What is Microfinance?

Microfinance is the provision of financial services such as loans, savings,

insurance, and training to people living in poverty. It is one of the great
success stories in the developing world in the last 30 years and is widely
recognized as a just and sustainable solution in alleviating global poverty.

The industry began by providing small loans to emerging entrepreneurs to

start or expand businesses. Opportunity International was one of the first
nonprofit organizations to recognize the benefits of providing capital to
people struggling to work their way out of poverty. Over the years, with
Opportunity leading the way, the microfinance sector has expanded its
financial service offerings to better meet client needs. Along with providing
more flexible loan products and business and personal development
training, Opportunity offers savings and insurance to help clients effectively
navigate the daily hardships they face. Without these services, clients are
continually at risk of slipping back into poverty because of unforeseen
circumstances.

Microfinance organizations make it a priority to serve the particular needs

of women, since a staggering 70 percent of all those living in extreme
poverty are female. Women are often excluded from education, the
workplace, owning property and equal participation in politics. They
produce one half of the world’s food, but own just one percent of its
farmland. Nearly 85 percent of Opportunity’s loan clients are women. While
Opportunity gladly extends loans to men, the organization believes the
greatest opportunity for interrupting cycles of extreme poverty come from
microfinance programs that target female entrepreneurs. When women
improve their circumstances, they also improve the lives of their children.
By investing in nutrition and education, they help to create a better future
for their children and their communities.

Despite the success of life-transforming microfinance services, the World

Bank says that the industry is not close to meeting the demand. Five
hundred million people living in poverty could benefit from a small business
loan and only one-third of the world’s population has access to any kind of
bank account. The lack of access is particularly severe in sub-Saharan
Africa where the World Bank estimates that microfinance is reaching only a
small percentage of the economically active population. In sub-Saharan
Africa’s poorest countries, less than 10 percent of the population has an
account with a financial institution. In response, Opportunity has committed
to building scalable, sustainable and accessible banks throughout the
developing world to provide loans, training, savings and insurance products
tailored to the specific needs of each region.

As the microfinance industry continues to mature, there is a danger that it

will drift toward a more secure client base. It is critical that microfinance
organizations continue to focus on those with the greatest needs–those
who have been displaced, those in rural areas, those who traditional
institutions consider unbankable–the most marginalized
people. Maintaining that focus, microfinance can help create a world in
which the underserved have fair access to economic opportunities and the
hope to move beyond poverty.

Microfinance Institutions (MFIs) provide loans and savings services through a

variety of lending models, while micro entrepreneurs use these services. The
theory is that if the poor have access to these services, their financial lives will be
more stable, predictable and secure, allowing them to plan and improve their
livelihoods through education, healthcare and empowerment.

In other words, microfinance converts poverty into an economic opportunity that

evades the idea of exploitation.
What are the Sources of Microfinance?

Microfinance providers come in various forms which can be broadly grouped as

follows:

 Formal Microfinance Institutions – rural/microfinance/village banks,

commercial banks, telecom firms, and cooperatives offering loans to lower-
income group individuals (see examples)
 Semi-formal Microfinance Institutions – nongovernmental organizations
providing micro-sized loans (see examples)
 Informal Microfinance Sources – money lenders and shopkeepers who
often loan money on a daily basis and charge exorbitant interest rates.

This list was taken from ADB’s website.

Problems Faced by Microfinance

Despite good intentions, microfinance still has several hurdles to face:

 perceived high risk of lending to the poor (the loan may be misused easily)
 technology-related hurdles, such as the high costs involved in small loan
transactions for microfinance providers (Read about technology-related
solutions) 
 lack of awareness about sources of funds for microfinance providers to
pass on to the poor
 the poor’s inability to offer marketable collateral for loans to MFIs
 difficulty in measuring the social performance of MFIs (Read about tools to
help measure the social impact of microfinance)
 mixing of charity with business by microfinance providers (this is an issue of
poor governance)
 high interest rates of loans made to the poor (to cover various costs and
risks)
 lack of customized solutions/ microfinance models for the poor
 inappropriate targeting of poor households by microfinance programs
 lack of microfinance training for MFIs
 poor distribution system of MFIs, i.e. a need to spread out loan facilities
into rural areas
 lack of information about microfinance investment opportunities (Possible
solution through AppLab)
 poor institutional viability of microfinance ventures
 dual mission of MFIs to be financially sustainable as well as development
oriented

These problems can be grouped according to whether they’re caused by MFIs or

caused by micro entrepreneurs. You can read about them in greater detail at
these links.

