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GROWTH OF MICRO-CREDIT IN INDIA: AN EVALUATION (90th Conference volume of Indian Economic Association

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Dr. Md. Tarique1 & Ranjan Kumar Thakur2 The success of Grameen Bank in Bangladesh has established the fact and several literatures in this regard also acknowledge the fact that poor are bankable in terms of capacity to save and repay the loans provided the same are collected at the doorstep in small amount at frequent intervals. This is the basic principle of micro-finance, which suits the mindset, and capacity of the poor. There are two major models under microfinance, i.e., Self-Help Group (SHG)-Bank Linkages and Micro-Finance Institutions (MFI) - Bank Linkages being operated in the country. SHGs are the real grass root level setups for micro-credit growth. They reach the poorest sections in rural settings as well as are empowering lakhs of women and entrepreneurs all around India. Although the growth of SHGs in India has been phenomenal there are some significant problems faced by them which might hamper their growth in the coming years. For instance politicizing of subsidy allotment among SHGs has become a big problem. With some efforts substantial progress can be made in taking MFIs to the next orbit of significance and sustainability. This needs innovative and forward-looking policies, based on the ground realities of successful MFIs. This, combined with a commercial approach from the MFIs in making Micro Finance Financially Sustainable, will make this Sector vibrant and help achieve its single-minded mission of providing Financial Services to the Rural Poor. I. INTRODUCTION "If you can run a bank, lend money, and get it back, cover all your costs, and make a profit, and people get out of poverty, what else do you want?" Mohammad Yunus, micro-credit pioneer and founder of the Grameen Bank. India has 400 million people who qualify to being very poor, living on less than $1 per day. The Reserve Bank of India (RBI) and the Government of India are acutely conscious of the need to reach bank credit to this section of society, especially in rural India. Microfinancing is an enormous step in this direction. Micro-finance is the provision of a broad range of financial services such as deposits, loans, payment services, money transfers, and insurance to poor and low-income households and, their micro-enterprises. (ADB, Financial Services for the Poor, 2005). It is basically lending small sums of money without collateral, to the poor, who have an entrepreneurial spirit. Microfinance is a
1 2

Lecturer, University Deptt. Of Economics, B.R.A.Bihar University, Muzaffarpur. Research Scholar, University Deptt. Of Economics, B.R.A.Bihar University,

Muzaffarpur. 1

GROWTH OF MICRO-CREDIT IN INDIA: AN EVALUATION (90th Conference volume of Indian Economic Association

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bottom-up approach to spread credit among the poorest population whether rural or urban. According to a recent report of the RBI, banks and co-operative institutions made serious efforts in meeting the needs and demands of the rural sector. As a result, the outreach of Indian banking system has seen rapid growth in rural areas. In so far as all the Scheduled Commercial Banks (SCBs) including RRBs are concerned, 48 percent of their total branches (32,303 branches which translates to a population of about 23,000 per branch), 31 percent (13.67 crore) of their deposit accounts and 43 percent (2.55 crore) of their borrower accounts are in the rural areas. Such an unprecedented expansion of the formal financial infrastructure has reduced the dependence of the rural populace on the informal money lending sector from 68.3 percent in 1971 to 36 percent in 1991. (All India Debt and Investment Survey, 1991). The success of Grameen Bank in Bangladesh has established the fact and several literatures in this regard also acknowledge the fact that poor are bankable in terms of capacity to save and repay the loans provided the same are collected at the doorstep in small amount at frequent intervals. This is the basic principle of micro-finance, which suits the mindset, and capacity of the poor. It was defined in 1997, Micro-credit summit as "Programmes that provide credit for self-employment and other financial and business services including saving and technical assistance to very poor person". The Grameen bank experience of Bangadesh has demonstrated that if the poor are supplied with working capital, they can generate productive self-employment (Hussain 1998). Types of Organizations and Composition of the Sector: Microfinance providers in India can be classified under three broad categories: formal, semiformal, and informal. The formal banking sector constitutes the first category while the semi-formal group consists of a variety of MFIs and SHGs. Informal providers, on the other hand, are not legal entities and include moneylenders and various social networks. Today, semi-formal and informal lenders dominate the sectori.

