MFI Securitization: Clamp down avert a Sub-Prime Crisis developing in the India Economy

 

Two years ago the global financial markets witnessed an upheaval that caused more mayhem than the world has ever seen in its entire economic history. It was primarily attributed to the sub-prime loans.

So what’s a sub-prime loan? 

Let’s begin first with what’s considered “prime”. It refers to individuals who have good credit ratings and to whom the banks lend directly. Sub-prime is just the opposite of this and as such mortgage loans (or housing loans or junk loans) is very risky as they are given to people with unstable incomes or low creditworthiness. However, where the risk is high, profits are equally high, tempting alot of lenders to get into this business in trying to make the quick buck.

Individuals with low creditworthiness are usually turned down by banks for home loans. Enter a business entity with high credit rating and is willing to take risks to give loans to the latter. So they borrow from the bank and disburse the amount to a number of low creditworthy individuals for an interest rate, higher than he borrowed from the bank. The interest is set high to offset a few defaults. Additionally, the interest is set on floating rates viz. as bank interests go up, so do these loans, which in turn escalate the Equated Monthly Instalment (EMI) system.

In their greed for profits, rather than wait for recovery flows to sustain new lending, these institutions securitized these loans i.e. converting these loans into financial securities that pay a rate of interest that in turn is sold to large institutional investors. The interest is met through the EMIs paid by the sub-prime borrower. The money got from securitization is used either to dispense more loans or close the original loan taken by the institution from the bank.

For institutions buying these securities, this was irresistible in an environment where housing prices soared on the back of huge demand for real estate and bigger and better homes. The bubble burst when the US economy slowed down and the sub-prime loans fell as a house of cards as it prompted foreclosure and defaults of these loans. A deluge of such defaults inundated these institutions and banks, wiped out their net worth. Their mortgage-backed securities were almost worthless as real estate prices crashed.

As defaults kept on piling, the institutions that took loans from banks weren’t able to service their loans. So they went to seek out new lenders and these too stopped as the latter realized that the collateral backing this credit would soon lose value in the falling real estate market. Institutional investors in securitised paper from the sub-prime home loan market in the US saw their investments turning into losses. In order to maintain solvency, more money had to be invested in the US. This amount had to come from somewhere. So they began large scale selling off their investments outside the US that led to stock market and currency collapses, including in India. But even this step fail to stop the rot as over 100 banks and financial institutions, even reputed ones such as Lehman Brothers and Well Fargo went bankrupt in the US and other parts of the world.

 A similar development contributed by MFIs was developing in India. The State of the Sector Report (2010) describes this:

“MFIs ramped up their loan portfolio in India from US$ 252 million to US$ 3.8 billion between 2005 and 2010. The funding for this expansion came from several sources apart from equity funding. Bulk loans from banks are the most important source of funds. In recent years, quasi-equity, mezzanine funding, non-convertible debentures, debt assignments and sale of securitized debt have all emerged as other means of raising resources.” 

 

According to IFMR Capital, a Chennai based NBFC expects more than Rs. 1000 crore worth of securitization transactions to take place in the Indian micro finance sector for the financial year 2010-2011. Dr YV Reddy, ex Governor of The Reserve Bank of India who steered the country out of global mayhem caused by the sub-prime crisis and recently earned the wrath of MFIs for calling them moneylenders was first to sound the alarm bells. According to the Economic Times:

“Ultimately, it’s something like subprime lending...The same incentives are operating here... it was securitisation and derivatives that operated in the US. Here it is the priority sector lending by banks."

The IMFR blog proudly flaunts a new instrument: “IFMR Capital Mosec I, the multi-originator Special Purpose Vehicle, has issued two tranches of securities:  a 77 percent senior-rated tranche with an expected maturity of 6 months, and a 23 percent subordinated strip with an expected maturity of 11 months. CRISIL assigned the highest short term rating of   P1+ (so) to the senior tranche, which was subscribed to a Bank. The closing of this transaction has resulted in the emergence of a new pricing benchmark in the less than 6-month maturity asset class.” 

See above photo of the signing of this supposedly landmark agreement. Introducing poison into our economic system as warned by YV Reddy?? Don’t miss the smiles of these MF promoters.

My friend Ramesh Arunachalam, a MFI practioneer and consultant in his recent post “Growth of Securitisation, Equity Investments and Priority Sector Lending in Indian Micro-Finance: Was Dr Y V Reddy Right After All?” provides an excellent analysis of this enveloping crisis spread by MFIs. For those who are interested in reading this analysis backed up by useful statistics, painfully complied read here.

