CONTENTS

i. Abstract
ii. Introduction
iii. Urban Microfinance
iv. Financial Inclusion in India
v. Microfinance as an Anti-Poverty Vaccine
vi. Transformation of Microfinance in India
vii. Scaling up Microfinance
viii. SWOT Analysis of Microfinance
ix. Delivery Models of Microfinance
x. Interest Rates in MFIs and trends prevailing
xi. Scope of further study
xii. Conclusion
xiii. Bibliography

ABSTRACT
Microfinance refers to small savings, credit and insurance services extended to
socially and economically disadvantaged segments of society. It is emerging as a

powerful tool for poverty alleviation in India. This working paper tries to outline
the prevailing condition of the Microfinance in India in the light of its emergence
till now. The prospect of Micro-Finance is dominated by SHGs (Self Help Groups) Banks linkage Program. Its main aim is to provide a cost effective mechanism for
providing financial services to the poor.
To understand the transformation experiences better, we identify issues that
trigger transformation viz.: size, diversity of services, financial sustainability,
focus and taxation. We argue that the transformation experiences in India are not
large in number. However, we have found that there are three forms of
organizations that seem to be popular in the microfinance sector the NonBanking Finance Companies, the Banks both Local Area Banks and Urban Cooperative Banks and the Co-operatives. We then argue that in the Indian case, we
find that the MFO spins off from the NGO rather than the NGO transforming
itself.We maintain that entry norms on capitalization for the current forms of
organisations (NBFCs, Co-ops and Banks) need not be changed to ensure only
genuine MFOs make use of the legislation and not other organisations
masquerading as MFOs.

We also analyzed the concept of Microfinance that is by undertaking SWOT

Analysis of the concept. There we found the various flaws which the concept still
has in a developing country like India. We also analyzed the various factors which
help in determination of interest rates in Microfinance sector and how poor
people are still deprived of efficient credit supply which can be brought down to
the lack of knowledge and a huge gap between demand and supply of Microcredit.
Finally paper concludes with practicable suggestions to overcome the issues and
challenges associated with microfinance in India.

INTRODUCTION
Microfinance is

the

provision

of financial

services to low-income clients

or solidarity lending groups 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.
Microfinance is a broad category of services, which includes microcredit.
Microcredit is provision of credit services to poor clients. Although microcredit
is one of the aspects of microfinance, conflation of the two terms is endemic in
public discourse. Critics often attack microcredit while referring to it
indiscriminately as either 'microcredit' or 'microfinance'. Due to the broad range
of microfinance services, it is difficult to assess impact, and very few studies
have tried to assess its full impact.
The history of microfinancing can be traced back as long to the middle of the
1800s when the theorist Lysander Spooner was writing over the benefits from
small credits to entrepreneurs and farmers as a way getting the people out of
poverty. But it was at the end of World War II with the Marshall plan that the
concept had a big impact.The today use of the expression micro financing has
its roots in the 1970s when organizations, such as Grameen Bank of Bangladesh
with the microfinance pioneer Muhammad Yunus, were starting and shaping the
modern industry of micro financing. Another pioneer in this sector is Akhtar
Hameed Khan

URBAN POVERTY

As the world moves into the year 2012, there will be more number of people
living in urban areas than rural areas. In fact, the 20th century witnessed a rapid
growth in urban population. Thenext few decades will see unprecedented scale
of urban growth in the developing worldincluding those in Asia and Africa
continents. The urban population in these two continents willdouble in a period
of 30 years.
Asia has been witnessing the triple dynamics of growth, rapid urbanisation and
growing poverty.While many Asian countries witnessed higher economic
growth, the growth pattern broughtabout enormous disparities across and within
nations.India has shared the growth pattern and rapid urbanisation with some of
the fastest growingregions in Asia. The Country has witnessed around 8%
growth in GDP in the last couple of yearsand has planned to achieve a target of
over 9% growth by the end of 11th plan period.
Indias urban population is also increasing at a faster rate than its total
population. With over 575 millionpeople, India will have 41% percent of its
population living in cities and towns by 2030 AD fromthe present level of 286
million and 28%.
Economic development and urbanisation are closely linked. In India, cities
contribute over 55 %to countrys GDP and urbanisation has been recognised as
an important component of economicgrowth.
With India becoming increasingly globalized and urban, there is also an increase
in the numberof poor people living here. As per the latest NSSO survey reports
there are over 80 million poorpeople living in the cities and towns of India. The
Slum population is also increasing and as perTCPO estimates 2001, over 61.80
million people were living in slums.It is interesting to note that the ratio of
urban poverty in some of the larger states is higher thanthat of rural poverty