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Formal : Despite the large size of the formal financial sector, its outreach to the poor remains rather limited. The banking sector consists of 105 commercial banks, 196 regional rural banks (RRB), and 12,128 cooperative banks. Cooperative banks primarily service rural areas and were the first to provide financial services to the poor. Among the most prominent is the Self-Employed Womens Association (SEWA) Bank, which primarily services urban women. In March 1999, deposits held by cooperative banks totaled Rs. 677 billion, while their loan portfolios stood at Rs. 708 billion. RRBs provide credit for agriculture and micro-enterprise and generally target the poor. As of March 1999, their deposits stood at Rs. 268 billion while their advances totaled Rs. 113 billion.ii Within commercial banks priority lending requirements, 18 percent is for agriculture, and 10 percent is for disadvantaged groups. Today, formal banks are increasingly using microfinance to meet these targets. Semi-Formal : The majority of institutional microfinance providers in India are semi-formal organizations broadly referred to as MFIs. Registered under a variety of legal acts, these organizations greatly differ in philosophy, size, and capacity. The least regulated institutions include over 500 non-government organizations (NGOs) registered as societies, public trusts, or non-profit companies. While NGOs play a crucial role in the formation and bank linkage of SHGs, microfinance is often but a subset of their activities. Nonetheless, many NGOs have emerged as successful financial intermediaries between banks and apex institutions on the one hand, and individuals, SHGs, and other groups of borrowers on the other. Other semi-formal providers can be further classified under two groups, mutual benefit and for-profit institutions, neither of which is constrained to serving only the poor. Mutual benefit institutions include state credit cooperatives, national credit cooperatives, MACS may not be able to access government funds, their greater accountability and relative freedom from government intervention has prompted a majority of state credit cooperatives to transform into MACS, leading to a total number of 92,000.

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The largest and most profitable MFIs in India are registered as non-banking financial companies (NBFC). While the vast majority of the 37,000 NBFCs target the rural and urban middle class, a few such as BASIX focus on providing microfinance services to the poor. Unlike NGOs, NBFCs, with permission from RBI, are able to mobilize savings and can thus provide a wider array of services. Informal : In addition to friends and family, moneylenders, landlords, and traders constitute the informal sector. While estimates of their importance vary significantly, it is undeniable that they continue to play a significant role in the financial lives of the poor. Data from the 1992 All India Debt and Investment Survey (AIDIS) reveals that households in the lowest asset ownership category owed 58 percent of their outstanding debt to the informal sector. Other studies suggest that the informal sector accounts for as much as 84 percent of poor households credit usage. While the informal sector charges the highest interest rates on loans, these are increasingly being driven down by competition from other microfinance providers (Mahajan and Ramola)iii. In India, the micro-finance movement is gaining momentum over the past one and half decade with the active involvement of around 3000 NGOs with the support of apex institutions such as NABARD, SIDBI, Rashtriya Mahia Kosh etc. Micro-finance initiatives through SHG-Bank Linkage programme has passed through various phases since 1992. It is in this backdrop that the present paper tries to analyse the importance and the growth of micro financing in India. The entire paper is organised into four segmentsSection -1 presents the introductory portion. Section -2 gives a birds eye view on the microfinance model and their growth and performance in India. Section -3 is assigned to the problems faced by micro-financing in India and finally Section -4 furnishes the concluding observations. II. GROWTH AND PERFORMANCE A. Why Micro Credit The multiplier theory occupies an important place in modern economic theory. The basic concept of multiplier says that the effect of investment on income, output or employment is manifold than the original increase in investment. The same can be distinctly 4

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demonstrated in a credit programme for the rural poor through the continuous expansion of their economic base. Incomes also rise if borrowings from the banks are being channelised for productive purposes i.e. invested. The vicious cycle of low income low savings low investment low income can be broken with the injection of credit in the cycle. Credit intended for more investment more income more savings more investment more income is the result that is sought through the credit intervention. It is assumed that those who save and those who borrow are two different groups of people. Savers put away deposits in banks while borrowers go to the bank and borrow the savings of others at price. However, a saver can himself be an investor, as is usual in the case of the poor. His investment is calibrated in very small steps and any time. The peer pressure, subtle, at times not-so-subtle, keeps the group members in line and contributes to the collective strength of the groupiv. The impact of micro finance on the different sectors of the economy can be well understood with the help of following diagram:

Experiences throughout the globe have proven that microfinance can improve the livelihoods of poor and low income people in a significant manner. This helps poor people to have access to savings, credit, insurance and other financial services so that they are able to cope up with every day demands more resiliently and confidentlyv. 5