Just like any other new venture, microfinance too faces obstacles that will
eventually be ironed out as governments alter their priorities, and as the
commercial sector understands the economic viability of the development sector,
considering the relative immunity of the microfinance sector to the global
financial meltdown. Already, a few encouraging trends have emerged in the
microfinance sector.
As Kofi Annan once put it, microfinance not only recognizes the needs of the poor,
it also empowers them and taps into their remarkable reservoir of energy and
knowledge. In short, microfinance has tremendous potential, its time is now and is
here to stay.

Andhra Pradesh Microfinance Institutions Ordinance, 2010

Meanwhile, the Andhra Pradesh state government passed the  – ‘Andhra Pradesh
Microfinance Institutions (regulation of money lending) Ordinance, 2010’ – to
protect the women’s self help groups from the exploitation of MFIs in the state of
Andhra Pradesh and for the matters connected therewith or incidental thereto.

The ordinance talks about following main items:

 Registration of MFIs
 Register of MFIs
 Member of SHG not to be member of more than one SHG
 MFIs not to seek security for loan
 Display of interest rates charged by MFIs
 Maximum amount of interest recoverable on loans discharged
 Prior approval for grant of further loans to SHGs or their members
 Duty of MFIs to maintain accounts and furnish copies
 Submission of monthly statements by MFIs
 Power to require production of records or documents and power of entry,
inspection and seizure
 Complaints
 Settlement of disputes procedure
 Penalty for coercive  actions by MFIs

The ordinance, judging by the way it was developed and enforced, is reactionary in
nature to the turn of events outlined above, and is based on the premise to prevent
exploitation of Self Help Groups (SHGs) being promoted by the state government
programmes. AP government programme like Society for Elimination of Rural
Poverty (SERP) has a huge mandate to disburse loans to the tune of Rs.100,000
crore  (USD 22.2 billion) and see the working of MFIs as a major threat to their
programme.

The ordinance seems to protect the interest of the clients but for the following
reasons it has the potential to destroy or completely change the MFI sector in
India:

1. MFIs have to register with the local legal authority before granting or
recovery of loans from SHG members – this essentially means that the MFIs
will not be able to recover their loans until and unless they register with the
local authorities and will bring them under the ambit of Indian Money
Lending Act, and thus subject to usury laws and interest rate caps.
However, the ordinance does not talk about any interest rate cap except
that it prohibits MFIs to charge more interest that the principal amount lent
out by them. This in effect does not mean much as most MFI loans are for a
period of one year and the average interest rates vary from 24 to 36%. The
time given for registration is only 30 days from the date the ordinance was
passed by the state assembly.
2. The registering authority is the ‘Project Director’ District Rural
Development Authority in rural areas and MEPMA in the urban areas or
any other person appointed by the District Collector – this is being viewed
by the MFIs as an infringement on their operations by local government
officials.
3. Upon receiving complaints from an SHG or its members, the registering
authority may cancel the registration of the MFIs – this again is being
viewed by MFIs as infringement of their rights and the general feeling is
that this rule may be abused by local district officials.
4. The ordinance also says that all loan repayments should be made in the
Gram Panchayat on a monthly basis – this clearly will have a significant
impact on the established methodology of the MFIs. Logistically this will
also make it much more difficult for clients, who have to move to the Gram
Panchayat to make their loan repayments.

Immediately after the promulgation of the ordinance the offices of SKS, Spandana,
Share Microfin, Basix and other large MFIs were raided by district officials
throughout Andhra Pradesh.
At the same time banks began to turn off access to funds for MFIs, and members
did not repay as the MFIs could not collect the money without completing their
registration. With more than 40% of Indian MFI lending is concentrated in
Andhra Pradesh it is estimated that around Rs.10,000 crore or (USD 2.2 billion) of
principal outstanding is at risk on which the repayments have stopped till the
registration of the MFIs is complete.

