The global debate on over-indebtedness tends to focus on the role of high rates of growth as its cause. The argument is that growth is sustained by the less responsible MFIs who target easy to reach clients – the low hanging fruit – encouraging them to borrow and inadvertently getting them into trouble as a result. This defines over-indebtedness as a supply-driven problem.
While this phenomenon undoubtedly plays a significant part in creating over-indebtedness, it would be useful also to look at the problem from the product design and demand perspective. Is there something about the product design that inherently fails to fulfill demand and leads to microfinance clients actually chasing after loans, sometimes too successfully, thereby getting themselves into trouble?
Whatever our concerns about over-ambitious, even greedy, promoters no one actually forces people to take loans beyond their repayment capacity so there must also be something in the conditions under which the industry operates that leads to clients choosing to take more and more loans.
One of the results of the exponential growth of the microfinance industry in many countries in Asia is that MFIs have had to hire ever-larger numbers of staff and train them in ever-shorter time periods to enroll clients and disburse funds.
As a result, there has been limited success in inculcating staff with the microfinance mission of targeting the poor and excluded, and building relationships with them. It is relationship building that enables staff to understand the lives and livelihoods of their clients and, thereby, to support them in meeting their financial needs in a service environment. On the contrary, MFIs have recently limited the loan size to unrealistically low levels (currently just 12.5% of per capita GNI in India and not much more in most of South Asia).
This allows them to minimize risk by limiting the size of the loan installment and reduce costs by virtually eliminating the task of loan appraisal, reducing the qualifications and, with it, the salary of a loan officer. Unfortunately, this lending methodology has driven microfinance in India into a methodological cul-de-sac, with the current microfinance crisis there, and less dramatic crises in other parts of South Asia, as the inevitable result.
It is not surprising that the net result of growth has been pressure on loan officers to cut the effort they put into client acquisition and attempt to acquire clients from other MFIs. The client, unsatisfied with the amount of financing available, inevitably seeks loans from multiple MFIs to meet her needs. This has caused an environment of micro-money circulation that resembles a hot house in which women from low income households must shuttle to 2-5 MFI meetings per week while managing households, families and contributing to micro-enterprises at the same time. Unfortunately, in obtaining “easy money” from multiple agencies, a few clients mismanage their financial affairs, as people tend to do at any level of society, and cases of over-indebtedness emerge.
The answer to this problem is encouraging MFIs to move beyond lending a pittance to the poor and move into real microenterprise financing. This would entail a number of changes: first, undertaking thorough loan appraisals to determine the real financing needs of the client; second, providing much larger loans than they do at present (perhaps between 50-100% of GNI in South Asia); third, as a consequence, hiring better educated staff at higher salaries and training them to perform good loan appraisals, and build relationships with clients.
The higher cost of this activity would be met by a larger outstanding loan size and the resulting slowdown in disbursements would also be beneficial in ensuring a more measured growth rate. This solution implies a radical change in the microfinance business model (at least in Asia) but in the given circumstances it would be good for microfinance and good for financial inclusion.
It is naive of Sanjay Sinha to say that “no one actually forces people to take loans beyond their repayment capacity”. Perhaps he is too busy in his office to take the time out to go and talk to the microcredit borrowers. If he did so he would soon find out how the “new loan officers”, under pressure to disburse, actually cajoled and forced the borrowers to take multiple loans to meet their disbursement targets. It’s a repeat of the pactice in the US mortgage markets prior to the crisis, where loan officers from commercial banks were encouraging cab drivers, who couldn’t service one mortgage,to take two or three mortgages. They said, “you don’t have to pay any installments. Just pay interest and when the prices double, pay back the loan and keep the surplus.” In reality, the prices halved, so the borrowers just surrendered their houses to these banks which were then bailed out with taxpayers money. But, by then, the CEOs had already pocketed obscene amount of bonuses. The MFI loan officers are doing the same — falsely assuring the borrowers that they can pay back multiple installments. But, in this case, it appears unlikely that problem MFIs would be bailed out with taxpayers money.
But, I do agree that the minimum size of microcredit needs to be increased.
Sanjay is right – this is something that we at MicroSave have been advocating for sometime now:
Micro-finance is not just mathematics or an input -out put analysis. Small loans or medium sized loans or large sized loans – all have their own advantages and short comings.
Micro-finance is developing good human beings (the user of micro-finance) by being good human beings(supplier of micro-finance).
During pre-micro-finance era (In India pre-IRDP era also can be included), the most honest were the poorest farmers/ landless in the villages. By offering a variety of credit packages, the system over the years has made them dishonest and corrupt. So in the name of mF,offering multiple and more doses of loans by the MFIs to the same client or more MFIs offering one or two loans each to the same client has only weakened the entire system.
Recently one HBS study says ‘Original Thinkers can be More Dishonest’. http://www.hbs.edu/research/pdf/11-064.pdf. I am afraid that some of the creative and innovative strategies (using centre leaders to double up as agents to get exponential growth is one such innovation) of MFI promoters have brought the system to this level today.
As I mentioned in my reply to Vijay’s yatra blog, there are success stories like MASUTA where poor tribals were given very small amount of loan (Rs.10,000 or less even) and they have successfully established the only all women run Producer Company for Tasar Silk in India (operating from Bihar, Jharkand and Chattisgarh and not from AP, Karnataka or TN. In this, the commitment of the promotors(PRADAN) to work only as a catalyst has brought the benefits to the users of mF. In that respect, community based organisations with honest promotor driven professional organisations are one of the best models to be adopted.