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Besides, with the help of micro credit, poor people can set up their own micro enterprises. Thus, it helps in alleviating poverty by providing a regular source of livelihood, creating jobs, allowing children to go to school, enabling families to obtain healthcare and empowering people to make their choices that best serve their needs. Since more than 90% of microfinance beneficiaries are women, empowering the lady of house does more miracles in uplifting the standard of living of poor and enables them to be integrated with overall economic development of the nation and this will be one step forward in the direction of empowerment of women. Micro-finance initiatives are now recognised as a cost effective and sustainable way of expanding the banking system to the rural poor. The guiding spirit behind microfinance initiatives is: i. ii. iii. iv. v. To offer cost effective approach to formal institutions for expanding outreach to poor; To develop collateral substitutes; To focus on the rural and the urban poor, especially women; To pilot test other micro-credit delivery mechanisms as alternative channels to the formal banks; and To effectively pursue the objectives of macro-economic growth. There are two major models under microfinance, i.e., Self-Help Group (SHG)-Bank Linkages and Micro-Finance Institutions (MFI) - Bank Linkages being operated in the country. The growth of the Microfinance industry in India has been phenomenal. The SHGs have also managed to create deep roots within the country. However much needs to be done to see significant change in different parts of the country. NABARD has been successful in creating the largest network of microfinance in India. If other institutions have a similar vision and work towards it with similar zeal then the day is not far when we would have enough employment for the poor, increase in their standard of living, poverty alleviation, and improvement in literacy rates and thereby empower the nation as a whole. B. Self-Help Group (SHG)-Bank Linkage Programme

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SHGs are the real grass root level setups for micro-credit growth. They reach the poorest sections in rural settings as well as are empowering lakhs of women and entrepreneurs all around India. The various models like peer group, bank-linked SHGs, NGO-linked SHGs help in creating a social infrastructure with which the rural population is comfortable, which helps make in-roads for spread of credit. The SHG-bank linkage programme was launched in 1992 as a Pilot Project for linking 500 SHGs and supported by the Reserve Bank through its policy support. The Programme envisaged organisation of the rural poor into SHGs, building their capacities to manage their own finances and then negotiating bank credit on commercial terms. The poor were encouraged to voluntarily come together to save small amounts regularly and extend micro loans among themselves. Once the group attained the required maturity for handling larger resources, bank credit could follow. The focus of micro-finance initiatives is largely on those rural poor who have no access to the formal banking system. The target-group broadly comprises small and marginal farmers, landless agricultural and nonagricultural labourers, artisans and craftsmen and other rural poor engaged in small businesses such as vending and hawking. The SHGs registered or unregistered which are engaged in promoting savings habits among their members would be eligible to open savings bank accounts with banks. These SHGs need not necessarily have already availed of credit facilities from banks before opening savings bank a ccounts. As per operational guidelines of NABARD, SHGs are sanctioned savings linked loans by banks (varying from a saving to loan ratio of 1:1 to 1:4). Experience showed that group dynamics and peer pressure brought in excellent recovery from members of the SHGS. Banks were advised that the flexibility allowed to the banks in respect of margin, security norms, etc. under the pilot project would continue to be operational under the linkage programme even beyond the pilot phase. Keeping in view the nature of lending and status of borrowers, the banks prescribe simple documentation for lending to SHGs. The defaults by a few members of SHGs and/or their family members to the financing bank do not ordinarily come in the way of financing SHGs per se by banks provided the SHG is not in default to it. However, the bank loan may not be utilized by the SHG for financing a defaulter member to the bank.

