a definition'

differin) from the 6ivi 7e)uma definition# &n =art && +ection 10(2! of the draft la" it is stated that -microfinance (usiness/ is -the acceptance of deposits and providin) financial accommodation any form and other financial services mainly to lo" income persons and micro enterprises/# The 6raft Bill 7o# 02 on re)ulatin) microfinance limits its application to certain companies' 7on Bovernmental Ar)anisations and societies# The Bill also provides that the Bill "ill not apply to licensed (an%s and finance companies# urther in terms of the inance Business Act 7o# 42 of 2012' "hich places restrictions on the freedom to use the "ord -finance/ and all its derivatives in a company name' amon) other thin)s' the Communications 6epartment of the CB+< has issued a press release from the 6epartment of +upervision of 7on Ban% inancial &nstitutions' statin) amon) other thin)s that' over and a(ove the e.emptions provided in the Act itself' (y section 10 (0!; -The Monetary Board has approved that any companyDor)anisation "hich has (een carryin) on microfinance (usiness and re)istered under the follo"in) statutes as at the effective date of the inance Business Act 7o# 42 of 2012 may continue to use the "ord -microfinance/ as a part of its name or description until such time the proposed Microfinance Act is enacted#/ The inance Business Act does not provide for a provision under "hich such an order can (e made (y the Monetary Board' virtually ne)atin) the provisions of the act# The statutes are (a! a company re)istered under the Companies Act 7o#04 of 2004' ((! any 7BA re)istered under the Companies Act 7o# 4 of 2004 and Moluntary +ocial +ervices Ar)anisations GM++AH ($e)istration and +upervision! Act 7o# 21 of 1380' (c! any +ociety re)istered under the +ocieties Ardinance (Chap#122!# This amounts to virtually amendin) the act' and the le)al (asis for doin) so is not e.plained# &n any event the effect of this decision is to permit certain institutions "hich do not presently come "ithin an accepta(le frame"or% of prudential re)ulation from an aspect of a provider of financial services to the )eneral pu(lic to continue to underta%e microfinance (usiness#

Mery hi)h ris% strate)y

Biven the "ea% and ineffective history of the re)ulators in +ri <an%a' includin) the e.tra le)al steps ta%en (y the 6+ Batticaloa' in imposin) restrictions on M ' "hich have no le)al (asis' this is a very hi)h ris% strate)y' puttin) the pu(lic at lar)e in ?eopardy of (ein) defrauded (y unscrupulous elements# or e.ample' the M++A and +ocieties Ardinances provide for a re)ulator (ut these (odies do not have the capacity to provide a sufficient level of prudential re)ulation of the financial services provided (y these entities# The 6raft Bill 7o# 02 on M &s cate)orically places these institutions under the re)ulatory re)ime of the Monetary Board of the CB+<# The 6raft Bill 7o# 02 sorts out the pro(lem of determinin) "hat type of M &s are covered (y the Bill (y specifyin) that only the entities specified in the (ill can apply for a license# But "hile the Monetary Board directly re)ulates licensed M &s' +amurdhi' Cooperatives and armers Ban%s are re)ulated (y their relevant re)ulators on directions issues (y the Monetary Board in terms of the 6raft Bill 7o# 02# The 6raft Bill 7o# 02 provides that the Monetary Board has the po"er to issue directions to the Commissioners of Cooperative 6evelopment' the +amurdhi Authority and the Commissioner of A)rarian +ervices# &t is interestin) that the recently-enacted 6ivi 7e)uma Act "hich too% over the +amurdhi Ban%u +an)ams and renames them 6ivi 7e)uma Ban%u +an)am' provides that the Ban%in) Act and inance Business Act "ill not apply to the 6ivi 7e)uma institutions# +o' no prudential re)ulation of 6ivi 7e)uma micro financeJ &n the 6ivi 7e)uma Bill' the definition of

microfinance differed from that in 6raft Micro inance Bill 7o# 2# At the (riefin) of the press on the meetin) of the Ca(inet of Ministers "hich approved the 6raft 7o# 02' M & Bill' it "as stated that a three-tier system "as (ein) adopted in +ri <an%a' certain M &s directly (y the Monetary Board' others throu)h officials li%e the Commissioners of Cooperative 6evelopment and a third cate)ory (y re)istered auditors actin) on (ehalf of the CB+<# M &s in +ri <an%a for decades received su(sidised fundin) from the >anasaviya Trust und and its successors' the 7ational 6evelopment Trust und and the +ri <an%a +avin)s Ban%# 9ith the on)oin) consolidation of the financial services sector' the future of this M & "indo" of the +<+B is not %no"n#

7eed for prudential re)ulation

The discussion on the first and second draft (ills on M &s in +ri <an%a has resulted in the 6raft Bill 7o# 02 (ein) a )reat improvement on its predecessors# The CB+< itself has admitted that -several cate)ories of microfinance institutions that are re)istered under various la"s' (ut are not re)ulated or supervised accordin) to prudential criteria/# Microfinance in +ri <an%a is not a ne" development (ut has a lon) history' )oin) (ac% to the 1300s# The continued lac% of prudential re)ulation is a (etrayal of the le)al and moral o(li)ation of the re)ulator of "hich co)nisance must (e ta%en at the hi)hest level' includin) the hi)her ?udiciary "hich has to ensure the rule of la"# &n this conte.t' the early enactment of the 6raft Bill 7o# 02 on micro finance re)ulation "ould (e "elcome# 8o"ever the conundrum caused (y 6ivi 7e)uma (ein) e.empted from (oth the Ban%in) and inance Business Acts raises ma?or ne" issues re)ardin) the prudential re)ulation of the sector# The confusion caused in Batticaloa 6istrict (y orders issued (y the 6+ must also (e remediedN 9hatever the controversies' at a )lo(al intellectual or at operational level' in places li%e Batticaloa 6istrict' the fact remains that microfinance is a financial instrument' "hich almost all financial service providers in +ri <an%a are presently utilisin)# The Central Ban% itself has reco)nised the need for prudential re)ulation# Bive the rampant scandals in the financial sector of late' leavin) the microfinance sector unre)ulated is a hi)h ris% strate)y' "hich' if at all' compounds the dan)ers' "hich micro savers and micro (orro"ers face# As has (een pointed out' this sector is not a ne" development (ut has a lon) history' )oin) (ac% to the 1300s# The continued lac% of prudential re)ulation is a (etrayal of the le)al and moral o(li)ation of the re)ulator of "hich co)nisance must (e ta%en at the hi)hest level' includin) the hi)her ?udiciary "hich has to ensure the rule of la"# &n this conte.t' the early enactment of the 6raft Bill 7o# 02 on micro finance re)ulation "ould (e "elcome# 8o"ever the conundrum caused (y 6ivi 7e)uma (ein) e.empted from (oth the Ban%in) and inance Business Acts raises ma?or ne" issues re)ardin) the prudential re)ulation of the sector# The confusion caused in Batticaloa 6istrict (y orders issued (y the 6+ must also (e remedied# 7ot"ithstandin) these issues' 6ivi 7e)uma has launched its micro finance "indo"# &t "ill (e )ood if 6ivi 7e)uma provides the space for pre e.istin) M &s' said to (e around 10'400' to continue to operate and may (e also support these M &s throu)h the 6ivi 7e)uma 6evelopment und and the 6ivi 7e)uma $evolvin) und# (The "riter is a la"yer' "ho has over 20 years of e.perience as a C:A in (oth +tate and private sectors# 8e retired from the office of +ecretary' Ministry of inance and currently is the Mana)in) 6irector of the +ri <an%a Business 6evelopment Centre#!