The minister does not feel that MFIs are any sort of panacea; findings of NCAER study don’t provide robust defense of MFIs—and the entity’s director has voiced his views completely contradictory to his own organisation’s study

Union Minister for Rural Development, Jairam Ramesh, released a joint study by NCAER (National Council for Applied Economic Research) and CMCR (Centre for Macro Consumer Research) on ‘Assessing the Effectiveness of Small Borrowing in India’ at New Delhi on 10th October. According to Mr Ramesh, MFIs (microfinance institutions) “are not answers to poverty alleviation and certainly not the panacea they like to see themselves as”ⁱ. 

While Moneylife will be doing a detailed critique of the NCAER study (sponsored by the Microfinance Institutions Network, MFINⁱⁱ ), its methodology and findings separately, certain aspects of the study, based on material currently available in the public domain, deserve to highlighted:

First, it is very interesting to note that the minister’s interpretation (of the NCAER study findings) runs counter to the views of Dr Rajesh Shukla (Director of NCAER-CMCR), as expressed in two prelaunch articlesⁱⁱⁱ . In these articles, Dr Shukla argues, “An alternative source of finance like microfinance has come as a breakthrough… MFIs attempt to alleviate the deplorable situation of the poor and require freedom to operate”^iv .  

On the contrary, after releasing the report, Mr Ramesh said, “the findings of the study did not provide a robust enough defense of MFIs vis-à-vis the self-help groups (SHGs).” The real comparison of MFIs should be with moneylenders (the informal sector) and not SHGs, he noted. He further added, “There was hype governing some of the MFIs. They set out to claim that they are solving India’s poverty problems. If they were modest in their ambitions, the vehemence with which their critics struck back would have been even much lesser… vehemence of backlash was directly proportional to the exaggerated nature of the claims of many of these institutions.” He made this statement at the release function while referring to the recent fracas in the functioning of MFIs in Andhra Pradesh.^v

Second, the NCAER survey has also found that average MFI interest rates are much lower (25%) than those charged by informal sources (44%). The interest rates for commercial banks as reported by the respondents are much lower. However, there were typically high “unofficial” charges associated with these loans: wage-losses, documentation charges, stamp duties, travel costs and bribes (these were the lowest in the informal sector).’^vi

There are three important issues here with regard to the interest rate finding from the NCAER study:

a)    After the Andhra Pradesh (AP) ordinance and subsequent enactment of the Act, many MFIs were forced to reduce their interest rates. Therefore, this finding from the NCAER study is not significant^vii  by any means. That interest rates were reduced by MFIs after the ordinance is a well-known fact as the referenced news items suggest;

b)    The methodology adopted by NCAER to compute effective interest rates needs to be better understood, especially for (informal and other) loans, where the principal remains unpaid. Also, the methodology used for computing transactional cost requires use of precise tools like process mapping and activity-based costing^viii  with supply-side institutions (different models and institutions)—it is not straight away clear, from the NCAER study methodology, whether and how these techniques were employed; and

c)    Likewise, the strategies used by the study to isolate differences, if any, between stated (intended) and actual ground level interest rates also needs to be better ascertained especially given that most MFIs use the decentralised model with centre leaders^ix  and others functioning as agents^x . This aspect of difference between stated and actual interest rates also has implications because, post the AP ordinance, while many MFIs claimed to be charging reduced interest rates in AP, they also unequivocally stated that they were charging their original (higher) rates in the other states where there was no crisis. That being the case, it would be interesting to look back into the NCAER data to double-check and verify these claims, provided NCAER can make the data public as it sometimes does! Thus, given the technical nature of these issues and also given that more information would be required from NCAER, these are perhaps best explored in detail in separate articles.

That said, given that the MFIs reduced interest rates after the AP Ordinance and Act, it also seems relevant to provide a listing of the effective interest rates (EIRs) charged by MFIs prior to the October 2010 crisis. Given below are EIRs from a study conducted by APMAS (Andhra Pradesh Mahila Abhivruddhi Society) in April 2010^xi:

Third, an interesting finding from the NCAER study relating to interest rates is the following statement:

“As many as 87% of the borrowers of microfinance institutions (MFIs) are unaware of interest rates charged to them by the lender and there is need to introduce greater transparency, said a study. MFI borrowers are the least aware; in fact, a vast majority of them (87%) did not know the interest rates payable,” said a report conducted by NCAER. In contrast, awareness of interest rates of other sources is quite well known. A strong implication of this finding is the need to introduce greater transparency regarding interest charges of different loan sources.’^xii

That being the case, how did NCAER collect data on interest rates in the first place if as many as 87% of the MFI clients were not aware of the interest they were paying? This also raises the question on how NCAER collected data on other (unofficial) charges from MFI clients. Further, it would also be interesting to understand what data triangulation methods were used to authenticate the (interest) data so obtained. Again, given the technicalities involved and further information required from NCAER, this will be explored in a later article.

