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Microfinance institutes are growing rapidly, raising renewed concerns of overlending.
In 2006, suicides by microfinance borrowers in Andhra Pradesh’s Krishna District signalled the start of trouble for India’s microfinance sector. The Krishna crisis snowballed in 2010, spreading to other parts of Andhra Pradesh.
Microfinance is the loaning of small amounts of credit to the poor without collateral. Boasting excellent repayment rates, it became an investment opportunity and grew at a frenetic pace in India in the 2000s.
Between 2008 and 2009, the loan portfolio of Microfinance Institutions (MFIs) grew at a breakneck rate of 97 percent in India. A spate of suicides in 2010 – more than 80 – by borrowers, along with mass defaults, “burst the bubble of microfinance.”
About 9.2 million borrowers in Andhra Pradesh defaulted on their loans. The microfinance crisis was likened to subprime lending in the US, which triggered the 2008 global financial crisis.
Signs of troubling growth
Data from the Microfinance Institutions Network (MFIN), a major Indian microfinance industry association, suggests that the sector is growing again.
Following the 2010 crisis, MFIs were forced to slow their expansion. Bank lending to MFIs dried up, and unpaid loans also mounted. In October 2010, the Andhra Pradesh government passed an ordinance, which became a law the same year, imposing several restrictions on MFIs, such as the curtailing of unrestrained multiple lending and regulations on methods used to recover loans. However, growth resumed when NBFC-MFIs registered an 84 percent rise in outstanding loans in 2015-2016 compared to the previous year.
Growth briefly lagged during the demonetisation of the Indian economy in November 2016, which saw a ban on the use of 500 and 1,000 rupee notes, causing severe setbacks in gross loan portfolio and client numbers. Year-on-year growth of NBFC-MFIs was only 25 percent in the 2016-2017 period, while the entire microfinance industry grew by only 26 percent.
After that short lag caused by external circumstances, growth seems to be back on track, with 50 percent growth of NBFC-MFIs in 2017-2018 and 47 percent growth in 2018-19, according to the latest MFIN data.
NBFC-MFIs are the largest providers of microfinance, at 37 percent, with banks coming in second, at 32 percent, as indicated by MFIN’s Micrometer report from December 2018.
MFIN’s 56 member NBFC-MFIs constitute over 90 percent of the Indian microfinance sector, excluding Self Help Groups (SHGs), which receive loans from banks.
The resumed growth has left experts wondering if the old practices of overlending are indeed extinct.
Regulatory oversight after the crisis
The 2010 microfinance crisis caused the Reserve Bank of India (RBI) to intervene and more strictly regulate the sector. In the 2011 Malegam committee report, a new category of non-banking financial companies was created, the Non-Banking Finance Companies-Microfinance Institutions (NBFC-MFIs), to regulate NBFCs engaged in microfinance.
The committee outlined guidelines to prevent multiple lending, overlending and ghost borrowers, where people other than the real beneficiary receive loans.
It also reiterated what constitutes coercive loan recovery methods, like collecting weekly payments instead of monthly repayments, even though RBI officially allows weekly repayments, and ordered the establishment of credit bureaus.
The industry associations, MFIN and Sa-Dhan, received recognition as self-regulatory organisations (SROs) in 2014 and 2015, respectively. They created a code of conduct for NBFC-MFIs and began ensuring their compliance. However, the primary responsibility for compliance with RBI guidelines fell to individual MFIs. Self-regulatory organisations, meanwhile, were tasked with updating the RBI on all sector developments, conducting investigations and submitting quarterly reports.
During interviews and email conversations with Global Ground Media, MFIN and Sa-Dhan representatives did not hold MFIs responsible for the 2010 Andhra Pradesh crisis, despite the RBI regulatory action that followed.
In an emailed response to Global Ground Media, MFIN CEO, Harsh Shrivastava, said the NBFC-MFI industry had to grow while adhering to responsible lending and client protection. According to Shrivastava, the market is largely underpenetrated, with the “current credit depth” of NBFC-MFIs at 15 percent.
Professor Alok Misra, the chair of MFIN’s self-regulatory organisation committee, said: “[m]ajor violations of intent which call for serious action are non-existent.”
However, the Responsible Finance India Report (2016), by the same Professor Misra from MFIN, states, “[f]ield staff members continue to push for higher-sized loans, and despite credit bureau checks, there is substantial multiple lending.”
