For the quarter ended 31 December, the aggregate loan portfolio of India’s for-profit microfinance institutions (MFIs) registered with the Reserve Bank of India (RBI) as non-banking financial companies (NBFCs) were to the tune of Rs.31,450 crore, disbursed to 28.7 million borrowers. In the December quarter, loan disbursements in terms of amount rose by 46% even as the number of loans grew by 33% over the year-ago period. The coverage of such institutions is now geographically well disbursed, with southern and eastern India accounting for 29% each of the market share, and the northern and western parts accounting for 21% each. If we include the not-for-profit MFIs, the portfolio will be slightly bigger, but even then, their overall exposure will be about half a percent of the loan assets of India’s banking system. Typically, an MFI does not give loans beyond Rs.50,000 to a single borrower and the average loan amount disbursed per account by NBFC-MFIs is Rs.16,194.
Clearly, MFIs do not meet the funding requirements of small entrepreneurs who want more than Rs.50,000 and up to a few lakhs. Commercial banks, too, are reluctant to have business relationships with this segment of borrowers. There are 57.7 million small business units and only 4% of them are able to access institutional finance. How does one solve the funding gap? The Bharatiya Janata Party-led government plans to set up Mudra Bank (Micro Units Development Refinance Agency Bank) to take care of this. Mudra Bank will have a corpus of Rs.20,000 crore to refinance all types of MFIs—both non-profit and for-profit MFIs. It will also have a credit guarantee corpus of Rs.3,000 crore.
Bangladesh has a similar entity for financing micro-credit—the Palli Karma-Sahayak Foundation (PKSF). Established in 1990 by the government of Bangladesh as a not-for-profit company, the principal objective of PKSF is to provide funds to various organizations for their micro-credit programmes that finance the poor who have no land or any credible material possession. Access to resources creates employment opportunities and enhances their livelihood. PKSF provides assistance to the poor through different non-government, semi-government and government organizations; voluntary agencies and societies; local government bodies; institutions; groups and individuals, which are called partner organizations. The latest data available for PKSF related to fiscal year 2013 when the number of rural borrowers stood at 4.29 million, accounting for 73% of the borrowers who have got assistance from PKSF. Around that time, the average loan size was to the tune of Bangladeshi taka 16,325.
Even though Mudra Bank will be a refinance agency, its scope of work will be much larger than Bangladesh’s PKSF. Going by the plans, it will be a statutory body responsible for regulating and refinancing all MFIs that are in the business of lending to micro and small businesses engaged in manufacturing, trading and services activities. It will lay down policy guidelines for micro and small enterprise financing business, register MFI entities and regulate them. Besides, it will also rate MFIs, formulate a code of conduct for the industry to ensure client protection principles and methods of recovery, promote right technology solutions for the last mile, and run a credit guarantee scheme for providing guarantees to the loans that are being extended to micro enterprises.
Currently, MFIs are primarily dependent on commercial banks for money and resources are not cheap. Banks are required to channel 40% of their loans to the so-called priority sector, consisting of agriculture and other small loans, and typically they give money to MFIs to meet such targets. The MFIs get such loans at 13-14% and lend them at 23-24%, keeping a 10% margin to take care of their operating cost and profit. Mudra Bank is expected to offer refinance at a much cheaper rate and to that extent the cost of money will come down for small borrowers.
However, do we need yet another refinance agency in the Indian financial system? Quite a few such agencies already exist and none of them can claim to be a success by any yardstick. One is the National Housing Bank (NHB), a refinance agency in the home loan market. Set up in July 1988 by an Act of Parliament, NHB refinances home loans and regulates activities of housing finance companies. The National Bank for Agriculture and Rural Development (Nabard) and the Small Industries Development Bank of India (Sidbi) are also in the business of refinancing. Nabard was set up in July 1982 by a law to promote sustainable and equitable agriculture and rural prosperity through credit support, related services, institutional development and other innovative initiatives. The objective of Sidbi, set up in April 1990 through another law, is to promote, finance and develop the micro, small and medium businesses sector. Had Nabard and Sidbi been successful in their missions, finance minister Arun Jaitley would not have thought about Mudra Bank, which it seems will take over some of the refinancing activities of these two institutions and channel the money in a more focused way.
We also need to ponder on whether we need shadow banks to finance micro, small and medium enterprises, while the global trend is discourage shadow banking and use the main-line banking system to meet the financing needs of all segments. Precisely for this reason, the Reserve Bank of India wants to set up small finance banks and, given a choice, most existing MFIs will migrate to small banking. It doesn’t make sense to create yet another refinance agency and positioning it as a regulator leads to conflict of interest, with the same entity lending and overseeing regulations. Over 50 million unfunded small entrepreneurs need funds at a reasonable cost and the best way to meet their need is to give permits to probably 50 small banks and not create yet another refinance agency.