Wednesday, July 27, 2011

Indian microfinance pioneer, Vijay Mahajan's BASIX group to shut down? Reflections on the state of the sector

BASIX (India)Image via WikipediaReflections on the state of the Indian microfinance sector at the news of the imminent collapse of Bhartiya Samruddhi Finance Limited, part of the Vijay Mahajan promoted BASIX group.

I'm shocked BASIX is on the verge of collapse. BASIX is one of the most ethical, diverse and largest group in the Indian microfinance sector. They have a NBFC, NGO and a Local Area Bank, a category of financial entity created by the RBI exclusively for them.

Excerpt: Microlenders are in a critical state, Mahajan said. “Certain smaller MFIs have effectively closed down. The ones who are outside, they are squeezed, because they are also not getting money. Even perfectly fine MFIs are facing a crisis as banks are not lending,” he said.

Was the sector in good shape before the AP law?
1. No, not at all. The sector was plagued with problems of transparency, accountability and operational efficiency and effectiveness. MFIs boasted unlikely repayment rates of 99% but randomized impact evaluation studies found no evidence of positive impact on poverty reduction. We had no way of detecting exactly how many MFIs were pursuing dishonest practices such as multiple borrowing and loan recycling.

Was the sector growing before the AP law?
2. Yes, private equity investors and commercial banks were lending aggressively for a few years.
3. Yes, new MFIs were coming up or expanding operations too fast, often poaching clients or neglecting client education on credit.

What about mission drift?
4. Yes, thanks to the entry of large profit motivated investors, there has been a great deal of mission drift in the sector. It is my personal belief that the tussle between the profit motive and the financial inclusion motive of MFIs should fall towards financial inclusion, not profit. Rural consumers value timely access to credit far greater than the interest rate levied on small loans. Contrary to theory, the vast majority of microfinance loans are for consumption (primarily medical and education expenses), not production (start up business). The theoretical flaw in Professor Yunus' idea does not preclude the mission of financial inclusion, if only MFIs in India would be allowed to collect savings.

Did the sector need any amount of regulation or none at all?
5. Yes, the AP law which requires MFIs to help the state government track clients taking out more than one loan is needed.
6. But it is also true that as a result of the law, commercial banks have stopped lending as much money to as many MFIs. Hit hardest are the smaller and newer MFIs who have not set up shop properly yet and needed time to break even. And now, slow and steady reputable MFIs such as BASIX who work on the life-cycle model of finance, caring more about the financial needs of the customer over a lifetime than quarterly account reports to short sighted investors.

What happens now?
7. This is a sad turn of events. Banks will only lend to Spandana, Share, SKS, Asmitha now that BASIX might collapse (the 10 biggest NBFC-MFIs make up the bulk of the assets). What will the rest do? Social investors such as I-NGO and development agencies already vacated the MFI space in favour of profit players.

Meanwhile, the MFI Development & Regulation Bill has been languishing in the Ministry of Rural Development for more than 5 years. Until the new minister, Jairam Ramesh takes a personal interest, the policy vacuum is filled with a stringent state law in AP (where all top MFIs are HQ-ed). This law has spooked socially and financially motivated investors worldwide as evidenced by BASIX's failed fundraising efforts.

The stage is set for the domination of government players of the likes of NABFINS (a MFI floated by the government entity, National Bank for Agriculture and Rural Development). Shooing everyone else off the playing field, the government is in the game to control access to credit for the poor. Government of India has been suspicious of private MFIs ever since the sector started getting some Nobel Prize Committee, Silicon Valley and Wall Street Journal attention in 2005. (Mind you, the Government had no problem with the World Bank at the helm of affairs running micro lending for the state of Andhra for years prior.) Never forget, the poor are the vote-bank for everyone who wants a seat of power anywhere in India.

No political party can't stand to watch private players reach and serve the needs of the poor better than any of them.


aaquib naved faruqui said...

Insightful. Sad state of affairs. 5*****'s 

Pundit Commentator said...

Thanks for reading Aaquib. Just because there is a lot wrong with the way microfinance is being practiced in India, that does not mean the alternative scenario in which the government chases away investors, kills the MFI sector as we know it and regains control over access to credit for rural and smaller value customers is acceptable.

Rao said...

While it is sad that the Govts. in India can kill private sector MFIs for their own reasons and vote bank politics, certain large MFIs also need to be blamed for their interest rates, collection tactics & incentives to field staff, exhorbitant managerial remunerations & profitability, lack of real social commitment, transparency in ownership structure, financial mismanagement, unprofessional ethics by Pomoters. New set of guidelines and MFIs are required to sustain the sector. However Basix has been a good entity with Mr. Mahajan known for his transparency and ethics and it is a very sad news. 

Pundit Commentator said...

We are in agreement.

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