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Historically, there is a concentration of SHGs in Southern States mainly on account of proactive role played by the State Governments. However, NABARD has taken up intensification of the SHG bank linkage program in 13 identified priority States which account for about 70.0 per cent of the rural poor population, viz., Uttar Pradesh, Orissa, West Bengal, Madhya Pradesh, Maharashtra, Gujarat, Rajasthan, Chhatisgarh, Jharkhand, Bihar, Uttaranchal, Assam and Himachal Pradesh. Consequently, the share of cumulative SHGs credit linked in Southern States declined to 54.0 per cent in March 2006 from 71.0 per cent in March 2001. During 2005-06, the number of SHGs credit linked increased significantly in some of the major priority States such as Maharashtra (60,324), Orissa (57,640), West Bengal (43,553), Uttar Pradesh (42,263), Rajasthan (38,165), Assam (25,215) and Chhattisgarh (12,722) See Table-1. During 2005- 06, the number of SHGs credit linked in 13 priority States constituted 54.4 per cent of the all India credit linkage of 6,20,109 SHGs. At present, there are over 2.2 million SHGs credit linked with banks. Out of this, there are over a million SHGs which are now over three years old. These SHGs have not only availed of loans but have also gone in for repeat loans. It is being emphasised that a number of the older SHGs would now be in a position to graduate into micro enterprises by taking to income generating activities. Though micro enterprises are not a panacea for the complex problem of chronic unemployment and poverty, yet promotion of micro enterprises is a viable and effective strategy for achieving significant gains in incomes and assets of poor and marginalised people. Graduation of SHG members to take up micro enterprises requires intensive training on various aspects of management including understanding the market structure, fine-tuning of skills and entrepreneurship management. During 2005-06, a focussed and location specific Micro Enterprise Development Programme (MEDP) on skill upgradation and development for sustainable livelihood for members of matured SHGs was launched. The MEDP aims at facilitating quick inputs to members of matured SHGs on technical skills in enterprises, basic entrepreneurial inputs and aspects covering markets. The active participation of women (90%), and timely loan repayment (95%) continue to be prominent features of the programme. The programme has enabled an estimated 24.25 million poor households in the country to access to Micro-Finance (MF) from the formal 8

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banking system, as on 31st March 2005, registering a growth of 45 per cent over the previous year. Table-1: Cumulative growth in SHG- Bank linkage in priority states (As on 31 March)
State/Year Assam Bihar Chhatisgarh Gujrat Himachal Pradesh Jharkhand Maharashtra Madhya Pradesh Orissa Rajasthan Uttar Pradesh Uttranchal West Bengal Total Priority States 2002 1024 3957 3763 9496 5069 4198 19619 7981 20553 12564 33114 3323 17143 141804 ( 31) 2003 3477 8161 6763 13875 8875 7765 28065 15271 42272 22742 53696 5853 32647 249462 (35) 2004 10706 16246 9796 15974 13228 12647 38535 27095 77588 33846 79210 10908 51685 397464 (37) 2005 31234 28015 18569 24712 17798 21531 71146 45105 123256 60006 119648 14043 92698 667761 ( 41) 2006 56449 46221 31291 34160 22920 30819 131470 57125 180896 98171 161911 17588 136251 1005272 ( 45)

Figures in the parentheses indicate percentage share of priority states in total No. of SHGs credit linked.

Source: NABARD In line with the announcement in the Union Budget for 2006-07, a new refinance scheme, viz., separate line of credit for financing farm and investment activities through SHGs was introduced by NABARD. A sum of Rs.500 crore was earmarked for providing refinance under the scheme during 2006-07. Under the scheme, term loan and cash credit limit to SHGs extended by scheduled commercial banks, regional rural banks and cooperative banks, exclusively for farm production and investment activities covering agriculture and allied activities, are eligible for 100 per cent refinance from NABARD. Consumption credit up to 30 per cent of the overall limit is also eligible for the purpose. Out of the three models emerged under the SHG-Bank Linkage Programme over the years, about 80.7 per cent of the SHGs were financed by banks under Model II, involving NGOs and Government agencies. The performance of SHGs in terms of bank loans and 9

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refinances over a period of time can be well understood from table-2 whereas the linkage position- agency wise is given in table-3 and linkage position- model wise in table-4. Significant progress was made during the year 2005-06 that witnessed sustained expansion of the programme with credit linkage of 0.6 million new SHGs by the banking system, taking the cumulative number of such SHGs from 1.6 million as on March 31, 2005 to 2.2 million as on March 31, 2006. Banks extended loans of Rs.4,499 crore during 2005-06, registering a growth of 50.3 percent over previous year. The average per SHG bank loan increased from Rs.44,624 in 2004-05 to Rs.50,915 in 2005-06, reflecting deepening of the credit access among the SHGs. The programme continued to enlist massive support of the rural poor women into the self-managed and door-step based micro-finance movement. The number of poor families, thus, benefiting through SHGs increased from 24.3 million as on March 31, 2005 to over 32.9 million as on March 31, 2006 registering a growth of 35.4 per cent Table-2: SHG - Bank Linkage Programme ( Amount in Rs. Crores) Year Total SHGs financed by Bank Loans Refinance banks ( Nos. in 000) During the Cumulative During the Cumulative During the year year year 1992- 33 33 57 57 52 99 1999- 82(147.9) 115(247.9) 136(138.1 193(238.1) 98(88.4) 00 ) 2000- 149(82.3) 264(129.9) 288(111.8 481(149.2) 245(150) 01 ) 2001- 198(32.6) 461(74.9) 545(89.5) 1026(113.4 395(61.4) 02 ) 2002- 256(29.5) 717(55.4) 1022(87.4 2049(99.6) 622(57.5) 03 ) 2003- 362(41.4) 1079(50.4) 1856(81.5 3904(90.6) 70513.3) 04 ) 2004- 539(49.1) 1618(50) 2994(61.4 6898(76.7) 968(37.2) 05 ) 2005- 620(15) 2239(38.3) 4499(50.3 11398(65.2 1068(10.3 06 ) ) )
Figures in the parentheses indicate annual percentage growth.