The report also noted that, “credit bureau reports had critical gaps, such as authenticity of data, and failed to provide a full picture of borrowers’ indebtedness in some cases.”
More recently, the Inclusive Finance India Report 2018, compiled by Professor Misra and Ajay Tankha, a development consultant, also highlights troubling trends. The report notes the forced retailing of third-party products by MFIs, to which MFIN’s response is that it has issued a ‘Directive for Third Party Products’ which does not include punitive actions for offenders.
Pillarisetti Satish, the Executive Director of Sa-Dhan, whose members are small- or medium-sized NBFC-MFIs and NGOs, said that “member institutions receive code of conduct training, undergo audits to check adherence to the code of conduct and are subject to a surveillance team. There is also a grievance redressal mechanism.”
Sa-Dhan intervened following reports of suicides due to microfinance loans in Kerala’s Palakkad District in 2018. The New Indian Express reported at the time that three individuals had committed suicide after taking loans from microfinance companies and being pressured to repay.
No MFI faced action following the suicides in Kerala. Instead, Satish stated that Sa-Dhan “provided counselling” to employees of NBFC-MFIs in Palakkad on how over-indebted clients should be dealt with, and to refrain from coercive action.
Satish said that Sa-Dhan found both MFIs and moneylenders present in the area. “We did not take specific action against any MFI, because MFI loans to individuals were within limits. But the borrowers had themselves borrowed from many institutions. Therefore, the MFI is technically not at fault,” he said. Later, Satish admitted to Global Ground Media that MFIs should check if potential customers are in a debt trap by checking with credit rating bureaus.
RBI places the responsibility for checking loan limits on NBFC-MFIs, and not the client. RBI rules forbid lending to clients who have loans with two NBFC-MFIs and already have loans amounting to Rs100,000. The rules also require NBFC-MFIs to join a credit bureau, with which they need to check client debt and also share the loan details of their own clients.
During demonetisation in November 2016, NBFC-MFIs were again accused of coercive tactics during loan recovery. Following protests by female borrowers and police complaints against companies in Nagpur and Amravati, the Maharashtra government in April 2017 formed a committee to inquire into collateral-free loans given by microfinance companies in the Vidarbha region of eastern Maharashtra, which comprises Nagpur and Amravati divisions. The committee submitted its report to the government in May 2018.
The committee report, accessed by Global Ground Media, acknowledges that though microfinance institutions perform a crucial role in financing needy and meagre income groups, there are numerous examples of misconduct by microfinance companies, such as multiple lending to the same beneficiary. In one case, a borrower availed six to eight loans at a time from various microfinance institutions.
Some NBFC-MFIs compelled borrowers to take loans for purchasing mobile phones and television sets, while institutions also disbursed loans without assessing borrowers’ repaying capacity.
The primary motive of NBFC-MFIs, according to the report, was maximising profits while neglecting the skills of rural women or village and cottage industry development.
Meanwhile, the interest rate of NBFC-MFIs is between 22 percent and 26 percent as permitted by the RBI, higher than the average 9 to 10 percent interest rate in the banking sector.
The report’s authors asked the RBI to increase surveillance of MFIs, ensure effective implementation of the 2011 Malegam Committee recommendations, guarantee reasonable interest rates of up to 20 percent, avoid multiple loan disbursements to the same borrower and provide insurance to borrowers.
Responding to the allegations in the report, an MFIN spokesperson told Global Ground Media, “[t]he Maharashtra government…has also put on record the good work being done by microfinance companies, along with highlighting places where there is room for improvement.”
However, microfinance industry reports and the Maharashtra government committee findings have stressed continued overlending, coercive recovery techniques and lack of assessing clients’ ability to take on a loan.
Assessments show problems remain
After the 2010 Andhra Pradesh crisis shook the microfinance sector, a code of conduct for NBFC-MFIs was jointly developed by MFIN and Sa-Dhan in 2011, drawing from RBI’s Fair Practices Code. The Small Industries Development Bank of India (SIDBI), a major lender to NBFC-MFIs, commissioned external evaluation and rating agencies to conduct Code of Conduct Assessments (COCA) for NBFC-MFIs.
