Driving Fast on Indian Country Roads: Learning from the Crisis

“Acting responsibly is almost against human nature – we always seem to need external restraints.” At the recent Responsible Finance Forum, Alok Prasad (CEO of MFIN, the association of Indian commercial MFIs) offered a hard-hitting assessment of what went wrong in Andhra Pradesh, focusing on how investors contributed to the situation and what they can do to help avoid other “APs.” The room was full of institutional investors, DFIs, and fund managers, more than 40 of whom had just signed the “Principles for Investors in Inclusive Finance.”

Alok ticked off the ingredients in the “potent cocktail” of the crisis. First, five years of annual growth rates exceeding 70% led to troubling practices, client problems, and market-level distortions. The growth was fed by the second ingredient: money — plenty of money, including debt financing from Indian banks and equity from mostly foreign social and not-so-social investors. Add to that cocktail a political system that is highly sensitive about the poor and tends to be skeptical that private markets will help reduce their poverty. Finally, top it off with incentives for practitioners, politicians, and providers of capital to act in ways not always in the long-term interests of low-income clients.

The result? The aforementioned very fast sports car, hitting the gas and careening around tight curves while endangering passengers, pedestrians and the other cars on the road.

Alok urged investors to do their part now to build a financing “eco-system” that will produce more responsible behavior in India and elsewhere. He advocated investor action on six fronts:

• As foreign investors, you must be “engaged owners, not just sleeping partners.” The industry needs active governance, especially around the decisions that affect client welfare.
• Do your due diligence. You can’t just fly into India on Monday, review the CEO’s projections, meet some senior staff and fly home on Thursday. You need to ask hard questions and counsel the promoters. Seventy percent this year and 150% the next? No sector can sustain or manage this kind of growth.
• Insist on compliance with the industry code of conduct. It’s not enough for the network to say “come on, guys, let’s do the responsible thing.” Bank loan covenants should address this, and other investors have influence too.
• Get regular feedback from the networks. Is your MFI partner a member in good standing of MFIN? Maybe you should urge the networks to do annual certification.
• Really integrate social performance indicators into your investment decision making processes.

Alok closed with an observation that seems relevant far beyond AP: the outcome in the market will hinge on how the clients feel about their providers. There is much to be done by retail providers, to be sure. But investors all the way up the value chain of microfinance funding also can do a lot to support a safe road to financial inclusion.