Once year since the AP Government intervention on behalf of the borrowers' after a number of suicides through its law, AP Microfinance Institutions (Regulation of Money Lending) Bill, 2010, may be a good time to review the MFI sector. In normal circumstances, a problem of such magnitude should have force a number of government agencies to rush in with various offers to remedy the situation. On the contrary, the solutions offered by various government departments, other than the AP government, leaves much to be desired. While, the RBI has incorporated certain issues raised by the AP government in its orders, it unfortunately, comes through as an agency that seems to be more sympathetic to the lenders than the borrowers. The companies on the other hand are unabashedly incorrigible. The Solutions offered by the Central Government deserve the cake for completely missing the woods for the trees, which seems shocking considering that the Ministry of Finance, Government of India, never seems to miss an opportunity to show case its emphasis on financial inclusion. This is not to claim that its financial inclusion initiatives are unwelcome. On the contrary, it should seriously consider other vehicles that can expand financial inclusion and dispel its notion that MFIs are integral part of any financial inclusion programme.
One would have hoped that any review of the business dynamics of the Microfinance sector in the aftermath of the AP government legislation, would have led to important changes in the underlying business model. Unfortunately, any such hopes quickly fade away. Any review of the MFI business model may be long overdue as the entrenched claim made by all MFIs against the AP government is that (a) Investments into the sector has dried up, (b) it has stopped lending to the poor,and (c) The companies may default on the loans to banks.
MFIs never seem to lose an opportunity to point out that they are suffering financial losses due to the State Government action. The peculiar logic runs against the nature of government policies: they are reactive rather than proactive. Hence, if the AP Government cracked the whip it is because there was a recurring problem, and not the other way round. It is imprudent to believe that a business will never lose money, rather most of the businesses do lose money most of the time. History of Capitalism is replete with such example. Unfortunately, in India, we do not seem to have accepted the fact that companies or even countries can go bankrupt for a variety of reasons. Little wonder that in India, everybody from Airlines to imprudent lenders pestering the government for bailouts.
A constantly harped claim is that MFI sector was able to attract substantial private investor capital, especially in the form of equity over the past three years. It has been pointed out that Until 2010, the amount of money invested by private equity groups in the sector was close to Rs.2,500 crores (approximately US$500 million) while in the last one year this declined to Rs.280 crores, out which about Rs.135 crores was invested in one Kolkata based MFI ("Lords of Poverty Struggle to Survive", Business Standard, Hyderabad Edition, 16 November 2011, p.13).
The second claim, about the chocking of credit supply to the poor, is of doubtful veracity. It is imperative to understand that the supposed credit requirements (just before the AP Government intervention) was based on a imprudent business practices that thrived on expanding the supply of credit backed by the use of coercive recovery practices. These claims are made on the basis of estimates provided by interested parties. There are few studies by independent agencies sources (who do not have a direct or indirect interest in the issue).
MFIs and their cheer groups constantly, claim that the problem has been exaggerated by the media - a standard, but weak defence. One recent study funded by MFIs claimed that "only" about half of the "alleged" suicides are related to MFI harassment. One wonders, how many people should die before wrong doing is accepted and there is a genuine change of heart. Five years of pushing credit (albeit high cost) to sections of the people who in the past lived amidst credit scarcity or had access to easy credit does not improve the end-use of the borrowed money. On the contrary, it bred culture of unsustainable subprime consumption - though on a localised scale. Problematically, MFIs are unable to cite any credible independent studies that have assessed the credit gap. One figure that is often cited is a supposed NABARD study that estimates the credit gap in Andhra Pradesh after the 2010 Act at Rs.4000 crores. While it may be inappropriate to comment on these figures without understanding the assumptions on which these estimates have been arrived at, it would be very interesting to see the basis on which these figures were computed. Hopefully it something different from a one-third estimation of the MFI lending in AP before the crisis. Undoubtedly, this figure will vary as one would have to deduct the cost of saving on the high interest because people are not repaying the loan. Unlike the case of SHGs, the profits from lending by MFI do not accrue to the members and is instead channelised to stakeholders outside the community. The fact that only a small component (maximum of about 20%) was used for income generation activities may mean that the figures may not be as high as NABARD seems to estimate.
It is a mistake to believe that MFIs had replaced the rural private moneylender. On the contrary, they became another source of credit, albeit a high cost, corporate version which unlike the local moneylender is completely inflexible. Moneylending has existed for thousands of years and is likely to exist long after the MFIs are gone.
The third issue that the MFIs raise is that they are likely to default on bank loans if they are not allowed to go back to their old ways. That is a completely unacceptable logic that should be discouraged as it would force the government into a bailout spiral. One reason why this should not be acceptable to the banks and other regulatory agencies, is that it would necessitate accepting MFI logic that they should be allowed to carry on their business even when it is socially detrimental. More importantly, to allow a business that has not changed its business model despite glaring deficiencies is to court a larger disaster in the near future. MFI business model is based on pushing credit and marketing standardised products without due diligence in places where the exact opposite are required. An example best illustrates their faulty business model: They fund the purchase of a Cow but insure the life of the borrower and not the animal. So if a cow dies, the household loses its livelihood and sinks deeps into the quagmire of debt. The MFIs offer two options: (a) recycle their loan, or (b) kill yourself so that they get the insurance. This business model has not changed. They have exited AP, but continue to follow this model. If they continue with the same business model it is likely that the crisis will come back to haunt the banks in a different version over the next few years. In the long-term, such a faulty model will become a powerful impediment to financial inclusion. The banks themselves need to understand that since they essentially bankrolled the MFI growth in AP, it may be more prudent for the banks to lend directly to the poor, through their business correspondents rather than promote and solidify a powerful rent-seeking intermediary. In a twisted manner, the AP crisis may actually be a great opportunity for the banks to build alternative credit delivery mechanism using the SHGs and their own Business Correspondents. If banks learn their lesson from the history of the microfinance business in AP, this is probably one crisis that would not have been wasted - despite the high cost for the banks and for the victims.