Cumulative 52 150(188.4) 395(163.3) 790(100) 1413(78.8) 2118(49.9) 3086(45.7) 4154(34.6)

Source: NABARD 10

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The SHG-bank linkage programme is now considered by the banking system as a commercial proposition, with advantages of lower transaction costs and higher coverage of rural clientele by the bank branches. Commercial banks have maintained good progress in financing SHGs as their share increased from 52.1 per cent in 2004-05 to 53.1 per cent in 2005-06 (Table-3). The share of co-operative banks in SHGlinkage increased marginally from 13.0 per cent to 13.9 per cent over the period, while that of RRBs declined to 33.1 per cent from 34.8 per cent. Total number of SHGs financed by cooperative banks increased sharply from 2,11,137 at end- March 2005 to 3,10,230 by endMarch 2006, reflecting significant interest being evinced by many co-operative banks. Table-3: Linkage position (Cumulative) - Agency wise (As at end- March) (Amount in Rs. Crores) Number (000) of SHGs 2004- 2005- Percentage Agency Commercial 05 06 Variation 2004- 200505 56.7 (60.3) 38.9 (30.4) 56.8 (9.3) (13.9) 1618 (100) Source: NABARD Notes: i) Figures in the brackets are percentages to total. ii) Figures may not add up to their respective total due to rounding off. 2239 (100) 50 38.3 6898 (100) 1139 8 (100) 76.7 65.2 06 40.8 (61.3) 31.2 (29.1) 46.9 Bank loan 2004- 2005 05 -06 Percentage Variation 2004- 2005-06 05 84.4 64.3 72.5 68.0 58.2 69.9

843

1188 (53.1) 740 (33.1) 310

4159 2100 640

6987 3322 1087

Banks (52.1) Regional Rural 564 Banks Credit operative Banks Total (34.8) Co- 211 (13)

Table-4: Linkage position Model - Wise 11

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As on March 31, As on March 31, Model Type 2005 No. of Bank SHGs (000) SHGs promoted, guided 343 and financed by banks (21.2) SHGs promoted by 1158 (14.7) 5529 (80.2) 356 (5.2) (6.4) 6898 2239 11398 (20.1) 1646 (73.5) 143 (14.4) 9200 (80.7) 561 (4.9) Loan (Rs. Crore) 1013 2006 No. of Bank SHGs (000) 449 Loan (Rs. Crore) 1637

NGOs / Govt. agencies (71.6) and financed by banks


SHGs promoted by NGOs 117 and financed by banks using agencies NGOs/formal (7.2) as financial

intermediaries

Total

1618

Notes: Figures in the brackets are percentage to total. Source: NABARD

C. MFI Bank Linkages Continuous efforts are being made to promote linkages of micro-finance institutions (MFIs) with banks. With a view to promoting flow of commercial loans from banks to MFIs, a scheme was launched by NABARD during 2005-06 to provide financial support to banks towards rating of MFIs. This scheme has since been made more liberal and extended up to March 31, 2008. A scheme called Capital/Equity Support to MFIs from MFDEF was announced by NABARD. The scheme provides for capital/equity support to various types of MFIs by NABARD to enable them to leverage capital/equity for accessing commercial and other funds from banks for providing financial services at an affordable cost to the poor and to enable MFIs to achieve sustainability in their credit operations over a period of three to five years. 12