Asked about violations of the code of conduct by NBFC-MFIs, Professor Alok Misra, chair of MFIN’s self-regulatory organisation committee, stated, “[NBFC-MFIs] comply with all regulations. The sector is not just well-regulated, but over-regulated. Nowhere in the world is accountability and regulation as prescriptive, strict and enforced as microfinance in India.”
In December 2011, Ramesh Arunachalam, who has authored several books on microfinance and worked extensively in the sector, questioned the liberal granting of points in the COCAs. He worries that regulators check whether a code exists on paper, instead of checking its actual implementation.
“Just because elaborate COCAs happen, there is no guarantee of implementation on the ground. Criticism of the sector is never accepted. Stakeholders, including some investors and lenders, want NBFC-MFIs to disburse huge amounts of money to clients. Numbers are inflated, and the broker agent model still prevails in MFI operations,” Arunachalam said, pointing to the recent failure of credit rating agencies to anticipate defaults worth millions by NBFCs.
According to the RBI, NBFC-MFIs have to be members of at least one credit rating bureau. Credit bureaus consolidate the data of microfinance borrowers, which is used by NBFC-MFIs to assess a client’s existing loan exposure and their creditworthiness. The RBI has criticised rating agencies over their inability to properly assess credit risk.
In 2014, the consulting firm Microsave consolidated the COCAs of 50 MFIs. Their ensuing report said that MFIs performed well in orienting staff on the code of conduct, as well as in transparency and fairness. However, many MFIs serviced clients with incomes above the prescribed limits. A small percentage of MFIs accepted collateral, violating collateral-free lending regulations.
Only 54 percent of MFIs had boards in which over one-third of the members were independent. Both the report of the 2011 RBI Malegam committee, which was formed to probe and make recommendations for the microfinance sector after the Andhra Pradesh crisis of 2010 and the revised code of conduct developed by MFIN and Sa-Dhan, stipulate the need for independent directors on the boards of NBFC-MFIs. In fact, the revised code of conduct states that MFIs must endeavour to have independent directors make up one-third of their governing board.
Global Ground Media also uncovered Code of Conduct Assessments that list several instances of coercive recovery techniques, overindebtedness and even the collection of repayment after the spouse had died.
These recent COCAs, created from 2016 to 2018 by rating and evaluation agencies, show that many concerns regarding MFIs which existed before the 2010 crisis are still warranted.
- Arohan’s 2016 COCA by ICRA Management Consulting Services Limited showed that in three cases, loan instalments were collected despite the death of the spouse. Arohan’s 2017 COCA report by ICRA noted that it did not provide a sanction letter and a copy of the loan agreement to borrowers.
- Uttrayan’s 2016 COCA conducted by Access Assist observed that its board recommended persuasion and pressure tactics on defaulting groups and members. GDFPL’s 2016 COCA by M2i Consulting asked it to avoid unauthorised agents in finding clients.
- SV Creditline’s 2017 COCA by CARE found instances where borrowers’ income was higher than the stipulated limits.
- Annapurna Microfinance’s 2017 COCA by ICRA said it lent to borrowers who had higher indebtedness levels than permitted.
- In March 2017, Prayas did not have a policy on compliance with the code of conduct, according to its COCA conducted by CARE.
- Nightingale Finvest Private Limited’s 2015 report by M2i Consulting noted low awareness among clients of interest rates.
The COCAs of several MFIs also stated that they lacked satisfactory client redressal mechanisms.
- For example, while Arohan’s 2017 COCA said it had a fairly structured grievance redressal mechanism, borrower awareness of the mechanism was low.
- Similarly, Annapurna’s 2017 COCA showed that client awareness levels on the grievance redressal mechanism of industry associations were low.
- Chanura’s 2015 COCA by M2i Consulting noted that while it had a grievance redressal committee, there was no mechanism to capture client feedback reported to the branch staff.
- GDFPL’s 2016 COCA revealed that it did not have defined step-by-step procedures to resolve complaints.
A total of 100 COCA assessments were completed by 2016, while COCA exercises for 37 MFIs took place from 2016 to 2017.
In addition to industry reports and governmental committees, recent Code of Conduct Assessments also mention prevailing issues long after the 2010 crisis should have brought about change.
Appearance of Conflicts of Interest at Microfinance Regulators
Questions about the independence of self-regulatory organisations (SROs), Microfinance Institutions Network (MFIN) and Sa-Dhan have arisen.