leading to the phenomenon of Urbanisation of Poverty. Urban povertyposes

the problems of housing and shelter, water, sanitation, health, education, social
securityand livelihoods along with special needs of vulnerable groups like
women, children and agedpeople.
Thesustainability of urban development in India is seen in the context of shelter
and slums, Basicurban services, Financing urban development and Governance
and Planning.India has entered the Eleventh Plan period with an impressive
record of economic growth.
However, the incidence of decline of urban poverty has not accelerated with
GDP growth. In fact,urban poverty will become a major challenge for
policymakers in our country as the urbanpopulation in the country is growing,
so is urban poverty. Therefore, a need has arisen to developnew poverty
reduction tools and approaches to attack the multi-dimensional issues of
urbanPoverty. For this, policymakers at the national and local levels should
have a good understandingof the nature of urban poverty as well as accurate
data on various issues relating to it, in order todevelop programme/policies to
manage urban poverty in a systematic manner.

URBAN MICROFINANCE IN THE CONTEXT OF

URBAN POVERTY

The evolution of social banking concept in India is through the development of

the Self HelpGroupBank Linkage Scheme. The genesis of the scheme was an
experiment piloted by theNational Bank for Rural Development (NABARD) in
the late 1980s to link informal groups of low income individuals in rural areas
with banks. The experiment was mainstreamed by the Reserve Bank of India as
the SHG-Bank Linkage Scheme in 1996 when linkage banking was included as
an activity of banks under priority sector lending.The institutional structure that
facilitates rural financial intermediation was strengthened by thesetting up of
Regional Rural Banks in 1975 and the National Bank for Agriculture and Rural
Development in 1982 with the mandate of developing the cooperative credit
system.The debate on financial services to the poor and low income households
in India has revolved around the rural population since the time when banks
were nationalized for the first time in the country.
Unlike rural financial intermediation, flow of financial resources to urban
populations was never a matter of serious debate in India. The tendency among
microfinance intermediariesto move towards urban centers came only after it
found that the rural markets coming to asaturation point. Still now the SHGBank Linkage model remains predominantly a ruralphenomenon.Economic
Development Associates (2004) observed that about 80 per cent of the micro
financeclients are without any formal savings, and 91 per cent, without formal
credit. Nearly 77 per centof the micro credit clients are in the rural sector.The
first targeted credit programme with focus on enterprise and self employment
opportunities in urban areas was launched in 1989 during the Seventh Five Year
Plan period (1985-90).Various urban poverty alleviation schemes with a credit
focus introduced in India since 1989 shows that they broadly followed a topdown approach. The Swarna Jayanti Shahari Rozgar Yojana (SJSRY) is the first
such urban scheme launched by Government of India wherecommunity based
organizations, especially poor urban women, were recognized as the critical

points of delivery of benefitsIndian Bank has started Microstate branches that

are exclusive satellite branches for servicing micro loans (Business Line, 2007).
Later State Bank of India has promoted about 7000 SHGs inthe city of Mumbai
of which nearly 2000 are bank linked.Credit flow from formal financial
institutions to the urban population groups steadily increasedin India since the
1970s and this has come to be concentrated in large cities and larger sizedcredit
brackets.Though the social banking efforts of the central bank and the
government financialintermediation in rural areas too have gone through a
phase of expansion but the low income assetholding segments of urban areas
have

largely

been

bypassed

by

such

overall

expansion

infinancial

intermediation.While the states poverty alleviation approach has steadily

expanded from mere provision ofbasic amenities and services to facilitating
creation of income earning opportunities, it has failed to make any significant
impact on the urban poor.The impact of microfinance interventions will be
severely limited both in urban and rurallocations unless well directed
investments are made in physical and social infrastructure.

CONCEPT OF FINANCIAL INCLUSION

Financial inclusion or inclusive financing is the delivery of financial
services at affordable costs to sections of disadvantaged and low-income
segments of society in contrast to financial exclusion where those services are
not available or affordable. An estimated 2.5 billion working-age adults globally
have no access to the types of formal financial services delivered by regulated

financial institutions. For example in Sub-Saharan Africa only 24% of adults

have a bank account even though Africa's formal financial sector has grown in
recent years. It is argued that as banking services are in the nature of public
good; the availability of banking and payment services to the entire population
without discrimination is the prime objective of financial inclusion public
policy.
Financial Inclusion is delivery of banking services at an affordable cost to the
vast sections of disadvantaged and low income groups. The main focus
of financial inclusion is to promote sustainable development and generating
employment in rural areas for the rural population. Out of 19.9 crore households
in India, only 6.82 crore households have access to banking services. As far as
rural areas are concerned, out of 13.83 crore rural households in India, only 4.16
crore rural households have access to basic banking services. In respect of urban
areas, only 49.52% of urban households have access to banking services. Over
41% of adult population in India does not have bank account. There are many
factors

affecting

access

to financial

servicesin by

weaker

section

of

society in India. Several steps have been taken by the Reserve Bank of India
and the Government to bring the financially excluded people to the fold of the
formal banking services. The 100 per cent financial inclusion drive is
progressing all over the country.