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In order to examine the issues relating to allowing banks to adopt agency model by using infrastructure of civil society organisations, appointment of banking correspondents to function as intermediaries between the lending banks and the beneficiaries and identification of steps to promote MFIs, an in-house Group (Chairman: Shri H.R. Khan) was set up in the Reserve Bankvi. The Group submitted its final report in July 2005. Based on the recommendations of the Group and with the objective of ensuring greater financial inclusion and increasing the outreach of the banking sector, banks have been permitted to use the services of non-governmental organisations/self-help groups (NGOs/SHGs), micro-finance institutions (MFIs) and other civil society organisations (CSOs) as intermediaries in providing financial and banking services through the use of business facilitator and business correspondent models. MFIs hold significant potential, but they also need to be challenged to make an increasing contribution to scale consistent with cost sustainability and efficiency of operations. National Micro Finance information Bureau (NMIB) to gather information on business correspondents may be established by NABARD. The business facilitators /correspondents may have the contractual relationship with only one Bank and NMIB may also facilitate sharing of such information. NABARD may also capture and share data / information on the MFIs and NGOs associated with SHG Bank Linkage and MFI Bank Linkage Programme. With the aim of knowing the appropriate functioning of MFIs, their rating is required. Basically the rating tools attempt to assess whether the MFI is operating on sound lines and on sustainable basis. Rating is a pre- requisite for extension of financial arrangements. Rating can also give a comparative position of the MFI in relation to its peers. The following non-financial parameters are to be examined while arriving at the rating of MFIs: i. ii. iii. Governance Whether Board members actually participate in the meetings and take major policy decisions. Qualification and Competence of Top Management. HR Policies Well laid out recruitment and training system. 13

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iv. v. vi. vii.

Systems and Procedures Well laid down policies for processing and authorization. Organizational Structure. Product Range In tune with the requirement of client group. Geographical spread.

With the intention of strengthening the MFI system in the country, the following proactive measures may be introduced: i. Introduction of a separate accounting and auditing standards system for MFIs so that it would establish a uniform accounting system which is less stringent than the systems applicable to ordinary business firms; ii. iii. MFIs should be managed by professionals to enable MFIs to maintain a high degree of professionalism in their operations; MFIs should make a clearly specified policy statement that includes periodical voluntary disclosure of operations, activities, financial position for the benefit of the public; iv. v. MFIs should, in their own, consent to having a rating for their business activities, so that the members of the public would have required information on them. MFIs should strive to build internal reserves out of operational surpluses to enable them to absorb loan losses, withstand adverse shocks and go through difficult periods. III.CHALLENGES BEFORE MICRO-CREDIT AND SOME PROPOSITIONS International financier George Soros, in his book George Soros on Globalization, observes that: The difficulty [of micro-lending] is in scaling it up. Successful microlending operations, although largely self-sustaining, cannot grow out of retained earnings, nor can they raise capital in financial markets. To turn micro-lending into a big factor in economic and political progress, it must be scaled up significantly. This would require general support for the industry as well as capital for individual ventures. We agree even when MFIs become profitable, accumulated profits will not support the kind of large-scale growth required to reach large numbers. Until now, many MFIs have utilized grants from donors to support their operations both in the early years and as they 14

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scale up. Yet such grants, already limited in size and availability, are becoming harder to come by as the pool of global MFIs grows. Unfortunately, beyond donors, there really are no private sources of equity financing available to MFIs around the world, particularly those working with the poorestvii. Although the growth of SHGs in India has been phenomenal there are some significant problems faced by them which might hamper their growth in the coming years. For instance politicizing of subsidy allotment among SHGs has become a big problem. Qualification for government subsidy is easily influenced by Panchayat members. Thus, Panchayats are now competing with NGOs and rural banks in forming SHGs. While the Panchayat-formed SHGs have the lure of government grants they are often open to political pressure and misuse of funds by the recommending Panchayats and/or political parties. Besides, the NGO-formed SHGs have the benefit of honest and expert counseling from the nursing NGOs. Thus the qualities of NGO-formed groups are usually superior to those formed by the local government (Panchayats) and villagers are often keen to join the former. These age-old problems of government initiatives in poverty reduction, unless stemmed quickly, can actually harm the movement by eroding the fundamental precepts of self-help and empowerment of the poor. (The Indian Microfinance Experience Accomplishments and Challenges Rajesh Chakrabarti, 2005). The main challenges facing the SHG - Bank linkage model are: The pace of expansion of the programme. The limited number of NGOs in regions where the programme has not picked up The cost of promotion of NGO being high. The per capita credit outlays are small and not commensurate with the costs involved in. bringing the SHGs to the banking main stream. Overloading of SHG with multiple agenda, particularly Government sponsored programmes.

