Micro Finance Ravi Mathur Mms-fin

8/2/2019 Micro Finance Ravi Mathur Mms-fin

1/55

Index

1. Definition

2. History of Microfinance

3. Microfinance today

4. Microfinance Products & Services

5. Microfinance Systems

6. Microfinance in India

7. Legal Regulations

8. Microfinance Models

9. Impact of the SHG Bank Linkage Programme10. Marketing of Microfinance Products

11. Issues in Microfinance

12. Conclusion

13. Bibliography

1

MICROFINANCE-A CRITICAL ANALYSIS


2/55

Microfinance Definition

According to International Labor Organization (ILO), Microfinance is an economic development

approach that involves providing financial services through institutions to low income clients.

In India, Microfinance has been defined by The National Microfinance Taskforce, 1999 as

provision of thrift, credit and other financial services and products of very small amounts to the

poor in rural, semi-urban or urban areas for enabling them to raise their income levels and

improve living standards.

"The poor stay poor, not because they are lazy but because they have no access to capital."

The dictionary meaning of finance is management of money. The management of money denotes

acquiring & using money. Micro Finance is buzzing word, used when financing for micro

entrepreneurs. Concept of micro finance is emerged in need of meeting special goal to empower

under-privileged class of society, women, and poor, downtrodden by natural reasons or men made;

caste, creed, religion or otherwise. The principles of Micro Finance are founded on the philosophy

of cooperation and its central values of equality, equity and mutual self-help. At the heart of these

principles are the concept of hum

Traditionally micro finance was focused on providing a very standardized credit product. The

poor, just like anyone else, (in fact need like thirst) need a diverse range of financial instruments to

be able to build assets, stabilize consumption and protect themselves against risks. Thus, we see a

broadening of the concept of micro finance--- our current challenge is to find efficient and reliable

ways of providing a richer menu of micro finance products. Micro Finance is not merely extending

credit, but extending credit to those who require most for their and familys survival. It cannot be

measured in term of quantity, but due weightage to an Introduction

2



3/55

development and the brotherhood of man expressed through people working together to achieve a

better life for themselves and their children. quality measurement. How credit availed is used to

survive and grow with limited means.

Microfinance is the provision of financial services to low-income clients, including consumers

and the self-employed, who traditionally lack access to banking and related services.

More broadly, it is a movement whose object is a world in which as many poor and near-poor

households as possible have permanent access to an appropriate range of high quality financial

services, including not just credit but also savings, insurance, and fund transfers. Those who

promote microfinance generally believe that such access will help poor people out of poverty.

The term "microfinance" describes the range of financial products (such as microloans, micro

savings and micro-insurance products) that microfinance institutions (MFIs) offer to their clients.

Traditionally, banks have not provided financial services to clients with little or no cash income.

Banks must incur substantial costs to manage a client account, regardless of how small the sums of

money involved.

There is a break-even point in providing loans or deposits below which banks lose money on each

transaction they make. Poor people usually fall below it. In addition, most poor people have few

assets that can be secured by a bank as collateral. As documented extensively by Hernando De

Soto (a Peruvian Economist) and others, even if they happen to own land in the developing world,

they may not have effective title to it. This means that the bank will have little recourse against

defaulting borrowers.

Microfinance is a type of banking service that is provided to unemployed or low-

income individuals or groups who would otherwise have no other means of gaining financial

services. Ultimately, the goal of microfinance is to give low income people an opportunity to

become self-sufficient by providing a means of saving money, borrowing money and insurance.

The World Bank estimates that there are more than 500 million people who have directly or

indirectly benefited from microfinance-related operations. Microfinance can provide an effective

3



4/55

way to assist and empower poor women, who make up a significant proportion of the poor and

suffer disproportionately from poverty. Microfinance can contribute to the development of the

overall financial system through integration of financial markets.

Origin/History of Microfinance

The concept of microfinance is not new. Savings and credit groups that have operated for centuries

include the "susus" of Ghana, "chit funds" in India, "tandas" in Mexico, "arisan" in Indonesia,

"cheetu" in Sri Lanka, "tontines" in West Africa, and "pasanaku" in Bolivia, as well as numerous

savings clubs and burial societies found all over the world.

Formal credit and savings institutions for the poor have also been around for decades, providing

customers who were traditionally neglected by commercial banks a way to obtain financial

services through cooperatives and development finance institutions. One of the earlier and longer-

lived micro credit organizations providing small loans to rural poor with no collateral was the Irish

Loan Fund system, initiated in the early 1700s by the author and nationalist Jonathan Swift. Swift's

idea began slowly but by the 1840s had become a widespread institution of about 300 funds all

over Ireland. Their principal purpose was making small loans with interest for short periods. At

their peak they were making loans to 20% of all Irish households annually.

In the 1800s, various types of larger and more formal savings and credit institutions began to

emerge in Europe, organized primarily among the rural and urban poor. These institutions were

known as People's Banks, Credit Unions, and Savings and Credit Co-operatives.

The concept of the credit union was developed by Friedrich Wilhelm Raiffeisen and his

supporters. Their altruistic action was motivated by concern to assist the rural population to break

out of their dependence on moneylenders and to improve their welfare. From 1870, the unions

expanded rapidly over a large sector of the Rhine Province and other regions of the German States.

The cooperative movement quickly spread to other countries in Europe and North America, and

eventually, supported by the cooperative movement in developed countries and donors, also to

developing countries.

In Indonesia, the Indonesian People's Credit Banks (BPR) or The Bank Perkreditan Rakyat opened

in 1895. The BPR became the largest microfinance system in Indonesia with close to 9,000 units.

4



5/55

In the early 1900s, various adaptations of these models began to appear in parts of rural Latin

America. While the goal of such rural finance interventions was usually defined in terms of

modernizing the agricultural sector, they usually had two specific objectives: increased

commercialization of the rural sector, by mobilizing "idle" savings and increasing investment

through credit, and reducing oppressive feudal relations that were enforced through indebtedness.

In most cases, these new banks for the poor were not owned by the poor themselves, as they had

been in Europe, but by government agencies or private banks. Over the years, these institutions

became inefficient and at times, abusive.

Between the 1950s and 1970s, governments and donors focused on providing agricultural credit to

small and marginal farmers, in hopes of raising productivity and incomes. These efforts to expand

access to agricultural credit emphasized supply-led government interventions in the form of

targeted credit through state-owned development finance institutions, or farmers' cooperatives in

some cases, that received concessional loans and on-lent to customers at below-market interest

rates. These subsidized schemes were rarely successful. Rural development banks suffered

massive erosion of their capital base due to subsidized lending rates and poor repayment discipline

and the funds did not always reach the poor, often ending up concentrated in the hands of better-

off farmers.

Meanwhile, starting in the 1970s, experimental programs in Bangladesh, Brazil, and a few other

countries extended tiny loans to groups of poor women to invest in micro-businesses. This type of

microenterprise credit was based on solidarity group lending in which every member of a group

guaranteed the repayment of all members. These "microenterprise lending" programs had an

almost exclusive focus on credit for income generating activities (in some cases accompanied by

forced savings schemes) targeting very poor (often women) borrowers.

ACCION International, an early pioneer, was founded by a law student, Joseph Blatchford, to

address poverty in Latin America's cities. Begun as a student-run volunteer effort in theshantytowns of Caracas with $90,000 raised from private companies, ACCION today is one of the

premier microfinance organizations in the world, with a network of lending partners that spans

Latin America, the United States and Africa.

5



6/55

SEWA Bank. In 1972 the Self Employed Women's Association (SEWA) was registered as a trade

union in Gujarat (India), with the main objective of "strengthening its members' bargaining power

to improve income, employment and access to social security." In 1973, to address their lack of

access to financial services, the members of SEWA decided to found "a bank of their own". Four

thousand women contributed share capital to establish the Mahila SEWA Co-operative Bank.

Since then it has been providing banking services to poor, illiterate, self-employed women and has

become a viable financial venture with today around 30,000 active clients.