LITERATURE REVIEW
FINANCIAL INCLUSION IN INDIA
By Karthikeyan Kothandaraman

There are several factors affecting access to formal banking system in any
country. They include culture, financial literacy, gender, income, assets, proof of
identity, and remoteness of residence and so on.
The aim of financial inclusion is to promote sustainable development and
generating employment for a vast majority of population especially in the rural
areas. In the first-ever index of Financial Inclusion to find out the reach of
banking services among 100 countries, India has been ranked 50. At present,
only 34% of the Indias population has access to banking services. The NSSO
survey reports that there are over 80 million poor people living in the cities and
towns of India and they lack access to the most basic banking services- such as
savings accounts, credit, payment services, advisory services etc. Low income
groups do not have access to the formal banking systems, as they usually do not
have the documents needed to open a bank account. As a result, they depend on
the informal sector for their savings and loan requirements.
There are number of factors affecting access to financial services by weaker
section of society in India. The lack of awareness, low incomes and assets,
social exclusion, illiteracy are the barriers from demand side. The distance from
branch, branch timings, cumbersome procedures, high instruction costs etc. are
the barriers from the supply side. Hence, there is a need for financial inclusion
to build uniform economic development, both spatially and temporally, and
ushering in greater economic and social equity.
The Eleventh Five Year Plan (2007-12) envisioned inclusive growth as a key
objective. The inclusive growth implies an equitable allocation of resources
with benefits accruing to every section of society. It is aimed at poverty
reduction, human development, health and provides opportunity to work and to
be creative. Achieving inclusive growth in India is the biggest challenge as it is

very difficult to bring 600 million people in rural India into the mainstream.
One of the best ways to achieve inclusive growth is through financial inclusion.
In recent years, Indian banking sector is grappling with the issue of financial
inclusion. But, it is not altogether a new exercise. Financial inclusion was
embedded in Indian credit policies in the earlier decades also, though in a
disguised form and without the same nomenclature. Banks have evolved
specific strategies to expand the outreach of their services in order to promote
financial inclusion. This can be achieved in a cost-effective manner through
forging links with micro finance institutions and local communities.
Access to financial services allows lower income groups to save money outside
the house safely, prevents concentration of economic power with a few
individuals and mitigates the risks that poor people face as a result of economic
shocks. The breadth of financial inclusion in a country is usually measured by
the percentage of people who have access to bank accounts.
STATUS OF FINANCIAL INCLUSION IN INDIA
The process of financial inclusion in India can be broadly classified into three
phases. During the first phase (1960-1990), the focus was on channeling of
credit to the neglected sectors of the economy. Special emphasis was also laid
on weaker sections of the society. Second Phase (1990-2005) focused mainly on
strengthening the financial institutions as part of financial sector reforms.
Financial inclusion in this phase was encouraged mainly by the introduction of
Self- Help Groups (SHGs) bank linkage programme in the early 1990s and
Kissan Credit Cards (KCC) for providing credit to farmers. The SHG- bank
Linkage programme was launched by NABARD in 1992 with policy support

from RBI, to facilitate collective decision making by the poor and provide door
step banking. During the Third Phase (2005 onwards), the financial Inclusion
was explicitly made as a policy and thrust was on providing safe facility of
savings deposits through no-frills accounts.
Several steps have been taken by the RBI and government to bring the
financially excluded people to the fold of formal banking services. They
include:

Introduction of no-frills accounts

Relaxing Know-Your Customer (KYC) norms
General Purpose Credit Card Schemes (GCC)
Business Facilitator and Business Correspondent Models
Project Financial Literacy
National Rural Financial Inclusion Plan (NRFIP)
Financial Inclusion Fund (FFF)

MICROFINANCE AS AN ANTI POVERTY

VACCINE FOR RURAL INDIA
By Manish Kumar &Narender Singh Bohra
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, and 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 assets 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 banks).
A Profile of Rural India

350 million Below Poverty Line

95 % have no access to microfinance.
56 % people still borrow from informal sources.
70 % don't have any deposit account.
87 % no access to credit from formal sources.
Annual credit demand is about Rs.70,000crores.
95 % of the households are without any kind of insurance.
Informally Microfinance has been in practice for ages.

