The Andhra Pradesh (AP) government passed an ordinance introducing substantial changes to MFI lending practices in the state. This ordinance aims to “protect the women self help groups” and the interests of the poor by attempting to reduce multiple borrowing, avoiding harsh collection practices, and altering repayment procedures, among other measures.
However, the key questions that remain are: Will clients benefit from this ordinance? And, what do clients like about MFIs and what do they want changed?
In 2009, there were mass defaults in four towns of the neighbouring state of Karnataka when local Muslim organizations banned repayments. In this case as well, there were reports of harsh collection practices and over-lending.
A recent survey of 900 MFI customers, conducted jointly by EDA Rural Systems and CGAP, attempted to study the needs and challenges of customers in the districts of Karnataka where mass defaults had occurred. This post draws from a forthcoming paper, by Karuna Krishnaswamy and Alejandro Ponce, which analyses the data from that survey.
We analyze the following questions related to the demand side areas that the ordinance has addressed.
- What do borrowers feel about interest rates?
- What is their preferred source of lending?
- Weekly versus monthly repayments, which is better?
- How much debt can clients carry?
- Do clients prefer Individual or Joint Liability Loans?
- What are client perceptions on harsh collection practices by MFIs?
What follows is a quick summary of the answers to these questions.
1. What do borrowers feel about interest rates?
From Table 1 we see that low interest rates are an important lender selection criterion for 21% of the borrowers, while 26% (Table 3) would like to see MFIs reduce their rates even further.
However, 41% of the borrowers are using services provided by MFIs because of lower interest rates. This shows that we should be careful about deriding MFIs on the whole as being usurious and note that they are providing lower cost options for a large number of borrowers.
However, it is important to note that less financially literate customers are less likely to be conscious of interest rate differences and so rates could be a bigger problem than is reported here.
Further, one hopes that the pressure to make a substantial drop in interest rates does not force MFIs to reduce operational expenses such as on loan monitoring. The data shows that customers who have had less monitoring by loan officers and use the loans for non-productive purposes are more likely to face repayment distress, which will make matters worse for the customer and the MFI.
2. What is their preferred source of lending?
We asked, “What is your favourite lending source?” Most of the respondents favoured MFIs, while a few preferred banks, friends and moneylenders. None of them cited the state run SHG as their favoured lending source. Only one respondent said that a private SHG was her preferred lender. We should be cautious about making strong inferences, since only 12 of the respondents were borrowing from the state SHG program and only 10 from private SHGs. In addition, the Karnataka’s SHG program is not as prominent as the one in AP and has different characteristics.
However, it is interesting that customers appear to prefer the MFI model particularly since two of the regions we surveyed (Kolar and Ramanagaram) have seen a lot of problems and bad press about MFIs in the last couple of years.
The tables below show the main reasons why MFIs are the preferred source. The reasons according to clients are, MFIs offer lower interest rates, process the loans quickly and provide services at their door-step.
But MFIs should be aware that treating clients well is important to keep their loyalty and institutions that promote SHGs should note that sometimes clients need quick loans urgently.
TABLE 1 HERE
TABLE 2 HERE
3. Weekly versus monthly repayments, which is better?
It is clear that customers want flexibility of repayment. Forty percent of the customers said that flexibility (such as repayment everyday or fortnightly or every two months, or paying more during better income months), is the foremost change that they would like to see in MFIs.
TABLE 3 HERE
It may seem obvious to some that monthly repayments are less difficult for customers if they have a good savings product and the discipline to put money away. But it is well known that customers often do not have access to a safe and convenient place to store savings and have many more demands on their money.
Repayment schedules have to be designed with a better understanding of customers’ occupations and varying income and expense streams. In the absence of this, a monthly repayment schedule seems as arbitrary as weekly. In any case, customers should be sent reminders to put away money as and when possible to save up for the monthly instalment.
From the MFI’s perspective, a Field and Pande with IFMR-CMF finds that there is no significant difference between delinquency rates of centers repaying on a weekly schedule compared to centers repaying weekly. It also found that monthly center meetings did not last more than three minutes longer than the weekly ones. This finding implies that MFIs may still have good repayment at low levels of loan sizes while simultaneously reducing their costs through monthly meetings.
4. How much debt can clients carry?
While over-indebtedness is a problem for many customers, it is not clear at what threshold customers feel the burden of repayment and what the remedy is.
When we asked borrowers how much debt they can bear comfortably, answers ranged from Rs. 6,000 ($130) to Rs. 60,000 ($1300). This implies that restricting them to 2 or 3 loans might still not always ensure that the total debt is within their absorption capacity.
