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Microfinance’s hour of reckoning……..Subir Roy
The microfinance sector should be holding a coming-of-age party. One of the younger microfinance institutions (MFIs), four-year-old Ujjivan, a pioneer in lending to the urban poor, broke even last year (2009-10), making virtually the entire top-ten MFIs that are members of the recently floated industry association, Micro Finance Institutions Network (MFIN), profitable. In fact, less than half a dozen of the leading 30-odd MFIs lose money. If lending money to the absolute poor is good business, then haven’t we reached a Shangri La of sorts with the end of poverty being in sight long before the end of history?
But not everybody buys this scenario. Some see storm clouds gathering over the sector. An expert, who declines to be identified, intensively associated with the sector since its early days, has quit the boards of some of them, worried about the state of things to come.
Before going any further, a couple of caveats. First, here we are talking about only MFIs which are constituted as non-banking financial companies, that is the purely private ones which make up the corporate sector, so to speak, in the microfinance space. (There are also the large commercial bank-linked self-help groups where default rates are somewhat higher and links with local hierarchy and politics visible. They make up a living, but somewhat different, microfinance world.) Also, microfinance cannot and should not claim to be able to remove poverty per se. It can only remove income poverty. Come a flood or a major illness, a family which had pulled itself up by the bootstraps of MFI loans can again plunge into destitution.
Within the space we have defined, what makes an MFI robust and what characterises the successful ones? Anal Jain, a former president of IBM India and an adviser to Sa-Dhan, the umbrella organisation for the sector, says the founders of the new type of MFIs, which are among the most successful, came in later, after giving up successful careers (often in well-known banks) when the first generation of MFIs, set up by pioneering public-spirited individuals through their NGOs, were already in place. The professionals brought in their own credibility, introduced system-wide computerisation, complete with back office linkage, and created strong professional organisations. Hence they have been able to grow very fast, like Equitas and Sahayata.
Rapid growth and geographical expansion will inevitably lead to multiple lending (the same borrower taking loans from more than one MFI) at this stage of the sector’s growth. The solution (to ending multiple lending) lies in setting up credit information bureaus (already happening) and self-regulation (already happened with the constitution of MFIN and its adoption of a voluntary code). The logic is once the present growth phase, virtually doubling of loan portfolios every year, is over and the sector settles down in a year or so, the men will have separated from the boys.
The sceptics are, however, not so sure that stability lies round the corner. Their fear is that the sector is hurtling towards a crisis primarily because of excessively rapid growth which is being enabled by multiple lending. The compulsion to grow so fast comes from the “Excel spreadsheet boys&” with private equity (PE) players behind them. The mainstreaming of microfinance has brought in the familiar sequence — founder exit at a massive premium, enter PE investors with their own compulsion to reach ambitious targets, and exit according to a tight schedule. The recovery rate of 98 per cent plus is being enabled by the borrower repaying an old loan by taking a new one, being forced to do so because of peer pressure from fellow members of the group guarantee. Borrowers at the bottom of the pyramid are more vulnerable than most to external shocks and a business model that bases itself on such high rates of recovery is unsustainable. So, the expert we referred to earlier advises — slow down or you will crash in a couple of years.
Samit Ghosh, founder of Ujjivan and a former banker, agrees that present rates of growth (on several parameters, his own organisation scored 100 per cent plus last year) are not sustainable and things will stabilise at a lower speed. Meanwhile, Ujjivan has introduced its own discipline — avoid areas where there are already three MFIs, so that it does not have to make anyone a fourth loan. Lending on the basis of group guarantees is already falling apart and the sector should consciously move towards Bangladesh’s Grameen II model that dispensed with group guarantee long ago.
The sceptical expert says that if MFIs were serious about passing on some of the benefits of growth (lower overhead costs) to borrowers, they would do what Ujjivan has announced along with its break even financials — reducing lending rates by almost 2 per cent. The key to sustainable microfinance and financial inclusion lies, according to Ghosh, in the best among them being able to access cheap resources through deposits, that is getting banking licences, as has happened in Bangladesh. What he finds odd about the current national discourse on issuing new banking licences is that it is over whether industrial houses should be allowed to own banks. MFIs are not even on the radar. He is not saying that banking licences are a must for MFIs but the issue should at least be seriously discussed.
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