Microcredit in India - something to keenly follow

I recently read the autobiography of Mohammed Yunus- Banker to the Poor - and was very impressed with what Yunus has achieved by providing microcredit to the rural poor in Bangladesh through Grameen Bank, which he set up back in 1976.

Microcredit has been around in India for a while as this graphic from The Economist shows.
Andhra Pradesh has been at the forefront of the growth of microcredit in India. Microcredit caught the attention of the well know venture capitalist Vinod Khosla in March 2006.

Vinod Khosla, along with other social venture capitalists, the Small Industries Development Bank of India (SIDBI) and SKS’ borrower community, made a Rs. 11 crores ($2.5 million) investment in SKS Microfinance today. The deal is the largest-ever investment in any microfinance institution in India. SKS, whose mission is to provide financial services to the poor, will use the investment to access commercial debt and scale outreach from its current base of 200,000 clients to 700,000 clients in 2006-07.

"I am impressed with the people and processes at SKS and am confident that this investment will enable them to serve even more poor families throughout the country," said Khosla.

Of the Rs. 11 crores ($2.5 million) investment, Khosla has contributed Rs. 2.1 crores ($470,000) while technology entrepreneurs Ravi Reddy and Sandeep Tungare, co-founders of Vistaar Technologies, have contributed a combined Rs. 2.1 crores ($470,000). The Unitus Equity Fund (UEF) also invested Rs 2.1 crores ($470,000). The UEF is managed by a subsidiary of Unitus, a Redmond, Washington-based global microfinance accelerator. In addition, SKS borrowers have increased their current investment from Rs 2 crores ($450,000) to Rs 6.5 crores ($1.5 million) and the SIDBI has expanded its current investment from Rs. 50 lakhs ($112,000) to Rs. 1 crore ($225,000).

Founded in 1998, SKS serves close to 200,000 clients in over 3,000 villages spread across five states: Andhra Pradesh, Maharashtra, Karnataka, Madhya Pradesh and Orissa. It has a portfolio of $18 million, with a PAR over 30 days of only 2 percent and has consistently achieved a 250 percent annual growth rate, one of the fastest of any microfinance institution in the world.

The Economist in its latest issue reports that the rapid expansion of microcredit in India has resulted in a turf war between the microcredit providers and the Government of Andhra Pradesh, which accuses some leading micro finance institutions (MFIs) of being "no better than old-style usurers."

The dispute centres on one poor rural district, Krishna. Some women were reported to have killed themselves because they could not repay the MFIs. In March a top government official in Krishna temporarily shut 50 branch offices of four MFIs, seized and destroyed their records and told their borrowers not to repay their loans. He accused the microfinance groups of charging exorbitant rates.

Udaia Kumar, who runs SHARE, one of the affected four, says that, in fact, its loans cost about 21.5% a year—not excessive, since its cost of funds is 11% a year, the administration of a portfolio of more than 800,000 small loans in Andhra Pradesh is expensive, and not all loans are repaid. It is also less than half the rate a moneylender would charge or what a poor borrower would end up paying for a bank loan. Even so, SHARE has since agreed to cut its rates by about four percentage points.

There had been abuses. Viswanatha Prasad of Bellwether, a fund that finances microcredit-providers, blames “indiscriminate expansion” (see chart). The MFIs were flush with money, partly because commercial banks saw them as a good vehicle for lending to rural areas. Some microcredit lenders were charging interest rates on the full amount of a loan, rather than the declining balance, and some borrowers were bullied and humiliated. Aggressive competition and a failure to share information meant some people were in hock to numerous lenders. That is what seems to have led to the suicides. Mr Kumar says SHARE's own average outstanding loan was only 4,000 rupees ($86).

The root of the dispute, he says, is competition between non-governmental MFIs and a subsidised microcredit scheme, financed by the state and central governments and the World Bank. According to the bank, some 30% of SHARE's clients overlap with government-supported “self-help groups”. Mathew Titus, of Sa-Dhan, an association of Indian microcredit institutions, sees the row as a “battle of ideas”—between the non-government sector and those ideologically opposed to its working with the poor.

The fear is that the state government will now try to regulate the lenders, perhaps by capping interest rates at levels that could put them out of business. Legally, this would be difficult. SHARE and the other big MFIs are regulated as “non-banking financial companies” by the central bank, the Reserve Bank.

Bellwether's Mr Prasad thinks the scandal could even have some positive consequences. The microcredit groups will have to stamp out abuses, adhere to a code of conduct and recognise that they cannot ignore the government. For its part, the government will have to realise that the MFIs are a force to be reckoned with, and that their mission is not necessarily to exploit the poor.

It is not as if too much credit is available. There should be room for both private lenders and subsidised schemes for the very poor. There may even be room for the despised moneylenders, whose local knowledge and extensive business mean they cannot be ignored either. According to one survey, 30% of MFI clients in Krishna took loans from moneylenders. Nationwide, moneylenders are estimated to account for about one-third of the debt owed by rural households. The Reserve Bank is reviewing the laws on moneylending. One option is for banks to lend to registered moneylenders, using them as intermediaries. Priya Basu of the World Bank, an expert on India's rural credit market, thinks the idea makes sense “if they can co-opt moneylenders into the formal system”. Microcredit good; moneylenders not so bad after all.

It is still very early times for microcredit in India and the action is just beginning. After reading Yunus' autobiography, I'm convinced that microcredit has the potential to stimulate a huge boom in microenterprises and spur the creation of wealth and rid the country of poverty, far more than the attempts to alleviate poverty by doling out subsidies, loan waivers and the like. The latter might also be required, but will not suffice to achieve our ultimate objective of doing away with poverty. It will be interesting to follow the developments in this area - Badri has launched a new blog on microcredit in India to keep tabs on it.

Comments

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-Neal

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