Many customers faced repayment problems because of income and expense shocks for which the remedies are flexible repayments, emergency loans or insurance.
The study finds a strong correlation between repayment distress and lower financial literacy especially for lower income customers. It is yet to be seen who is better placed to provide financial education – MFIs or other NGOs.
5. Individual or Joint Liability Loans?
Twenty three percent of the customers wanted no joint liability loans or wanted individual loans or did not want center meetings (Table 3). This means that the majority were comfortable with it. Further, thirty-five percent of the borrowers interviewed said that a group or center member had borrowed from them at least once. Indeed this is what keeps the repayment rates high.
As shown in table 4 below, a substantial number of the customers believe that being part of a group will help them in difficult times.
TABLE 4 HERE
Anecdotal evidence from the field also shows that customers are not comfortable with covering anonymous center colleagues but may be more comfortable covering their group members especially for larger loan sizes.
With regard to repayment rates, a work in progress by Gine, Krishnaswamy and Ponce finds that the higher the number of initial defaulters in a center, the higher the probability that the others will default in a joint liability group model.
6. What are client perceptions of harsh collection practices by MFIs?
We asked customers about the kind of collection practices that MFIs followed and the table below shows their responses.
TABLE 5 HERE
While noting that there are few cases of harsh collection practices, Table 6 below shows that most customers feel that extended meeting times and making a scene at the member’s house is acceptable, but the latter two practices are unacceptable. Hence, customer protection policies should be designed in collaboration with the borrowers.
TABLE 6 HERE
The key take-away from this analysis is that while the ordinance covers important aspects of customer protection, the specific measures suggested do not appear to be made based on an evidence-based understanding of what customers want and what is most beneficial to them. Further research and evidence is needed to identify the correct remedies for the problems that customers face. A good start is the formation of a credit bureau which has found wide support. We find that most customers report that their economic lives have improved after taking MFI loans, including those who cited repayment distress. The millions of borrowers (and potential borrowers) in AP and the rest of India would be better served if the ordinance were drafted to assist MFIs in helping their customers.
Dear Karuna Krishnaswamy
The client side analysis on the need for micro finance for their upliftment is the need of the hour .Though the findings are interesting one need to go further deep into the functioning of micro finance from demand side. In this regard I share some of my points
1.Micro credit (being one of the micro finance services)need to be first linked to income generation from livelihood. .In this regard both non super vision of the end use of the credit at client’s household level from supply side and unethical utilization of loan ( for the purpose other than declared ) of the client are principally accountable for the present chaos in this industry .Multiple lending and multiple borrowing in the above situation further aggravated the magnitude of the present crisis.
2 Repayment schedule need to be fixed according to the income generation period and the level of income generated out of the livelihood for which micro credit is sanctioned. (e.g. crop loan – IG at the time of harvesting depending on the crop duration, Dairy animal- from lactation period .) Till such time repayment holiday need to be given. ( being followed in formal banking sector under priority sector lending)Here it should be noted that repayment period to be weekly or monthly is not the question and IG period merit attention
3.It is ideal as far as possible that repayment system may b tied up with marketing of the product (e.g crop loan –regulated market, sugar cane loan – Sugarcane mill, Diary animal- Milk cooperative society
4. It is imperative that these IG related micro credit scheme need to linked to micro insurance and protected from vulnerabilities affecting the IG process. The linkage with insurance securitizes the IG process of micro credit and eventually ensures benefit both the client and lender as it enables the revival of the livelihood and IG and continuity in repayment without delinquency. Here it is emphasized a kind of securitization of micro credit for its IG functioning at client’s level in terms of micro insurance and other supporting services like marketing , is an essential pre requisite for smooth repayment for the client and recovery for lender. This is the best way for ensuring customer protection
5. In any case fresh loan should be eschewed for closure or revival of the existing loan
6.Clinet’s capability for carrying the debt depends on his skill on the livelihood activity chosen and his accessibility to other supporting facilities for IG besides micro credit..
7.Credit bureau and micro finance securitization may help the supply side but what is needed for the client ‘ a good knowledge on micro credit planning and securitized implementation ( as referred to above) both at SHG level and individual client level as well . Further mere credit alone will not bring the desired result . How to ensure the provision of inetgrated or a packages of micro finance services holistically with micro savings, micro insurance , transfer services besides micro credit. to the poor client ? is the big question to be addressed by the researchers and the practitioners if Micro Finance ( not micro credit) has something to do with poverty reduction if not poverty elimination
Trust these points may be of some use to the people concerned with Micro finance .
Micro finance consultant