Micro financing has become important since the possibility of a sub-Rs

1,000mobile handset has been ruled out in the near future. Rural India can
generally afford handsets in the price range of Rs 1,500-2,000.
To succeed in India, agribusiness must empower the farmer by making
agriculture profitable, not by expropriating him foe this particular purpose the
farmer shouldbe funded for their basic and small needs. Micro finance is
expected to play asignificant role in poverty alleviation and development. The
need, therefore, is to share experiences and materials which will help not only in
understanding successes and failures but also provide knowledge and guidelines
to strengthen and expand micro finance programmes.

Success Factors of Micro-Finance in Rural India

A. For NGOs
Over the last ten years, successful experiences in providing finance to
small entrepreneur and producers demonstrate that poor people, when
given access to responsive and timely financial services at market rates,
repay their loans and use the proceeds to increase their income and assets.
This is not surprising since the only realistic alternative for them is to
borrow from informal market at an interest much higher than market
rates. Community banks, NGOs and grass root savings and credit groups
around the world have shown that these micro enterprise loans can be
profitable for borrowers and for the lenders, making microfinance one of
the most effective poverty reducing strategies.
The field of development itself expands and shifts emphasis with the
pull of ideas, and NGOs perhaps more readily adopt new ideas, especially
if theresources required are small, entry and exit are easy, tasks are simple
and peoples acceptance is high all characteristics of microfinance.
Canvassing by various factors, including the National Bank for
Agriculture and Rural Development (NABARD), Small Industries
Development Bank of India (SIDBI), Friends of Womens World Banking
(FWWB), RashtriyaMahilaKosh (RMK), Council for Advancement of
Peoples Action and Rural Technologies (CAPART), RashtriyaGramin
Vikas Nidhi (RGVN), various donor funded programmes especially by
the International Fund for Agricultural Development (IFAD), United
Nations Development Programme (UNDP), World Bank and Department
for International Development, UK (DFID)], and lately commercial
banks, has greatly added to the idea pull. Induced by the worldwide focus
on microfinance, donor NGOs too have been funding microfinance
projects. One might call it the supply push.
B. For Financial Institutions and banks

Microfinance has been attractive to the lending agencies because of

demonstrated sustainability and of low costs of operation. Institutions like
SIDBI and NABARD are hardnosed bankers and would not work with
the idea if they did not see a long term engagement which only comes
out of sustainability (that is economic attractiveness).On the supply side,
it is also true that it has all the trappings of a business enterprise, its
output is tangible and it is easily understood by the mainstream. This also
seems to sound nice to the government, which in the post liberalization
era is trying to explain thelogic of every rupee spent. That is the reason
why microfinance has attracted mainstream institutions like no other
developmental project. Perhaps the most important factor that got banks
involved is what one might call the policy push. Given that most of our
banks are in the public sector, publicpolicy does have some influence on
what they will or will not do. In this case, policy was followed by
diligent, if meandering, promotional work by NABARD. The policy
change about a decade ago by RBI to allow banks to lend to SHGs was
initially followed by a seven-page memo by NABARD to all bank
chairmen, and later by sensitisation and training programmes for bank
staff across the country. Several hundred such programmes were
conducted by NGOs alone, each involving 15 to 20 bank staff, all paid for
by NABARD. The policy push was sweetened by the NABARD
refinance scheme that offers much more favorable terms (100%
refinance, wider spread) than for other rural lending by banks. NABARD
also did some system setting work and banks lately have been given
targets. The canvassing, training, refinance and close follow up by
NABARD has resulted in widespread bank involvement.

THE TRANSFORMATION OF
MICROFINANCE IN INDIA
By M S Sriram& S Upadhyayula

From small efforts of starting informal self-help groups (SHG) to access the
much-needed savings and credit services in the early 1980s, the microfinance
sector has grown significantly today. Thefact that national bodies like Small
Industries Development Bank of India (SIDBI) and NationalBank for
Agricultureand Rural Development (NABARD) are devoting significant time,
energy andfinancial resources on microfinance is an indication of the reckoning
of the sector.
The strength of the microfinance organisations (MFOs) in India is in the
diversity of approaches and forms thathave evolved over a period of time. While
India has its home-grown model of SHGs, and MutuallyAided Co-operative
Societies

(MACS)

there

is

significant

learning

from

other

microfinanceexperiments across the world, particularly Bangladesh, Indonesia,

Thailand and Bolivia.

Value attributes of Microfinance

First, microfinance is something that is done by the alternative sector not the
government, and or the commercial sector.

