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Are micro-finance institutions exploiting the poor?

By Dr Sudhirendar Sharma

The high interest rates and forced loan recovery practices of micro-finance institutions have been held responsible for the suicide of several farmers in Andhra Pradesh. It is evident that poverty makes good business sense to MFIs, writes Sudhirendar Sharma

Micro-credit has taken its first toll of 60 lives, with a spate of suicides rocking parts of Andhra Pradesh in April this year. According to some reports, the actual number could exceed 200 in Krishna, East Godavari, Guntur and Prakasam districts alone. However, amidst the deluge of farmer suicides in Vidarbha region, the suicides in AP went largely unnoticed in the mainstream media, but not before the government had clamped down on 50 branches of two major micro-finance institutions.

The erring Micro-Finance Institutions (MFIs) have been charged with exploiting the poor with `usurious interest rates' and intimidating the borrowers by `forced loan recovery' practices, the combined effect of which forced the debt-ridden poor to suicide. An anguished Chief Minister Y S Rajasekhara Reddy had lashed out: "MFIs were turning out to be worse than moneylenders by charging interest rates in excess of 20%." An inquiry has since been instituted.

Till recently, micro-credit had the unflagging patronage of the government and donors in Andhra Pradesh. Over 5.5 million women have been engaged in the micro-credit movement, with some Rs 5.65 billion rolling into it. As unbelievable amounts of cash flowed to the rural poor, the eradication of poverty seemed not too far away. In reality, however, such incredible cash mobilisation has meant little in terms of average savings per member, which stood at a meagre Rs 377.

Micro-credit has been designed to keep savings low, such that the credit cycle can move uninterrupted. The self-help groups are known to charge interest in excess of 24% to sustain group profitability. This has been possible through an SHG-bank linkage programme that provides bank loans to these groups at around 11% interest. Since the SHG-bank linkage has not kept pace with the rapid growth in the number of SHGs, MFIs have jumped in to fill the gap.

At a prime lending rate of around 11%, providing financial services to SHGs is otherwise unviable for most commercial banks. No wonder, despite its claims, micro-credit constitutes less than 15% of all commercial bank lending in the country, So by default, MFIs have gained a client base of over 200 million rural families. Enjoying political patronage on the one hand and poor enforcement of regulations on the other, MFIs have had the best of both in exploiting the poor.

But proponents of micro-credit hold that MFIs are indeed serving the poor, since the banks are either unwilling or unable to extend much-needed financial services to people at the bottom of the pyramid. MFIs further contend that just because the prime lending rate is currently around 11% why should a higher rate of interest be considered `exploitative'? The higher rate of interest is justified keeping in mind the scale of providing services to rural areas.

It is evident that when it comes to economics, MFIs keep their interests up-front. Poverty by all means makes good business sense to them. Otherwise how could these MFIs be charging interest in excess of 20%, knowing well that no business can generate profits at such rates of interest on the capital? Clearly, the strategy has been to keep the poor and the vulnerable in the perpetuity of debt-credit-debt cycles.

Since higher interest rates on micro-credit do not provide scope for savings as also for investing in insurance, the dominant risk-covering factors for the poor, micro-credit traps the poor into a debt-cycle. NSS (National Sample Survey) data reveals that rural households account for 63% of the country's overall aggregate outstanding debt of Rs 177,000 crore. Thanks to the micro-credit revolution, the incidence of indebtedness amongst rural households is 27%.

The crucial question remains: did the government not know the modus operandi of MFIs? Isn't it an open secret that micro-credit loans earn interest in excess of 20%? Hasn't the incidence of borrower harassment been on the rise in both rural as well as urban areas? Having been in the business of creating self-help groups and promoting micro-finance institutions, the government cannot absolve itself from responsibility for this mess.

The crisis in Andhra Pradesh is only the tip of the iceberg. As the micro-credit movement spreads across the country, the danger of micro-credit-related suicides cannot be ruled out elsewhere. The time bomb has only just begun to tick. Unless the government gets its act together in assessing the severity of the situation and applying stringent measures, poor rural households will continue to remain at the mercy of these `new' moneylenders.

It must surprise many that micro-finance was presented as an alternative to liberate the rural poor from the clutches of traditional moneylenders, not knowing that one day these micro-finance institutions would put their predecessors to shame in exploiting the poor. It is time to re-examine micro-finance from the perspective of protecting poor rural households.

InfoChange News & Features, August 2006