Meanwhile, the Microfinance Institutions Network (MFIN) and two other MFIs
moved to the court for quashing of the ordinance and also to allow for recovery of
loans. However, in a recent ruling the A.P High court refused to grant a stay on the
ordinance and said that the state government has the right to regulate the activities
of the MFIs.

Interestingly, most of this loan portfolio now at risk has come from the banks in
the form of on-lending funds to the MFIs. Therefore, if the field level defaults
continue, the banks who have lent to the MFIs under the priority sector norms will
suffer serious impact on their portfolio.

Events that happened after the ordinance became a law:

1. MFIN has asked for a comprehensive regulator for the sector to check
indiscipline in the functioning of the sector. The Financial Express reports
“MFI Body Seeks Regulator to Check Indiscipline in Sector.”
2. RBI set up the Malegam sub-committee to study the issues and concerns in
the microfinance sector, reports India Microfinance Business News “RBI
Sets Broad Framework for Malegam to Study Indian Microfinance Sector.”
3. SKS reduced its interest rate on micro-loans from 26.69% to 24.55 % and
translates it into a flat interest rate of 12.55% per month. Similarly
Spandana also reduced its Agri Family loans by 3%. The India Microfinance
Business News reports “SKS Microfinance Reduces Interest Rates by 2%.”
4. Pranab Mukherjee (Finance Minister, GoI) urged the Andhra to government
to soften ordinance terms and also expressed his view that the time was
not yet right to appoint a regulator for the sector. DNA India reports
“Pranab Mukherjee Urges Andhra to Soften Ordinance Terms”.
 Source: http://blogs.cgdev.org/open_book/2010/11/qa-on-indias-
microfinance-crisis.php

5. The share price of SKS Microfinance, which was the first microfinance
institution in India to raise money through listing on Indian stock exchange,
lost much of its steam after the A.P. crisis and was trading below its issue
price. This is an important development as other bigger MFIs with head
office in A.P were planning to hit the market in a year’s time with their
IPOs. Moneycontrol reports “SKS Microfinance Slips Below Issue Price.”
6. Recent estimates suggest that in recoveries in A.P. have dropped to about
40% on an average.
7. Sa-Dhan, a microfinance network organisation, organised a meeting of its
member organisations, financing banks and representatives of Government
of A.P., in a bid to find solution to the current crisis and also reiterate
commitment to Sa-Dhan’s code of conduct for microfinance institutions.
st
8. On 1 of November, A. P. Government has also established four
committees – Implementation, Legal, Capacity Building and Information
Technology for effective implementation of the ordinance, reports Business
Standard “AP Forms 4 Committees for Implementing Ordinance on MFIs.”

Overall the ground realities for MFI operations have changed overnight with the
coming of the ordinance. There is a serious threat to credit discipline of MFI
borrowers with the registration issues and choking of funds by the banks. Though
recoveries have been allowed by the High Court, the methods suggested by the
ordinance will greatly affect the lending methodologies of MFIs and also make it
highly easy for members to evade loan repayments.
As per the recent developments MFIs have started registering themselves with the
local district officials and have also started collecting repayments from the
borrowers. There is also an effort to upload client data of the MFIs and the
government to prevent multiple lending.

SELF HELP GROUPS

Since the reconstitution of the Commission in January 2000, the Commission started
projects with the aim of making women economically empowered.  One of the major
initiatives taken by the Delhi Commission for Women in the year 2000-2001 was to set
up pilot projects in collaboration with partner NGOs for empowering women
economically and thus helping prevent crimes against women.  The Commission tied
up with various NGOs working in various parts of Delhi for formation of Self-Help
Groups.

What is SHGs

SHG is a group formed by the community women, which has specific number of
members like 15 or 20. In such a group the poorest women would come together for
emergency, disaster, social reasons, economic support to each other  have ease of
conversation, social interaction and economic interactions.

Objectives

 To sensitize women of target area for the need of SHG and its relevance in their
empowerment process.
 To create group feeling among women.
 To enhance the confidence and capabilities of women.
 To develop collective decision making among women.
 To encourage habit of saving among women and facilitate the accumulation of
their own capital resource base.
 To motivate women taking up social responsibilities particularly related to
women development.