Grameen Bank. In Bangladesh, Professor Muhammad Yunus addressed the banking problem

faced by the poor through a programme of action-research. With his graduate students in

Chittagong University in 1976, he designed an experimental credit programme to serve them. It

spread rapidly to hundreds of villages. Through a special relationship with rural banks, he

disbursed and recovered thousands of loans, but the bankers refused to take over the project at the

end of the pilot phase. They feared it was too expensive and risky in spite of his success.

Eventually, through the support of donors, the Grameen Bank was founded in 1983 and now

serves more than 4 million borrowers. The initial success of Grameen Bank also stimulated the

establishment of several other giant microfinance institutions like BRAC, ASA, Proshika, etc.

Through the 1980s, the policy of targeted, subsidized rural credit came under a slow but increasing

attack as evidence mounted of the disappointing performance of directed credit programs,

especially poor loan recovery, high administrative costs, agricultural development bank

insolvency, and accrual of a disproportionate share of the benefits of subsidized credit to larger

farmers. The basic tenets underlying the traditional directed credit approach were debunked and

supplanted by a new school of thought called the "financial systems approach", which viewed

credit not as a productive input necessary for agricultural development but as just one type of

financial service that should be freely priced to guarantee its permanent supply and eliminate

rationing. The financial systems school held that the emphasis on interest rate ceilings and creditsubsidies retarded the development of financial intermediaries, discouraged intermediation

between savers and investors, and benefited larger scale producers more than small scale, low-

income producers.

6



7/55

Meanwhile, microcredit programs throughout the world improved upon the original methodologies

and defied conventional wisdom about financing the poor. First, they showed that poor people,

especially women, had excellent repayment rates among the better programs, rates that were better

than the formal financial sectors of most developing countries. Second, the poor were willing and

able to pay interest rates that allowed microfinance institutions (MFIs) to cover their costs.

In 1990s two features - high repayment and cost-recovery interest rates - permitted some MFIs to

achieve long-term sustainability and reach large numbers of clients.

Another flagship of the microfinance movement is the village banking unit system of the Bank

Rakyat Indonesia (BRI), the largest microfinance institution in developing countries. This state-

owned bank serves about 22 million microsavers with autonomously managed microbanks. The

microbanks of BRI are the product of a successful transformation by the state of a state-owned

agricultural bank during the mid-1980s.

The 1990s saw growing enthusiasm for promoting microfinance as a strategy for poverty

alleviation. The microfinance sector blossomed in many countries, leading to multiple financial

services firms serving the needs of microentrepreneurs and poor households. These gains,

however, tended to concentrate in urban and densely populated rural areas.

It was not until the mid-1990s that the term "microcredit" began to be replaced by a new term that

included not only credit, but also savings and other financial services. "Microfinance" emerged as

the term of choice to refer to a range of financial services to the poor, that included not only credit,

but also savings and other services such as insurance and money transfers.

ACCION helped found BancoSol in 1992, the first commercial bank in the world dedicated solely

to microfinance. Today, BancoSol offers its more than 70,000 clients an impressive range of

financial services including savings accounts, credit cards and housing loans - products that just

five years ago were only accessible to Bolivia's upper classes. BancoSol is no longer unique: more

than 15 ACCION-affiliated organizations are now regulated financial institutions.

Today, practitioners and donors are increasingly focusing on expanded financial services to the

poor in frontier markets and on the integration of microfinance in financial systems development.

7



8/55

The recent introduction by some donors of the financial systems approach in microfinance - which

emphasizes favorable policy environment and institution-building - has improved the overall

effectiveness of microfinance interventions. But numerous challenges remain, especially in rural

and agricultural finance and other frontier markets. Today, the microfinance industry and the

greater development community share the view that permanent poverty reduction requires

addressing the multiple dimensions of poverty. For the international community, this means

reaching specific Millennium Development Goals (MDGs) in education, women's empowerment,

and health, among others. For microfinance, this means viewing microfinance as an essential

element in any country's financial system.

Microfinance Today

In the 1970s a paradigm shift started to take place. The failure of subsidized government or donor

driven institutions to meet the demand for financial services in developing countries let to several

new approaches. Some of the most prominent ones are presented below.

Bank Dagan Bali (BDB) was established in September 1970 to serve low income people in

Indonesia without any subsidies and is now well-known as the earliest bank to institute

commercial microfinance. While this is not true with regard to the achievements made in Europe

during the 19th century, it still can be seen as a turning point with an ever increasing impact on the

view of politicians and development aid practitioners throughout the world. In 1973 ACCION

International, a United States of America (USA) based non governmental organization (NGO)

disbursed its first loan in Brazil and in 1974 Professor Muhammad Yunus started what later

became known as the Grameen Bank by lending a total of $27 to 42 people in Bangladesh. One

year later the Self-Employed Womens Association started to provide loans of about $1.5 to poor

women in India. Although the latter examples still were subsidized projects, they used a more

business oriented approach and showed the world that poor people can be good credit risks with

repayment rates exceeding 95%, even if the interest rate charged is higher than that of traditional

banks. Another milestone was the transformation of BRI starting in 1984. Once a loss making

institution channeling government subsidized credits to inhabitants of rural Indonesia it is now the

largest MFI in the world, being profitable even during the Asian financial crisis of 1997 1998.

In February 1997 more than 2,900 policymakers, microfinance practitioners and representatives of

various educational institutions and donor agencies from 137 different countries gathered in

8



9/55

Washington D.C. for the first Micro Credit Summit. This was the start of a nine year long

campaign to reach 100 million of the world poorest households with credit for self employment by

2005. According to the Microcredit Summit Campaign Report 67,606,080 clients have been

reached through 2527 MFIs by the end of 2002, with 41,594,778 of them being amongst the

poorest before they took their first loan. Since the campaign started the average annual growth rate

in reaching clients has been almost 40 percent. If it has continued at that speed more than 100

million people will have access to microcredit by now and by the end of 2005 the goal of the

microcredit summit campaign would be reached. As the president of the World Bank James

Wolfensohn has pointed out, providing financial services to 100 million of the poorest households

means helping as many as 500 600 million poor people.

Who are the clients of micro finance?

The typical micro finance clients are low-income persons that do not have access to formal

financial institutions. Micro finance clients are typically self-employed, often household-based

entrepreneurs. In rural areas, they are usually small farmers and others who are engaged in small

income-generating activities such as food processing and petty trade. In urban areas, micro finance

activities are more diverse and include shopkeepers, service providers, artisans, street vendors, etc.

Micro finance clients are poor and vulnerable non-poor who have a relatively unstable source of

income.

Access to conventional formal financial institutions, for many reasons, is inversely related to

income: the poorer you are, the less likely that you have access. On the other hand, the chances are

that, the poorer you are, the more expensive or onerous informal financial arrangements.

Moreover, informal arrangements may not suitably meet certain financial service needs or may

exclude you anyway. Individuals in this excluded and under-served market segment are the clients

of micro finance.

As we broaden the notion of the types of services micro finance encompasses, the potential market

of micro finance clients also expands. It depends on local conditions and political climate,

activeness of cooperatives, SHG & NGOs and support mechanism. For instance, micro credit

might have a far more limited market scope than say a more diversified range of financial services,

which includes various types of savings products, payment and remittance services, and various

insurance products. For example, many very poor farmers may not really wish to borrow, but

9



10/55

rather, would like a safer place to save the proceeds from their harvest as these are consumed over

several months by the requirements of daily living. Central government in India has established a

strong & extensive link between NABARD (National Bank for Agriculture & Rural

Development), State Cooperative Bank, District Cooperative Banks, Primary Agriculture &

Marketing Societies at national, state, district and village level.

Role of Microfinance

The micro credit of microfinance progamme was first initiated in the year 1976 in Bangladesh with

promise of providing credit to the poor without collateral , alleviating poverty and unleashing

human creativity and endeavor of the poor people. Microfinance impact studies have demonstrated

that

Microfinance helps poor households meet basic needs and protects them against risks.

The use of financial services by low-income households leads to improvements in household

economic welfare and enterprise stability and growth.

