India's microfinance sector will continue to thrive, get bigger

It is important to appreciate the virtues displayed by stakeholders towards the vision of empowering low-income households

Microfinance institutions (MFIs) have played a leading role to bring inclusive finance into the development mainstream. They have engineered an efficient business model that utilises the prevailing social collateral to ignite women’s entrepreneurship spirit. They have helped reach out to millions of households and enabled credit footprint.

MFIs have made inroads in the digital transition story. Regular interaction with customers by using robust technology platforms has given them presence in 729 districts and helped create a strong bridge between physical and digital India. The industry code of conduct being revised regularly to incorporate various nuances has helped translate intent into necessary action.

The sector is supported by a strong ecosystem of robust regulations, the Jan Dhan-Aadhaar-Mobile (JAM) trinity, well-functioning credit bureaus, and support from banks under priority sector lending. It is important to understand and appreciate the virtues displayed by other stakeholders towards the same vision of empowering millions of low-income households.

The harmonisation guidelines introduced in March 2023 by the Reserve Bank of India (RBI) are perfectly poised to help the sector grow to its desired potential. The sector is guided by a comprehensive credit bureau check at the time of on-boarding; a 50 per cent cap on fixed obligations, and interest rates driven by board-approved policies with higher disclosure requirements.

According to the Microfinance Institutions Network’s estimations, the total potential microfinance households in India at the end of March 2023 are 208 million. The industry serves 66 million customers at the end of the same period, resulting in a penetration of 32 per cent. The industry continues to witness a healthy customer addition, with 14 per cent growth in FY23 coupled with normalised on-demand collection efficiency largely above 98 per cent. It becomes pertinent for the MFI sector to continue serving the hinterlands with the same spirit for achieving financial inclusion .

Looking at the penetration status, there is a certain percentage of customers who have transcended the existing microfinance boundaries limit of an annual household income of  Rs 300,000. The high-vintage levels and better business outcomes have led them to move towards individual lending domains involving a higher ticket loan. This has propelled many MFIs to explore the non-microfinance route of offering individual business loans, loans against property,  housing, two-wheeler, and gold loans.

Before the harmonisation guidelines were introduced, MFIs were allowed to offer non-microfinance loans to the extent of 15 per cent of net assets which was equivalent to 10 per cent of gross loans outstanding. In the current regime, the non-microfinance loan limit has moved to 25 per cent from 15 per cent of net assets. This involves accounting for the cash component as part of enhanced liquidity coverage ratio compliance, regular disbursements and repayment obligations resulting in no additional headroom for innovations or diversification into non-microfinance lending. The effective scope of diversification gets further limited at the time of equity infusion or large borrowings which results in the sudden increase in cash holdings, but takes a considerable time to convert into loans through disbursements.

It would be useful to revisit the non-qualifying asset clause by changing to 25 per cent of net assets instead of total assets, given the player’s intention to follow the customer’s journey by seeking opportunities and developing the right financial tools.

On the non-credit side, innovations are taking place centered on payments, savings and micro-insurance products: a true testament to the MFI model going beyond traditional credit delivery mechanisms. While all efforts are directed toward providing customers with a blanket cover to protect against external shocks the sector will continue to thrive and grow bigger in pursuit of democratising access to capital.

The writer is MD of CreditAccess Grameen and chairman of Microfinance Industry Network