Regulation of Microfinance Institutions in India

Agenda
Microfinance sector - overview Analysis of the existing regulatory regime Global experience regulating Microfinance Institutions Assessment of pending regulatory recommendations
Malegam Committee Recommendations Microfinance Financial Sector Bill 2010

MFI response to new RBI Regulation

Microfinance Sector
Two models Self Help Group (SHG) model and Microfinance Institution (MFI) model Microfinance Institutions (MFIs) serve 27 million clients and have 183 billion crore loans outstanding in India Services have been geographically disproportionate
Services have expanded greatly in the Southern region, though services are limited in the Northern and Western regions Poorest districts still generally do not have services

Lack of product diversity

Andhra Pradesh Crisis, 2010

Clients and politicians accuse microfinance institutions of coercive collection practices, usurious interest rates, and use of selling practices that result in over-indebtedness Microfinance clients stopped repaying loans in late 2010 in Andhra Pradesh (AP) AP state government issued an ordinance that severely limits the operations of MFIs Microfinance institutions all over India have had trouble accessing adequate financing as a result RBI enlisted the Malegam Committee to generate regulatory recommendations to address issues of the sector

Agenda
Microfinance sector - overview Analysis of the existing regulatory regime Global experience regulating Microfinance Institutions Assessment of pending regulatory recommendations
Malegam Committee Recommendations Microfinance Financial Sector Bill 2010

MFI response to new RBI Regulation

Existing Regulatory Structure Legal forms of MFIs

Category Type of MFI (Approximate Number) NGO MFIs (Societies &Trusts) (500) Section 25 Companies (10) Mutual Benefit Cooperatives (100) For- Profit NBFC (50)

Registration
Registered under Societies Registration Act, 1860 and / or Indian Trust Act 1882 Section 25 of Companies Act, 1956

Not for Profit

Registered under State Cooperative Societies Act or Mutually Aided Cooperative Societies Act (MACS) or Multi- State Coop. Societies Act, 2002 Companies Act, 1956 & registered with RBI

For-profit MFIs account for over 80% of total client outreach of all the MFIs

Existing Regulation
NBFCs (for-profit)
Regulation primarily prudential, not specific to microfinance Can collect deposits if achieve investment grade rating (no MFI has accomplished this)

Other Microfinance institutions

No regulation beyond registration, which is often done at state level

State regulation
There is little clarity regarding central vs. state jurisdiction Some MFIs are subject to state laws such as Moneylending Act A few states have passed ordinances restricting some microfinance practices

Existing Regulation
Priority Sector Lending
Microfinance institutions qualify for priority sector funds

Funding Restrictions
NBFCs cannot access External Commercial Borrowing Minimum Equity investment is US $500,000 which can only account for 51% of company

Existing Regulation
Opportunities for Improvement
Lack of clarity on state and central jurisdiction No consumer protection regulation No regulation for credit reference services and information sharing Unduly restrictive standards for deposit collection Restrictions in accessing funding from various sources Overall lack of monitoring and supervision

Agenda
Microfinance sector - overview Analysis of the existing regulatory regime Global experience regulating Microfinance Institutions Assessment of pending regulatory recommendations
Malegam Committee Recommendations Microfinance Financial Sector Bill 2010

MFI response to new RBI Regulation

Prudential Regulation
Country Bolivia MFI Structure
Microfinance executed primarily by private financial funds (PFF), two specialized banks, and some credit unions o Banks o Credit Cooperatives o Microfinance Deposit-taking Institutions o moneylenders groups

Credit Reference Service

Credit Bureau exists, does not contain information from unregulated institutions

Ownership Structure

Uganda

Bank of Uganda (central bank) initiated Credit Bureau

30% Maximum shareholding

Philippines

Microfinance Banks (MFB), Rural Banks, Credit Cooperatives and NGOs dominate microfinance sector

Credit Information Service Act (2008) requires all financial information to be submitted, though no functioning credit bureau exists

Thrifts: Minimum 40% owned by Filipino citizens, 100% owned by Filipino citizens for all others

Capital Adequacy
Country Bolivia Risk Weighted Capital Adequacy Ratio for Type of Institution -8% for Private Financial Fund -From 10% for Open Savings and Loan Coop to 20% (CAC) Category 1 to 4 12% for Micro Financing Institutions -6% Rural Bank -10% Deposit-taking NBFI 8% BPR Remarks Net equity as percent of risk-weighted total assets and contingencies Minimum capital adequacy ratio; applicable to reregistered MFIs Primary and secondary capital to adjusted asset base Supplementary and core capital to riskweighted asset Primary capital and supplementary capital, with the latter not being larger than the former For core capital and total capital, respectively Equity (paid-up capital, share premium, reserves and unappropriated profits) to riskweighted assets. For core capital and total capital, respectively

Ethiopia Ghana

Indonesia

Nepal Pakistan

5% Cooperative Society with a and 10% Limited Banking License 15% Institutions providing MF services under MFI Ordinance 15% Micro Deposit-Taking Institution and 20%