By supporting womens economic participation, microfinance empowers women, thereby

promoting gender-equity and improving household well being.

The level of impact relates to the length of time clients have had access to financial services.

Microfinance Products and Services

The following products and services are currently being offered by MFIs:

Microloans: Microloans (also known as microcredit) are loans that have a small value;

most loans are less than US$100 in size. These loans are generally issued to

finance entrepreneurs who run micro-enterprises in developing countries. Examples of

micro-enterprises include basket-making, sewing, street vending and raising poultry. The

average global interest rate charged on micro-loans is about 35%. Although this may sound

high, it is much lower than other available alternatives (such as informal local money

lenders). Moreover, MFIs must charge interest rates that cover the higher costs associated

with processing the labor-intensive micro-loan transactions.

10



11/55

Microsavings: Microsavings accounts allow individuals to store small amounts of money

for future use without minimum balance requirements. Like traditional savings accounts in

developed nations, micro-savings accounts are tapped by the saver for life needs such as

weddings, funerals and old-age supplementary income.

Micro-Insurance: Individuals living in developing nations have more risks and

uncertainties in their lives. For example, there is more direct exposure to natural disasters,

such as mudslides, and more health-related risks, such as communicable diseases. Micro-

insurance, like its non-micro counterpart, pools risks and helps provide risk management.

But unlike its traditional counterpart, micro-insurance allows for insurance policies that

have very small premiums and policy amounts. Examples of micro-insurance policies

include crop insurance and policies that cover outstanding balances of micro-loans in the

event a borrower dies. Due to the high administrative expense ratios, micro-insurance is

most efficient for MFIs when premiums are collected together with microloan repayments.

Microfinance services are provided by three types of sources:

formal institutions, such as rural banks and cooperatives;

semiformal institutions, such as nongovernment organizations; and

Informal sources such as money lenders and shopkeepers.

Institutional microfinance is defined to include microfinance services provided by both formal and

semiformal institutions. Microfinance institutions are defined as institutions whose major business

is the provision of microfinance services.

Development of Microfinance

Asian Development Bank (ADB) is an international development finance institution whose

mission is to help its developing member countries reduce poverty and improve the quality of life

of their people. It was established in the year 1966. Their vision is to make an Asia and Pacific

poverty free. Headquartered in Manila, and established in 1966, ADB is owned and financed by its

67 members, of which 48 are from the region and 19 are from other parts of the globe.

11



12/55

ADB's main partners are governments, the private sector, nongovernment organizations,

development agencies, community-based organizations, and foundations.

Under Strategy 2020, a long-term strategic framework adopted in 2008, ADB will follow

three complementary strategic agendas: inclusive growth, environmentally sustainable

growth, and regional integration.

About Strategy 2020

Strategy 2020, ADB's long-term strategy approved in April 2008, sets ADB's strategic course for

its operations to the year 2020.

To fight poverty in a region of more than 600 million poor people, Strategy 2020 will refocus

ADB operations on three development agendas inclusive economic growth, environmentally

sustainable growth, and regional integration.

Strategy 2020 identifies drivers of change that will be stressed in all its operations developing

the private sector, encouraging good governance, supporting gender equity, helping developing

countries gain knowledge, and expanding partnerships with other development institutions, the

private sector, and community-based organizations.

By 2012, 80% of ADB's lending will be in five core operational areas identified as ADB's

comparative strengths

Infrastructure

Environment

Regional cooperation and integration

Finance sector development

Education

By 2020, about 50% of operations will be in private sector development and private sector

operations, and 30% in regional cooperation and integration.

12

http://www.adb.org/Strategy2020/default.asphttp://www.adb.org/poverty/inclusive-social.asphttp://www.adb.org/poverty/environmental-sustainability.asphttp://www.adb.org/poverty/environmental-sustainability.asphttp://www.adb.org/poverty/regional-cooperation.asphttp://www.adb.org/Strategy2020/default.asphttp://www.adb.org/poverty/inclusive-social.asphttp://www.adb.org/poverty/environmental-sustainability.asphttp://www.adb.org/poverty/environmental-sustainability.asphttp://www.adb.org/poverty/regional-cooperation.asp


13/55

ADB will continue to operate on a more selective basis in health, agriculture, and disaster and

emergency assistance.

The Strategy will serve as ADB's main strategic document from 2008 to 2020, replacing the long-

term strategic framework for 2001-2015 released in 2000.

Inclusive Social Development

Building human capital and addressing vulnerability

Inclusive social development is an essential component of poverty reduction and the achievement

of the MDGs, and is therefore the second pillar of ADB's Poverty Reduction Strategy.

Inclusive development seeks to

improve the quality of life of the poor and those vulnerable to poverty through building

human capital in social sector areas such as health and population policy as well as in

education

assist individuals, households and communities to better manage life risks (social

protection)

promote gender equality and women empowerment, and

support coherent social integration including fostering participation and targeting of the

poor and vulnerable, as well as social capital and a more inclusive society

Inclusive social development also requires due consideration be given to social safeguards,

particularly with regards to involuntary resettlement in economic and urban infrastructure projects.

Environmental Sustainability: Reducing vulnerability of the poor to degraded and hazardous

conditions Environmental sustainability is critical to sustainable development and, as a

consequence, to the objectives of poverty reduction and ADB's

13



14/55

Poverty Reduction Strategy : Poverty of opportunities, bad living conditions, and insecurity are

often related to environmental degradation. The poor - both urban and rural - are often the biggest

victims of environmental degradation and at the same time poverty can exacerbate ecological

problems. Environment related poverty is often also closely related to regional and cross-border

(particularly water) issues.

A major portion of Asia's core poor can be found

living in remote forest areas (the upland poor, often also indigenous people),

among the fisherfolk communities (the coastal poor),

on marginal land areas (the dryland poor) and

among those affected by regular floods (the wetland poor)

in congested cities and towns with bad shelter conditions (the slum poor).

In addition, natural hazards make the poor particularly vulnerable to external shocks such as

earthquakes, tsunami, and major storms (the disaster poor).

Often environmental poverty has cross-border and regional dimensions.

ADB's approach to environment related poverty considers the immediate needs of the poor

affected by a degraded, hazardous, and marginal environments. Other more long-term approaches

to environmental sustainability that benefit the poor comprise ADB's clean energy and urban

transport initiatives.

Through its Poverty and Environment Program (PEP), ADB aims at accelerating learning about

poverty-environment linkages.

In addition, ADB is currently enhancing its poverty reduction operations through sound

environmental management in the areas of soil conservation, flood management, urban

environmental improvement, sustainable ecosystem management, and disaster protection end

emergency support for the vulnerable poor.

14



15/55

Regional Cooperation for Poverty Reduction Enhancing trade, incomes and regional public

goods

Poverty often has regional and cross-border dimensions. This applies particularly to geographical

areas with natural resources constraints. Such areas are often also home to indigenous people

which comprise the core of the rural poor.

Of particular importance for poverty reduction are enhanced trade and income opportunities for the

poor, the usage of export earnings, sharing of information and infrastructure services such as

regional energy, and promoting mobility transfer of remittances.

Regional cooperation also addresses global public goods in environment and health, such as

degradation of sub-regional waters and land, global warming, and the transmission of HIV/AIDS

and Avian Flu.

It can strengthen global partnerships as expressed in the Millennium Development Goal (MDG).

Regional cooperation is therefore a thematic area of ADB's strategy for reducing poverty in the

Asia and Pacific region

ADB's regional cooperation strategy focuses on:

Cross-border infrastructure

Regional trade and investment

Money and finance; and

Other regional public goods.

ADB promotes regional cooperation through sub-regional cooperation programs and capacity

development on Asia Regional Integration Center (ARIC).

In pursuing its vision, ADB's main instruments comprise loans, technical assistance, grants,

advice, and knowledge.

15



16/55

Although most lending is in the public sector - and to governments - ADB also provides direct

assistance to private enterprises of developing countries through equity investments, guarantees,

and loans. In addition, its triple-A credit rating helps mobilize funds for development.