The similarities between the US and India was that MFIs in pursuit of rapid growth multiple lent to the same borrower and often who did have the repayment capacity to service these loan burdens. There are however two marked differences between the MF securitization in India and those of the US housing sub-prime crisis. Firstly, in India, MF securitization is still in their infantile stage, and as a percentage of total securitization is mostly insignificant materially. Secondly, despite multiple lending to low credit worthy individuals, repayment rates are 99%  which we now know is due to coercive collection practices, and as such borrower defaults are not significant to have any material impact. High repayment rates are partly conditioned by the biggie MFIs eying IPO launches where these high rates condition valuation of their stocks post listing. In contrast in the US, once an institution securitises a loan, it does not remain on the books of the institution. Hence that institution does not take the risk of the loan going bad. The risk is passed onto the investors who buy the financial securities issued for securitising the home loans. 

The real concern in India is once MFIs like SKS get their shares listed at high valuations; will they still concentrate on repayments or fall into the trap of their US counterparts, not bothered of their loans going bad as their securities recoup their advances? While IPO was the first level scam by MFIs, there are many analysts in the country, led by YV Reddy who feel the second level was the evolving micro-loan securitization racket.

The ground situation has changed in India as a number of investment bankers like JP Morgan, Karvy and latest Citigroup have downgraded SKS and other micro-finance institutions. For the full report of Citigroup’s downgrade read here. Fitch has specifically downgraded MF securities, including SKS. 

This is the way The State of The Sector (2010) report provides a summary overview of the material contribution of securities 

"Micro-loan securitization provides banks a profitable way to increase their investment in the microfinance sector through rated and tradable securities." 

No longer is this option available as banks have stopped buying these securities, in fact no one does any more. This is blow for the MFI are already facing defaults in Andhra Pradesh; forced to curb lending in other parts of the country and are facing a cash crunch as banks are not releasing even sanctioned credit pipelines. But then only the biggies in the MF space avail the benefits of securitizations and not the rank and file of smaller MFIs. 

If this trend of securitization was left unchecked, MFIs in the quest to amass wealth quickly would not have stopped just inducing borrower suicides but would have no hesitation to destabilise the entire Indian economy just as the sub-prime housing loans did to the US economy. Accordingly, for the Indian public, this crisis in Andhra Pradesh however should be a welcome one as it prevents MF securitization developing as a full blown scam. This however calls into question what RBI was doing all this while? But at least in this juncture, they need to act and act decisively to cut the problem in its nascent bud.

Castrate the for-profit MFIs to Recast the Sector!

The die has been cast with the introduction of the Andhra Pradesh Micro-Finance Regulatory Bill in the State Assembly yesterday. The Bill to replace the ordinance passed by the government in October 15th is scheduled to be discussed this coming Tuesday and passed as an Act by Wednesday, tightening the noose around MFIs.  Before its introduction, the Micro Finance Institutions Network (MFIN), demanded radical amendments to the Bill. [MFIN is an association of 50 for-profit micro lenders among its members, which account for more than 85% of the microfinance market in India.] According to the Indian Express:

“MFIN president, Vijay Mahajan said:  If those modifications are not made, there would be major repercussions not only for access to finance but also for the banking system.”

The bill, copies of which were circulated Friday, proposed no amendments to the ordinance, as demanded by microfinance institutions (MFIs) who say if their concerns if not addressed, may force them to shut operations in the state. Mahajan told MoneyControl.com: “If beyond a point the model is rendered unviable due to an act of law or something beyond the court of law, then basically one would have to reconsider the whole thing."

The Economic Times further quoted Mahajan to give an insight to this crisis as the industry like the public to see it: “According to Vijay Mahajan, president, MFIN, their business activity came to a grinding halt and collection rate dropped to 20% from 95% after the state government passed the ordinance. `This can have far reaching implications on the entire credit system as MFIs borrow money from banks to lend it to their customers, said Mahajan. He pointed out that during the last 45 days 12 lakh loans worth Rs 1,200 crore could not be disbursed due to the hostile conditions. We are unable to collect Rs 7,400 crore from our borrowers. If it continues it will affect the entire Rs 24,000 crore given to MFIs by banks. Besides, it is also demoralizing our 2 lakh staff, he said.”

It is apparent that the stock of MFI credibility and influence, both within the country and internationally, seems to have fallen to such low ebb that their demands for change in the bill have literally fallen on deaf ears. India’s Reserve Bank further indirectly accused Mahajan of resorting to gross exaggeration when RBI Deputy Governor Subir Gokarn said the sector was only under some amount of stress, but there was no threat to their survival.

That the industry is living in a state of denial is illustrated by Mahajan in another interview to CNBC-TV18 suggesting that the MF industry was depending on the outcome of their writ petition in the High Court to bail them out. He further conceded that rather than the ordinance it was politicians who encouraged people to default on overdues which proved the main obstacle for normalcy of operations:

“Our writ petition at the high court which was against the ordinance remains absolutely alive, and that's equally valid for the bill if it gets passed into an act because it is the same language. So that’s the first recourse. Right now what is stopping us is not the ordinance. It is the statements of various political leaders such as Mr Chandrababu Naidu saying that loan of MFIs should not be repaid. We think this is highly irresponsible because it foments credit indiscipline.”