Fourth, in one of the prelaunch articles, Dr Shukla states that “comparing average outstanding loan amounts, we find them to be higher in the case of formal and informal loans. Considering the loan size per unit household income as a measure of the household’s indebtedness, it was found that the indebtedness coefficients were much lower for the MFIs, compared to the informal loans. Indebtedness is much more closely associated with informal loans than the MFI loans. The survey found that only about 11% of the borrowers had multiple loans of which 21 % involved a loan from MFIs.”^xiii 

I believe that sampling has a lot to do with the above findings and therefore let us first understand where the NCAER study was conducted. As Dr Shukla notes in his prelaunch article, “In December 2010, NCAER Centre for Macro Consumer Research (NCAER-CMCR) undertook a cluster-based household survey to assess the effectiveness of small borrowing. The survey was undertaken in five clusters, namely Hyderabad, Chennai, Kolkata, Jaipur and Lucknow. From each of these locations, a sample of 2,000 households (70% rural and 30% urban) was surveyed.”^xiv 

Two issues are relevant here:

a)    The study was conducted in December 2010 which is just after the AP ordinance had been enacted and the Malegam Committee was on its job. By then, many MFIs and banks had reduced their lending to low-income people (all over India) and therefore, informal loans were getting to be the primary source of funds for low-income people. Please note that banks were not keen to lend to SHGs because they felt that SHG members may use that money to repay (delinquent) MFI loans. Therefore, it is not unexpected that indebtedness coefficients were higher for informal rather than MFI loans. Again, more information is required from the NCAER and therefore, this issue will be taken up in detail later but nonetheless, given its importance, I felt it necessary to flag it upfront; and

b)    A second issue that is important is the fact that the penetration of microfinance in India was/is still low in many places. In fact, the 2010 microfinance crisis and its attendant problems occurred primarily in places where MFI growth was burgeoning (very rapid), competition was intense and near saturation had been reached in terms of clients! Also, in many of these places, clients and joint liability groups (JLGs) were shared across MFIs and the same group was serviced by different MFIs on alternative days of the week^xv . Given this context, let us now look at published data from Mix Market (www.mixmarket.org) and by end-March 2010, about 8-9 months prior to the NCAER survey, the all-India distribution of MFIs in terms of active clients is given below. A cursory look at the data will reveal that AP was the epicentre of Indian microfinance and it experienced unprecedented growth that eventually snowballed into a subprime-like crisis^xvi . Other states that had significant presence of microfinance were Tamil Nadu, Karnataka and West Bengal as the table suggests:

Now, given the above distribution of microfinance clients in India as at 2010, if at all the NCAER study wanted to have a fair and objective look at multiple, ghost- and over-lending, it should have proportionately sampled clients from the areas (national and state level) where microfinance had grown very rapidly and was also reaching a state of near saturation. I am not sure that Uttar Pradesh and Rajasthan, where access to MFIs loans was nascent, are good places to look at to confirm the presence of multiple lending and related aspects. Also, the study seems to have focused on clusters in and around urban areas and therefore, even if 70% of the respondents are classified as rural, in reality, they could be peri-urban (immediately adjoining an urban area) clients. This aspect needs to be recognised clearly and that would make this study have a strong urban bias, which, in turn, has implications for the findings generated!

That said, according to Dr Shukla, the NCAER study looked at 2,000 people in the Hyderabad cluster in Andhra Pradesh. But what about the other key districts in AP which experienced far greater growth and witnessed more intense competition among MFIs? Within Andhra Pradesh, the crisis was perhaps felt more strongly in several districts like Krishna, Guntur, East/West Godavari, Nellore, Kurnool and Khamman.

The same appears to have happened in the Chennai cluster as well and areas of faster growth and intense competition from Tamil Nadu were perhaps not included in the study sample.  For example, in Tamil Nadu, the crisis first spread to districts bordering Andhra Pradesh. This is because, post the AP ordinance, the AP-headquartered MFIs grew much faster in the bordering areas of Tamil Nadu—some of these areas, as admitted by MFI themselves in their own email conversations, include clusters in districts of Vellore, Karur, Namakkal, etc. Again, the NCAER sample did not cover clusters in these districts of Tamil Nadu which experienced significant trouble and turmoil—in fact, MFIs are themselves agreeing to the presence of agents, wrong practices and the like. Please see the comment by PN Vasudevan to the Moneylife article on centre leaders^xix  functioning as agents and also several emails in circulation among MFIs^xx .