16



17/55

Microfinance Systems

Most microfinance institutions use some sort of group system to distribute their services to their

clients. There are some exceptions, including the VillageUnit System of BRI in Indonesia, the

17



18/55

worlds biggest and most profitable MFI, but groups seem generally to predominate. Bank

Rakyat Indonesia (BRI) is one of the oldest established banks in Indonesia, dating back to 1895.

Its focus from the start has always been on delivering the best banking services possible to micro,

small and medium-sized business- especially in the agriculture segment. We have consistently

tailored our services to meet the needs of the low income group in the community, said David

Malligan, GM, IT. Along with the rapid development in the banking industry, BRI now has 4,447

working units across Indonesia.

Many otherwise well informed observers and even some senior bankers in India and elsewhere,

appear to believe that the group system pioneered in 1976 by the Grameen Bank in Bangladesh is

the predominant or even the only such system. However this is not the case. Both the systems have

their advantages and disadvantages, it depends upon practitioners to avail to the option.

Village Unit System of BRI in Indonesia

Bank Rakyat Indonesia (BRI) was first established in Purwokerto, Central Java, in 1895 by

Raden Arya Wirjatmadja. The bank, which was called Hulp-en Spaarbank der Inlandsche Bestuurs

Ambtenaren, or Support and Savings Bank of the Indegenous civil servants, is the first state-

owned bank in Indonesia.

The growth of BRI is regarded as the beginning of Indonesian rural banking. After 113 years of

operation, BRI still focuses its business on microbanking: making banking products and services

accessible for the poor in Indonesia. The vision of BRI is to become a leading commercial bank

in Indonesia which prioritizes customers satisfaction, with the following missions:

Performing the best banking activities focusing on providing services for Micro, Small,

and Medium Enterprises to support Indonesias economy.

Providing excellent services for customers through widespread network, supported by

professional HR by implementing GCG.

Providing optimum added values for all stakeholders

In order to achieve those missions, BRI apply such strategies as maintaining focus on the core

business, expanding operational coverage, strengthening the Risk Management system, and using

18



19/55

proper information technology for operational efficiency. Thats why 80% of its loan portfolio is

dedicated to micro, small, and medium enterprisesleaving 20% to corporate.

As a public bank whose performance must satisfy the stakeholders, BRI performs very well. As of

December 2008, BRIs profit was USD 5.25 billion, still the highest of all banks in Indonesia. This

profit mostly comes from the Unit.

Full sustainability means financial profitability. Financial profitability, in turn, brings social

benefits.

There is one thingtheir bold experimentwhich has been proven successful without any doubt.

When we respect those living on the financial fringes of society as partners and give them the tools

to utilize the economic system, they welcome the chance to find those solutions for themselves.

Benefits for the working poor

The obvious benefits like increasing income, being able to feed more nutritious food to their

families or sending the children to school are, in some ways, the by-product of the deeper benefits,

raising their self-confidence, their self-esteem. By treating customers as partners and trusting their

character, it bypasses their lack of education and increases their sense of self-worth. Respecting

and encouraging their dreams of a better life, BRI-Unit staff helps them attain those dreams.

Benefits for communities

Located in the centers of small towns, rural areas, or neighbourhoods of larger cities, BRI Units

gather savings of small to medium depositors in that area. Groups such as schools, women's or

youth clubs, government offices, informal savings and loan associations, or local religious

institutions contribute a higher savings volume. This then supports the banking credit needs of

the poor borrowers. It also provides security and better financial management to the

communities.

Benefits for governments and donors

19



20/55

Governments and donors are freed from paying out credit subsidies to the economically active

poor. Focus can shift to expanding health care, school, and food programs for the poor below the

poverty line, enabling them to gradually move into the economic mainstream.

How The BRI-Unit System Can Transform Your Entire Outlook on the Possibilities and

Benefits of Micro banking:

Faced with closure or transformation, BRI embarked on a journey that radically altered the

operating concept of the timethat the poor needed government or donor-subsidized credit

programs. By stepping outside that paradigmthat set way of thinkingthe paradigm shift

opened whole new possibilities for delivering microfinance services.

To begin with, the economically active poor were recognized as partners, which meant we had to

change our perceptions. The working poor are a vital, integral part of the economic system,

operating at the edges of the 'poverty line' up to the lower ends of the middle class.

The woman in the market selling vegetables, farmers raising chickens and growing rice, traders

taking the rice to market, weavers, fishermen and cooks, those engaged in transportation, retail,

construction and small manufacturing, all run micro to medium sized businesses.

For too long, "the poor" were thought of, at the policy level, as one homogenous group with

certain, set characteristics.

They don't repay their loans.

They have to be trained how to handle a loan or run a business.

Their so-called businesses are too marginal.

Poor people don't save.

It's too costly to provide banking services to the poor.

The paradigm shift came about when we asked the working poor, the micro-entrepreneurs, what

they wonted in terms of financial products and services. Extensive research, development and

20



21/55

testing through field studies and pilot programs began. Then in 1984, BRI launched a commercial

banking system to meet their needs ... not what we thought they needed.

The key to this paradigm shift was the commitment to sustainability. The BRI Unit had to recover

their financial and operating costs, without subsidies, and produce a profit in order to exist and to

grow. BRI Units have proven over the past 20 years that creating products appropriate for the

working poor with full cost recovery is not only possible, but also profitable.

The new paradigm has helped millions of people save their money safely, earning interest on their

deposits. Their savings provide the operating capital to offer loans and other services like money

transfers, to help build micro-small-to-medium businesses in that local area.

The Grameen system

The Grameen system dominates the market in Bangladesh, where it has been widely imitated by a

number of large and small MFI. The system was pioneered by Professor Yunus in 1976, and has

grown very rapidly since.

In addition to the originator, the Grameen Bank, with 2.2 million members, two other major users

of the system, BRAC and Proshika, each have over a million clients, and there were in 1998 some

thirty other MFIs with over 10,000 members, and many hundreds of other smaller organisations

(CDF 1998). It has been estimated that some ten million people in Bangladesh receive financial

services through this system. It has also been widely replicated by MFIs elsewhere, including a

small number in India and in more than twenty other countries in Asia, in Africa, Latin America

and also in disadvantaged rural and urban areas in North America and Europe. The Grameen Trust

supports replicators with funding and technical assistance; at the end of 1999, these replicators

had 420,000 clients, including about 42,000 in India (Grameen Trust, passim)

Low or no-cost foreign donations represent the largest source of on-lending funds for the large

MFI which use the Grameen system in Bangladesh, but members savings and the accumulatedsurplus from operations each contribute some 20% of the necessary funds. The interest rates vary,

and it is difficult to estimate the actual rates because there are a number of fees, forced savings

requirements and other charges, and the methods of calculation also differ from one institution to

another. Broadly speaking, the cost to the final borrowers amounts to at least 2% per month, and

often substantially more.21



22/55

The Grameen system requires a dedicated special purpose organisation. The success of the weekly

or occasionally fortnightly or monthly meeting routine depends on tight discipline and adherence

to a regular schedule, and it is difficult for a commercial bank which also has other financial

products to integrate the Grameen system into its own operations. One of the few institutions

which have done this is the Islami Bank of Bangladesh. By 1998 45 of its more than 100 branches

had financed over 12,000 people through groups and centres, more or less following the Grameen

system (Alamgir, pp. 72-75). One important difference, however, is that this is an Islamic Bank;

most of its credit is disbursed in kind, and the Bank is far more intimately involved in its clients

use of their finance than Western style banks. Although loans under the group system amounted to

only about a quarter of one per cent of its total portfolio in 1998, the Islami Bank intended

massively to expand this approach.

The SHG System

The SHG system is mainly found in India, where it is used by both MFIs and banks. There also

some important users in Indonesia, parts of South East Asia, Africa and elsewhere. The SHG

system in India was initiated by NGOs, and is used for financial intermediation both by

commercial banks and by MFIs. By April 2001 some 285,000 SHGs had taken loans from 41

Indian commercial banks, 166 regional rural banks and 111 co-operative banks. The average loan

per group was about Rs 18,000 and the average loan per member was Rs 1,100, or just under

twenty five dollars. During the year 2000/2001 171,000 SHGs took loans, of which 149,000 were

first time borrowers. (NABARD, Micro-credit Innovations Department, personal communication).