Uganda

Minimum Capital Requirements

Used to control number of qualifying institutions Can change over time, and within country Bolivia increases requirement as penetration develops and existing institutions mature Pakistan minimum capital requirement changes depending on district and province of operation No uniform standard amount

Interest Rate Caps

Some countries implement interest rate caps aiming to protect the poor from usurious charges Interest rate caps often reduce financial services for lowerincome and rural clients, increase MFI solvency risk, and encourage less transparency
Jurisdiction West Africa Date 1990s Nature of Change 27% Ceiling Reason for Change and Implication MFIs immediately pulled out of rural areas, and increased average loan size. Eventually found ways to circumvent with fees. The Central Bank Growth decreased to 2% publishes interest annually to 30% annually. rate every month Several MFIs pulled out of rural areas.

Nicaragua

2001

Consumer Protection
Consumer protection requirements vary greatly across the globe, coming most often in the form of legislation or institution selfregulation Documentation requirements
Plain-language, documentation in the local language, describe recourse rights and processes, annual interest rate using a standard formula, all applicable fees, computation methods, required insurance Financial regulatory authority mandated procedure for receiving, responding, and resolving customer complaints 99% of 400,000 customer complaints were handled by financial regulatory authority Implement financial literacy education programs On-site and off-site monitoring As a result, customer complaints are down 32% since 2004

Facilitate customer complaint procedures (Example: Peru)

Agenda
Microfinance sector - overview Analysis of the existing regulatory regime Global experience regulating Microfinance Institutions Assessment of pending regulatory recommendations
Malegam Committee Recommendations Microfinance Financial Sector Bill 2010

MFI response to new RBI Regulation

Malegam Committee Recommendations Overview

Original report released in January 2011 The recommendations address many of the major issues of the sector:
Identifying microfinance institutions and qualification for priority sector lending Consumer over-indebtedness Credit Pricing Product Restrictions Documentation

In May 2011 RBI broadly accepted the report, and specified priority sector lending qualification

Passed Malegam Regulation

Minimum 85% of loan portfolio: Is disbursed to a rural household with annual income not exceeding Rs 60,000 or an urban household with annual income not exceeding Rs 1,20,000 Does not exceed Rs 35,000 for the first cycle and Rs 50,000 for subsequent cycles Does not result in greater than Rs 50,000 total indebtedness for the borrower household Has a tenure not less than 24 months for loan amount in excess of Rs 15,000 without prepayment penalty Is extended without collateral Is repayable by weekly, fortnightly, or monthly installments at the choice of the borrower

Passed Malegam Regulation

MFIs must adhere a margin cap of 12 percent and an interest rate cap of 26 percent to qualify for priority sector lending Only three components are to be included in pricing of loans, (a) a processing fee not exceeding 1% of the gross loan amount, (b) the interest charge and (c) the insurance premium. A borrower is not required to be a member of a SHG/JLG to receive a loan There should not be any penalty for delayed payment No Security Deposit/ Margin are to be taken. 75% of loans are for income generation

Micro Financial Sector Bill 2011

Designation of RBI as the sole regulator for all microfinance institutions,
Power to regulate interest rate caps, margin caps, and prudential norms All microfinance institutions must register with RBI

Formation of a Micro Finance Development Council, which will advise the central government on a variety of issues relating to microfinance Formation of State Advisory Councils to oversee microfinance at the state level Creation of Micro Finance Development Fund for investment, training, capacity building, and other expenditures as determined by RBI

Agenda
Microfinance sector - overview Analysis of the existing regulatory regime Global experience regulating Microfinance Institutions Assessment of pending regulatory recommendations
Malegam Committee Recommendations Microfinance Financial Sector Bill 2010

MFI response to new RBI Regulation

CMF Survey
CMF interviewed 32 MFIs in Andhra Pradesh in Summer 2011 Survey included MFIs which represent a variety of lending models, sizes, and legal forms Overall, MFIs reacted positively to new regulation

Malegam Report Feedback

Opinion on Malegam Committee Report
9 8 7 6 5 4 Positive Negative Neutral

3
2 1 0

Positive

Negative

Neutral

Business Strategy
Changes in Business Strategy
60.00% 50.00%

57%, 8

43% , 6
40.00% 30.00%

29%, 4

20.00%
10.00% 0.00%

7%, 1

7%, 1

Closing down MFI branches

Staff lay off

Enrolling as many clients before March 2011

Waited for RBI regulation

No changes in business strategy

Business Strategy
Will your business strategy change in the future to meet the RBI regulations?
10 9 8 7 6 5 4 3 2 1 0

3 2

Yes

No

No response

Income Requirement
Will an income requirement cause borrowers to misstate their income?

No, 5, 36%

Yes, 9, 64%

Investment
How will Venture Capitalists react?
10 9 8 7 6 5 4 3 2 1 0

2 1

Increase Investment

Normal Investment

Decrease Investment

No response

Interest Rate Cap

Is the 12% margin cap enough to sustain your business?
N/A 1 7% Yes, 3, 21%

No, 10, 72%