Exorbitant Interest Rates:A Response from the Russian Microfinance Industry

The exorbitant interest rates offered by so-called  “microlending” companies (who look much more like payday lenders or garden variety loan sharks) to clients of the Russian Post  recently gave rise to a wave of indignation on the part of the public, government, mass media and the responsible microfinance industry.

Microlending has existed in Russia for 15 years but it was not until 2011 that special legislation came into force, providing for a clearer legal status of microlending MFIs. These institutions play an important role in the country, serving people who do not have access to bank loans.  Thus, last year about 70 percent of microloans were disbursed in small towns and rural areas; 60 percent of microborrowers were women and 10 percent – youth; and about 50 percent of all microloans were used to fund micro and small businesses.   The average annual interest rates charged by MFIs are about 28 percent per annum.

Just as the legal framework for MFIs was complete, a number of companies disbursing small short-term loans at very high interest rates (we’ll call them “payday loans” and the lenders “payday lenders” for convenience, although many borrowers are pensioners or self-employed) started registering as MFIs.  It should be noted that the appearance of the payday lending companies has not been brought about by the adoption of the new microfinance legislation.  Rather, they took advantage of the new legislation to gain a recognized legal status for their activities.  Though the share of payday loans is only about 15 percent of all microlending in Russia, their negative image has cast a dark shadow over the responsible microfinance sector.

Since the Russian microfinance legislation has not been designed to account for specifics of payday lenders, the microfinance community led by the Russian Microfinance Center has suggested the following measures to separate this market from responsible microfinance and establish necessary protections for clients of payday lenders:

1. Payday lenders licensed as MFIs should be separated from the rest of the MFIs in the state register (lines of demarcation remain to be established – a challenge, of course, in many markets beyond Russia).
2. Reporting to credit bureaus should be mandatory for all payday lenders and MFIs.
3. The regulators (the Russian Central Bank and Federal Financial Markets Service) should regularly publish average interest rates on retail credit products offered by banks, payday lenders, MFIs and credit cooperatives and establish that interest rates higher than 20 percent of the average are to be considered usurious (and labeled clearly as such, though not prohibited).
4. Payday lenders should be restricted in their ability to raise funding from individuals (something other MFIs are permitted to do under Russian law, but within limits).
5. All MFIs should be members of self-regulated organizations, to reduce instances of unethical market conduct.

We believe that these measures will help inform and protect Russian borrowers, as well as foster a more responsible and transparent microfinance sector in Russia.  Presented to the regulatory authorities shortly after the Russian Post scandal, these measures are likely to be adopted soon.

The situation in Russia is not unique, and the next post in this series we will discuss what lessons can be drawn for other countries.