The average membership is around seventeen people per SHG, so these figures mean that about

four and a half million people in India have access to formal savings facilities and loans through

their SHG membership. In just one year, the number of new members was in excess of two and a

half million people, or well over the total membership of even the largest institutions in

Bangladesh.

The formation of SHGs for savings and credit, and their linkage to commercial banks, was

initiated in India by MYRADA in the mid-1980s (Fernandez 1998). MYRADA is a Non

Governmental Organization managing rural development programmes in 3 States of South India

22



23/55

and providing on-going support including deputations of staff to programmes in 6 other States. It

also promotes the Self Help Affinity strategy in Cambodia, Myanmar and Bangladesh.

NABARD management had around the same time had some exposure to similar experiences in

Thailand and Indonesia, and they responded favorably to MYRADAs suggestion that this could

be a useful way to bring formal financial services to the rural poor.

Since that time, SHG linkage has been vigorously promoted by NABARD and other institutions. It

generally involves two institutions. Most NGOs do not play any financial role. They promote and

train the groups, and assist them through the qualifying process of saving and internal lending. The

groups are introduced to a bank to open a savings account, and later to take a loan. The NGO may

remain heavily involved, assisting the members to manage their affairs, and possibly promoting

higher level clusters and federations of SHGs, or it may withdraw and work with other groups.Other NGOs also act as financial intermediaries by borrowing from NABARD or elsewhere and

on-lending to SHGs, either because they aim to become MFIs, or because this is often the only

way by which the groups could access finance, because many bankers refused to lend to SHGs

directly, or even to open savings accounts for them. The financial margin on this business is

however insufficient to cover more than a small part of the transaction costs. Over a third of the

linked SHGs borrowed from MFIs rather than from banks in 1998, but this proportion dropped to

a quarter in 1999 and is rapidly decreasing further as banks become more aware of the business

opportunity represented by SHGs (NABARD, 1998, 1999).

In addition to paying the cost of training the bankers and the staff of the NGOs, NABARD also

encourages the banks to lend to SHGs by refinancing the loans at the subsidised rate of six and a

half per cent. This subsidised refinance was used to finance 83% of the loans made to SHGs in the

year 2000/2001. (NABARD, MCID, ibid.) Loans to SHGs are excluded from the maximum

interest ceiling of 12% which still applies to other loans under Rs. 20,000 (RBI 2000), but the

banks have generally not taken advantage of this freedom, and most still lend to SHGs at about

12%. The resulting 5.5% spread is felt to be enough to cover the transaction costs so long as the

SHG promotion, training and development task has been carried out by an NGO, at no cost to the

bank.

The on-time repayment rates on SHG loans are usually well over 95%. There is also a large and

increasing number of MFIs in India, most of which use the SHG method. A small number of these

23



24/55

MFIs use the Grameen system, but the portfolio of the approximately thirty-five larger MFIs

which use the SHG system, and are doing business with the recently established SIDBI Foundation

for Micro-credit (SFMC), amounts to almost around 85 crores of rupees or thirteen million dollars

These MFIs were said in early 2001 to be serving about 200,000 eventual clients, of whom 94%

are women. (SFMC, personal communication). By contrast, the total number of people in India

served by the eighteen institutions using the Grameen system at the end of 1999 was

approximately fifty thousand. (Grameen Trust, 2000, pp. 72-78).

Why Grameen in Bangladesh and SHGs in India?

The rural poor in India are not so different from their counterparts in Bangladesh, and the

differences between Northern and Southern India, for instance, are certainly more pronounced than

those between poor rural communities in West Bengal, or UP, Bihar and Orissa, from their

neighbours in Bangladesh. It seems prima facie to be odd, therefore, that two such different

systems have evolved, and that there are, as yet at any rate, so few examples of the SHG system in

Bangladesh or of the Grameen system in India.

There are a number of possible explanations. None of them is probably sufficient on its own, but

they may together account for the present situation.

Bangladesh has less experience of any form of democracy than India; its people are used to

military governments, and may for that or other reasons be more disciplined and less individualist.

The Grameen system is often criticised for being over-disciplined, or even militarist, with its

tradition of saluting, of meetings with imposed seating systems and the necessity for strict

adherence to pre-set schedules, by staff and members alike. It may, for that reason, be more

acceptable in Bangladesh. In India, on the other hand, many NGOs see credit as an entry point for

wider goals. Fernandez (2001, p. 6-7), for instance, mentions credit only as the third aspect of

MYRADAs involvement in SHG promotion; the identification and strengthening of traditional,

social and institutional capital are given greater emphasis.

Bangladesh is a relatively homogeneous, very poor, and to the casual observer at least there seems

to be little opportunity for progress. It may be an appropriate location for a rigid, institutionally

autonomous, readily transferable and dependence-creating system which can alleviate poverty for

large numbers.

24



25/55

India is fiercely diverse as a nation, and most communities are also diverse in caste, opinion and

religion. Indians are also known for their sense of personal independence, which is often translated

into indiscipline, whether on the roads, in political assemblies or elsewhere. The SHG system

reflects this independence and diversity. It allows people to save and borrow according to their

own timetable, not as the bank requires, and SHGs can also play a part in a whole range of social,

commercial or other activities. They can be vehicles for social and political action as well as for

financial intermediation.

Size does matter when it comes to microfinance. That and the pace of expansion mark the

difference between success and failure, according to a study into the industry.

One out of three microfinance institutions (MFI) in India made losses in fiscal 2009, says a study

of some 230 lenders conducted by ACCESS Development Services, a not-for-profit organization

that offers consulting services to MFIs.

The study also shows that a higher proportion, 42%, of small microfinance lenders, or those that

have a loan portfolio of up to Rs5 crore, posted losses.

Small does not seem to be the right size for viability, says the study, which was led by N.

Srinivasan, an expert on MFIs.

In fiscal 2009, MFIs recovered 99% of their loans, according to the report, which is way above the

recovery of commercial banks. While MFIs lend at rates going up to 30%, the smaller ones make

losses because of high operating costs, according to industry experts.

For large MFIs, the cost of distributing and recovering loans are typically 40-45% of the total. The

rest is the cost of fundsMFIs typically borrow from banks and other institutions at around 12%

interest. But for smaller players, operating expenses, or the proportion expended in distribution

and recovery, could be as high as 60% of the total.

If a new lender tries to expand fast and spends a lot of money on manpower, technology and

market penetration, it could face losses, says Chandra Shekhar Ghosh, managing director of

25



26/55

Bandhan Financial Services Pvt. Ltd, one of the biggest and most profitable MFIs in India.

Operations should be scaled up gradually after building a certain amount of business.

However, operations are sustainable only if a lender can raise its loan portfolio to at least Rs10

crore and that should take around two years from inception, according to Manoj K. Sharma,

director of MicroSave, a consulting firm that advises MFIs. Scale is very important in

microfinance. A lot also depends on lending practices as well, says Sharma.

The ACCESS report says unbridled expansion tactics, and competition in some cases result in

lenders offering more loans than borrowers could service, and this, in turn, leads to delinquency.

For illustration, Srinivasan cites largescale defaults in Kolar district of Karnataka, where non-

performing assets (NPAs) are as high as Rs60 crore, almost half of the total NPAs of the industry.

Paring transaction costs is the biggest challenge facing microfinance lenders. It isnt easy making

finance available to the last man in the queue, says J.P. Dua, chairman of Allahabad Bank, which

funds MFIs such as Bandhan. It also costs quite a bit.

MFIs in India had nearly doubled their outstanding loan portfolio to Rs11,734 crore in fiscal 2009,

according to the ACCESS report. They added 8.5 million borrowers during the year and had 22.6

million borrowers as on 31 March.