If the MFIs are looking at the High Court for ultimate relief, then it is analogous to a drowning man clutching at straws. In India, litigation may stretch several years and time is exactly not what this heavily leveraged industry has on its side. Further, even if the judiciary upholds the industry’s contention, all it needs for the government to give a policy shock is to give a directive to public sector banks to avoid credit to MFIs by treating the whole sector as one asset class. Besides, a judicial win for MFIs does not wish away the grim reality that politicians of different shades would not be willing to play ball, in letting normalcy to prevail.

As for repercussions on the banking sector in the event of the MF sector collapsing, this is totally blown out of proportion by the MF industry, used as a scare tactic in the hope of getting leniency from the system. Banks have a collective exposure of about Rs 24,000 crore to MFIs.  In Andhra Pradesh the total outstanding loans amount of MFIs is Rs 8,000 crore, of which, Rs 5,000 crore is funded by banks. Yet for public sector banks, their total MFI exposure as a percentage of their total lending in the country is just a small fraction of 1%. Accordingly, repercussions if any in the event of a MF sector collapse would be no more than a ripple in an ocean. 

The powerful All-India Bank Employees' Association (AIBEA) could be another obstacle in the way of MFIs. "RBI should not accept it ... Banks should not give loans to MFIs under priority sector category," said AIBEA general secretary, C.H. Venkatachalam. "PSBs should (instead) go for large-scale micro lending through more number of rural branches."

Besides, the issue of financial inclusion is reflected in a national goal to provide banking services to 100 per cent of citizens living in villages with a population of more than 2,000 by March, 2012. The progress on this goal may not be much to talk about at present. But, in the next two years, we should see the UPA government giving more impetus to realization of this national goal which in turn reduces MFIs strategic importance in promotion of financial inclusion.

So all things considered, portends are that the MFI industry may have no options but be forced to enact their threat to close shop in Andhra Pradesh.  In 2006, during the Krishna crisis wherein MFIs faced a similar situation, they wriggled out of confrontation with the government by promising to adopt a Code of Conduct, which we now know that they had practically no intention of adhering to. This time round too, they are promising to turn a new leaf by the series of steps they claim to have undertaken including interest rate reduction; uploading credit data of borrowers in two RBI licensed credit bureaus; conciliatory meetings with government, commissioned a study on suicide and sensitivity trainings of their staff against coercive collection practices.

The MFI industry for some time now has been blaming rogue members within its own fraternity as being responsible for the present crisis. In his latest statement, Mahajan has once again resurrected this bogey but he is not telling just who these rogues are.

So why cast a shroud over the identity of these rogue MFIs we can ask?

In our archive post, we found that it is most likely that the Akulas (SKS) and Mahajans (BASIX) are resorting to this tactic in order to deflect blame from their own organizations to those smaller in size within the industry. We then asked, what kind of MFIs attracts higher plausibility to go rogue? Logically it points to MFIs with mind boggling, mushrooming growth and profitability. So just who are they likely to be? We found it was most likely the six biggest MFIs in the country who control 94% of the market share that meet these criteria.  Among these six are SKS of Vikram Akula and Basix of Mahajan. Rogue MFIs accordingly could then well be a euphemism for these six MF biggies in the country.

The blog Candid Unheard Voice of Indian Microfinance gives additional data of such burgeoning growth facilitated by large scale equity infusion:

"- 6 MFIs added US $ 2.18 billion during 24 months (April 2007 to March 2009).

- Equivalent to Per Month Addition of Portfolio of US $ 90.81 Million (or Rs 4177 Million for all 6 MFIs.

- Equivalent to each MFI adding a portfolio of US 15.135 Million (or Rs 696.25 Million) every month, this is certainly a lot of money.

Contrast this with their growth during the period April 2005 to March 2007 when they added just over US $ 1/2 a billion (0.504 billion US $ to be exact) and this is about 18.79% of the total portfolio added during the period April 2005 – March 2009.

- Adding 1/2 billion US $ over 24 months is equivalent to these MFIs adding portfolio worth US $ 21 million (or Rs 966.15 Million) every month for 24 months. That is about 1/4th of the monthly portfolio addition done by the same MFIs during April 2007 – 2009”

The table and figure are rather self-explanatory…Equity investments from April 2007 onwards until July 2010 (A whopping US $ 646.97 Million) are almost 20 times the size of equity investments prior to April 2007 (which are a miniscule US $ 32.51 Million). In many ways, April 2007 appears to be a watershed…with regard to equity investments.

In fact, the burgeoning equity investment in Indian micro-finance has prompted experts like Mr N Srinivasan (Author of The State of The Sector Report) to suggest that perhaps ‘micro-finance was the preferred sub-sector of choice in the financial sector for investment bankers.

During the period April 2007 – March 2009, the top 14 Indian MFIs (with 6 AP Headquartered MFIs) added almost 75% of their total portfolio of 2009. In numerical terms, this is approximately US $ 2.799 Billion, which is huge by any standards.

