Microfinance Regulations:

GS Paper 3:

Topics Covered: Inclusive growth and issues arising out of it.

Context:

RBI has released new microfinance lending norms. As per these norms:

1. All entities, banks, non-banking financial companies (NBFCs), and microfinance institutions (MFIs) are subject to the same regulations.
2. A microfinance loan is defined by the RBI as a ‘collateral-free’ loan granted to a household with an annual household income of up to Rs 3 lakh.
3. All collateral-free loans offered to low-income households, regardless of the end-use and mode of application/processing/disbursal, are considered microfinance loans.
4. The financial entities should have a board-approved policy to provide the flexibility of repayment periodicity on microfinance loans as per borrowers’ requirements. They should also have a board-approved policy for the assessment of household income.

What is Microfinance?

Microfinance is a form of financial service which provides small loans and other financial services to poor and low-income households.

MFIs are financial companies that provide small loans to people who do not have any access to banking facilities.

• The definition of “small loans” varies between countries. In India, all loans that are below Rs. 1 lakh can be considered as microloans.

Microcredit is delivered through a variety of institutional channels viz:

1. Scheduled commercial banks (SCBs) (including small finance banks (SFBs) and regional rural banks (RRBs)).
2. Cooperative banks.
3. Non-banking financial companies (NBFCs).
4. Microfinance institutions (MFIs) registered as NBFCs as well as in other forms.

Significance of Proposal:

• RBI has reposed faith in the maturity of the microfinance sector with this step.
• This is a forward-looking step where the responsibility is of the institution to fix a reasonable interest rate on transparent terms.

Growth of microfinancing:

• In the 1990s, microcredit was given by scheduled commercial banks either directly or via non-governmental organisations to women’s self-help groups, but given the lack of regulation and scope for high returns, several for-profit financial agencies such as NBFCs and MFIs emerged.
• By the mid-2000s, there were widespread accounts of the malpractices of MFIs and a crisis in some States such as Andhra Pradesh, arising out of a rapid and unregulated expansion of private for-profit micro-lending.
• The microfinance crisis of Andhra Pradesh led the RBI to review the matter, and based on the recommendations of the Malegam Committee, a new regulatory framework for NBFC-MFIs was introduced in December 2011.
• A few years later, the RBI permitted a new type of private lender, SFBs, with the objective of taking banking activities to the “unserved and underserved” sections of the population.
• Today, as the RBI’s consultative document notes, 31% of microfinance is provided by NBFC-MFIs, and another 19% by SFBs and 9% by NBFCs.
• These private financial institutions have grown exponentially over the last few years, garnering high profits, and at this pace, the current share of public sector banks in microfinance (the SHG-bank linked microcredit), of 41%, is likely to fall sharply.

Sources: the Hindu.