Appeared in People's Democracy, 2010 October25 - 31st Issue and

November 1-6th Issue

The Stranglehold of Microfinance

K Veeraiah

OF late microfinance is being viewed as a prime tool in achieving poverty

reduction and inclusive growth. Particularly after Grameen Bank fame
Mohammd Yunus was bestowed with Nobel Prize, this illusion became
widespread resulting in a major spurt in microfinance institutions across the
world. The proponents are focusing on turnovers, repayments and profits as the
indicators of its success, neglecting the ramifications of microfinance
institutions (MFIs) on poverty reduction or inclusive growth. Microfinance as a
vehicle of poverty reduction mechanism has its own limitations. At best, it can
play only a complimentary role rather than a key role, provided, it is governed
under panchayati raj system and borrowers command ownership of resources
of income generation. Realising this limitation, the Communist Party of India
(Marxist) correctly assessed, “Conceptually, the government’s and the World
Bank project of microfinancing and SHGs serve as an alternative to rural credit
which has drastically declined after liberalisation. SHGs cannot be a substitute
for institutional rural credit. Such an approach must be opposed.[On Certain

Policy Matters, Document adopted in CPI(M) 18th Congress in 2005]

Recent incidents in Andhra Pradesh come as a rude shock to the

proponents of financial inclusion through microfinance. These incidents
resulted in suicides of 57 people, out of which, 17 are the clients of the world’s
largest MFI, SKS Microfinance. As more than 30 of them are women, the
intensity of the shock is such that the government of Andhra Pradesh has been
forced to proclaim an ordinance. The Reserve Bank of constituted a sub
committee to look into various aspects of these modern 'merchants of ' who
have converted MFI into an industry. Earlier in 2006 in Andhra Pradesh, 2007 in
and 2008 in Karnataka, the role of MFIs brought several questions to the fore.
These incidents force us to rethink the efficacy of MFIs as instruments of
financial inclusion and of poverty reduction as well as its changing nature with
the entry of finance capital through private equity route.

PHILOSOPHY &UTILITY OF ‘MICROFINANCE’

 The concept of microfinance is having its roots in the neo-liberal project
itself. As neo-liberalism gripped the minds of policy makers across the
continents, the governments started retreating from the welfare state. Retreat
of development finance from provisioning of services and financial access
forced vulnerable sections of people to face financial exclusion. This resulted in
widespread struggles questioning the legitimacy of neo-liberal project, such as
in , during 1986. This crisis of legitimacy forced the neo-liberal think-tanks to
advocate structural adjustment programs with human face. As a way out from
the crisis of legitimacy, neo-liberal policy makers devised ‘Emergency Services
Fund’ in directly targeting the households by eliminating the State
intermediaries, which evolved into microfinance in due course. As the avenues
for profit dried out, from 70s, the international financial capital is in search of
new sources of profit. Both these efforts consolidated in the research results of
the then neoliberal stalwarts such as Joseph Stiglitz who worked on reforming
the small and micro lending structures across the countries and came up with
revitalising the traditional financial intermediary systems by opening space for
private capital and self financed efforts of people for financial inclusion. To
carry out these policy directives in the interests of international finance capital,
the World Bank-IMF along with their siblings such as ADB, IAB, DFID, USAID,
JCB, formed into a Consultative Group to Assist the Poor (CAGP) as a global hub
to oversee this effort. Thus, the origins of the concept of microfinance are
rooted in 'think globally and act locally' attitude of the neo-liberal project. True
to their nature, these development initiatives are centred around non-
governmental organisations, as they are insulated from the limitations of
political economy of the State.

Providing small loans to individuals, possibly within the groups as capital

investment to enable income generating opportunities is the essence of
microfinance. To be eligible under microfinance schemes, the potential
beneficiaries were asked to form into groups by mobilising their initial thrifts
within each village. In this way, the duration between the formation of group
and their eligibility for loan helped private lending agencies to gauge their
cohesiveness and also the saving culture.