During the same period, the Big 6 AP Headquartered MFIs also increased their gross loan portfolio by almost US $ 2.077 Billion during this period {in other words AP headquartered MFIs accounted for almost 74.19% of the total portfolio (US $ 2.799 Billion) increase during April 2007 – March 2009}.

The period, April 2009 – March 2010, which succeeds the fastest growth period (of April 2007 – March 2009) as of now shows the highest equity investment in Indian micro-finance (US $ 390.72 Million)?”

Significantly the explosion in equity infusion came during a period where globally the financial sector was experiencing the sub-prime crisis, with many banks and companies going bust or needed to be bailed out by their governments to prevent insolvency.  Presumably, many Private Equity (PE) and Venture Capitalist (VC) investors had either burnt their fingers in this crisis, sitting with huge losses and/or found avenues within the financial sector for investing highly contracted. The unregulated MF industry in India thus became their natural destination where they looked to recoup their losses or as an alternate investment avenue within the financial sector. For MFIs this increased PE/VC interest came as manna from heaven as after the Krishna crisis (2006), commercial banks in the country were slightly reluctant to lend to them.

If it takes two to tango, the offspring was the AP crisis! Once PE and VC investors burst into the scene, the MFI promoters found themselves no more in complete control of their companies. The Akulas and Mahajans became more and more the front of their companies. It was these investor stakeholders with no social equity commitment that literally slave drove these MFIs to achieve stupendous growth targets through charging usurious interest rates, multiple lending to already overburdened customers instead of seeking new ones and coercive recovery practices.

The fact is that while the normal portfolio investments of PEs and VCs gave them hardly 20% return, it was the micro-finance sector in India that gave them mind boggling returns between 50-500%. So no wonder  the sector became the "preferred sub-sector of choice in the financial sector for investment bankers” as accurately observed by N Srinivasan (Author of The State of The Sector Report). This situation perhaps prompted Xavier Reille of CGAP in his paper Are MFIs in India overvalued?, to comment:

“Overvaluation might be driven by excess capital flows.  A significant share of equity investment in India comes from investors whose objective is to realize profits by floating or otherwise exiting their investments in a relatively short time frame. In many cases in the past this type of capital has produced overvaluation of equity prices in the short term and disappointment in the long term. After all, India is the only microfinance market that has attracted large private equity funds.”

So when the Akulas (SKS) and Mahajans (BASIX) blame rogue MFIs for the AP crisis, to use the old adage, they are probably the wolves in sheep clothing. It is these six for-profit MFI biggies that look most plausible to be the rogues than the rest of the industry. Put another way, it is most likely for the misdeeds of these six biggies that the entire MF industry now faces a sectoral backlash that threatens their very existence.

In terms of lobbying, MF sector apparently found only support from Montek Singh Ahluwalia, Deputy Chairman of Planning Commission. According to a WSJ-Livemint report, Montek wrote to the Prime Minister Manmohan Singh and sought intervention of the Reserve Bank of India (RBI) to save the microfinance sector in Andhra Pradesh from falling apart. Commenting on the microfinance ordinance Ahluwalia said, “If implemented as it stands, it will lead to the collapse of the MFI sector”.

But Montek’s clout within the government and the ruling Congress Party is extremely low and latter is more likely to listen to the likes of YV Reddy, ex-RBI Governor. Y V Reddy likened MFIs to moneylenders, stating that most MFIs are either registered or unregistered NBFCs, he said they are following a flawed business model by lending to consumption-related spends. YV Reddy called for the total recast of the industry.

Meanwhile, in his latest book Fault Lines: How Hidden Fractures Still Threaten the World Economy, Raghuram Rajan, former chief economist of the International Monetary Fund and an economic adviser to India’s Prime Minister, said, “Although microcredit has a promise on a small scale, history suggests that when scaled up, and especially when used as an instrument of government policy, it will likely create significant problems.” So Raghuram Rajan, another influential economic adviser to the government takes a more neutral stance.

The fact that the ruling Congress high command permitted their state unit to introduce the Andhra Pradesh Micro-Finance Bill is an indication which way the wind is blowing. It does suggest that the Central Government is in the mood of “recasting” the micro-finance industry, suggesting the YV Reddy line has prevailed.  The RBI had in fact finalised in a July-August report, which recommended withdrawal of priority sector status to microfinance institutions (MFIs) for public sector bank loans. But before the regulator could act on the report, the sector was mired in crisis. Meanwhile RBI appears also concerned about PE funds investing in Microfinance Companies.

“RBI officials told CNBC-TV18 in an interview that they are yet to take a view on how to treat private equity investments in Microfinance Institutions. For decades microfinance in India was always seen as a not for profit function with a social purpose  but this has changed drastically in the last few years with many foreign based private equity funds pouring money into this sector. The central bank has said it views microfinance as a key part of its drive for financial inclusion, and clarified that while it was not contemplating a cap on interest rates charged by microfinance institutions (MFIs), there was a need to regulate the rates.”