If these were issues with the sampled states, what is especially noteworthy is the fact that the entire state of Karnataka has been omitted where the Kolar microfinance crisis of 2009 occurred. The Kolar microfinance crisis of 2009 led to the formation of MFIN and it was undoubtedly the final dress rehearsal before the 2010 AP crisis. Here, it must also be mentioned that the study did not look at any clients from Orissa, another state bordering Andhra Pradesh and also having a significant presence of MFIs. 

Therefore, the fact that the NCAER survey did not include clusters from these highly microfinance saturated districts weaken its findings considerably especially with regard to aspects of multiple- and over-lending as also coercive repayment. I am confident that had clusters from such districts been included, the findings would be very different with regard to multiple and ghost lending^xxi  (self-admitted by many MFIs as the cited Moneylife articles clearly show). It is indeed a coincidence that the IFMR CMF^xxii  study cited in the NCAER study also omitted the same key districts in its access to finance study in Andhra Pradesh. A case of déjà vu?

Therefore, it appears that there is (significant) bias in sampling with the NCAER study and hence, it is not possible to easily accept Dr Shukla’s assertion (in the prelaunch article) that the concerned “questions were fairly addressed in an investigation conducted by the NCAER's Centre for Macro Consumer Research (NCAER-CMCR) in 2010”^xxiii  .

While many more issues can be raised, let me keep them for later articles but two final points are in order.

Fifth, in the prelaunch articles, Dr Shukla argues: “Certain MFIs probably have charged exorbitant rates and have resorted to forcible loan recovery’^xxiv … after six decades of banking in Independent India, the question that needs to be asked is not whether MFIs are doing a good enough job, but whether there’s a better alternative to them.’^xxv  

Given all that has happened in the last one year and more, I am completely at a loss to understand the last statement made by Dr Shukla. Was this statement made based on findings from the study? Or was it an individual opinion stated in the prelaunch articles?  Irrespective of the rationale behind the statement,

• What about the governance failures at MFIs (huge interest-free loan to promoter MD of an MFI to buy shares in the same company at par value, the apparent misstatement of the statement of financial condition of the concerned MFI due to this loan to the promoter^xxvi , sudden sacking of CEO and several other violations) raised by several people including Professor Sriram for which there is solid evidence^xxvii  in the public domain?
• What about the compensation^xxviii  issues raised by several stakeholders? (please recall that MFIN even ordered an enquiry based on the articles in the Economic Times and we are still awaiting the results of the said enquiry).
• What about the various frauds^xxix  and undesirable practices (like use of agents^xxx ) that have occurred in the largest NBFC (non-banking financial company) MFIs in India and also been self-admitted to (in emails, on notes to their own balance-sheets and code of conduct assessments commissioned by SIDBI, or Small Industries Bank of India, which are there on the SFMC website)?
• What about the expansion process in NBFC MFIs who grew very rapidly, often sharing clients/JLGs and using agents? (There is evidence available in the public domain and many studies have confirmed the presence of agents and related practices).
• What about those MFIs that openly charged higher than 30% EIRs as per APMAS and other studies?

And let us not forget that many of these NBFC MFIs are members of MFIN and they occupy very important governance positions in MFIN as well as other international microfinance bodies. Therefore, I am not sure that, even if there are no alternatives, we can tolerate and justify such bad governance and frauds in the name of promoting inclusive financial access. The TINA (There Is No Alternative) factor has played havoc in politics and let us not let the same happen in fields like microfinance, where the lives of millions of poor people are at stake. And I sincerely hope that NCAER and Dr Shukla recognise and accept the fact that there has to be zero tolerance on corporate frauds, misgovernance and the like. Let us make no mistake about that.

Before I sign off, let me rewind back some 11 years and share with you a quote from an interesting article by Sucheta Dalal^xxxi  and the parallels are there for you to see and judge…

“Last week, the Securities and Exchange Board of India (SEBI) released the findings of the first comprehensive Survey of Indian Investors which tracks their demographic profile, investment preferences, risk perception and awareness level about the capital market. The survey, conducted jointly with the National Council for Applied Economic Research (NCAER) is based on a huge sample of 300,000 geographically dispersed households of which 25,000 were chosen for a detailed study… the survey makes a couple of specific references to the disenchantment of investors with equity/debentures, but fails to probe the reason for their dissatisfaction. Indeed, some of its findings seem perplexingly contradictory to anecdotal evidence and investors’ letters to the press.