The bigger players were better offin fiscal 2009, 84% of the large MFIs, or those that have a

loan book of more than Rs50 crore, were profitable, and of those that have a loan portfolio of up to

50 crore, 80% were profitable.

Microfinance In India

26



27/55

At present lending to the economically active poor both rural and urban is pegged at around Rs

7000 crores in the Indian banks credit outstanding. As against this, according to even the most

conservative estimates, the total demand for credit requirements for this part of Indian society is

somewhere around Rs 2,00,000 crores.

Microfinance changing the face of poor India

Micro-Finance is emerging as a powerful instrument for poverty alleviation in the new economy.

In India, micro-Finance scene is dominated by Self Help Groups (SHGs) - Banks linkage

Programme, aimed at providing a cost effective mechanism for providing financial services to the

'unreached poor'. In the Indian context terms like "small and marginal farmers", " rural artisans"

and "economically weaker sections" have been used to broadly define micro-finance customers.

Research across the globe has shown that, over time, microfinance clients increase their income

and assets, increase the number of years of schooling their children receive, and improve the health

and nutrition of their families.

A more refined model of micro-credit delivery has evolved lately, which emphasizes the combined

delivery of financial services along with technical assistance, and agricultural business

development services. When compared to the wider SHG bank linkage movement in India, private

MFIs have had limited outreach. However, we have seen a recent trend of larger microfinanceinstitutions transforming into Non-Bank Financial Institutions (NBFCs). This changing face of

microfinance in India appears to be positive in terms of the ability of microfinance to attract more

funds and therefore increase outreach.

In terms of demand for micro-credit or micro-finance, there are three segments, which demand

funds. They are:

At the very bottom in terms of income and assets, are those who are landless and engagedin agricultural work on a seasonal basis, and manual labourers in forestry, mining,

household industries, construction and transport. This segment requires, first and

foremost, consumption credit during those months when they do not get labour work, and

for contingencies such as illness. They also need credit for acquiring small productive

assets, such as livestock, using which they can generate additional income.

27



28/55

The next market segment is small and marginal farmers and rural artisans, weavers

and those self-employed in the urban informal sector as hawkers, vendors, and

workers in household micro-enterprises. This segment mainly needs credit for working

capital, a small part of which also serves consumption needs. This segment also needs term

credit for acquiring additional productive assets, such as irrigation pumpsets, borewells and

livestock in case of farmers, and equipment (looms, machinery) and worksheds in case of

non-farm workers.

The third market segment is of small and medium farmers who have gone in for

commercial crops such as surplus paddy and wheat, cotton, groundnut, and others

engaged in dairying, poultry, fishery, etc. Among non-farm activities, this segment

includes those in villages and slums, engaged in processing or manufacturing activity,running provision stores, repair workshops, tea shops, and various service enterprises.

These persons are not always poor, though they live barely above the poverty line and also

suffer from inadequate access to formal credit.

Well these are the people who require money and with Microfinance it is possible. Right now the

problem is that, it is SHGs' which are doing this and efforts should be made so that the big

financial institutions also turn up and start supplying funds to these people. This will lead to a

better India and will definitely fulfill the dream of our late Prime Minister, Mrs. Indira Gandhi,

i.e. Poverty.

One of the statement is really appropriate here, which is as:

Money, says the proverb makes money. When you have got a little, it is often easy to get

more. The great difficulty is to get that little.Adams Smith.

Today India is facing major problem in reducing poverty. About 25 million people in India areunder below poverty line. With low per capita income, heavy population pressure, prevalence of

massive unemployment and underemployment , low rate of capital formation , misdistribution of

wealth and assets , prevalence of low technology and poor economics organization and instability

of output of agriculture production and related sectors have made India one of the poor countries

of the world.

28



29/55

Present Scenario of India:

India falls under low income class according to World Bank. It is second populated country in the

world and around 70 % of its population lives in rural area. 60% of people depend on agriculture,

as a result there is chronic underemployment and per capita income is only $ 3262. This is not

enough to provide food to more than one individual . The obvious result is abject poverty , low

rate of education, low sex ratio, exploitation. The major factor account for high incidence of rural

poverty is the low asset base. According to Reserve Bank of India, about 51 % of people house

possess only 10% of the total asset of India .This has resulted low production capacity both in

agriculture (which contribute around 22-25% of GDP ) and Manufacturing sector. Rural people

have very low access to institutionalized credit( from commercial bank).

Poverty alleviation programmes and concepualisation of Microfinance:

There has been continuous efforts of planners of India in addressing the poverty . They Have come

up with development programmes like Integrated Rural Development progamme (IRDP), National

Rural Employment Programme (NREP) , Rural Labour Employment Guarantee Programme

(RLEGP) etc. But these progamme have not been able to create massive impact in poverty

alleviation. The production oriented approach of planning without altering the mode of production

could not but result of the gains of development by owners of instrument of production. The modeof production does remain same as the owner of the instrument have low access to credit which is

the major factor of production. Thus in Nineties National bank for agriculture and rural

development(NABARD) launches pilot projects of Microfinance to bridge the gap between

demand and supply of funds in the lower rungs of rural economy. Microfinance . the buzzing word

of this decade was meant to cure the illness of rural economy. With this concept of Self Reliance,

Self Sufficiency and Self Help gained momentum. The Indian microfinance is dominated by Self

Help Groups (SHGs) and their linkage to Banks.

Deprived of the basic banking facilities, the rural and semi urban Indian masses are still relying on

informal financing intermediaries like money lenders, family members, friends etc.

29



30/55

2.1 Distribution of Indebted Rural Households: Agency wise

Credit Agency Percentage of Rural Households

Government 6.1

Cooperative Societies 21.6

Commercial banks and RRBs 33.7

Insurance 0.3

Provident Fund 0.7

Other Institutional Sources 1.6

All Institutional Agencies 64.0

Landlord 4.0

Agricultural Moneylenders 7.0

Professional Moneylenders 10.5

Relatives and Friends 5.5

Others 9.0

All Non Institutional Agencies 36.0

All Agencies 100.0

Source: Debt and Investment Survey, GoI 1992

Seeing the figures from the above table, it is evident that the share of institutional credit is much

more now.

The above survey result shows that till 1991, institutional credit accounted for around two-thirds of

the credit requirement of rural households. This shows a comparatively better penetration of the

banking and financial institutions in rural India.

Percentage distribution of debt among indebted Rural Labor Households by source of debt

Sr. No. Source of debt Households

With

cultivated

land

Without

cultivated

land

All

1 Government 4.99 5.76 5.372 Co-operative Societies 16.78 9.46 13.093 Banks 19.91 14.55 17.194 Employers 5.35 8.33 6.865 Money lenders 28.12 35.23 31.70

30



31/55

6 Shop-keepers 6.76 7.47 7.137 Relatives/Friends 14.58 15.68 15.148 Other Sources 3.51 3.52 3.52 Total 100.00 100.00 100.00

Source: Rural labor enquiry report on indebtedness among rural labor households (55 th

Round of N.S.S.) 1999-2000

The table above reveals that most of the rural labour households prefer to raise loan from the non-

institutional sources. About 64% of the total debt requirement of these households was met by the

non-institutional sources during 1999-2000. Money lenders alone provided debt (Rs.1918) to the

tune of 32% of the total debt of these households as against 28% during 1993-94. Relatives and

friends and shopkeepers have been two other sources which together accounted for about 22% of

the total debt at all-India level.

The institutional sources could meet only 36% of the total credit requirement of the rural labour

households during 1999-2000 with only one percent increase over the previous survey in 1993-94.

Among the institutional sources of debt, the banks continued to be the single largest source of debt

meeting about 17 percent of the total debt requirement of these households. In comparison to the

previous enquiry, the dependence on co-operative societies has increased considerably in 1999-

2000. During 1999-2000 as much as 13% of the debt was raised from this source as against 8% in

1993-94. However, in the case of the banks and the government agencies it decreased marginally

from 18.88% and 8.27% to 17.19% and 5.37% respectively during 1999-2000 survey.

