It all began as an act of kindness. Microfinance is meant to lift people out of poverty. But the women of Peddammagadda say microfinance has become a curse. This shanty town on the outskirts of Warangal, a city in the south Indian state of Andhra Pradesh, has been overrun by loan agents from India’s highly competitive microfinance industry. For the cash-strapped women of the neighborhood, their offer of quick money was hard to resist and many now have multiple loans and un-payable debts. Politicians and government officials have blamed the combination of microfinance institution multiple loans and aggressive debt collection for scores of recent suicides. Officials are investigating if debt collections are linked to a series of suicides among borrowers.
India’s vibrant voluntary sector began experimenting with microfinance during the 1980s and it grew quickly in south India. But these organizations, mostly charities and trusts, started to bump up against financial and regulatory constraints. This restricted the amounts they could lend and the number of clients. The microfinance veteran Udaia Kumar, of Hyderabad, says it became apparent that being a charity was “not the proper legal form to take up microfinance”. He revolutionised it in 2000 when he turned his non-profit NGO into a for-profit business. Share Microfin Limited is now one of India’s biggest microfinance institutions.
Over the past decade many microfinance institutions have made a similar change and new players have entered the sector. Professor Kurapati Venkatanarayana, a Kakatiya University economist who received a national government grant to study India’s microfinance sector, estimates there are about 800 non-bank finance companies in India, 147 of them of significant size.
The microfinance institutions became a convenient way for Indian banks to meet “priority sector lending” targets set by the government. Billions poured into the poor rural sector and now at least 40 banks lend to microfinance institutions. India’s microfinance sector has about $7 billion in loans outstanding, almost $6 billion of which has been borrowed from banks.
The cost of servicing millions of tiny loans is expensive, so for-profit microfinance institutions charge relatively high interest rates. They borrow from banks at 8-14 per cent but the cost of administering the loans, a provision for bad debts and other costs adds another 10-12 percentage points. Amid the crisis in Andhra Pradesh, India’s biggest microfinance institutions cut their interest rates from about 27 to 24 per cent, saying that is as low as they can go.
In July, the commercialization of India’s microfinance sector was taken to a dramatic new level when SKS Microfinance, which works in 100,000 villages and boasts 7.8 million borrowers, was listed on the Indian stock exchange. Now, just weeks after the triumphant share market float, the sector is in chaos. There is a belief that if microfinance institutions fail now, it will mean the dream of financial inclusion for millions of the poor people will also fail.