Recast is simply a euphemism for the restructure of the industry. Winds of change that are blowing suggest that future policy environment would castrate the growth of the for-profit MFIs, particular the six biggies by depriving them of priority lending status; clamp down on PE investments in the sector and control of interest rates indirectly by  leveraging the power of discretion in sanctioning credit to the sector. At the same time, government policy would focus to reduce MFI strategic significance in promotion of financial inclusion by expanding bank coverage, giving a fillip to SHG-Bank linkages by NGO or government initiatives and encouraging public sector banks to directly enter micro-finance activities.

Rogue Micro-Finance Companies: Naxalites have no confusion who they are.

 “WARANGAL: Taking a tough stand against micro finance institutions (MFIs), the Maoists have asked MFI managements to close their operations in villages immediately in the wake of series of suicides by women.

Maoist party KKW (Karimnagar-Khammam-Warangal) secretary Sudhakar warned MFIs of dire consequences if they do not call it quits. In a statement here on Friday, he said agents and representatives of MFIs are humiliating rural women and insulting their family members because of which several villagers have committed suicide.

He termed the government ordinance on MFIs as a sham since agents continue to collect loan instalments from women forcibly. He also warned SKS Finance chief Vikram Akula, Share Finance company owner and member of Rajya Sabha V Hanumantha Rao, L&T, Swayamkrushi, Chaitanya MFIs' owners of serious consequences.”   Times of India

Maoists or Naxalites also called the Naxals is a loose term used to define groups waging a violent struggle on behalf of landless labourers and tribal people against landlords and others. They aim to fight oppression and exploitation to create a classless society. 

 The above quotes are their cry for annihilation of class enemy, which in this case are micro-finance institutions (MFIs).  From their statement, it is clear that they are not against all MFIs in particular, but only the biggies. They loath these biggies so much so that they warned them to shut shop in Andhra Pradesh or suffer dire consequences. 

 

On the other hand, the biggie MFIs shrug off the blame to “Rogue MFIs”  for the present crisis in the industry: “Dr Akula admitted there were “rogue” elements operating in the microfinance market and they needed to be checked. Do not destroy the entire industry because of the actions of a few rogue players,” he said”. Wall Street Journal - livemint.com

 
“Mr Alok Prasad, CEO,MFIN, pointed to some fly-by-night, small-time moneylenders who are working under the garb of MFIs and giving the sector a bad name. These are unregistered players who are not RBI-regulated NBFCs. The government should go after them rather than come after registered MFIs, Prasad said” www.karmayog.org

 “On the harassment allegedly caused to the public by MFIs, Mr Mahajan said that there are many other companies which are pretending to be MFI, but are not registered”.  Deccan Chronicle

Notice, the biggie MFIs are careful not to name these rogue elements, creating doubts who they are. Are then these biggie MFIs scapegoats for a problem caused by a minuscule clutch of rogue MFIs? Or are Naxalites simply targeting MFIs just because of ideological revulsion. We researched and came across some interesting industry statistics in a blog administered by Ramesh Arunachalam, a MFI practioneer, called Candid Unheard Voice of Indian Microfinance:

This data reveals that just 6 large NBFC MFIs accounted for a whopping 95% of all active MF borrowers in the country. Despite a gripping monopoly within the industry, Vikram Akula in his interview to CNBC-TV18 10 days ago hinted of further industry consolidation - a euphemism for mergers and acquisitions viz swallowing up the smaller players by the biggies. This leaves us with the question, just who are these biggies? Ramesh Arunachalam's statistics prove helpful again: 

So the biggie MFs are SKS, Spandana, SHARE, BASIX, Asmitha and Trident who accounted for 94.7% of the total active borrowers. These 6 MFIs added a whopping 12.20 million clients in the last 5 years ending March 2009. Of these, as much as 9.76 million clients were added in the last two years. So it is readily apparent that the same 6 biggies are the dominant, fast growing and large scale institutions, operating under the RBI regulatory framework. So dominant that there cannot be any widespread  MFI induced suicides, without their involvement. 2.07 crore households were given loans as per the available data as of 2009. But the total households of AP, as per the same source, are 1.6 crore and the poor households 25 lakh. This means the loans were given more than eight times the number of poor. In other words, MFIs were engaging in multiple lending in a significant way. - indebting the not-so-poor segments and pulling them into the vortex of poverty.

Devinder Sharma in his blog gives us an insight to the scale of profiteering:

"Dainik Jagran, the largest selling newspaper in India (it is in Hindi), has carried today (Nov 27, 2010) an interesting report that should serve as an eye-opener. It says that the Ministry of Finance had a couple of days back held a discussion on microcredit in which a document detailing the profits earned by the MFIs was placed before the members. The details are shocking, and show how the MFIs have been extracting their pound of flesh in the name of poverty eradication.

 An analysis of 13 major non-banking MFIs shows that the profits these firms accumulated by charging exorbitant interest from the poor borrowers had swelled from Rs 677.3 crore in 2007-08 to Rs 3776.93 crore in 2009-10. In other words, their profits had multiplied by 5.5 times over a period of two years. Since the MFIs have failed to expand the borrower base, it is quite evident that the profit increase is based on the interest amount they have managed to garner.