In, Mohammad Yunus, after bagging the Noble Prize became an

international face of microfinance. He experimented successfully with the peer
group based modules. Yunus summarised the philosophy of microfinance based
on peer-groupings by saying, “(It) smooths out the erratic behaviour patterns of
individual members, making each member more reliable in the process. Subtle
and at time not so subtle peer pressure keeps each group member in line with
the broader objectives of the credit program. Shifting the task of initial
supervision to the group not only reduces the work of the bank but also
increases the self-reliance of the individual borrowers”. This basically targeted
women as its stakeholders. The success of microfinance is in mobilising
women. Women have been historically marginalised and their marginalisation
is more stark in the economic arena as well. They are easy to control morally
and otherwise at the time of collections – the underlying cause of 95-99
percent of recoveries.

In the summit of Women’s empowerment (1995), the then World Bank

president James Wolfenson presented this idea of incorporating women in thrift
groups to economically empower them. In 1997 in , the World Bank with the
support of Citigroup, Mastercard, American Express Bank, organised another
summit to structuralise the execution modules of microfinance. Finally in 2002,
the at the International Conference on Financing for Development explicitly
recognised that microfinance and micro credit as well as national savings are
important for enhancing social and economic impact of financial sector. The
United Nations was also co-opted into this understanding when the then UN
secretary general Kofi Annan announced 2005 as the Year of Microfinance.

Currently MFIs are having global assets worth $50 billion and are not
damaged much by the ongoing crisis of financial capitalism. This proves the

resilience of this industry. By the end of the 20th century, governments

appropriated the conceptual utility of microfinance by making it as a centre
piece in its developmental strategies focussing on women. This also helped the
governments to manage the grassroots who are disgruntled with the
consequences of structural reforms. This role of SHGs is nowhere more evident
than in the state of Andhra Pradesh when Chandrababu Naidu used SHGs as
powerful instrument to shift the tide towards TDP during the 1999 general
elections.

Another important aspect of the MFI as a developmental tool is turning

the non-governmental organisations into self-sustainable entities. With this, the
whole concept of NGOs has undergone a major change as they shifted their
orientation from service to market and also from deemed agencies of
transformation into potential counter hegemonic social forces through
microcredit. They are gradually adopted into the circuits of international
finance capital through the generous funding from international agencies. As
neo-liberal project progresses, the popularity of NGOs as vehicles of
development also has gone up. This also led to a standardisation of NGO
pattern from group of social workers to CEO headed line department with
technocratic professionals heading various departments. We can see this shift
in all the NGOs active in MFI business.

Once NGOs were co-opted by finance capital, gradually they are

transforming themselves into banks, a phenomenon that began with the
Grameen Bank. In , Swayam Krishi Sangam, popularly known as SKS, was
enlisted first as an NGO, then re-registered itself into non-banking financial
company and finally ended as a private limited company. In the ever increasing
tying up of micro-credit organisations to circuits of international finance capital,
which is evident in Indian context, the external factors and needs are bound to
reflect on the internal structures of MFIs as well. Thus, the active collaboration
of NGOs with donor agencies driven by finance capital and tacit role played by
the state, resulted in establishment of unholy trinity which is trying to subvert
the democratically elected agencies, through which credit is channelised till
now, at the ground level.

INDIAN CONTEXT

The institutionalised origins of rural credit in particular and credit in

general goes back to the 1970s when the welfare state took initiative in
expanding the outreach and intensity of credit as a source of rural
development. In continuation, in the post nationalisation period, Indian banking
system's depth as well as outreach increased enormously. This growth is
reflected in its commitment to increase the bank presence in rural areas and in
its efforts to reach the most vulnerable sections of the society. A mandate for
all nationalised banks to expand their operations at least by 25 per cent in rural
areas helped to meet the first characteristic where as devising the concept of
priority sector helped banking industry to mould their orientations into social
banking. Priority sector includes emphasis on directed lending to sectors such
as agriculture and small scale industries and also members of historically
disadvantaged sections of society. Put together, nationalised banks are
mandated to lend 40 per cent of their total lending to these sections/sectors
and out of that 25 per cent must be disbursed to individuals belonging to
weaker sections. The newly conceived program of Integrated Rural
Development Program (IRDP) became the policy vehicle to redirect the credit to
priority sector. Out of total bank lending, priority sector lending reached
nearest to its target only in 1987 and from then onwards witnessed gradual
decline. Particularly with the beginning of restructuring of Indian economy, total
lending to priority sectors came down to nearly half of the '87 peak.

