RBI Microfinance Proposals That Are Anti-Poor

In June 2021, the Reserve Bank of India (RBI) issued a “Advisory Document on Regulation of MicrofinanceWhile the stated objective of this review is to promote financial inclusion of the poor and competition among lenders, the potential impact of the recommendations is counterproductive to the poor. If implemented, they could lead to expansion of microfinance lending by private financial institutions to the poor. in the provision of loans at higher interest rates, and will result in huge profits for private lenders.

recommendations

The advisory document recommends that the current ceiling on the rate of interest Non-Banking Finance Company-Micro Finance Institution There is a need to eliminate (NBFC-MFIs) or regulated private microfinance companies, as it is biased against a single lender (NBFC-MFI) among many (commercial banks, small finance banks and NBFCs). It proposes that interest rates be set by each agency’s governing board, and holds that “competing forces” will bring interest rates down. The RBI not only shunned any initiative to extend low-cost credit to the rural poor, most of whom are rural women (as most loans are given to members of women’s groups), through public sector commercial banks. but, in addition, it is also proposed to de-regulate the rate of interest charged by private microfinance agencies.

As per the extant guidelines, ‘The maximum rate of interest to be charged by NBFC-MFIs shall be the lower of the following: cost of funds and margin of 10% for large MFIs (loan portfolio of more than ₹100 crore) and for others 12%; Or the average base rate of the five largest commercial banks multiplied by 2.75’. In June 2021, the average base rate announced by RBI was 7.98%. A quick look at the websites of some small finance banks (SFBs) and NBFC-MFIs reveals that the “official” interest rate on microfinance was between 22% and 26% – almost three times the base rate.

important for rural households

Microfinance is becoming increasingly important in the loan portfolio of poor rural households. In a study of two villages in southern Tamil Nadu conducted by the Foundation for Agrarian Studies, we found that a little over half of the total borrowings by households living in these two villages were unsecured or collateral-free loans from private financial agencies. (SFBs, NBFCs, NBFC-MFIs and some private banks).

There was a clear distinction by caste and socio-economic class in terms of the source and purpose of borrowing. First, unsecured microfinance loans from private financial agencies were of disproportionate importance to the poorest households – poor farmers and wage workers, scheduled castes and individuals from the most backward classes. Second, these microfinance loans were rarely for productive activity and almost never for a group-based enterprise, but primarily to meet home improvement and basic consumption needs.

Our data shows that poor borrowers took microfinance loans at an interest rate of 22% to 26% p.a. to meet day-to-day expenses and home repair costs. How does it compare with loans from public sector banks and cooperatives? Crop loans from Primary Agricultural Credit Societies (PACS) in Tamil Nadu had zero or zero interest charges if repaid in eight months. Banks are charged 4% p.a. (5% with interest subvention of 9%) on Kisan Credit Card loans if paid in 12 months (or a penalty rate of 11%). Other types of loans from scheduled commercial banks carry an interest rate of 9%-12% per annum. As the RBI now also believes, the rate of interest charged by private agencies on microfinance is the maximum permissible, a rate of interest that is far from any notion of cheap loans.

a debt breakup, breach

The actual cost of micro finance loans is even higher for several reasons. Firstly, because of the mode of repayment: A loan of ₹30,000 from an NBFC-MFI, has to be repaid in 24 equated monthly installments of ₹1,640. Every month, a principal of ₹ 1,250 and interest of ₹ 390 is repaid. The simple interest on this loan in the first month is 15.6% per annum but till the end of the first year the interest rate is 31%. This is because the principal (₹1,250) is reduced every month, but the interest charges remain the same. In short, an “official” flat rate of interest used to calculate equated monthly installments actually implies an increasing effective rate of interest over time.

In addition, a processing fee of 1% is added and the insurance premium is deducted from the principal. Since the principal is insured in case of death or default of the borrower or spouse, there can be no argument that the higher interest rate is in response to the higher risk of default.

Does the borrower understand this mechanism? As per RBI norms, we found that all the borrowers had a repayment card with a monthly repayment schedule. On his regular visit, the debt collector will tick off the installment paid. This does not mean that the borrowers understood the charges.

Further, contrary to the RBI guideline of “no recovery at borrower’s residence”, the collection was at the doorstep. Note that the shift to digital transactions refers only to the approval of the loan, as the repayment is entirely in cash. Several borrowers said that the borrower used abusive words in a loud voice while shaming them in front of their neighbors.

If the borrower is unable to pay the installment, other group members will have to contribute, with the group leader taking responsibility. In our survey, there was no organic link of microfinance to any group activity or enterprise. As an agent of an NBFC-MFI told us, “we have used the groups created earlier for other activities only to show that we lend to a group”.

shift now

While microfinance lending has been around since the 1990s, what is different about the recent phase of financial services development is that privately owned for-profit financial agencies are “regulated entities”. In fact, he has been promoted by RBI. Lending by Small Finance Banks (SFBs) to NBFC-MFIs has recently been included in priority sector advances. And, post COVID-19, the cost of funds supplied to NBFC-MFIs was reduced, but with no additional restrictions on the interest rate or other parameters affecting the end borrower.

In the 1990s, microcredit was given by scheduled commercial banks either directly or through NGOs to women’s self-help groups, but given the lack of regulation and scope for higher returns, many such as NBFCs and MFIs For-profit financial agencies emerged. . By the mid-2000s, there were widespread accounts of misconduct by MFIs (such as SKS and Bandhan), and the crisis in some states, such as Andhra Pradesh, stemmed from the rapid and unregulated expansion of private beneficial micro-lending. .

Andhra Pradesh’s microfinance crisis prompted the RBI to review the matter, and based on the recommendations of the Malegam Committee, a new regulatory framework for NBFC-MFIs was introduced in December 2011. A few years later, the RBI allowed a new type of private lender, SFBs, with the aim of taking banking activities to the “unserved and under-served” sections of the population.

Today, as RBI’s advisory document notes, 31% of microfinance is provided by NBFC-MFIs, and 19% by SFBs and 9% by NBFCs. These private financial institutions have grown rapidly over the years, earning high profits, and at this pace, the current share of public sector banks in microfinance (SHG-bank linked microcredit) is likely to fall sharply to 41% Is.

The proposals in the RBI’s advisory document would lead to further privatization of rural credit, reducing the share of direct and cheap credit from banks and leaving poor borrowers at the mercy of private financial agencies. This is beyond comprehension at a time of widespread pandemic crisis among the working poor. The All India Democratic Women’s Association, in response to this document, has raised concerns about the implications for women borrowers and demanded that the rate of interest on microfinance should not exceed 12% per annum. To meet the credit needs of poor households, we need a policy reversal: strengthening public sector commercial banks and tighter regulation of private entities.

Madhura Swaminathan, Professor at the Indian Statistical Institute, Bangalore