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The SHG-Bank linkage model was launched by NABARD and it involves various banks like the
Commercial Banks, Regional Rural Banks and Cooperative Banks that provide credit to the
SHGs.
Micro Finance Institutions, on the other hand, are simple financing institutions in places where
traditional banks have not been able to reach. They are generally financed by other commercial
banks and they in turn ensure the availability of credit to the poor. These two models form a
major chunk of Micro Finance in India and have also been held responsible for the crisis.
The table below illustrates the amounts of loan disbursed to SHGs and MFIs
Source: NABARD report on the Status of Micro Finance in India, 2008-09 and 2009-10
As it can be clearly seen, loans disbursed to SHGs are more than twice than the loans disbursed
to MFIs over the period of the last four years. So it will be highly unjustified to blame just the
MFIs for the way things stand. There are drawbacks in both the models but also there is no one
single clear cut solution to all of the problems. Both the models have worked well, have yielded
reasonable results and have even grown at a commendable rate. There is no denying the slip-
ups, but more importantly, it is the government regulations and controlling actions that will
decide the shape that Micro Finance takes in India.
There are underlying problems with both the MFIs and the SHG-Bank linkage model, but that is
not to say that both cannot work in tandem.
Some of the major problems that the clients through the SHG-Bank linkage program face
include:
Meeting with banking official is difficult for the poor members as they have to travel to the
nearest branch.
Bank officials ask for information about the loan outstanding of village men and also insist
that they collect the overdue amount of other villagers.
A large number of documents are asked from the members. The illiterate SHG members are
dependent on others for filling up their forms and application and there is no proper
guidance by the bank officials who are already over loaded with other work.
The members of SHG are questioned by the Bank officials about whether their SHGs are
Government affiliated one or not.
SHG members have to wait from early morning till evening in the bank and end up wasting
their time and lose out on their daily wages.
As for the MFIs, a major source for criticism against the MFIs has been the interest rates that
they charge to the customers. It is important to note here that the high interest rates are in fact
a result of adverse market conditions that exist in India which increase the cost of providing
micro credit for the MFIs. According to a Ford Foundation report, the financial cost ratio (cost of
funds as a ratio of portfolio outstanding) is amongst the highest in the world at 8.5%, whereas
in neighboring Bangladesh it is 3.4% and in Sri Lanka it is 4.3%, because (as mentioned above)
the MFIs do not benefit from the cost of funds collected as savings. In spite of this, the rate of
interest in India is one of the lowest in the world, because of high repayment rates and high
productivity of field staff. The borrowers per staff member in India are the highest at 439,
whereas it is 131 in Bangladesh and 175 in Sri Lanka. Similarly, the cost per borrower in India is
also one of the lowest at USD14, next to Bangladesh at USD10. The operating expense ratio of
12.3% is higher in India when compared to Bangladesh (11.9%) and Sri Lanka (10.4%). The
average profitability rate, as measured by return on assets, in India is negative at -1.5%, return
on equity is -10.2% and operational sustainability is marginally below the break-even level of
100 percent because of lower (average) rate of interest of 20.7%. In contrast, the average
profitability in Bangladesh is 3.6%, return on equity is 17.2% and the operational self sufficiency
is more than 100%.*
*Report of the Working Group on Competitive Micro-Credit Market in India, Development Policy Division, Planning Commission
There is a huge need and unmet demand for micro credit all across the country and the
government or any other government agency or even a select few organizations and banks will
be unable to meet this demand. The sector has to provide for a conducive environment for new
MFIs and bank linked SHGS to grow which requires a support from the financing agencies like
NABARD and SIDBI which could further be incentivized.