“The primary market, which is identified as the preferred equity investment avenue of investors, showed a sharp expansion between 1991-95. This is the exact period when the primary market went through a mindless boom. Nearly 40 IPOs used to hit the market every week and lured investors through high voltage television advertising. New companies as well as existing ones with fanciful expansion plans picked up funds effortlessly. The removal of control over capital issues, coupled with rampant price rigging on the secondary market allowed them to do so at very high premia. The bubble burst coincided with the infamous MS Shoes case, shattering Pawan Sachdeva’s dream, as well as that of millions of investors. Hundreds of companies which raised money during those days simply vanished with investors’ funds and the shares of existing companies issued at high premia are languishing at a substantial discount to their issue price.

“All this drama seems encapsulated by the survey in the bland finding that ‘the primary market expanded rapidly between 1991-95 and contracted thereafter’. In fact, it says, 47% of investor households entered the market in the 1991-96 period, as compared to 17% in the period after that. Would this not suggest severe disappointment with the equity market? There are no details. Instead, the study seems to suggest that investors have no reason to be disenchanted with the primary market. On the contrary, it reveals a high level of satisfaction with equity investment.

“The study goes on to say that ‘nearly three-quarter of the successful (i.e., those who were allotted shares) equity investor households in the primary market investments have found their investments to be gainful’. If this is indeed true, the study should have explained the complete collapse of the IPO market for over three years and the phenomenon of vanishing companies which have made away with several thousand crores of investors’ money… Given the exhaustiveness of the exercise, it is indeed a pity that the largest-ever investor survey leaves so many questions unanswered and unexplained.”

I sincerely hope that the present NCAER study, sponsored by MFIN, is not a command performance… perhaps like the SEBI-NCAER investor survey at the start of this millennium.