Problems with the governance of MFIN, the major self-regulatory body for MFIs, have been highlighted in reports authored by no less than individuals on the board of MFIN. Case in point is the Responsible Finance India Report 2016 authored by Professor Alok Misra, chair of MFIN’s self-regulatory organisation committee and independent board member. It states that “it will be wise to have a stricter firewall between [self-regulatory organisation] and advocacy work, and at the same time, reduce the dependence on member funds for [self-regulatory organisation] work.”
MFIN’s transparency is a concern, since the organisation does not publicly share critical field investigation reports, credit bureau data and third-party MFI evaluations as mentioned in the Responsible Finance India Report 2016. According to the report, this is likely because MFIN draws funding from member MFIs, constraining public disclosure. “Funding of [self-regulation] through public funds will also ensure that the public disclosure will increase, as currently being a member-based organization, critical aspects of its functioning such as field investigation reports, [credit bureau] data, and so on are not disclosed, thus reducing transparency in its functioning.”
Professor Misra noted that a majority of MFIN’s board members should be independent, and independence criteria should “exclude people providing direct services to member MFIs, such as funding.”
Ramesh Arunachalam, an author of several books on microfinance, and who has extensively highlighted the conflict of interest in microfinance, says, “[G]ood governance requires identification and mitigation of conflict of interest, which has not happened in the microfinance sector.”
“Self-regulation is an oxymoron, and having industry associations as quasi-regulatory bodies is fraught with danger,” he adds.
MFIN has 12 governing board members, eight of whom are from member MFIs. The remaining four members are so-called “independent board members.”
Of the independent board members, Navin Kumar Maini is a retired SIDBI Deputy Managing Director. He was a non-executive director of MUDRA, a financial institution which lends to MFIs from August 2015 to February 2018, while already appointed as an independent board member at MFIN in 2014. Desh Raj Dogra is a former Managing Director and CEO of CARE Ratings.
Professor Alok Misra is also designated as an independent board member. Misra was previously the CEO of a microcredit rating agency (M-CRIL) and assistant general manager of NABARD (National Bank for Agriculture and Rural Development), which lends to microfinance institutions. When Global Ground Media asked Alok Misra about his designation as an independent board member of MFIN, he declined to comment.
Dr Aruna (Limaye) Sharma, a retired Indian Administrative Services officer, is the only independent board member not previously working at an organisation providing direct services to members of MFIN.
Raising concerns about MFIN’s board, Arunchalam expressed his opinion in an interview with Global Ground Media: “SIDBI and MUDRA are major lenders to the microfinance sector. CARE Ratings and M-CRIL perform third-party evaluations and code of conduct assessments. How can former employees be independent board members of a self-regulatory organisation, when they have worked for organisations that profit from the microfinance business? Under no circumstances can MFIN’s board be called an example of good governance.”
He suggested that board members could function independently only if there was a sufficient time gap between their previous microfinance industry affiliation and current position as an independent board member of a self-regulatory organisation.
An examination of the work backgrounds of independent board members Navin Kumar Maini, Desh Raj Dogra and Alok Misra, showed that they joined MFIN approximately a year or less after quitting their previous jobs in microfinance as listed above. Dr. Aruna (Limaye) Sharma was appointed as an independent board member by MFIN six months after she retired in August 2018 as Secretary, Ministry of Steel.
“If ever there is a conflict of interest with a member of MFIN, our independent directors adhere to the highest standards of corporate governance and recuse themselves from any discussions,” an MFIN spokesperson said by email.
Governing and representing members
In addition to affiliations with other companies in the microfinance sector, there is also the appearance of direct conflict of interest where independent board members simultaneously represent member organisations. At least two MFIN independent board members still hold board positions at organisations which are members of MFIN.
Desh Raj Dogra is listed as an independent director on the boards of Asirvad Microfinance Limited and M Power Microfinance, both members of MFIN. Independent board member, Alok Misra, is also an independent director on the board of Vaya Finserv, an MFIN member.
An MFIN spokesperson stated: “Independent directors have to disclose if they are on the board of an MFIN member, which Desh Raj Dogra did in the instances of M Power and Asirvad.” Misra recently joined Vaya Finserv and disclosed this to the MFIN secretariat, an MFIN spokesperson stated.
