Article Title:

“‘GLOBAL FINANCIAL CRISIS’ PAVING WAY FOR PRIVATE

EQUITY IN MICROFINANCE SECTOR GENERATING NEEDS FOR
PROPER REGULATORY MECHANISM

Presented by:

Ashish Asopa
Research Scholar
Department of Management Studies
Jai Narain Vyas University,
Jodhpur, Rajasthan

E-mail:
asopa84@gmail.com
 ABSTRACT
“‘GLOBAL FINANCIAL CRISIS’ PAVING WAY FOR PRIVATE EQUITY IN
MICROFINANCE SECTOR GENERATING NEEDS FOR PROPER REGULATORY
MECHANISM”

Microfinance: Traditionally, microfinance institutions (MFIs) have been funded by soft

loans and grants mainly from Development Financial Institutions (DFIs) or foundations.

When the current global financial crisis hit hard, Banks may be down, manufacturing in a
slump and technology stagnating. But there is a hot new sector for private equity (PE) and
venture capital funds – India’s rural microfinance institutions, often called MFIs

This crisis has led to a significant decrease in capital available to the microfinance sector.
This decrease in capital inflow is adversely affecting the microfinance sector’s ability to
achieve existing revenue and expansion targets. Amid the global financial meltdown and the
resulting liquidity crunch, the microfinance sector has been relatively insulated from the
severe consequences of it, which facilitated private equity investment stepping into the sector,
which has been increasingly recognized as an “investable” asset class by global private
players.
There are two main reasons why PE firms are interested in the microfinance sector.
First, sector is capable of providing extraordinary returns.
Second, returns from the sector are not sensitive to swings in global economic cycles.

Private Equity Entry: Pros

Access to PE opens up a new source of funding, enable MFIs to build scale, reducing their
average costs and PE investors could bring international expertise in finance and technology
to the microfinance sector

Private Equity Entry: Cons

However, the entry of PE in this sector could have negative impacts.
• There is a fear that extraordinary returns may result in ‘mission drift’.
• Undue attention to semi-urban areas, as the transaction costs of lending are lower.
• Excessive emphasis on profits could result in undesirable lending practices.

RBI Stance
The microfinance sector in India has been perceived by policymakers, particularly
the Reserve Bank of India (RBI), as a useful channel for expanding access to various
financial services for low-income persons and those in the informal sector.
RBI concerned about Private Equity funds investing in Microfinance Companies, but still not
looking at the issue in the way it should be viewed.
As more sophisticated financial institutions enter microfinance, India needs to develop
an integrated regulatory structure from a fragmented one now. India should
develop a diverse and robust, but well-regulated microfinance sector

Microfinance crisis in India

India’s rapidly growing private microcredit industry faces imminent collapse as almost
all borrowers in one of India’s largest states have stopped repaying their loans,
egged on by politicians who accuse the industry of earning outsize profits on the
backs of the poor.
“We are extremely worried about our exposure to the microfinance sector,” said Sunand K.
Mitra, a senior executive at Axis Bank , speaking on a panel at the India Economic
Summit.

The crisis has been building for weeks, but has now reached a critical stage. Indian banks,
which put up about 80 per cent of the money that the companies lent to poor consumers, are
increasingly worried that after surviving the global financial crisis mostly unscathed, they
could now face serious losses.
Now some Indian officials fear that microfinance could become India’s version of the United
States’ subprime mortgage debacle
Responding to public anger over abuses in the microcredit industry – and growing reports of
suicides among people unable to pay mounting debts – legislators in the state of Andhra
Pradesh last month passed a stringent new law restricting how the companies can lend and
collect money. This may further negatively impact the growth of very needed armor of
poverty reduction in India.

Better Regulations suggestions

For better growth of the sector and removing the demerits of private equity entrants the
regulators and lending agencies could:
• Cap the directors’ and top management’s salaries.
• Cap the return on asset or return on equity expectations.
• Allow deposits and thrift: this would help lower cost of fund.
• Closely monitor MFIs, as the case of banks.
• Help the sector access debt cheaper.
• Borrowers given major voting rights in decision making bodies, making PEs less keen
to invest.