Second, microfinance is something done exclusively or predominantly with the

poor. Again, thebanks do not qualify to be MFOs because they do not
exclusively or predominantly cater to poor. However, to the extent that the
banks have got into the business of linking SHGs, they are considered as
providers of finance to MFO and in some cases promoters of microfinance, but
not as players of microfinance.
Third, microfinance grows out of developmental roots. This is what can be
termed asalternative commercial sector. This encompasses the first two
points the organisations are promoted by the alternative sector, and targeting
the poor.
However the new organizations growing out of these roots need not necessarily
be developmental in the form of incorporation.There are MFOs that have
been offshoots of NGOs run on commercial lines. There are alsoinstances where
new MFOs are promoted on commercial lines.
Lastly, the Reserve Bank of India (RBI) has defined microfinance by specifying
criteria for MFOs to seek exemption from registration under the Non-Banking
Finance Company (NBFC) guidelines.
This definition is limited to not-for-profit companies and as of date only two
MFOs in India Sanghamithra Rural Financial Services (SRFS), and Indian
Association of Savings and Credit(IASC) qualify tobe classified as
microfinance companies.

Issues that trigger transformation

Size

The most significant issue that triggers a transformation is growth. Both

promotersand providers of microfinance encounter this though at different
stages of growth. Invariably the promoters of microfinance find that the existing
institutions are unwilling to provide finance at the same pace at which the
providers expect them to provide finance. Working with the attitudes of these
organisations is not an easy task. For instance, MYRADA in India was working
hard on linking SHGs to the local banks and often found that the mainstream
organisations have their limitations. In several cases the initiative was individual
driven and depended on the manager. In such a situation impatience creeps in
and the NGO would get into action to either start lending on their own (they
need not necessarily transform, but open a division for microfinance), or set up
a MFO.
Financial Sustainability
This issue is closely linked to the growth. Beyond a level of operations, the
MFOs will have toseek external funds. Donor money can only start up
microfinance activity. Donors cannot be asustainable source of funding. Then,
the only alternatives left for the MFO would be to eitherseek investments or
loans. When MFOs seek investments or loans from the mainstream
organisations, questions will be asked on the ownership structure and capital
adequacy. For a MFO to survive in the long run, it has to transform itself into a
financial institution that is accountable.
Taxation
In the Indian context, significant issues pertaining to taxation are raised in some
forums. The argument is simple. If a NGO- that usually is a tax-exempt entity,
carriesout commercial activities on a large scale, then it would attract the
attention of the taxation authorities. It is possible that in the process of building

up a micro finance NGO, we might jeopardize the tax status of the other
activities, making even grants taxable. This is one of the concerns of NGOMFOs. This triggers a search for an alternative where microfinance could be
kept isolated.

SCALING UP MICROFINANCE FOR

INDIAS RURAL POOR
By PriyaBasu, World Bank &PradeepSrivastava
Since the early national plans, successive governments in independent India
have emphasized the link between improving access to finance and reducing
poverty, astance that has had influence globally.
The need to improve financial access for Indias poor, the overwhelming
majority of whom are concentrated in rural areas, 3 motivated the establishment
of a vast network of rural cooperative credit banks in the 1950s, followed by a
drive to nationalize commercial banks, launched in 1969. This led to thousands
of new bank branches in rural areas across the country. The strategy during the
1970s and 1980s gave the lead role to the nationalized (state-owned)
commercial banks, whowere charged with loosening the grip of traditional
informal sector moneylenders through the use of targeted low-priced loans. The
1990s saw the partial deregulation of interest rates, increased competition in the
banking sector, and new microfinance approaches, most notably, a nationwide
attempt, pioneered by non-governmental organizations (NGOs) and now
supported by the state, to create links between commercial banks, NGOs, and
informal local groups (self-help groups, or SHGs). Better known as SHG
Bank Linkage, this approach has grown dramatically over the past decade, and
while its outreach is still modest in terms of the proportion of poor households

served, many believe it is destined to become the countrys dominant system of

mass-outreach banking for the poor.

Scaling up Microfinance
With significant achievements in recent years, SHG-Bank Linkage needs to be
actively supported since, among alternatives in the microfinance sector, this is
where there appears to be maximum potential for scaling-up, while leveraging
on Indias vast network of rural banks. At the same time, in an economy as large
and varied as Indias, there is much scope for diversity and new approaches.
Government has an important role to play in creating space for innovation and a
flexible architecture for new, independent microfinance institutions.
Enabling policy, legal and regulatory framework
An enabling policy, legal and regulatory framework is critical to scaling-up.
Such a framework is already in place for SHG Bank Linkage, and scaling-up the
model would require the government to simply ensure that the existing
framework ismaintained. This would require ensuring that the model continues
to have a champion with a clear leadership role a task which NABARD has
assumed with exemplary diligence by introducing policies and measures to
encourage banks to lend to SHGs. And it would require the authorities to
maintain a hands-off regulatory policy. Government could play an important
role in establishing an enabling policy, legal and regulatory framework for
MFIs. While the success of individual MFIs is largely attributable to their
visionary leaders, this is clearly not enough to mainstream the cause of MFIs.