REGULATORY ISSUES
Multiple Regulators: Multiplicity of regulation only leads to chaos and confusion and hinders
the seamless functioning of the institutions working at the grassroots as no one single regulator
can be held responsible for the failures because no one really is in charge. This is a result of
multiple legal forms prevalent for financing the poor. As a result there have been numerous
cases where the legal recommendations of various regulators may be contradictory to each
other. A classic example is the case of RBI issuing a notice to the MFIs making it mandatory for
them to pay a 2% fee on the amount borrowed from the banks while the Ministry of Rural
Development calls for the banks to do the service for free. The end result being utter confusion
for the banks and MFIs as nobody knows how much to charge and how much to pay. So one big
lesson that lies in here is the need for a single regulatory body for this sector. The area of micro
finance should as well be treated as a separate dimension to the inclusive growth rather than
an understudy to RBI or NABARD.*
Scale of Operations: In its current form the MFIs are only allowed to function on a limited scale
which denies the institutions the economies of scale. Subsequently, to keep the organization
working MFIs have to charge a higher rate of interest. The stringent norms of the RBI also
ensure that the MFIs are not allowed to provide for deposit and remittances services. The MFIs
should be allowed to mobilize savings as that would reduce the cost of operations and provide
for better service delivery, if not actual reduction in the interest rates being charged, as the
MFIs could help in the form of capacity building programs. Also MFIs may be allowed to provide
for financial services like Micro-Insurance and Micro-Pensions which will not only creates a base
for better sense of finances among the poor through financial literacy but also makes proper
business sense for the both the MFI and the customer.
Profit v/s Not-for-Profit: This has been a major cause of debate in the circles. Should
Microfinance be treated as a social service or should it be like just another form of banking
business that runs parallel with the business ethics of profit and not profiteering? Not for profit
ventures require subsidies to run their operations and historically, subsidies and various forms
of it have failed in India. Profit ventures, in fact, provide a platform for better and more
illustrative forms of public private partnerships which have proved to be more efficient than
government controlled/supported entities running on subsidies. A case in point being Andhra
Pradesh, where massive interest rate subsidies were provided and still it remains the state
which has been most affected by the failures of microfinance.
*Ramesh S Arunachalam, Rural Finance Practitioner through his blog “Candid Unheard Voice of the Indian Microfinance”
Multiple Lending: Multiple lending has been largely blamed for the current crisis in
microfinance. But there has also been a trend of shared JLGs (Joint Lending Groups) among the
MFIs where a particular JLG and its member clients are serviced by various MFIs on successive
days of the week. This naturally leads to over-indebtedness among the clients and reduces their
ability to repay their loans. The government regulation in its current form can hardly keep up
track of such transactions and it is necessary to ensure that multi lending is checked. UID can
help track such transactions wherein all loans could be directed to the bank accounts, but until
UID happens, the government needs to beef up its regulatory criteria.
Self Regulation: Setting guidelines for the MFIs, SHGs and JLGs is only half the work done
because expecting them to follow the guidelines is like wishing for utopia. Self regulation has
not and will not work on the ground. What is required is a proper legislation that lays down the
rules which not only regulate but also facilitate better services through microfinance. Presence
of multiple regulators only increases the chance of MFIs taking advantage of the regulatory
frailties. Not just that, as mentioned above, multiple regulators also create cumbersome
procedures for the development of the industry. The quality of supervision across various legal
forms is poor and in such a scenario, to expect self regulation to lead the way in ensuring
proper functioning of all the stakeholders is naïve.
ORGANISATION AND MARKET REFORMS
Community-based Financial Institutions (CDFIs): The idea of financial inclusion cannot be
successful without a bottom-up planning for the financial structure. It is in this regard that the
CDFIs become important. CDFIs can be set up with the help of NGOs and IRDP (Integrated Rural
Development Program) to build a local stake in the grassroot financial structure. Small
groupings such as 5 member Joint Liability Groups (JLGs) or SHGs can form a CDFI without
losing their character.
Organised Financial System: The current delivery system including the MFIs needs to be
integrated with the organized financial system. MFIs need to be brought under regulation, but
to put them in the same bracket as the Business Correspondents may result in the conflict of
interest between the banks and the MFIs. This also requires a change in the current BC model,
and yet again, allowing for private players as BCs could propel the currently languishing sector.
The SBI-Airtel joint venture is an example as to how even the giants of the corporate world may
be involved in microfinance.
*Corporate/MFI partnerships that are Profitable for the Corporation, the MFI and the Clients, by Graham Macmillan, Director, Scojo
Foundation, United States
**Ramesh S Arunachalam, Rural Finance Practitioner through his blog “Candid Unheard Voice of the Indian Microfinance”
As in any business, outsourcing could add a lot of utility to both the customers and the
financing institutions but more importantly it comes with risks that should be borne by the
financing institution rather than the customers.
