In search for a sustainable business model for rural micro-credit in India

Abstract

The poor in our country need access to credit more than subsidies which only help in the short run. Because of the lack of formal employment the poor end up being non-`bankable'. This forces them to borrow from local moneylenders at exorbitantly high interest rates. Many innovative mechanisms like Microfinance have been developed for delivering credit to the poor in India. As on 2008, outstanding microcredit portfolio in India was about Rs. 22,000 crore, out of which 75% are accounted for by SHG- Bank Linkage Program, 20% by large Micro Finance Institutions (MFIs) and 5% by medium and small MFIs. With micro-credit becoming financially viable, even commercial banks like ICICI Bank and Citibank have also entered the field. As the private players started to scale up, lack of capital from social donations lead them to look for different ways to become commercially oriented. With the imposition of Interest cap on the MFIs, a fear of a mass closure in the Microfinance sector prevailed for some time. Microfinance Institutions walk a thin line between fulfilling the social objective of alleviating poverty and running the institution profitably and sustaining it in the long run. Unlike banks which make provisions based on the risk factor and the amount of collateral provided by the clients, MFIs cannot measure this part of risk and hence might be forced to make full provisions for loans. Hence this leads to setting up of high minimum initial capital limits, capital adequacy ratio and loan loss provisions despite the sector having very high repayment rates. Some of the large MFIs, despite having good loan repayment rates and good financial performance, raise capital at very high cost of capital. This happens because of the perceived risk of the Microfinance sector as a whole. Hence MFIs being a very sensitive sector especially one with political influence needs to be handled very carefully. A need to find out what really makes an MFI profitable and sustainable arises. Past record data must be used to find out how some MFIs have been able to walk the thin line between profitability and Social impact whereas others fail in at least one of the two.