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RBI and Government as part of their development role, NABARD, which is spearheading this programme, and banks who are the main promoters of the programe, may initiate the following effective steps to overcome these shortcomings: Promotion of Federation structure: The long term sustainability of the SHG model may require a federal structure, without severing the linkages that the SHGs have with the local bank branches. The assumption that the federation structure should not be supplanted on the SHGs and can be addressed when the demand emerges needs reconsideration. Maintenance of National Database on SHGs and MFIs: At present, NABARD is maintaining the database on SHGs. It publishes annual hand book on micro finance in India with focus only on SHG Bank linkage programme. It is suggested that NABARD be assigned the responsibility of collection of data involving the entire sector, their compilation and dissemination. Contribution to the MFDEF (Micro Finance Development and Equity Fund) by Banks: The corpus may be built up on an ongoing basis. A portion of profits of the bank may be contributed to the fund. The Government may provide tax relief to Banks for the contributions made. Role of Corporates in Micro Finance: Corporate India, of late, shown keen interest in the SHG movement as it provides an alternative business opportunity for them besides being a means to actualize its corporate social responsibility objectives. Many corporates have realized that the people at the bottom of pyramid can be brought into their business model. The group also sees a critical role of the corporate sector in providing market linkage to the products of the rural areas on a sustainable basis. The following are the examples i. ii. iii. iv. ITC (through e-choupal model). Hindustan Lever Ltd (through Stree sakti project). Mahindra & Mahindra (through Mahindra Subh labh). Tata Group (through Tata kisan sansar).

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We further face problems at the level of Micro-finance regulation. A salient feature of MFIs has been that they have sprung up spontaneously to meet a market demand similar to the creation of micro businesses. These institutions which have been set-up at first as small village based voluntary associations to cater to each other's needs have gone through an evolutionary process to become sometimes national level MFIs. Despite varying sizes, MFIs handle other people's money and, therefore, the viability and solvency of these institutions have become a crucial issue in MFI policy frame works. Given the fact that they function as depositories for the most vulnerable groups at the bottom of the income pyramid, a failure of an MFI may entail greater social costs from a welfare point of view than that of a higher level lending institution. The generally agreed objectives of Prudential Regulation include: i. Protecting the country's financial system from domino effect preventing the failure of one institution from leading to a 'run' prompting the failure of others, and ii. Protecting small depositors who are not well positioned to monitor the institutions financial soundness themselves. The under noted questions indicate the challenges of microfinance regulation: Currently there are five organisational forms of the MFIs, viz., Trusts; Societies; Cooperative Societies; Not-for-Profit Companies and NonBanking Finance Companies. We will have to weigh the merits and demerits of recognition of one or more or all the organizational forms under the formal structured regulatory framework. SHGs are amorphous entities with no formal organizational structure. We will have to distinguish micro credit institutions from micro finance institutions. It is not clear how they will be brought under a formalized frame of regulation. There are also instances of large corporates undertaking 'micro-credit activity as a part of their operations. Under their corporate social responsibilities. The microfinance institutions may invite the overlapping jurisdiction of several regulatory agencies. 17

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The latter may need more varied skills and in any case, warrant a policy view by more than one financial sector regulator? How do we distinguish micro-finance institution from micro-credit institution and both these from other financial institutions? Is it by the ceilings imposed on the size of deposits, lendings and / or by defining activities? What part or percentage of the activity could be nonfinancial while the institution continues to be an MFI? Is there merit in differentiating between not-for-profit MFIs and the profitseeking ones? There is also a need to recognise the large regional differences in the spread of SHGs and the MFIs across the country. While the issue needs deeper analysis to identify the reasons for such variation and to promote balanced growth of the MFIs, it, prima facie, appears that the MFIs have flourished more in the Southern States with well-developed banking infrastructure and outreach. Thus, the MFIs in our country would seem to be a supplement rather than a substitute for a developed banking infrastructure. The role of foreign capital and venture capital in regard to the MFIs would have to be carefully considered. It may be necessary to recognise here the orientation of micro-finance activity given the limitation of size and skills in the MFIs and then consistency with the risk reward bias of such sources of commercial capital. As regards external -commercial borrowings, the imperatives of exchange rate risk and the capacity of the MFIs to effectively assess and manage this risk would also need to be duly reckoned. What could be the scope and effectiveness of a self regulatory organisation. for the MFIs and how would it mesh with the possible formalised regulatory framework under contemplation ? Credit rating is usually assigned for specific instruments issued or for a defined purpose and often, on a continuing basis. There is merit in 18

