Microfinance lenders should not throw caution to the winds while chasing growth, says RBI’s Rajeshwar Rao

Microfinance lenders should not throw caution to the winds while chasing growth, says RBI’s Rajeshwar Rao

The Indian microfinance sector needs to exercise caution while chasing growth and the lenders to the economically weaker section should not overlook the social objectives that are embedded in their business, Reserve Bank of India deputy governor M Rajeshwar Rao said Wednesday.

“While chasing higher asset growth and returns, lenders should not throw caution to the winds. Any slip-up through adverse actions of the MFIs may undo the tremendous progress achieved over the decades and the sector can ill-afford to do that,” Rao said at Sa-Dhan National Conference on “Revitalizing Financial Inclusion”.

He said the lenders need to remain true to the roots and origin of microfinance and that “should not be sacrificed at the altar of bottom-line growth”. “Prioritization of profitability at the expense of social and welfare goals of microfinance may not be an optimal outcome,” he added even as he underscored the need for achieving financial sustainability through profit.

The sector has often been criticized for high interest rates disproportionate to the lenders’ funding and operational costs, revolving loans leading borrowers into debt-trap like situations and harsh recovery methods causing distress.

Microfinance is a way of giving collateral-free loans to bottom of the pyramid borrowers, especially women, while lenders typically charge around 20-24% interest rates.

“These are issues which need to be critically introspected and addressed by the lenders to prevent recurrence of the crisis episodes,” Rao said.

The regulator has recently unveiled a consultative document on microfinance regulation to address over-indebtedness of borrowers and stop the menace of multiple lending.

In the proposed framework, RBI suggested that the regulations should focus on repayment capacity of the borrowers rather than considering only indebtedness or indebtedness from only NBFC-MFIs in isolation. RBI has also proposed to remove the regulatory ceiling on interest rate that is now applicable only to NBFC-MFIs.

“The prescription of a ceiling on lending rate for NBFC-MFIs has had an unintended consequence of not allowing competition to play out. There is a concern that the current guidelines, while prescribing an interest rate ceiling for only NBFC-MFIs, are effectively acting as a benchmark for other lenders as well. It is generally observed that interest rates of other lenders in the microfinance segment also hover around this ceiling despite comparatively lower cost of funds.,” Rao said.

Several high street banks, especially in the private sector domain, offer micro loans at rates as high as 24% despite their significantly lower cost of funds.

RBI expects the removal of interest rate ceiling would allow market mechanisms to come into play and lead to lowering of lending rates. However, the NBFC-MFIs, which are currently facing squeeze in their interest rate margin due to high credit costs in the aftermath of the pandemic may do just to reverse.

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