This deterioration is linked to the change in RBI outlook about social

banking as a result of the government accepting Narasimham Committee
recommendations. In policy terms, it implied that the government agreed to
direct lending initiatives based on need, business prospects, profitability and
financial viability, minimising operations cost. In post-1991 period, National
Sample Survey Organisation surveys in two rounds, 1993 and in 1999 shows
that in rural areas 72 per cent of households are indebted to informal sources
of lending. Out of that 72 per cent, loans raised through informal money
lenders stood at 22 per cent and pawn brokers stood at 21 per cent. The credit
is redirected from weaker sections and sectors of society to capital markets
and consumer credit. This resulted in excluding the vast sections of people
both vulnerable and not so vulnerable people from accessing the financial
services thus leaving the field open for the entry of private financial
intermediaries. Exactly this was the time when Chit fund companies flourished
across the country. Chits like Margadarshi in Andhra Pradesh and Sriram,
Sundaram Finance in Tamilnadu became an all phenomena. These are
concentrated on individual clients rather than groups. In Andhra Pradesh itself,
thousands of chitfund companies became operational in 1990s. Some of them
took even the shape of private banks which collected thousands of crores in
deposits and disappeared overnight.

At the same time, influenced by the changes in international policy

scenario, governments both at the centre and in states adopted the concept of
micro-credit modelling around Self-help Groups (SHGs). NABARD championed
this concept in . The implementation is more or less fashioned along the lines
of Grameen Bank in . Gradually the central government stepped into promote
DWACRA groups under Women and Child Welfare ministry. In certain parts,
they roped in NGOs and in some others they roped in political field workers as
it had happened in Andhra Pradesh to form DWACRA groups. They were told
that in due course, these groups, after reaching certain levels of savings, will
be linked to banks through loans to empower them. In all these efforts, women
stand out as key focused section. Crores of people were mobilised in these
structures across the country with more than 6 million self help groups (each
group contains 10-20 members) with 54.47 billion worth deposits as on 2009
March. The current process is riddled with low levels of lending and perceived
reluctance of banks to deal with SHGs as they are not cost worthy. Even then
governments such as in AP promoted SHGs with a promise of getting them 25
paise interest with which SHGs swelled till recently. Thus the ground is well
prepared for the entry of first the NGOs and then the commercial MFIs to poach
this client base.

At this juncture, institutionalised money lending in the form of MFIs

entered the scene after realising the potential of this sector. They replaced
SHGs with joint lending groups (JLGs). In case of SHGs, there is no need of
collaterals but they have to run around the banks for loans. In case of MFIs,
different types of collaterals starting with ration cards, gas connections to
valuable items at home are initiated. As MFIs are in the business of advancing
capital for profit, they hunt around the needy JLGs. Thus, in currently two
streams of microcredit structures are under operation. As on August 2010, is
abuzz with 3000 MFIs lending Rs 20,000 crores to 28 million borrowers
experiencing 105 per cent of compound annual growth rate. The returns on
equity in MFIs increased from 5.1 per cent in 2008 to 18.3 per cent in 2009 in
MFIs. With assured interest rates varied from minimum of 30 per cent to
maximum of 60 per cent with which profit is certain, private equity portfolios
are eager to enter into this sector. The market's response to SKS' script
confirms this trend. MFIs, by mobilising capital from market sources through
equity and other market oriented instruments, became vehicles for the
circulation of finance capital. This is substantiated by the fact that by July 2010,
more than 200 billion USD is pumped into MFI industry. Once they enter, they
drive the industry according to their own interests. Currently Spandana
negotiated for 60 million equity from Teamlease of Singapore. The World Bank
and its MFI arm, IFC are active in lending to the corporate MFIs in . The IFC
even announced microfinance initiative for Asia in collaboration with
Kreditanstalt fur Wideraufbau to lend to MFIs in . The DFID is coming up with a
new poverty initiative strategy focusing on states where MFI penetration is less.
Thus, the entry of international finance capital and the profit oriented MFIs in
lieu of SHGs which thrive on bank linkages vitiated the market resulting in
suicides by the borrowers, who fail to repay in time and withstand the pressure
from the MFIs. This is what is happening in Andhra Pradesh and what happened
in some other states in recent years.

