DNA Friday, 4 April 2014
The in-principle approval for setting up a bank granted to a microfinance organisation could have implications for a sector that has come under heavy fire
Almost exactly four years after then-finance minister Pranab Mukherjee spoke of the need to increase access to banking services and the possibility of new bank licenses to private sector players, the RBI has delivered in the most conservative manner possible. This is not particularly surprising; caution has been the through line of every policy it has implemented since the 2008 economic crisis. In light of the public mood with regard to corruption and governance, and given the fact that it’s election season, it would have been naïve to expect it to be generous. Nor are the stakes as high this time around for the 23 applicants that didn’t make the cut. The upcoming shift to a license on tap policy takes away the one strike and you’re out urgency of the previous rounds of bank licensing in 1993 and 2001. The surprise is elsewhere — namely, in microfinance firm Bandhan Financial Services (BFS) being preferred to well-established, larger corporate entities.
Microfinance hasn’t been a polite word in financial circles since 2011, its subcontinental annus horribilis. That was the year the Bangladesh Supreme Court ruled against Noble laureate Muhammad Yunus, the godfather of microfinance and founder of Grameen Bank, the institution a good many Indian organisations have modelled themselves on. The Bangladeshi government’s charge that microlending victimises poor people found an echo in Andhra Pradesh where severe problems in the functioning of microfinance organisations had led to the setting up of the RBI’s Malegam committee. The committee report led to additional safeguards and checks in the sector, but problems remained.
A lack of access to low cost deposits was at the heart of many of these problems. In order to remain commercially viable in the absence of these deposits, a number of organisations had instituted interest rates that were close to extortionate. That was partly the cause for widespread loan defaults in the state, perpetuating the high interest cycle. High transaction costs factor into this as well; these costs remain a constant even when the size of the transactions is relatively small. Add it all up and the result is that microfinance organisations haven’t entirely succeeded in their primary purpose: reaching the poor who are outside the ambit of traditional banking. Andhra Pradesh, Tamil Nadu, Kerala and Karnataka — the four states with the densest networks of commercial bank branches — also account for about half of all microfinance beneficiaries. Meanwhile, the North-East is severely underserviced despite having limited penetration when it comes to commercial banks, and India’s seven poorest states, encompassing north and east India, account for just about a quarter of microfinance clients.
Seen in this context, the RBI’s granting BFS an in-principle approval is a litmus test. If the organisation is able to meet the stipulated conditions by the time the 18-month deadline rolls around, its funding situation will improve considerably via low-cost deposits. The implicit deal, of course — particularly in light of the licensing process’s stated goal of improving access to banking services — is that BFS won’t migrate entirely to a broader, more profitable market but scale up its operations and offer better terms in the microfinance niche. Differentiated licenses play into this as well. If the BFS experiment works out, it makes it more viable to grant other organisations in the sector — that may not have the wherewithal to function as full-fledged banks — licenses for specific functions that will enable them to scale up operations. It’s something of a punt. But if it pays off, it could show the way back to growth for microfinance institutions.