 Attention to quality, and the importance of financial

sustainability
Scaling-up SHG Bank Linkage requires attention to the quality and
sustainability of groups, their promoters and lenders (banks).But in recent years,
growing concerns have emerged about group quality as well as the ability of
partner banks to properly assess, monitor and manage risk on their SHG
portfolios. Going forward, if SHG Bank Linkage is to be scaled-up, NABARD
and its partners face several challenges, 24 key among which include ensuring
that high quality groups are created and maintained, and that concerns over
numeric targets of groupcreation and linkage do not override attention to group
quality and resilience. In particular, the success and sustainability of SHG Bank
Linkage depends crucially upon greater clarity about who is to play the key role
of maintaining quality, andhow the costs of doing so are to be met. A clear
strategy is required on how newgroups will be promoted, and who will fund
this. If NGOs remain involved as promoters and minders of the groups, they
will need to be paid to do so, yet in the long run, with their social-development
perspective, NGOs are not ideal candidates for this role, and nor is it clear who
are to be their long-term paymasters.
Clear targeting of clients
Equally important is the need to ensure proper targeting of clients. The dual
pursuit of social ends and financial profits is an ongoing tension for all in
microfinance. While our analysis of SHG Bank Linkage indicates that the
model has so far successfully targeted the poorer segments, mission drift is a
common fear as pressures mount to serve richer clients with larger loans.

Keeping focused on itstarget population is thus critical to the success of

microfinance in India, aselsewhere.
Inclusiveness and competition in the microfinance sector can
generate high payoffs

The inclusiveness of SHG Bank Linkage, which has involved a partnership

between government, NGOs, and a range of rural banks (commercial banks,
RRBs, co-operative banks) has already generated a strong payoff. Further gains
in terms of outreach and financial sustainability may be reaped through
involving private sector banks and MFIs in SHG Banking. Encouraged by early
results, the new private sector banks, most notably ICICI Bank, but also UTI
Bank and HDFC Bank, are actively seeking exposure in the microfinance
sector. While their current exposure to microfinance is too small to make a
difference to their overall portfolio, these newer banks are pursuing innovative
approaches to microfinance as a potential business and not merely as a social
or priority sector lending obligation. Key innovations include a pilot scheme by
ICICI bank that uses NGOs or MFIs26, traders, or local brokers, as
intermediaries/ service providers for loans to groups of small and marginal
farmers. The tasks of loan appraisal, processing, management, collection, etc.
are delegated to the NGO/MFI/intermediary but the loans are always on the
books of the bank (ICICI funds the borrower directly and the loan does not pass
through the NGO/MFIs).

MICROFINANCE IN INDIAA TOOL FOR POVERTY REDUCTION

By Prof. Devaraja T.S.
According to recent RBI estimates, there are over 450 million unbanked
people in India, most of who live in rural areas. The term unbanked refers to
people who have no access to formal financial services, but rather must rely on
either family or informal providers of finance, such as the village moneylender.
It is undisputed that access to finance is critical for enabling individuals and
communities to climb out of poverty. It is also generally agreed that relying on
the limited resources of village moneylenders exposes the poor to coercive
lending practices, personal risks and high interest rates, which can be a much as
150%.
Therefore the Indian Government and the RBI have a policy of financial
inclusion. As part of this policy, the government requires Indian banks to lend
topriority sectors, one of which is the rural poor. Until recently, banks were
happy to lend money to MFIs who would then on-lend funds, primarily to poor
women across rural India. The banks have welcomed this policy because
historically theytended to charge MFIs average interest rates of 12-13% and
benefited from 100% repayment rates.
Microfinance in India is currently being provided by three sectors:
thegovernment, the private sector and charities. These three sectors, as large as
they are, have only a small fraction of the capital and geographic scale required
to meet the overwhelming need for finance amongst Indias rural poor.