  ⁱCited from "MFIs not going to solve poverty problems: Jairam Ramesh", (http://www.thehindubusinessline.com/industry-and-economy/banking/article2526305.ece?ref=wl_industry-and-economy)
 ⁱⁱ www.mfinindia.org
  ⁱⁱⁱCited from "Don't blame Micro-finance for the situation of poors; requires freedom to operate", by Rajesh Shukla, (http://economictimes.indiatimes.com/opinion/guest-writer/dont-blame-micro-finance-for-the-situation-of-poors-requires-freedom-to-operate/articleshow/10296010.cms) and "Don't malign the MFIs" by Rajesh Shukla, (http://www.financialexpress.com/news/dont-malign-microfinance-institutions/749937/)
  ^ivCited from "Don't blame Micro-finance for the situation of poors; requires freedom to operate", by Rajesh Shukla, (http://economictimes.indiatimes.com/opinion/guest-writer/dont-blame-micro-finance-for-the-situation-of-poors-requires-freedom-to-operate/articleshow/10296010.cms)
  ^vCited from "MFIs not going to solve poverty problems: Jairam Ramesh", (http://www.thehindubusinessline.com/industry-and-economy/banking/article2526305.ece?ref=wl_industry-and-economy)
  ^viCited from "Don't blame Micro-finance for the situation of poors; requires freedom to operate", by Rajesh Shukla, (http://economictimes.indiatimes.com/opinion/guest-writer/dont-blame-micro-finance-for-the-situation-of-poors-requires-freedom-to-operate/articleshow/10296010.cms)
  ^viia) http://www.businessstandard.com/sme/storypage.php?autono=414269; b) http://www.thehindu.com/news/states/andhra-pradesh/article861421.ece; c) http://www.financialexpress.com/news/banks-force-mfi-clients-to-reduce-interest-rates/698497/0; and d) http://www.indianexpress.com/news/postsuicides-sks-microfinance-willing-to-c/698154/
  ^viiiAny study of transactional cost must highlight processes and activities (of supply side institutions) and attach cost components to the same. Otherwise, the findings can become spurious.
 ^ix http://moneylife.in/article/proposed-microfinance-bill-has-to-look-at-the-re-leader-as-a-microfinance-agent/20019.html
  ^xa) http://moneylife.in/article/how-and-why-did-microfinance-agents-become-a-part-of-the-indian-microfinance-business/19301.html; and b) http://moneylife.in/article/implementation-safeguards-against-notorious-agents-are-an-imperative-for-the-proposed-microfinance-bill/19017.html
  ^xiThe writer verified the effective interest calculations in the APMAS sheet (received by email from APMAS) and the figures match in all except 4 cases, where the APMAS calculation is lower by about 1.5% than the author-calculated EIRs. However, the writer uses only the APMAS calculations as he is mainly reporting on the APMAS study and also the differences exist for just 4 loans and they are, at best, called as marginal. It should be noted that the APMAS EIR and author calculated EIR match for 66 loans. I have refrained from posting the individual loan data, for the moment, to protect the privacy of the clients as well as the concerned MFIs. I reserve my right to do so in the future, in case, it can help the clients and/or the micro-finance industry
  ^xiiCited from http://www.firstpost.com/fwire/politics-fwire/87-pc-of-small-borrowers-unaware-of-interest-rate-ncaer-104219.html
  ^xiiiCited from "Don't blame Micro-finance for the situation of poor; requires freedom to operate", by Rajesh Shukla, (http://economictimes.indiatimes.com/opinion/guest-writer/dont-blame-micro-finance-for-the-situation-of-poors-requires-freedom-to-operate/articleshow/10296010.cms)
  _^xivCited from "Don't malign the MFIs" by Rajesh Shukla, (http://www.financialexpress.com/news/dont-malign-microfinance-institutions/749937/)
 ^xv http://moneylife.in/article/microfinance-securitisation-impact-of-client-acquisition-strategies-and-other-factors/20273.html
^xvi  http://articles.economictimes.indiatimes.com/2010-11-23/news/27602978_1_priority-sector-lending-sks-microfinance-microfinance-industry
 ^xvii Source: www.mixmarket.org
  ^xviiiConsistent and reliable data was available for 87 MFIs only.
 ^xix http://moneylife.in/article/proposed-microfinance-bill-has-to-look-at-the-re-leader-as-a-microfinance-agent/20019.html
  ^xxhttp://www.moneylife.in/article/implementation-safeguards-against-notorious-agents-are-an-imperative-for-the-proposed-microfinance-bill/19017.html
  ^xxihttp://moneylife.in/article/ten-practical-steps-to-eliminate-multiple-over-and-ghost-lending-at-mfis/20156.html
  ^xxiiCommenting on the IFMR CMF survey cited in the NCAER study, Mr N Srinivasan, Author, microfinance State of the Sector Report (2008, 2009 and 2010), noted on the CGAP blog that "It is a limited survey coming from a sample of about 2000. It was carried out a few months back when there was no problem with the sector in AP. It cannot provide answers for the current problems. With the kind of inter and intra-district variations within AP, its results are not ideal for extrapolation over the entire state."
  ^xxiiiCited from "Don't blame Microfinance for the situation of poors; requires freedom to operate", by Rajesh Shukla, (http://economictimes.indiatimes.com/opinion/guest-writer/dont-blame-micro-finance-for-the-situation-of-poors-requires-freedom-to-operate/articleshow/10296010.cms)
 ^xxivCited from "Don't blame Micro-finance for the situation of poors; requires freedom to operate", by Rajesh Shukla, (http://economictimes.indiatimes.com/opinion/guest-writer/dont-blame-micro-finance-for-the-situation-of-poors-requires-freedom-to-operate/articleshow/10296010.cms)
  ^xxvCited from "Don't malign the MFIs" by Rajesh Shukla, (http://www.financialexpress.com/news/dont-malign-microfinance-institutions/749937/)
 ^xxvi http://moneylife.in/article/governance-of-mfis-time-to-implement-connected-lending-provisions-of-rbi-circular-of-2007/18473.html
  ^xxviiEPW Article by Prof Sriram, June 12th 2010
  ^xviiia) http://moneylife.in/article/four-ways-to-improve-the-regulation-of-compensation-at-mfis/18585.html; and b) http://www.moneylife.in/article/regulating-the-compensation-awarded-to-bosses-of-mfis/18573.html
^xxix http://www.moneylife.in/article/increasing-frauds-internal-lapses-at-mfis-need-to-strengthen-supervisory-arrangements-to-protect-the-poor/18309.html
 ^xxxa) http://moneylife.in/article/how-and-why-did-microfinance-agents-become-a-part-of-the-indian-microfinance-business/19301.html; b) http://moneylife.in/article/implementation-safeguards-against-notorious-agents-are-an-imperative-for-the-proposed-microfinance-bill/19017.html; and c) http://moneylife.in/article/proposed-microfinance-bill-has-to-look-at-the-re-leader-as-a-microfinance-agent/20019.html
 ^xxxi http://www.indianexpress.com/ie/daily/20010313/sucheta40.htm