Microfinance in India: The Story of Resilience

By Devesh Sachdev, CEO, Fusion

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The microfinance model of providing small, collateral-free loans to “bottom-of-the-pyramid” clients previously neglected by the formal sector has emerged as an effective and sustainable model of financial inclusion. Financial inclusion has, understandably, been the primary focus of policymakers over the past few decades, given the portion of our population that remains unserved and/or underserved. It doesn’t take a complex analysis to understand that if India, as a country, is to improve its per capita income and lift people above the poverty line, access to finance must be key.

Despite the policy push through the traditional banking system, few factors have acted as obstacles to this national goal of financial inclusion. First and foremost, the fact that our formal banking system has largely developed its policies and outreach (whether physical or digital) to cater to the urban/semi-urban population with established track records/income and collateral that match their defined risk/reward matrix as an asset class. Second, the “delivery cost” for small transactions in the balance of payments market has become a buffer for banks. The lack of financial literature has also acted as a constraint.

The microfinance model of providing small, collateral-free loans to bottom-of-the-pyramid clients previously neglected by the formal sector has emerged as an effective and sustainable model of financial inclusion. It was conceptualized to seamlessly deliver financial services and products to the doorsteps of these same clients in a manner that is very easy to understand. The concept of joint liability leveraging social capital combined with direct delivery to the client has helped the microfinance sector gain trust and acceptability.

The microfinance “journey” over the past decade has revolved around two major themes. On the one hand, it has withstood severe setbacks like the 2010 Andhra crisis, the 2016 demonetization crisis, the NBFC liquidity and credibility crisis, and is currently battling the global Covid-19 pandemic. All these events have created the impression in the minds of stakeholders that microfinance in itself is a risky asset class, as unfortunately for the sector, it has been affected by these unforeseen events once every 3 to 4 years.

Fortunately, however, there is a brighter side to the sector:

1. Today, the sector serves around 60 million unique customers with a combined portfolio size of Rs 23 billion across 620 districts in 28 states and eight union territories. This makes it the 2nd largest sector after mortgage lending. However, what is even more commendable is that the sector has recorded a growth of 30% in the last 3 years compared to 17% for the retail banking sector
2. Another strength of the microfinance sector has been offering financial products and services through a careful fusion of "Touch and Tech" at the lowest cost among its global peers. The sector leverages advances in technology to consistently provide greater transparency, data security, confidentiality, and proximity accessibility to its rural clients.
3. With both reach and operational efficiency, microfinance is today a sustainable business model, calibrated to leverage its network to provide other goods and services to rural populations, thus contributing to the significant growth recorded by India.
4. The sector also generates significant employment opportunities not only by hiring in the hinterland, but also by enabling its clients to provide employment opportunities to others through extensive financial support.

The sector has demonstrated remarkable resilience over the past decade and this has been made possible by some key contributing factors:

• The 'inherent' need for such a model in an aspirational India, where a large unserved/underserved population is yet to be given an opportunity to jump on the bandwagon, has ensured that microfinance remains a 'preferred' vehicle for both policy planners and practitioners over the years.
• The significant support and enabling policy framework provided by the Reserve Bank of India has been a catalyst in pursuing the financial inclusion mission of the microfinance sector. The sector has been assigned a special category within the Reserve Bank's broader category of non-banking financial services, giving it a distinct identity and strong credibility as the country's first self-regulatory organization recognized by the Reserve Bank.
• The operation of MFIN (the industry association) as a self-regulatory organization since 2010 has enabled the sector to build its growth on solid pillars. The main pillars of MFIN's work have been customer protection, the sector's code of conduct, and policy advocacy, all of which contribute to building a responsible finance ecosystem.
• Because microfinance is a far-reaching model, it has ensured the highest degree of client-centricity and knowledge. Response time in crisis situations is much faster, and the solutions offered are highly targeted. This aspect helped the sector overcome the challenges posed by demonetization in 2016, but more recently, this model has proven its resilience and sustainability in the current Covid-19 crisis. Frontline soldiers ensured that the wheels of financing kept moving when clients needed them most during the pre- and post-lockdown periods. Operating platforms were quickly modified to operate remotely and provide digital lending services.

The strong bond with clients has stood the test of time and engendered a high degree of mutual understanding and cooperation. Most financial experts were wrong when the microfinance portfolio showed better-than-expected post-Covid portfolio indicators following the moratorium period mandated by the Central Bank.

Today, the microfinance sector partners with the government to roll out various social programs, from Shishu loans under the Mudra program to Pradhan Mantri Svanidhi. The importance of the sector was recognized by the Prime Minister in his speech at the United Nations General Assembly, describing it as a tool for promoting women's entrepreneurship.

As they say, “It’s not how many hits you take that makes you a winner, it’s how you always get up stronger despite the hits you take and emerge a winner” and this is an apt description of a resilient microfinance sector in India, so far… but the journey has only just begun!

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Source : BW Businessworld