A field visit to many parts of AP indicates that the MFI continue to flout even RBI norms when it comes to collecting their dues. One such example is to demanding collateral for loans. Flouting many sections of the AP law are a common occurrence on a everyday basis.
One would have hoped that any review of the business dynamics of the Microfinance sector in the aftermath of the AP government legislation, would have led to important changes in the underlying business model. Unfortunately, any such hopes quickly fade away. Any review of the MFI business model may be long overdue as the entrenched claim made by all MFIs against the AP government is that (a) Investments into the sector has dried up, (b) it has stopped lending to the poor,and (c) The companies may default on the loans to banks.
MFIs never seem to lose an opportunity to point out that they are suffering financial losses due to the State Government action. The peculiar logic runs against the nature of government policies: they are reactive rather than proactive. Hence, if the AP Government cracked the whip it is because there was a recurring problem, and not the other way round. It is imprudent to believe that a business will never lose money, rather most of the businesses do lose money most of the time. History of Capitalism is replete with such example. Unfortunately, in India, we do not seem to have accepted the fact that companies or even countries can go bankrupt for a variety of reasons. Little wonder that in India, everybody from Airlines to imprudent lenders pestering the government for bailouts.
A constantly harped claim is that MFI sector was able to attract substantial private investor capital, especially in the form of equity over the past three years. It has been pointed out that Until 2010, the amount of money invested by private equity groups in the sector was close to Rs.2,500 crores (approximately US$500 million) while in the last one year this declined to Rs.280 crores, out which about Rs.135 crores was invested in one Kolkata based MFI ("Lords of Poverty Struggle to Survive", Business Standard, Hyderabad Edition, 16 November 2011, p.13).
The second claim, about the chocking of credit supply to the poor, is of doubtful veracity. It is imperative to understand that the supposed credit requirements (just before the AP Government intervention) was based on a imprudent business practices that thrived on expanding the supply of credit backed by the use of coercive recovery practices. These claims are made on the basis of estimates provided by interested parties. There are few studies by independent agencies sources (who do not have a direct or indirect interest in the issue).
MFIs and their cheer groups constantly, claim that the problem has been exaggerated by the media - a standard, but weak defence. One recent study funded by MFIs claimed that "only" about half of the "alleged" suicides are related to MFI harassment. One wonders, how many people should die before wrong doing is accepted and there is a genuine change of heart. Five years of pushing credit (albeit high cost) to sections of the people who in the past lived amidst credit scarcity or had access to easy credit does not improve the end-use of the borrowed money. On the contrary, it bred culture of unsustainable subprime consumption - though on a localised scale. Problematically, MFIs are unable to cite any credible independent studies that have assessed the credit gap. One figure that is often cited is a supposed NABARD study that estimates the credit gap in Andhra Pradesh after the 2010 Act at Rs.4000 crores. While it may be inappropriate to comment on these figures without understanding the assumptions on which these estimates have been arrived at, it would be very interesting to see the basis on which these figures were computed. Hopefully it something different from a one-third estimation of the MFI lending in AP before the crisis. Undoubtedly, this figure will vary as one would have to deduct the cost of saving on the high interest because people are not repaying the loan. Unlike the case of SHGs, the profits from lending by MFI do not accrue to the members and is instead channelised to stakeholders outside the community. The fact that only a small component (maximum of about 20%) was used for income generation activities may mean that the figures may not be as high as NABARD seems to estimate.
It is a mistake to believe that MFIs had replaced the rural private moneylender. On the contrary, they became another source of credit, albeit a high cost, corporate version which unlike the local moneylender is completely inflexible. Moneylending has existed for thousands of years and is likely to exist long after the MFIs are gone.
The third issue that the MFIs raise is that they are likely to default on bank loans if they are not allowed to go back to their old ways. That is a completely unacceptable logic that should be discouraged as it would force the government into a bailout spiral. One reason why this should not be acceptable to the banks and other regulatory agencies, is that it would necessitate accepting MFI logic that they should be allowed to carry on their business even when it is socially detrimental. More importantly, to allow a business that has not changed its business model despite glaring deficiencies is to court a larger disaster in the near future. MFI business model is based on pushing credit and marketing standardised products without due diligence in places where the exact opposite are required. An example best illustrates their faulty business model: They fund the purchase of a Cow but insure the life of the borrower and not the animal. So if a cow dies, the household loses its livelihood and sinks deeps into the quagmire of debt. The MFIs offer two options: (a) recycle their loan, or (b) kill yourself so that they get the insurance. This business model has not changed. They have exited AP, but continue to follow this model. If they continue with the same business model it is likely that the crisis will come back to haunt the banks in a different version over the next few years. In the long-term, such a faulty model will become a powerful impediment to financial inclusion. The banks themselves need to understand that since they essentially bankrolled the MFI growth in AP, it may be more prudent for the banks to lend directly to the poor, through their business correspondents rather than promote and solidify a powerful rent-seeking intermediary. In a twisted manner, the AP crisis may actually be a great opportunity for the banks to build alternative credit delivery mechanism using the SHGs and their own Business Correspondents. If banks learn their lesson from the history of the microfinance business in AP, this is probably one crisis that would not have been wasted - despite the high cost for the banks and for the victims.
A field visit to many parts of AP indicates that the MFI continue to flout even RBI norms when it comes to collecting their dues. One such example is to demanding collateral for loans. Flouting many sections of the AP law are a common occurrence on a everyday basis.
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