THOUGH microfinance has been adopted by government of as a

developmental tool as early as in 1990s, the emergence of MFIs across the
country varies from state to state. States such as Tamilnadu, Karnataka and
Andhra Pradesh adopted the concept of MFIs and the entrepreneurial class
gave it the shape of industry within no time. According to one study, there are
around 800 MFIs currently operational in and out of them more than 70 per
cent are concentrated in these three states only. Even in Andhra Pradesh the
spread is more intense in coastal districts than in the rest of the state.
Formulated by the World Bank, the then Telugu Desam government in Andhra
Pradesh gave a fillip to the SHGs and formed DWCRA groups, giving it a shape
of a movement. As membership in these groups is tied up with various
government welfare benefits such as benefits under Velugu scheme, which is
now labelled as Society for Elimination of Poverty and provision of gas
connections, cheap food items under PDS etc, the number of DWCRA groups
increased enormously from nearly 10,000 in 1994 to more than 3,50,000 in
2001. Enthused by this success of SHGs, the Reserve Bank of constituted
Taskforce even went on to recommend that the poor is even ready to bear the
burden of poverty elimination. NABARD played an important role in
institutionalising the micro credit structures. By the end of last century, these
SHGs became eligible for funding even through World Bank loans under
community development fund. Submission of promising microfinance plans was
the key criteria to be eligible for loans from World Bank funds. Thus the
erstwhile Chandrababu Naidu government resorted to support microfinance as
a strategy to get hold on the support base among voters who are otherwise
disgruntled with his economic reforms package.
Once the large scale network was established under DWACRA, the
government took steps to provide bank linkages to the groups who could save
in group thrifts one rupee a day. Such loans provided by banks to these groups
would attract 9-12 per cent interest rates only. Despite all the tom-tomming,
the original record of bank loans to SHGs in 2002 stood at merely 0.6 per cent.
After the RBI taskforce report, a good number of NGOs jumped into the MFI
sector and started bridging the gap between the credit needs and formal credit
provisions. The banks also found in MFIs a supporting hand to keep them safe
when it comes to profit and loss assessment. The credit meant under priority
sector was diverted to newly emerged MFIs which in turn began lending
operations at exorbitant interest rates. According to the government of Andhra
Pradesh, more than 10 million rural poor women were organised into Self Help
Groups having more than 20,000 crore outstanding loans. Around 80 MFIs are
operating in the state contributing to the 23 per cent of an all India MFI market
share. Total lending through out the country stood at 30,000 crores whereas in
Andhra Pradesh itself, MFI lending stood at 9000 crores increasing its share to
nearly 30 per cent.

PHENOMENAL GROWTH

The answer to this question can be traced in the findings of 59 th round of

NSSO survey report. This survey focused on the indebtedness of farmer
households. The study covers a period between January – December 2003,
carried out in 17 states where 94 per cent of country’s gross crop area is
located. The important finding of this survey is the intensity and extent of
indebtedness in Andhra Pradesh. According to this report, the proportion of
households reeling under indebtedness had gone up from 25.90 in 1991-1992
to 48.60 in 2003, which reflects 87 per cent growth rate of indebtedness, as
reported by Indian Journal of Agricultural Economics. When it comes to Andhra
Pradesh, this growth rate worsened much. The indebtedness in Andhra Pradesh
had gone up from 39.90 per cent to 82 per cent. On both the counts,
indebtedness in Andhra Pradesh is far higher than the national average. This is
also the time, as we mentioned above, when the institutionalised rural credit in
general and agricultural credit in particular decelerated during the period under
examination. This confirms the fact that during the reforms period, as the
regular income streams are drying up, people started depending more and
more on debt options. Also, as institutionalised credit is not available, they are
also opting for private credit preferably through money lenders or through
private credit agencies. This also proves the fact that as the reforms deepen
across the systems, the market for debt is also increasing. This proved to be a
major market for players who are acting as financial intermediaries. The scope
of microfinance fits in their frames suitably. Not only that. This is also the sector
where government does not have any regulatory mechanism. This further gives
unending opportunities to inflate their profit margins.