So while the poor took the fatal route to escape the humiliation that comes with coercive recovery of outstanding loans, the MFIs have made it rich. Bandhan Microfinance has broken all records. Its profits swelled by 34 times in two years. Some of the other players -- SKS Microfinance, Ujjivan Microfinance, BSS Microfinance, Share Microfinance, Sampada Safurti, and Grameen Financial -- have also managed to collect huge profits.

The 100 odd cases booked by the Andhra Pradesh police for coercive practice and abetting suicides overwhelming come from staff of this group of six. Further, these are the same MFIs the Naxalites singled out to target.

Quite a series of coincidences,  you would say! Still consider this. These statistics further indicate that 2007-2009 was the period these 6 biggies of the MFI industry historically clocked their fastest growth - growth almost in geometric proportion. 

How dangerous such a pace of blistering growth was brought home in 2005-2006, even when MFIs were clocking one-twentieth of this pace. The industry then experienced the Krishna crisis, wherein they attracted similar charges as they are today. To disarm public ire and backlash against them, they then came up with a tactic of evolving a voluntary Code of Conduct that among other things promised reducing their interest rates, avoidance of multiple lending and adoption of coercive recovery practices.

Since this Code was merely meant to be tactical and not a serious commitment, they instead upscaled their past misdemeanors, more so as these Biggies were all planning to go public through the IPO route. As they transformed themselves to for-profit institutions, they began to give more and more representation within their governing boards to private equity (PE) firms and venture capitalists. Since the latter had huge financial stakes in this class of MFIs, they begun to slave drive MFI managements to higher and higher Return over Assets (RoA) ratios to enable better valuations of their shares on listing so that they could exit with mind boggling profits. As a result, the objective of facilitating social capital was jettisoned lock-stock-and-barrel as these MFI biggies went berserk on an over-extended profiteering spree that placed increased reliance on more and more coercive recovery practices. These MFIs became solely lending enterprises, niche bank operators competing primarily with money lenders.

In identifying the rogues in the MFI industry, we need to keep these statistics and history in mind to understand the present MFI crisis in order to better understand plausibility. While the MFIs and their apologists hardly deny that this had been the case, what they desperately try is to erase the taint of these biggies being the cause of the  suicides of their borrowers. MFIs mercurial growth has been accounted by piggy backing on images of them being Messiahs of the Poor. Once this mask is removed, and they are exposed as a form of disguised moneylenders, they end up fighting for their basic survival as they are currently. So it becomes important for them to absolve themselves from charges that link them to inducing suicides.

The Suicide Cover-Up

We have in one of our archive postings (read here) exposed how the industry’s spin doctors attempted absolve the industry from charges of inducing suicides by borrowers. Even Vijay Mahajan, the president of the microfinance industry association, has been bluntly critical of MFIs as quoted in the New York Times: "In their quest to grow, they kept piling on more loans in the same geographies…That led to more indebtedness, and in some cases it led to suicides."

A week ago, I reacted to a posting in the blog of Consultative Group to Assist the Poor (CGAP), a World Bank offshoot, titled Crisis by Invitation. The author was Narasimhan Srinivasan, whose profile suggests that he had been a development banker (with RBI and NABARD) and now an international consultant to IFAD, World Bank, ADB, Gates Foundation, DFID, CGAP and many others on development finance and rural development. He has authored the State of the Sector - Microfinance India Report, brought out by Access Development Services for the last three years, 2008, 2009 and 2010. Srinivasan as an industry apologist in this post also ridicules the charge of MFI induced suicides.  My reaction to his post was not published by CGAP, presumably because it was inconvenient to these MFI biggies. Consequently I take the opportunity to publish it in this blog:

 Mr. Srinivasan

 The extracts from your post:

Despite the above, your post incredibly concludes: "Suicides were linked to microfinance in some of the media. While suicides are extreme decisions, the symptom of excessive burden of debt in some cases is not the real cause."

It is of course possible that all cases booked by the police of AP may not be linked to MFIs though prima facie it may look to the contrary.  The courts will determine that and we should await the process of law before making definitive comments. However the logical consistency of the extracts of your post does suggest a high plausibility of MFI induced suicides in most of the cases booked by the Andhra Police.

"AP has an average of 2000 farmer suicides each year—if 54 suicides as reported in some papers are attributed to MFIs- what are the remaining attributed to? Do we need laws restricting some other sectors of the economy for the other suicides?"

If you have some grounding in psychology, you would appreciate that this phenomenon of suicides is rather a complex subject and could be triggered by a variety of factors - both internal and external to the victim and acting in combination. It is usually triggered out of difficulty in coping with despair that includes financial difficulties, troubles with interpersonal relationships etc. It can be also triggered by low blood pressure or mental disorders like depression, bipolar disorder, schizophrenia or substance abuse. It can also be triggered by such factors like humiliation or related to culture. It can be associated with ideology or a military strategy as in the case of suicide bombings or Japanese hara-kiri.