MFIN’s 2018 Bye-laws state that “representatives of Associates [non-members] are eligible to be nominated as independent members.” Associates refer to non-members engaged in activities related to microfinance and financial inclusion and have associateship status with MFIN, but are not NBFC-MFIs. The bye-laws do not state that representatives of member organisations are eligible on the condition that they need to disclose their affiliation.
An MFIN spokesperson says that independent board members are chosen for their ability to augment the association’s knowledge and expertise. “Microfinance as a business does not work in isolation. MFIN and its members work closely with multiple stakeholders,” the spokesperson said.
Via email, the spokesperson also said that independent directors play an important role in MFIN’s governance. An independent director chairs the nominations and remuneration committee, which reviews the performance of senior management, appraises the CEO’s performance and recommends new independent directors to the board, to the self-regulatory organisation committee and to the enforcement committee. MFIN’s finance and audit and SRO committees are also chaired by independent directors.
Two of four MFIN independent board members, Dogra and Misra, are performing these functions while at the same time being affiliated to member organisations.
Different SRO, similar practices
The other self-regulatory organisation, Sa-Dhan, currently has 11 members on its governing board, of which eight belong to member institutions of Sa-Dhan. Another three are independent members, of which Brij Mohan was a former executive director at SIDBI and Madhukar Umarji was an executive director at RBI, which they left in the 2000s. A third independent director is Rajashree Baruah, Chief General Manager at NABARD.
Independent board member, Brij Mohan, is also the chairman and independent director on the board of Ananya Finance for Inclusive Growth and independent director at Maanaveeya Development and Finance. Both organisations are members of Sa-Dhan. Mohan is also an independent director with rating agency M-CRIL.
When asked about Brij Mohan’s affiliations, Sa-Dhan’s Executive Director, Pillarisetti Satish, said in an email: “Brij Mohan is not a full-time employee of any institution. He is an independent director/independent board member [of those institutions]. All the institutions he is associated with work for the broader goal of inclusive finance in the country, so there are no issues with regard to his contribution to these institutions as an independent director/independent board member.”
Satish did not respond to repeated questions about Baruah’s position at NABARD.
Executive Director Satish was NABARD’s Chief General Manager. The Executive Director does not have a seat on the board at Sa-Dhan.
Arunachalam said about Sa-Dhan’s board: “Sa-Dhan’s board is not perfect. Yet, the fact that they have a representative from the regulator RBI is a sign of more neutrality.”
Arunachalam added that the RBI is aware of weak governance in the sector, but is itself suffering a crisis of credibility. “Does RBI ensure the veracity of reports submitted by the [self-regulatory organisations]?” he asks. In recent years, RBI has been questioned for weak supervision, lack of transparency and failure to check dubious lending. RBI did not respond to repeated requests for comment from Global Ground Media.
In its case by the Central Information Commission against RBI for not providing the names of defaulters, RBI said it could not provide the names due to “confidentiality between customers and RBI” and the requested information would not only pertain to wilful defaulters but also the borrowers suffering economic distress. The case is pending in the Bombay High Court.
Even as governance in microfinance causes concern, the on-the-ground realities are no less troubling.
Moin Qazi, who has worked with banks and microfinance companies, and has spent four decades in the development sector, adds about the microfinance sector generally: “Things are very bad on the ground. Loan officers should adequately counsel borrowers but have huge targets to meet. Due diligence is neglected in the process. Are MFIs serving the poor or profiting off the poor?”
As MFIs expand their loan portfolio, loan officers face pressure to get more clients and ensure loan repayment. The Inclusive Finance India Report 2018 points out that the concerns of loan officers about increasing workload, in terms of the number of clients and volume of portfolio handled, have yet to be fully addressed by MFIs.
Amulya Krishna Champatiray, who works in financial inclusion and leads training and workshops at IFMR Lead, a research organisation that works on microfinance, states that MFIs have learned from every crisis, but have a long way to go as far as clients are concerned.
Even as microfinance’s advocates try to paint a picture of all being well, a closer reading of the sector and regulators indicates that while some MFIs try to financially service the poor, warning signs persist and issues which sparked the 2010 Andhra Pradesh crisis continue to spell trouble for the sector.
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Article by Urvashi Sarkar.
Editing by Mike Tatarski and Anrike Visser.
Research by Peter Allen Clark.
Illustrations by Imad Gebrayel.
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