Ecosystem: MFIs need to compete with the banks which inadvertently have an advantage of
out-pricing the MFIs. But if banks are meant to be competitive, overemphasis on finance as the
instrument of change needs to be checked. Finance can never be a single variable for growth
and development of any sort and hence there cannot be a single model as a solution. That is
why it is important to have the MFIs, SHGs, Microfranchises, Banks and BCs all work in
collaboration. The stress needs to be on the change required in the ecosystem rather than just
a quantitative increase in the finances. So along with finances, it becomes an imperative for the
SHGs and the MFIs to propagate knowledge on various ways of increasing productivity and
creating better employability and self employability conditions. It also makes perfect business
sense because better productivity means better income for the poor and hence a greater
chance of repayment of loans.
CAPACITY BUILDING AND FINANCIAL LITERACY
The ultimate goal of financial inclusion needs more efforts than pumping money in the system.
And it is also desirous that we realize that finance is only a tool, a very important tool
nevertheless, a tool without which nothing can be achieved, but only one of the means to an
end. Capacity building stands out as the basis for a sustained financial inclusion drive because
creating employment opportunities and increasing productivity ensures that there is a
sustained increase in income for the poor over time which enables them to seek out other
hitherto unused financial products like pensions and insurance. With greater income there is a
need of savings which further incentivizes the poor to keep bank accounts. Subsidies and loan
waivers are a stop gap arrangement which makes the poor dependent on the government. A
financially included state thrives on financial independence of an individual.
India does not currently have a nationally recognised qualifications framework in place. The
structure of the vocational education system is fragmented, with 17 different organisations
contributing to development, planning and overall management. Management of the system is
shared between central and state authorities – the National Council for Vocational Training
(NCVT and SCVTs). Organisations and Authorities have clear mandates for their activities but a
lack of communication and coordination of activity has lead to a system that is inefficient and
not accountable. As a result, there is a lack of transparency and mobility of qualifications, which
is something the Ministry of Labour and Employment are currently seeking to address.
Also there is a considerably large section of the population that is not below or near the
poverty line, but still comprises the numbers for the unbanked and the unreached. This is
mainly because of the lack of availability of suitable financial products or simply ignorance. Such
a situation calls for better awareness and financial literacy for the people. Currently the process
is stuck at the MFIs and the banking activities and extending credit. Irrespective of the amount
of money that flows through a recognized banking channel to the poor, there will always be a
need for literacy as a bottom ground for education which would lead to empowerment and
finally inclusion. It is not difficult to explain the nuances of simple banking to the poor, illiterate
people and therein lies the need for the banks and other financing institutions to ensure that
the business correspondents appointed and the various staff in their branches in the rural areas
are sensitized to the needs of the poor.
In such a scenario, the policy level changes may take time to result in changes on the
grassroots. Hence it becomes even important for the grassroots organisations to take initiatives
in developing the market for the poor by organising the poor, capacity building exercises,
capital formation and social security. The poor need to organise (through their associations) for
collective strength and bargaining power and be able to actively participate at various levels in
the planning, implementation and monitoring processes of the programmes meant for them.
To stand firm in the market, they need to build up their skills through access to market
infrastructure, access to technology, information, education, knowledge, and relevant training
like accountancy, management, planning and designing. Also ownership of the assets is the
surest way to the fight the vulnerability of poverty. The poor need to create and build up assets
of their own at the household level through access to financial services like savings, insurance
and pensions and this is where the grassroots institutions like MFIs and SHGs need to chip in.
CONCLUSIONS
Two years from now, the current microfinance crisis might seem like a good crisis to have had.
It has opened up the flaws in the financial delivery systems and has raised serious doubts over
the commitment of the government to the cause of financial inclusion. There is a need for
change in the mindset of the government wherein it must be recognized that the solution to
every problem does not lie in providing subsidies. We need to get to the bottom of the crisis
and set the foundation straight. There are other aspects to the delivery of financial services
beyond the finance and the technology to deliver it. Capacity building and financial education
are the other two pillars on which the structure needs to stand. Also the markets need to be
opened up for the various players so that public private partnerships can prosper, making for
more efficient delivery of services. The industry needs to be organized in a better way and
proper collection of data and assessment of the same needs to be done on a regular basis. India
has a huge scope for various microfinance models to prosper and it has the history and the
experience of having dealt with the myriad issues of microfinance. The industry could turn out
to be the next big thing in the India growth story and propel the inclusive growth towards
achieving inclusive governance and inclusive economics.
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