All individuals entertain thoughts of suicide at some point of their lives, though only a few succumb to the thought. There are accordingly individuals with high suicide risk profiles and cultures like Tamil Nadu and Andhra were suicide rates are higher than the national average. Further though poverty may not be a direct cause, it can increase the risk of suicide, as it is a major risk group for depression. Now if you acknowledge that “the exponential growth and high concentration in AP was not accompanied by the required SENSITIVITY in dealing with vulnerable people”, it seems to me that you are accordingly implicitly accepting the reality of MFI induced suicides. The latter are akin to a woman raped ending her life or a student publicly caned ending his life due humiliation.

The manner the MFI as an industry and their spin doctors approached the charges of suicides, they antagonized public opinion. If MFIs first condemned these incidents, compensated victims and brought their collection agents to book, they would have redeem themselves in the eyes of the public. Instead what we see is MFIs in a state of denial and countering arguments that on the face of it appears puerile. SKS gave Rs 4.5 crore life cover for its former CEO. And the insensitive manner MFIs are dealing with client suicide is what puts off the public - the differential values MFIs place on life!

But then this is only the way MFIs sees this whole crisis - the poor not in the radar at all but only the business- here’s your extract: “What is at stake is not only Rs 167 billion ($3.8 billion) in microl-oans in AP, but also the future of microfinance in India. While Rs 52.5 billion ($1.1 billion) is the exposure of MFIs that will be directly affected by restrictions on collections, visits to the borrowers and bundling of weekly installments in to monthly installments, the damage potential is deeper.”

Please remember that MFI growth was on piggy backing on the false image of being the Messiahs of the Poor, once this mask is stripped off, you lay exposed and find that you are in the verge of extinction. 

If Naxalites Are After You, Then You Must Be The Enemy Of The People.

In the seventies, as a little boy in the boarding of one of best known private schools in the country at Bangalore, I had gone to Kerala for the first time to spend the summer holidays with my cousins.  And as I traveled from the railway station to my aunt’s house, we came across a large crowd looking at a head strung up on a pole. My aunt covered my eyes and spared me the gruesome sight.

The only explanation by Aunt gave was that these were Naxals, bad people who love to kill plantation owners and the rich. And this was the impression I carried all through my education career and the initial working days In the late eighties, now a consultant with a donor, I went to Munar, a plantation hill station in Kerala for an evaluation study.  When in Kerala, you must visit the local “toddy shop” to eat fish to be washed down with freshly tapped toddy. There we met an old man, fairly drunk and we got talking. He told me that he was a Naxalite in his younger days and he has annihilated many class enemies including beheading one and putting it on a pole. Why do this ghastly act? I found myself asking him. With no remorse he retorted: 

“Leave alone wage exploitation, how would you react when the estate owner comes to take your wife, daughters for enjoyment by him and his friends in their booze parties. When my youngest daughter, age 12, the apple of my life, came back traumatized with extensive bleeding and bruises died, after her cremation, I knew what exactly I had to do.”    

One may disagree with their violent methods, but not even the government disagrees that the Naxals usually fight a valid cause, even as they crack down on them. And if Naxals have declared MFI biggies as their class enemy, we know there cannot be smoke without fire. This is why biggie MFIs these days walked with a security armed with AK 47s!

  

Where's the Microfinance Coercion? Here's the Proof!

 What is Coercion in Repayment; A Client Perspective from Indian Micro-Finance
Courtesy: Ramesh S Arunachalam

We have been hearing the term coercive repayment and this is what we have understood from our interaction with about 52 microfinance clients in the field in India, during the last 6 weeks. These items represent a compilation of what several clients (especially, those with multiple loans) and/or their families told us as we talked to them in various places in Andhra Pradesh, Tamil Nadu, Karnataka, Orissa and West Bengal: 

 Note: There are Video Clips/Recordings available of what clients said for the record

Client A: “The fact that fieldworkers/agents came day after day (for week after week) and pressured me to pay back is itself a sort of harassment and coercion. As I (and family) do not have serious livelihood means, we have to either borrow from another MFI (this would help consumption and also repayment for some time) or borrow from money lenders (at even 10% per month) to pay them and get them off our backs. The idea is WE HAVE TO SOMEHOW PAY THEM or they will not leave. When all options of borrowing run out, we either have to migrate or die. This is what is happening to other women and may happen to me someday soon”

Client B’s Husband: “My wife who committed suicide, had taken 8 loans and had to pay back 2 loans on Monday, 1 Tuesday, 1 Wednesday, 1 Thursday, 1 Friday, 1 Saturday (every fortnight one), and 1 once a month. There was no respite during the week and on Saturday, she felt happy that Sunday was the next day but that was short lived as we had to make payments from Monday again and the whole cycle continued…When one has to pay loan repayments on 6 days a week and people will not leave without collecting payments, it is downright harassment.”