The top 10 private sector microfinance providers in India together serve less
than 5% of the unbanked population of India approximately 20 million clients.
Forexample, SHARE Microfin Limited (SHARE) and AsmithaMicrofin
Limited (Asmitha), two of the five largest MFIs in India, have almost Rs
4,000 crore($900MM) loaned to over 5 million poor women in18 Indian states
(prior to the crisis, the combined outstanding loan portfolio had been as high as
Rs 6,750 crore($1.525BN)). Yet, despite the size of MFIs like SHARE and
Asmitha, only a fraction of the overwhelming need is being met.
Private sector MFIs have an essential role to play if the goal of financial
inclusion is to be realized, as neither the government nor charities have the
capital nor business model required to meet the insatiable demand for finance in
ruralIndia. As the public listing of SKS Microfinance underscored, private
sector institutions are able to attract increasingly large amounts of private
capital, in ordertoaccelerate the growth of the industry, which is essential to
expanding financialinclusion as far and as fast as practicable.

Road Ahead

Indian rural finance sector is at crossroads today. Following the financialsector

reforms with its emphasis on profitability as the key performance benchmark,
banks are increasingly shying away from rural lending as well as rationalizing
their branch network in rural areas. Burgess andPande (ibid) have brought out
this fact in their study by stating that while between 1977 and 1990 (pre reform
period) more bank branches were opened in financially less developedareas, the
pattern was reversed in post reform period. Thus while, access of creditto the
rural poor has reduced in post reform period, the policy recommendation isto
fill this gap through micro credit. The SHG-Bank linkage programme has
witnessed phenomenal growth and the current strategy is to focus on 13

underdeveloped states as also graduate the existing SHGs to the next stage of
micro enterprises.
The paper argues that if SHG-Bank linkage programme has to contribute to
poverty reduction, there is an imperative need for integrating impact assessment
as a necessary design feature of the programme. The significance of bringing
the focus back to people from institutions and adoption of localizedpeople
centric approach can hardly be overemphasized. In line with the tenets
ofcommercial microfinance, it is critical that scarce public resources are
usedjudiciously and with better targeting. Adequate emphasis on impact
assessment is an integral part of the triangle of factors necessary for judging
microfinanceintervention. Though, the paper is focused on pointing the missing
link of impact in thecurrent paradigm of rural finance focusing mainly on
institutional viability, other critical issues having a bearing on impact also merit
attention. The SHGBank linkage programme at present has no explicit social or
economic benchmarks for inclusion of members into groups to be credit linked
in line with the flexible approach of theprogramme. However, as seen above the
extension of credit in infertile local context has negligible chances of leading to
productive investment.
Similarly inclusion of core poor in the programme, who had little experience of
economic activities, also limits productive use of capital. Segmentation of credit
demand based on economic and social status is key to optimum utilization of
scarce resources.

SWOT ANALYSIS OF MICROFINANCE

By Satyajit Roy

 Strengths
Helped in reducing the poverty: The main aim of Micro Finance is to
provide the loan to the individuals who are below the poverty line and cannot
able to access from the commercial banks. As we know that Indian, more than
350 million people in India are below the poverty and for them the Micro
Finance is more than the life. By providing small loans to this people Micro
finance helps in reducing the poverty.
Huge networking available: For MFIs and for borrower, both the
hugenetwork is there. In India there are many more than 350 million who are
below the poverty line, so for MFIs there is a huge demand and network of
people. And for borrower there are many small and medium size MFIs
areavailable in even remote areas.

Weaknesses
Not properly regulated: In India the Rules and Regulation of Micro Finance
Institutions are not regulated properly. In the absent of the rules and regulation
there would be high case of credit risk and defaults. In the shed of the proper
rulesand regulation the Micro finance can function properly and efficiently.
High number of people access to informal sources: According to the World
Bank report 80% of the Indian poor cant access to formal source and therefore
they depend on the informal sources for their borrowing and that informal
charges 40 to 120% p.a.

 Huge demand and supply gap: There is a huge demand and supply gap
among the borrowers and issuers. In India around 350 million of the people are
poor and only few MFIs there to serving them. There is huge opportunity for the
MFIs to serve the poor people and increase their living standard. The
annualdemand of Micro loans is nearly 60,000 crore rupees and only 5456 crore
are disbursed to theborrower.
Huge Untapped Market: Indias total population is more than 1000 million
and out of 350 million is living below poverty line. So there is a huge
opportunity for the MFIs to meet the demand of that unserved customers and
Micro Finance should not leave any stones unturned to grab the untapped
market.

Threats
High Competition: This is a serious threat for the Micro Finance industry,
because as the more players will come in the market, their competition will rise,
and we know that the MFIs has the high transaction cost and after entrant of the
new players there transaction cost will rise further, players will come in the
market, their competition will rise.
Neophyte Industry: Basically Micro Finance is not a new concept in India,
but that was all by informal sources. But the formal source of finance through
Micro Finance is novice, and the rules are also not properly placed for it.
Over involvement of Govt.: This is the biggest threat that many MFIs are
facing. Because the excess of anything is injurious, so in the same way the
excess involvement of Govt. is a serious threat for the MFIs. Excess
involvement definition is like waive of loans, make new rules for their personal
benefit etc.

