Credit Reporting and the Indian MFI Bill

Much – too much – is hoped for from the Indian Microfinance Bill. But this is nothing new in the global annals of microfinance. For more than a decade stakeholders across the spectrum in countries around the world have pinned hopes on ‘just the right microfinance regulation’ solving problems only indirectly affected by regulatory policy. In India, no kind of regulation will miraculously rebuild the repayment culture among the poor of Andhra Pradesh or mitigate over-indebtedness there. It is not even clear whether the current legislative proposal could conclusively settle the jurisdictional battle between the central government and the AP state government that has fueled the crisis, or prevent other state governments from testing the limits of their authority to regulate financial sector matters when it suits their particular political purposes.

If the Microfinance Bill will not provide a silver bullet to take out the multiple demons now plaguing the sector in India (AP in particular), is there at least a silver lining within it? An answer could lie in the provisions of the bill on credit reporting. The bill would empower the Reserve Bank of India to compel registered MFIs to become members of “Credit Information Bureaus that may be set up for the Micro Finance Sector.” In principle, at least this provision actually could play a positive role, both in mitigating over-indebtedness and rebuilding repayment culture among microborrowers in AP. Comprehensive credit reporting gives lenders an invaluable tool for understanding who else is lending to their customers, as well as an indication of when their borrowers are encountering repayment difficulties. And sharing their repayment history, positive or negative, provides borrowers with an incentive to repay – in order to build the ‘reputational collateral’ that can help get them the best terms available in the market.

This is the theory, and the Indian Microfinance Bill may bring the country an important step closer to putting it into practice. CGAP and IFC recently came out with a joint paper entitled “Credit Reporting at the Base of the Pyramid – Key Issues and Success Factors.” We found that one of the most critical success factors is comprehensive market coverage: does the credit reporting service in question capture all of the base-of-the-pyramid lenders in a given market as well as all of their borrowers? By compelling registered MFIs to participate in credit reporting, the RBI could facilitate the development of vastly more comprehensive databases on base-of-the-pyramid borrowers than presently exist.

Many other critical components – beyond the reach of the Indian Microfinance Bill or any other form of regulation – will be needed to bring credit reporting to a level where it can have a meaningful impact on over-indebtedness and repayment culture. For example, databases will remain critically incomplete without data on the tens of millions of SHG borrowers (many of whom also borrow extensively from MFIs and other lenders, including of course informal lenders who can never be forced by regulation into participating in credit reporting). Even if all the relevant parties agree or were compelled to participate, there is the massive practical challenge of digitizing and uploading SHG data – not just once, but perpetually. This reminds us of an even more basic challenge to comprehensive credit reporting on base-of-the-pyramid lending: until India’s ambitious Unique ID program grows to cover larger numbers of Indians, simply identifying the relevant borrowers reliably will be perhaps the most significant obstacle to reasonably comprehensive credit reporting.

The Indian Microfinance Bill is not – and cannot be – the silver bullet to address all these issues, many which will not be tackled effectively without some level of common cause among policy making authorities at both the central and state government levels. The silver lining is that at least it is a start.