Client C: “The collection agents/staff came and stayed put with us until we paid the instalments and this built our pressure as they would be watching us, often passing snide remarks and insulting us. They would even ridicule our children and basically try to embarrass us – so much so that, we would even not hesitate to go to a money lender and get the instalment amount as a loan at 5-10% rates of interest and send them off.”

Client D: “One MFI had the practice whereby if the 1st staff did not return within a stipulated time of 2 hours, other staff will successively join him. Soon, by 10/11 AM, there could be 4/5 people sitting near our house and making all sorts of insulting remarks. They also publicly shamed us in the village. I once ran here and there and finally paid them off at 4.30 PM in the evening and I was traumatized at the end of it all. Now, I dread their coming every time…

Client E’s Husband: “Some collection agents were really rude-after my wife committed suicide.” They came and said, “If you cannot find means to repay, then you should send out your two beautiful daughters, and get them to earn money by other means (prostitution…) and then repay to us.” One of them even said, “If you cannot do that, send them to me and I will use them and pay off your instalments. They are very beautiful and would be able to earn a lot. I wept as I heard this…”

Client F: Another client says she is unable to bear the harsh language of MFI staff and, as a result, was pressured to take loans from local money lenders @4% interest per month to pay back instalments. She also claimed to have sold off her jewels to repay MFI loans as their staff were abusing her, whenever they came to the village for collections.

Client G’s Husband: One client’s husband said that the staff said, “We do not care if your wife died. You better pay when we come back tomorrow”. The husband further said that, “I had to borrow at 12% to pay them the next day as otherwise, they had threatened to chain me to the Big Tree, outside of the village and make me a laughing stock”.  

Client H: Another client said, “The earlier support (SHG) groups have now become pressure groups that insult. So there is no respite and harassment is 24x7 as group leaders and other members live at the village itself and they obstruct participation in village activities if the loan instalments have not been paid. You just cannot get away without paying as they have a lot of local influence and can do anything…” 

Client I: A client remarked that in the case of defaulting members, if the defaulter did not repay the loan over dues, the group leaders and MFI centre leader simply took over the defaulter’s assets into their possession and then, they repaid the loan amount by liquidating it.

Client J: A client said that, “once at the time of weekly repayment, there was a death in the neighbour’s house who was also a member and the collections agents told the bereaved family that unless she paid the last two overdue instalments, they would not allow the body to be lifted or rites to be performed. Then, the client claimed that, she went to a money lender in a nearby bigger village and got an emergency loan at 7% and helped her neighbour pay back the instalment”.

While the above is by no means a scientific study, it nonetheless provides some (initial) indication into the kinds of coercive mechanisms that could be used at the field level (not exhaustive) by some MFIs and it does converge with the findings of previous research into coercive repayment (APMAS and others). These have been compiled into key coercive recovery strategies that could be used by some MFIs and these are summarized below:

Strategy # 1 - Life/Work Obstruction: Field workers, agents, centre leaders and/or group leaders/members may hinder and obstruct the normal life and work of clients and/or their families and thereby, force them to repay, using several means (borrowing from money lenders, take over assets etc) that may not necessarily be in the clients’ interest and one which could cause undue hardship to them.

Strategy # 2 - Threats: Collection agents/field workers could threaten the clients that they would resort to violence and/or physical abuse if money is not repaid; they may also carry the threat out, if money is not forthcoming from the clients;

Strategy # 3 – Verbal Abuse: Field workers/agents may (verbally) insult, abuse and/or intimidate the borrowers and their family members and get the repayment

Strategy # 4 - Following the Client and Pestering: Field workers/agents could continually follow the borrowers and their family members from place to place and pester them for payment and keep on embarrassing them, until the money is paid;

Strategy # 5 - Repossession and Sale of Property: Sometimes, the centre leaders and/or group leaders/other members may even take over property owned or used by clients and sell that and take the repayment

Strategy # 6 - Satyagraha Outside Clients House/Place of Work: Field workers/collection agents could sit outside the house or places of work (like fields/shops) for hours and hours and keep on harassing for payment and leave only after they get it

Strategy # 7 - Embarrassment Strategy: Field workers/collection agents may sometimes even talk to business customers and/or guests of the clients and embarrass clients and thereby get them to repay

Strategy # 8 - Physically Take Over Assets/Documents as Collateral: The centre leaders, group leaders and/or other members could forcibly remove assets/documents of the borrower (like ration card etc.,)  and not return it until the repayment is made by client

Strategy # 9 – Physical Intimidation: Field workers/collection agents may physically intimidate the clients and get local toughs to rough them up once or twice, so that repayment is forthcoming thereafter

Several questions arise from the above discussion and the RBI sub-committee would surely have to look into the (range of) mechanisms that have been and are being used by (some) MFIs to collect loans at the grass-roots.

A rigorous scientific study will have to be commissioned and undertaken by a neutral set of people and only that can reveal the real extent to which such coercive tactics and strategies are used by (some) MFIs on the ground...