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devising rating system for the MFIs, recognising that such exercises are seldom for localised views amongst decentralised entities. It will be instructive to review our experience so far in regard to utility and quality of rating exercises of MFIs. How to ensure that the rating exercise adds value to the localised operations of the MFIs? What are the prospects for expanding the permission accorded by the RBI to the non-banking financial companies for offering credit and other financial services to not-for-profit companies? What are the prospects for creating a separate category of NBFC-MFIs to be regulated by RBI? Given the need for streamlining micro finance and promoting it as an effective tool for poverty alleviation, ADB (2000) has made the following proactive recommendations to be adopted by the Reserve Bank of India (RBI): i. ii. iii. iv. RBI should promote understanding that higher interest rates provide increased access to finance for the poor rather than exploiting them; RBI should initiate action to bring the needed legal framework for MFIs; RBI should establish prudential regulation and supervision structures for MFIs which are appropriate to their size; RBI should develop prudential norms and reporting standards for MFIs.

IV. CONCLUSION In India, Economic Reforms with a human face have been accepted as the guiding principle of sustainable development. Keeping the Poor at centre stage, the Policies need to be reoriented so as to develop and optimize the potential of such a large segment of the Population and enable them to contribute in the growth process significantly in terms of output, income, employment and consumption. After the pioneering efforts of the last ten years, the Micro Finance Scene in India has reached a take-off point. With some efforts substantial progress can be made in taking MFIs to the next orbit of significance and sustainability. This needs innovative and forward-looking policies, based on the ground realities of successful MFIs. This, combined with a commercial approach from the MFIs

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in making Micro Finance Financially Sustainable, will make this Sector vibrant and help achieve its single-minded mission of providing Financial Services to the Rural Poor. It is necessary to recognize that we, in India, have to focus on extending financial services in both rural and urban areas for ensuring financial inclusion of all segments of the population. At the same time, one should avoid the temptation of creating one set of banking and financial institutions to cater to the poor or the unorganized, and another for the rest. The medium to long-term objective should be to ensure inclusion of all segments in the mainstream institutions while taking advantage of the flexibility of multiplicity of models of delivering a wide range of financial services. In this light, a comprehensive framework to revive the cooperative credit system, revitalize the Regional Rural Banks and reorient commercial banking system needs to get a high priority while simultaneously encouraging and enabling the growth of micro-finance movement in India, which has been very successful. We need to build on its strengths and extend it to vast areas, which are inadequately covered by both banking and micro-credit entities. Micro-finance, broadly defined, needs to be explored in the light of the new paradigm described. RBI and NABARD recognize the growing importance of micro-finance and are committed to enable its healthy growth. However, several issues, both in regard to regulation as well as development of the MFIs need to be considered and must be comprehensively addressed. While the report of the Khan Committee would provide a good starting point for taking a view on developmental aspects, in particular, the CGAP's Guiding Principles on Regulation and Supervision on Micro-finance provide a valuable and globally relevant framework in regard to the regulatory issues. The proposed forum for a consultative process on the MFIs would also be useful in evolving an appropriate framework for development of the MFI sector. No doubt, a very well-crafted balance between the regulation and growth objectives would be warranted in formulating our approach to a regulatory regime, keeping in view the big challenge of financial inclusion of a large segment of the Indian population.

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REFERENCES

21

Economic and Political Weekly, Microfinance: Productive Linkages, March 6, 2004: PlanetFinance, Country Study: India, July 2000: http://www.planetfinance.org.

http://www.epw.org.in/showArticles.php?root=2004&leaf=03&filename=6907&filetype=html
ii

iii

Mahajan, Vijay and Bharti Gupta Ramola, Microfinance in India Banyan Tree and Bonsai, BASIX Quarterly Review, October 2004.
iv

Microfinance India conference and a look at the expanding market by Sukhwinder Singh Aurora,Financial sector team ,policy division ,DFID,United Nations Capital Development Fund (UNCDF ) ,Issue 13 / June 2005
v

Micro-Finance : Reserve Bank's Approach - Address by Dr.Y.V.Reddy, Governor, RBI at the MicroFinance Conference organised by the Indian School of Business, Hyderabad on August 6, 2005.
vi

Report of the Internal Group to examine issues relating to Rural Credit and Microfinance, RBI, July 2005.
vii

Micro finance in India: Sectoral issues and challenges(Nov.2004): Y.S.P. Thorat, Managing Director NABARD.