 Opportunities
Huge demand and supply gap: There is a huge demand and supply gap among
the Borrowers and issuers. In India around 350 million of the people are poor
and only few MFIs there to serving them there is huge opportunity for the MFIs
toserve the poor people and increase their living standard. The annual demand
of Micro loans is nearly Rs 60,000 crore and only 5456 crore are disbursed to
the borrower. (April 09)
Employment Opportunity: Micro Finance helps the poor people by not only
providing them with loan but also helps them in their business, educate them
andtheir children etc. So in this way,micro finance helps in increasing the
employment opportunity for them and for the society.
Huge Untapped Market: Indias total population is more than 1000 million
and 350 million people are living below poverty line. So there is a huge
opportunity for the MFIs to meet the demand of the customers and Micro
Finance Institutions should not leave any stones unturned to grab the untapped
market.

DELIVERY MODELS OF MICROFINANCE

By Tariq Aziz
THE GRAMEEN SOLIDARITY GROUP MODEL:

This model is based on group peer pressure whereby loans are made to
individuals in groups of four to seven (Berenbach and Guzman, 1994). Group
members collectively guarantee loan repayment, and access to subsequent loans
is dependent on successful repayment by all group members. Payments are
usually made weekly (Ledgerwood, 1999). According to Berenbach and
Guzman (1994), solidarity groups have proved effective in deterring defaults as
evidenced by loan repayment rates attained by organizations such as the
Grameen Bank, who use this type of microfinance model .
VILLAGE BANKING MODEL
Village banks are community-managed credit and savings associations
established by NGOs to provide access to financial services, build community
self-help groups, and help members accumulate savings (Holt, 1994). They have
been in existence since the mid-1980s. They usually have 25 to 50 members
who are low-income individuals seeking to improve their lives through selfemployment activities. These members run the bank, elect their own officers,
establish their own by-laws, distribute loans to individuals and collect payments
and services (Grameen Bank, 2000a). The loans are backed by moral collateral;
the promise that the group stands behind each loan.

NON GOVERNMENT ORGANISATION (NGO) MODEL:

This is the model practiced in the initial phase for social objective. This
emerged as the alternative when local money lenders were charging usurious
rate of interest without considering the problems of the individual borrowers
and chitfunds ran with the risk of collapsing if there were defaults. In this model
the utility of the borrower is of prime concern and small groups were formed.
The lendingwas usually based on economic activities rather for consumption.

The interest rateswere low which caused problem to self-sustainability of the

NGOs. This model was very similar to Self Help Group model (proposed by
Mahatma Gandhi).The model primarily focuses on the social causes rather than
economic sustainability. The equilibrium between effort and reward is violated.
The effort of poverty alleviation is one sided (from NGO) which leads
irresponsible borrowing, large area coverage problem and threat to the selfsustainability of the NGOs.
SELF HELP GROUP MODEL (SHG) MODEL:
This model is highly influenced by the success of Grameen Bank in
Bangladesh. This model is commonly practiced with PSU banks and SHG
linkage. PSU banks had Rs. 1000 crore exposure to SHG based loans, lent
another 60 crore to MFIs. The SHG concept involves forming groups of 15-20
women, who meets regularly, understand each others problems and bond for a
while. They are expected to save a small amount, keep the money in bank and
earn interest. A member could borrow if she falls ill and couldnt go for work.
She would return the money with 18-24 per cent interest to the group. The
recovery is almost certain due to the pressure and bonding with the group. Such
groups formation and bonding takes a minimum of six to nine months.

JOINT LIABILITY GROUP MODEL (JLG MODEL):

In this model, agents of MFIs persuade 4-5 women to form a group and each
guaranteed the others loans. Most of the members could not develop the
bonding like SHG. The MFIs charge 12-18 percent in JLG, compared with that
of 18-24 percent charged by SHG primarily run by PSU banks. MFI interest
rates are non-transparent and effective rates are over 27 percent, considering
loan processing fees, penalties and hidden charges.

This model primarily

focuses on the profitability of MFIs. The repayment rate is also low due to
weak bonding among the group members. The credit generation is more than
actual production. Though, most of the MFIs claim they have lent for income
generating activities, in reality, most lending has been for consumption
purposes. Thus indiscriminate lending and irresponsible borrowing is
encouraged, leading debt trap and Microfinance crisis.