2.2 Relative share of Borrowing of Cultivator Households (in per cent)

Sources of Credit 1951 1961 1971 1981 1991 2002*

Non Institutional 92.7 81.3 68.3 36.8 30.6 38.9Of which:

Moneylenders 69.7 49.2 36.1 16.1 17.5 26.8

Institutional 7.3 18.7 31.7 63.2 66.3 61.1Of which:Cooperative Societies,etc 3.3 2.6 22.0 29.8 30.0 30.2Commercial banks 0.9 0.6 2.4 28.8 35.2 26.3Unspecified - - - - 3.1 -Total 100.0 100.0 100.0 100.0 100.0 100.0

* All India Debt and Investment Survey, NSSO, 59th round, 2003

31



32/55

Source: All India Debt and Investment Surveys

Table shows the increasing influence of moneylenders in the last decade. The share of

moneylenders in the total non institutional credit was declining till 1981, started picking up from

the 1990s and reached 27 per cent in 2001.

At the same time the share of commercial banks in institutional credit has come down by almost

the same percentage points during this period. Though, the share of cooperative societies is

increasing continuously, the growth has flattened during the last three decades.

2.3 Distribution based on Asset size of Rural Households (in per cent)

Household Assets (Rs 000) Institutional Agency Non-Institutional

Agency

All

Less than 5 42 58 100

5-10 47 53 10010-20 44 56 10020-30 68 32 10030-50 55 45 10050-70 53 47 10070-100 61 39 100100-150 61 39 100150-250 68 32 100250 and above 81 19 100All classes 66 34 100

Source: Debt and Investment Survey, GoI, 1992

The households with a lower asset size were unable to find financing options from formal credit

disbursement sources. This was due to the requirement of physical collateral by banking and

financial institutions for disbursing credit. For households with less than Rs 20,000 worth of

32



33/55

physical assets, the most convenient source of credit was non institutional agencies like landlords,

moneylenders, relatives, friends, etc.

Looking at the findings of the study commissioned by Asia technical Department of the World

Bank (1995), the purpose or the reason behind taking credit by the rural poor was consumption

credit, savings, production credit and insurance.

Consumption credit constituted two-thirds of the credit usage within which almost three-fourths of

the demand was for short periods to meeting emergent needs such as illness and household

expenses during the lean season. Almost entire demand for the consumption credit was met by

informal sources at high to exploitive interest rates that varied from 30 to 90 per cent per annum.

Almost 75 per cent of the production credit (which accounted for about one-third of the total credit

availed of by the rural masses) was met by the formal sector, mainly banks and cooperatives.

2.4 Banking Expansion

Starting in the late 1960s, India was the home to one of the largest state interventions in the rural

credit market. This phase is known as the Social Banking phase.

It witnessed the nationalization of existing private commercial banks, massive expansion of branchnetwork in rural areas, mandatory directed credit to priority sectors of the economy, subsidized

rates of interest and creation of a new set of regional rural banks (RRBs) at the district level and a

specialized apex bank for agriculture and rural development (NABARD) at the national level.

The Net State Domestic Product (NSDP) is a measure of the economic activity in the state and

comparing it with the utilization of bank credit or bank deposits indicates how much economic

activity is being financed by the banks and whether there exists untapped potential for increasing

deposits in that state.

E.g. In the year 2003-2004 the percentage of bank deposits to NSDP is pretty high at around

75%-80% in Bihar and Jharkhand or these states are not as under banked as thought to be.

2.5 Microfinance Social Aspects

33



34/55

Micro financing institutions significantly contributed to gender equality and womens

empowerment as well as poor development and civil society strengthening. Contribution to

womens ability to earn an income led to their economic empowerment, increased well being of

women and their families and wider social and political empowerment.

Microfinance programs targeting women became a major plank of poverty alleviation and gender

strategies in the 1990s. Increasing evidence of the centrality of gender equality to poverty

reduction and womens higher credit repayment rates led to a general consensus on the desirability

of targeting women.

The Need in India

India is said to be the home of one third of the worlds poor; official estimates range from

26 to 50 percent of the more than one billion population.

About 87 percent of the poorest households do not have access to credit.

The demand for microcredit has been estimated at up to $30 billion; the supply is less than

$2.2 billion combined by all involved in the sector.

Due to the sheer size of the population living in poverty, India is strategically significant in the

global efforts to alleviate poverty and to achieve the Millennium Development Goal of halving the

worlds poverty by 2015. Microfinance has been present in India in one form or another since the

1970s and is now widely accepted as an effective poverty alleviation strategy. Over the last five

years, the microfinance industry has achieved significant growth in part due to the participation of

commercial banks. Despite this growth, the poverty situation in India continues to be challenging.

Some principles that summarize a century and a half of development practice were encapsulated in

2004 by Consultative Group to Assist the Poor (CGAP) and endorsed by the Group of Eight

leaders at the G8 Summit on June 10, 2004:

Poor people need not just loans but also savings, insurance and money transfer

services.

Microfinance must be useful to poor households: helping them raise income, build up

assets and/or cushion themselves against external shocks.

34



35/55

Microfinance can pay for itself. Subsidies from donors and government are scarce

and uncertain, and so to reach large numbers of poor people, microfinance must pay for

itself.

Microfinance means building permanent local institutions.

Microfinance also means integrating the financial needs of poor people into a countrys

mainstream financial system.

The job of government is to enable financial services, not to provide them.

Donor funds should complement private capital, not compete with it.

The key bottleneck is the shortage of strong institutions and managers. Donors

should focus on capacity building.

Interest rate ceilings hurt poor people by preventing microfinance institutions from

covering their costs, which chokes off the supply of credit.

Microfinance institutions should measure and disclose their performance both

financially and socially.

Microfinance can also be distinguished from charity. It is better to provide grants to families who

are destitute, or so poor they are unlikely to be able to generate the cash flow required to repay a

loan. This situation can occur for example, in a war zone or after a natural disaster.

Financial needs and Financial services

In developing economies and particularly in the rural areas, many activities that would be

classified in the developed world as financial are not monetized: that is, money is not used to carry

them out. Almost by definition, poor people have very little money. But circumstances often arise

in their lives in which they need money or the things money can buy.

In Stuart Rutherfords recent bookThe Poor and Their Money, he cites several types of needs:

Lifecycle Needs: such as weddings, funerals, childbirth, education, homebuilding,

widowhood, old age.

Personal Emergencies: such as sickness, injury, unemployment, theft, harassment or death.

35



36/55

Disasters: such as fires, floods, cyclones and man-made events like war or bulldozing of

dwellings.

Investment Opportunities: expanding a business, buying land or equipment, improving

housing, securing a job (which often requires paying a large bribe), etc.

Poor people find creative and often collaborative ways to meet these needs, primarily through

creating and exchanging different forms of non-cash value. Common substitutes for cash vary

from country to country but typically include livestock, grains, jewellery and precious metals.

As Marguerite Robinson describes in The Microfinance Revolution, the 1980s demonstrated that

microfinance could provide large-scale outreach profitably, and in the 1990s, microfinance

began to develop as an industry. In the 2000s, the microfinance industrys objective is to satisfy

the unmet demand on a much larger scale, and to play a role in reducing poverty. While much

progress has been made in developing a viable, commercial microfinance sector in the last few

decades, several issues remain that need to be addressed before the industry will be able to satisfy

massive worldwide demand.

The obstacles or challenges to building a sound commercial microfinance industry include:

Inappropriate donor subsidies

Poor regulation and supervision of deposit-taking MFIs

Few MFIs that mobilize savings

Limited management capacity in MFIs

Institutional inefficiencies

Need for more dissemination and adoption of rural, agricultural microfinance

methodologies

Legal Regulations

Banks in India are regulated and supervised by the Reserve Bank of India (RBI) under the RBI Act

of 1934, Banking Regulation Act, Regional Rural Banks Act, and the Cooperative Societies Acts

of the respective state governments for cooperative banks.