As it grows into a profitable business for sure and the MFIs repayment to
banks went up, the banks also reciprocated by lending more than $1 billion to
MFIs in the country. This also paved way for the entry of bigwigs such as SKS,
Reliance, Tata Mutual, apart from longstanding organisations such as Share and
Spandana. All these big players concentrated their operations in Andhra
Pradesh due to its vast SHG client base. Thus the MFIs in Andhra Pradesh in
particular and in in general became corporate entities. With an expansion of 60
per cent per annum it became a lucrative business opportunity attracting so
many big names into the industry. It is appropriate to refer to the Business Line
newspaper which editorially commented on this shift by saying, “Over the last
decade, businessmen whose goals were not the same as those of the original
do-gooders, entered the micro-finance space. They had a firm eye on profit
opportunity and there was a proliferation of micro-finance institutions. Through
clever marketing and image-building, they all donned a halo of virtue that
sought to hide the fact they were, in fact, just large-scale village-type money-
lenders by another name”. As the big names started entering into microfinance
business in the state, the small ones and the ones who started these
operations on non-profit base depending on mobilising internal resources were
crowded out by the big boys. In that way, the operations of microfinance not
only got consolidated in the hands of a few operators, but they are also
witnessing monopolisation of microfinance sector in the state.

SHIFTING THE ONUS

There are multiple aspects to the issues that are come up for discussion.
For now we will confine to certain aspects and limited issues. The human rights
violation by MFIs is not a new issue in Andhra Pradesh. A study conducted by
district collector in Krishna district during 2006, the first time when complaints
came up about the morally hazardous methods of recovery staff, concluded
that all MFIs are charging almost 50 per cent interest charges over the loans.
The governments paved way for levying interest rates nearly 400 times than
regular bank interest rates. Even now, for the most commercial loans such as
vehicle loans or housing loans banks are charging nearly 12-14 per cent only
where as MFIs which are supposed to be instrumental in financial inclusion are
charging 50-60 per cent of interest. This whole exercise results in three tier
interest unlike one tier interest as it was in case of banks lending directly to
consumers. Once bank is fixing its rate of interest at 14 per cent, the operation
costs will be added to that which depends upon the size of the MFI and the
profit. In some cases, the debtors failing to face the pressure of MFIs collection
staff lost their mental balance. In some other cases, the women were forced to
pawn their mangalasutrams, and other valuable goods in houses. In certain
cases, invoking the group collaterals, MFI staff forced the rest of the group
members to repay on behalf of their defaulted group member. In all the
occasions, the MFIs are violating the human rights of debtors. All these re-
payments are confined only to weekly interest payments. Amidst so many
attacks, the state government issued an ordinance. In a nutshell, all these
issues revolve around regulating MFIs in levying interest rates. Though NABARD
is supposed to be the nodal agency with a dedicated executive director cadre
person with a department lined up, there is no voice of NABARD in the whole
episode.

Nearly two weeks before the state plunged into this controversy, RBI
issued a directive to the banks asking them to take steps to cap the interest
rates. RBI master guidelines categorically keep the burden of regulating
interest rates on the shoulders of scheduled commercial banks. All the
nationalised banks in unison refused to implement the said directive stating
that it hurts the market sentiments as they are lending capital for profit and
capping interest rate down the line would have a potential risk of non-
recoveries. There is multiplicity of responsibilities among the various
government agencies resulting in leaving the MFIs – large and small –
unregulated. The RBI’s permission is necessary for all MFIs to start lending.
Once they get clearance they can approach financial agencies to raise loans to
lend under the respective structures of MFI. Hence the RBI is holding keys to
regulate them. It can regulate in different ways. First the RBI has to asses the
magnitude of financial exclusion and resources to deal with the state as a unit.
Accordingly, it can allow certain number of MFIs to start operations in that
particular state. Proliferation of MFIs in a particular area is also causing trouble
to the clients, with the competition amongst the MFIs. Once competition enters,
even the service oriented MFIs will be forced to apply market dynamics
resulting in moving away from the objectives. Another source of regulation
could be banks, particularly nationalised banks that are providing loans to MFIs
either as start-up capital or in the form of equity in successful ventures. There
ends the role of banks leaving the money trail aspects untouched. The RBI in a
communique to the government of AP felt that the state governments are
appropriate agencies to regulate MFI operations. The ministry of finance even
after these inhuman incidents, still went on to say, “ We don't intend to
regulate rates. It is not just feasible to control them.” As mentioned above it is
surprising to note that the key nodal agency for financial inclusion, NABARD is
not letting us know its mind. With the multiplicity of responsibilities, MFIs are
left unregulated.

