Stop Banging Out the Loans

Microfinance in India is at a crossroads. While a few microfinance institutions, or MFIs, have innovated in providing a mix of client-responsive products and services, most adopted a narrow, uniform model of disbursing group loans to very low income clients, mainly women. Some MFIs have got very good at banging out the loans. At one point, SKS Microfinance was approving 100,000 loans a week. While the executing capacity of these MFIs is impressive, it is clear that many built operating models capable of doing only one thing. Various MFIs have tried diversifying product offerings, but at the same time, several MFI leaders have been called “graveyards of innovation”focused solely on banging out the loans.

Most of the strong MFIs are based in the south, particularly Andhra Pradesh, or AP. For the last several years, it has been increasingly clear that low income clients were borrowing from self help groups, or SHGs, and multiple MFIs, each aggressively lending without knowing the overall indebtedness of clients. The single-minded focus on growth in microloans by some industry leaders, fuelled by commercial equity and borrowings, shifted the original focus from building sustainable institutions that helped clients build income and assets to a “macho” focus on short-term profits. The focus shifted from adding value to customers to extracting value.

In this process, the social capital in the Indian microfinance industry, built by organisations such as SEWA Bank, BASIX, Friends of Women‘s World Banking and others over the last 20 years, began to fray. Over the last several years, as banks began to pursue inclusive finance, MFIs were not part of the conversation. MFIs operated in isolation without reflecting on, or contributing to, learning and policy building, making themselves vulnerable to often unfair political attacks. These MFIs did not charge exorbitant interest rates. Most refused to lend to high risk agriculture, which makes blaming them for farmer suicides, ironic. But many probably did over-lend to the same borrowers. Because the loans were small, and because credit bureaus do not operate in this market, it was unclear to what extent loans exceeded customers’ capacity to repay.

The irony is that these MFIs, warts and all, have done great work – providing access to finance to over 30 million low income women mainly in rural areas. The top 50 MFIs in India have achieved financial sustainability. Services by MFIs have been deeper than those provided under the bank-SHG model.

Unfortunately, with the politics in AP and the Malegam report creating great concern before the balanced RBI regulations came out in April, bank lending to MFIs was cut dramatically. This curtailing of funds and the politics of AP created great uncertainty and a sense among poor clients that they did not need repay. One year later, MFIs with a history of excellent repayment rates now have enormous portfolio quality and liquidity problems with massive restructuring underway. So what now? Hopefully, most MFIs will get back to the basics: finding solutions that work for poor clients and generate profits for the institutions serving them. Hopefully, the next stage will involve the build up of many diverse approaches, rather than replications of a single, narrow microlending model. The bang-out-the-loan model eventully leads to over-lending and over-indebtedness. We need to find models that support low income people in buildng income and assets, not just debt.