The Changing Microfinance Industry in India

When most people think of microfinance (which most people do not), they envision a poor person in a faraway country borrowing a few bucks to buy a goat.  In an article titled “Microlender Forecloses on Goat,” The Onion proves once again that it has its finger on the pulse:

Representatives from One World Finance, a U.S.-based microcredit provider, confirmed Monday that they had initiated foreclosure proceedings on a goat in southern India following a borrower’s repeated failure to make her $2.20 monthly loan payments. “I tried to work with Ms. [Subha] Thangam on this, but once she fell a full $6.10 behind, I had to repossess the goat,” said loan officer Michael Conrad, who stated that he was just doing his job and that it was “not [his] fault” if certain subsistence farmers were living beyond their means. “I’d love to recoup the entire $22 loan at auction, but given the glut of foreclosed and abandoned goats in the area, I’d be lucky to get even half that.” Conrad also acknowledged that the owner had left the goat in “pretty bad shape” and had even stripped it of its hair for potential resale on the paintbrush market.

The article uses microfinance as an allegory for the housing and foreclosure crisis in the United States.  But, in parts of the world right now, microfinance is starting to look more and more like the recklessly over-extended financial sector prior to the economic meltdown in 2008.  In India, in particular, analysts are concerned that the glut of investment in the microfinance sector over the last several years could be feeding a bubble similar to that of the subprime mortgage in the U.S.

When I was in the Philippines, I attended a few microfinance conferences and had the chance to speak with representatives from a few microfinance investment funds from India and elsewhere.  In the eyes of investors, the Philippines could be the next big thing.  The microfinance market in India is overheated, they’d say, with a slate of recent IPOs and a huge amount of private capital flowing into the industry.  Collectively, the portfolio size of all the microfinance institutions in India grew from $252 million to over $2.5 billion in less than two years.  There are tens of thousands of organizations offering microfinance services, but fewer than a hundred have the scale to tap into the capital markets.  A dearth of good investments and an increase in the number of funders has probably driven up the price for good MFIs and simultaneously forced investors to look down-market at institutions they might not have considered in the past.

In addition, SKS, the largest MFI in India, recently went public.  While the IPO went well, the company’s share price in recent weeks has declined following a shake-up in management and some controversy surrounding regulation.  In the region of Andhra Prakesh, the government considering new regulations for the microfinance industry, perhaps in reaction to the tremendous growth or fear of a bubble.  Another possible reason is that the microfinance industry has become a target of the politicians.  The Wall Street Journal explains:

The microlending industry had been booming for years in the state. It now looks as if it has become a victim of its own success. With a proliferation of new lenders, some without the grand intentions of uplifting the poor, and millions of people taking out the small loans across the state, the industry has become an easy target for politicians.

After a recent string of more than 30 suicides by micro borrowers, different political parties called for stricter regulations on the sector. Some SKS branches were even attacked. The office of the state’s chief minister last week said the suicides could have been from harassment, while microlenders said their inhouse investigations found that issues other than the borrowers’ debt were also involved.

The main focus of the article is the recent arrest of three loan officers accused of threatening a woman who was in default.  The Indian police have said they will arrest the CEO of SKS, Vikram Akula, whom they hold accountable for the actions of SKS employees.  Things are really heating up in the Indian microfinance industry, and what happens next is anybody’s guess.

It is interesting that a populist backlash against microfinance institutions is developing in India.  This wouldn’t be the first time it has happened.  In Nicaragua in 2009, a group of microfinance borrowers calling itself the “No Pago” movement (means “No Payment,” go figure) demanded that the government pass a law to bring microfinance interest rates and terms down to practically unsustainable levels.  The aim was to stop alleged harassment on the part of microfinance institutions, but the impact of such a bill on the health of the industry would be devastating.

The situation in Nicaragua is an example of when a populist movement spirals out of control.  India is not at this level, at least not yet.  But populist backlash can be the reaction to perceived corporate excess, which draws the ire of other industries, politicians, and clients.  An Indian journalist describes this dynamic:

SKS has so far disbursed Rs.16,670 crore through 2,286 branches across 34 districts and to 7.3 million consumers. Its return on assets is 4.91% —far higher than any Indian bank. When a corporate client borrows money from banks and uses the money to make profits and repay the loans, the banks feel happy. But when an MFI makes huge profits by on-lending the borrowed money, they don’t like it. The government and the regulator, too, start looking at the success in a different light. After all, SKS Microfinance was set up as a non-profit organization.

I suppose that the lesson is that microfinance institutions cannot have their cake and eat it too.  If  institutions choose to become for-profit and increasingly focus on producing higher financial returns for investors, they run the risk of forfeiting any goodwill once given on account of the social value of microfinance.   As they become more profitable, they will become a bigger target for politicians and competing industries.  Somewhere in Bangladesh right now, Muhammad Yunus may be dreading the prospect of saying “I told you so” sometime in the near future.

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