The states under Left Front governments stand out with a stark
difference. The government of Andhra Pradesh is talking about recovery in
the presence of panchayat officials now, where as governments in and Kerala
internalised SHGs model by bringing them under the control of panchayati raj
system. This helped them to channel the credit to the needy families unlike in
Andhra Pradesh where the channeling of credit is market driven as a way out
for expanding consumer credit. A research conducted by Centre for Socio-
Economic and Environmental Studies, confirms this assessment as well as the
experiences of . As long as SHGs, MFIs became integral parts of democratically
elected local bodies, they can be of useful instruments in developing rural
infrastructure such as sanitation and housing. Once they are devoid of such
democratic set up, they will be driven by market based needs whose
consequences are there to see in happening in Andhra Pradesh now.

ROLE MODEL

The LF government in is actively encouraging SHG movement in the state

through co-operatives, RRBs, and PSBs. Unlike in other states, in rural co-
operatives are working excellently as purveyors of credit to SHGs as also
mobilising their small thrifts to help them to be self-sustaining. A year or so
back, the state government provided a big relief to SHGs directly financed by
co-operatives and the banks by capping their lending rates to SHGs up to Rs 5
lakh to four per cent only. The banks are generally charging interests at 10-
11per cent per annum. The state government is subsidising them to the extent
of the differential for SHG loans, so that neither the lenders sustain any loss,
rather with very good recovery rate which is the feature in the state, they are
having good earnings therefrom, at the same time the SHGs’ liability is only to
the extent of a meagre four per cent. Just imagine the difference between four
per cent and 40 per cent! With such small rate of interest, SHGs find it
worthwhile to borrow and repay and with repayment their loan size also grows
giving them more financial coverage and expanded activities. This subsidy is
strictly not available to MFIs, as the declared policy of the LF government. This
is, therefore, an active intervention by the state government to save the poor
borrowers from the clutches of the MFIs. It is also heartening to note that the
MFI activities in West Bengal is at a marginal level only, compared to Congress
and the BJP-ruled states. The Left Front government of is strictly monitoring the
activities of the MFIs and the NGOs engaged in micro-lending. This is indeed a
model before the whole country.

There are certain limitations for microfinance as vehicle of poverty

reduction and inclusive growth. The efforts to reduce poverty through
microfinance cannot address the multidimensionality of poverty. It considers
poverty as a consequence of unrealised market potentials. That is the reason
for its focus on supply of credit as a way to realise the market potentials
leaving the structures of poverty untouched. It also refuses to recognise that
the structures of poverty and social exclusion are widespread and reinforcing
each other. To deal with such a multidimensional phenomenon, microfinance is
ill-equipped. The second limitation of this concept is its inherently contradictory
nature. As the above explanation informs, microfinance is fully a commercial
concept which cannot satisfy the socio-political needs to address the problems
arising out political economy. Not only that, as the concept itself is having its
underpinnings in the neoliberal project, it cannot be a vehicle for social
transformation. Another limitation is its services for limited period. A borrower
is supposed to be helped through micro-credit for one time to put it in use for
productive purposes. This is not dealing with market side ramifications. In case
of incomplete cycle of credit, the clients again are forced to borrow to repay the
old dues. That is resulting in the vicious cycle rather than creating a virtuous
cycle.