36



37/55

NBFCs are registered under the Companies Act, 1956 and are governed under the RBI Act. There

is no specific law catering to NGOs although they can be registered under the Societies

Registration Act, 1860, the Indian Trust Act, 1882, or the relevant state acts. There has been a

strong reliance on self-regulation for NGO MFIs and as this applies to NGO MFIs mobilizing

deposits from clients who also borrow. This tendency is a concern due to enforcement problems

that tend to arise with self-regulatory organizations. In January 2000, the RBI essentially created a

new legal form for providing microfinance services for NBFCs registered under the Companies

Act so that they are not subject to any capital or liquidity requirements if they do not go into the

deposit taking business. Absence of liquidity requirements is concern to the safety of the sector.

37



38/55

Comparative Analysis of Micro-finance Services offered to the poor

Source: R. Arunachalam - Alternative Technologies in the Indian Micro- finance Industry

Micro Finance Models

1. Micro Finance Institutions (MFIs):

38



39/55

MFIs are an extremely heterogeneous group comprising NBFCs, societies, trusts and cooperatives.

They are provided financial support from external donors and apex institutions including the

Rashtriya Mahila Kosh (RMK), SIDBI Foundation for micro-credit and NABARD and employ a

variety of ways for credit delivery.

Since 2000, commercial banks including Regional Rural Banks have been providing funds to

MFIs for on lending to poor clients. Though initially, only a handful of NGOs were into

financial intermediation using a variety of delivery methods, their numbers have increased

considerably today. While there is no published data on private MFIs operating in the country, the

number of MFIs is estimated to be around 800.

Legal Forms of MFIs in India

Types of MFIs Estimated

Number*

Legal Acts under which Registered

1. Not for Profit MFIs

a.) NGO - MFIs

400 to 500 Societies Registration Act, 1860 or similar

Provincial Acts

Indian Trust Act, 1882

b.) Non-profit Companies 10 Section 25 of the Companies Act, 1956

2. Mutual Benefit MFIs

a.) Mutually Aided Cooperative

Societies (MACS) and similarly

set up institutions

200 to 250 Mutually Aided Cooperative Societies Act

enacted by State Government

3. For Profit MFIs

a.) Non-Banking Financial

Companies (NBFCs)

6 Indian Companies Act, 1956

Reserve Bank of India Act, 1934

Total 700 - 800

Source: NABARD website

2. Bank Partnership Model39



40/55

This model is an innovative way of financing MFIs. The bank is the lender and the MFI acts as an

agent for handling items of work relating to credit monitoring, supervision and recovery. In other

words, the MFI acts as an agent and takes care of all relationships with the client, from first

contact to final repayment. The model has the potential to significantly increase the amount of

funding that MFIs can leverage on a relatively small equity base.

A sub - variation of this model is where the MFI, as an NBFC, holds the individual loans on its

books for a while before securitizing them and selling them to the bank. Such refinancing through

securitization enables the MFI enlarged funding access. If the MFI fulfils the true sale criteria,

the exposure of the bank is treated as being to the individual borrower and the prudential exposure

norms do not then inhibit such funding of MFIs by commercial banks through the securitization

structure.

3. Banking Correspondents

The proposal of banking correspondents could take this model a step further extending it to

savings. It would allow MFIs to collect savings deposits from the poor on behalf of the bank. It

would use the ability of the MFI to get close to poor clients while relying on the financial strength

of the bank to safeguard the deposits. This regulation evolved at a time when there were genuine

fears that fly-by-night agents purporting to act on behalf of banks in which the people have

confidence could mobilize savings of gullible public and then vanish with them. It remains to be

seen whether the mechanics of such relationships can be worked out in a way that minimizes the

risk of misuse.

4. Service Company Model

Under this model, the bank forms its own MFI, perhaps as an NBFC, and then works hand in hand

with that MFI to extend loans and other services. On paper, the model is similar to the partnership

model: the MFI originates the loans and the bank books them. But in fact, this model has two very

different and interesting operational features:

(a) The MFI uses the branch network of the bank as its outlets to reach clients. This allows the

client to be reached at lower cost than in the case of a standalone MFI. In case of banks which

have large branch networks, it also allows rapid scale up. In the partnership model, MFIs may

contract with many banks in an arms length relationship. In the service company model, the MFI

40



41/55

works specifically for the bank and develops an intensive operational cooperation between them to

their mutual advantage.

(b) The Partnership model uses both the financial and infrastructure strength of the bank to

create lower cost and faster growth. The Service Company Model has the potential to take the

burden of overseeing microfinance operations off the management of the bank and put it in the

hands of MFI managers who are focused on microfinance to introduce additional products, such as

individual loans for SHG graduates, remittances and so on without disrupting bank operations and

provide a more advantageous cost structure for microfinance.

Examples of Recent Innovations in Financial Services for the Poor In India:

ICICI Bank (India): Two state banks in India (Corporation and Canara) partnered with an NGO

to provide salaried low-income workers with access to savings. The project uses the already

established automatic teller machines (ATMs) in the factories to offer a recurring savings product,

along with education on personal finance.

Microfinance securitization

Share, a Grameen Bank replicator, has been one the leading MFIs in India with a good track

record, growth rate and scale of operation. In two transactions with Share, ICICI Bank has

securitized the receivables of microfinance loans from Share amounting to $5.25 million

consisting of loans made by Share to microfinance clients.

ICICI Bank bought this microfinance loan portfolio against:

A consideration calculated by computing the NPV of receivables amounting to $5.25 million at an

agreed discount rate.

Partial credit protection provided by Share to ICICI Bank in the form of a first loss default

guarantee amounting to 8 per cent of the receivables under the portfolio.Subsequently, ICICI Bank sold the securitized portfolio to a private sector bank in India

BASIX is a livelihood promotion institution established in 1996, working with overa million and

a half customers, over 90% being rural poor households and about 10% urban slum dwellers.

BASIX works in 16 states - Andhra Pradesh, Karnataka, Orissa, Jharkhand, Maharashtra, Madhya

41



42/55

Pradesh, Tamilnadu, Rajasthan, Bihar, Chattisgarh, West Bengal, Delhi, Uttarakhand, Sikkim,

Meghalaya and Assam and over 22,400 villages.

BASIX mission is to promote a large number of sustainable livelihoods, including for the rural

poor and women, through the provision of financial services and technical assistance in an

integrated manner. BASIX will strive to yield a competitive rate of return to its investors so as to

be able to access mainstream capital and human resources on a continuous basis.

BASIX strategy is to provide a comprehensive set of livelihood promotion services which inlcude

Financial Inclusion Services (FINS), Agricultural / Business Development Services (Ag/BDS) and

Institutional Development Services (IDS) to rural poor households under one umbrella.

BASIX in India reduced transportation and transaction costs for its clients and decreased staff

expenses by establishing tellers in manned phone booths operating in India. The company

operating the phone booths receives a service fee and phone booth operators are being trained in

basic collection operations and accounting. BASIX is currently redesigning the project after the

pilot and preparing it for relaunching.

MFIs could play a significant role in facilitating inclusion, as they are uniquely positioned in

reaching out to the rural poor. Many of them operate in a limited geographical area, have a greater

understanding of the issues specific to the rural poor, enjoy greater acceptability amongst the rural

poor and have flexibility in operations providing a level of comfort to their clientele. There are

several legal forms of MFIs. However, firm data regarding the number of MFIs operating under

different forms is not available. It is roughly estimated that there are about 1,000 NGO-MFIs and

more than 20 Company MFIs. Further, in Andhra Pradesh, nearly 30,000 cooperative

organizations are engaged in MF activities. However, the company MFIs are major players

accounting for over

80% of the microfinance loan portfolio. An attempt is made in the following table to capture the

various forms of MFIs:

Microfinance companies in India

42



43/55

Microfinance companies are the financial institutions that offer small-scale financial services in

both the forms credit and savings, especially to the poor in rural, semi-urban and urban areas.

These financial services are meant to help them in undertaking economic activities, mitigating

vulnerabilities to income shocks, smoothening consumption, increasing savings and supporting

self-empowerment. There are a number of microfinance companies in India, which play some

pivotal roles to the development of India.

In

Documents

Micro Finance Ravi Mathur Mms-fin