News: Indian banks in a hurry to offer loans to the poor

(TT 19/09/2006) New Delhi - For 10 years, Ramesh Prasad, a 29-year-old mechanic in a small town of Uttar Pradesh, worked in a bike repair shop, struggling to save enough to start his own business. About three months ago, Prasad got a one-year loan of Rs 6,000 from ICICI Bank that helped him open his own shop, and he is now working seven days a week to keep up with the demand.

For ICICI Bank, forking out such a small amount as loan is common. Nowadays, books of more and more banks also reflect such small loan amounts.

Microfinance or lending money to the poor is evolving fast with big commercial lenders such as the State Bank of India, ICICI Bank, HDFC Bank and UTI Bank focusing on this sector.

Touching base

Since 2003, ICICI Bank has doubled the size of its rural banking activities to about Rs 157 crore and has outstanding microloans of some Rs 2,475 crore.

Even multinational banks with operations in India like HSBC, ABN Amro, Standard Chartered and Citigroup have entered this segment.

ABN Amro Bank began microfinance operations in September 2003, and has 24 Indian partners and Rs 10.3 crore in outstanding loans in this sector.

According to Sanjay Nayar, CEO of Citigroup India and area head of Bangladesh, Nepal and Sri Lanka, “The government and big banks are increasingly recognising microfinance as a solution that can dramatically improve the quality of life for the underprivileged and the underserved.”

On profit path

But analysts feel that more than philanthropy, big banks are attracted by the high profits in this business of small credit.

Although banks have a lending cap in the micro sector — they cannot charge more than the prime lending rate of 9.5 per cent for rural loans up to Rs 2 lakh — it is sheer volumes which make up for low interest rates charged.

“With about 350 million Indians living in poverty, and more than 100 million households with no access to credit, there seems to be a $30-billion market for this kind of lending,” said Nagesh Kumar, director-general of Research and Information System for developing countries.

It is a huge market, and bigger banks are finding that lending small amounts to creditworthy rural borrowers is lucrative as well as socially progressive.

Rate watch

Banks have also found a way around the cap by lending to micro-finance institutions (MFIs) and directly to self-help groups (SHGs) formed through village communities.

But, analysts said, what is dogging the business is the kind of margins that intermediaries (micro finance institutes) charge and get away with. Banks charge anything between 8-11 per cent to MFIs for loans, who in turn, could charge anywhere from 18 per cent to 24 per cent from its borrowers.

But even at these rates, borrowers lap up loans because it offers “hope to many poor people of improving their own situations through their own efforts”.

That marks it out from other anti-poverty policies, such as international aid and debt forgiveness, which are essentially top-down rather than bottom-up and have a decidedly mixed record.

Some analysts, however, term the high interest rate (18-30 per cent) imposed by the MFIs as exploitative.

They argue that raising interest rates too high could undermine the social and economic impact on poor clients.

“What they fail to understand is that most MFIs have lower business volumes. Therefore, their transaction costs are far higher than that of the formal banking channels,” said Udaia Kumar, who runs Share, a microfinance institute headquartered in Andhra Pradesh.

“Our loans cost about 21.5 per cent a year — not excessive, since the cost of funds is 11 per cent a year, the administration of a portfolio of more than 800,000 small loans in Andhra Pradesh is expensive, and not all loans are repaid,” he added.

Recent news of a dozen women committing suicide in Andhra Pradesh because they were unable to repay the high interest charged for their micro loans has further aggravated the exploitative image of MFIs. In the wake of this current controversy, Share has decided to cut its rates by about 4 percentage points.

Spandana, one of the largest microlenders in India, has also decided to issue a few group loans at a much lower rate of 10 per cent a year compared with 15 per cent that they were charging earlier.

Vikram Akula, founder and chief executive officer of SKS Microfinance, said: “If the size of operations was scaled up and operating costs reduced, MFIs can achieve their objective of bringing down lending rates to as low as 10 per cent in three years.”

Already, MFIs have huge sums under their charge. Take Spandana, for example, which has seen its disbursements soar from Rs 3 crore in 1998 to Rs 300 crore in 2005. It has 8,00,000 customers.

Or take Cashpor, which saw its loan portfolio grow from Rs 26.3 lakh in March 1999 to Rs 50.8 crore in March 2006, even as its client base swelled from 2,500 to 1,24,000.

Priority area focus

Why is the commercial banking system so interested in this bottom-of-the-pyramid group which it had till now regarded as not worthy of attention?

“Simply because intense competition has taken credit lending in the urban market to a saturation point,” said B.D. Narang, former chairman of Oriental Bank of Commerce. What has added to the attraction is the government’s emphasis on microfinance as a priority area, he said.

ICICI Bank has signed up micro-finance institutions as intermediaries for micro lending. “Their key strength is not their ability to manage capital and assume risk, but their intricate knowledge of clients and the geography in which to operate,” said an ICICI Bank spokesperson.

The bank has formed more than 100 tie-ups with small-town lending specialists and has about 3.2 million low-income customers.

The bank’s rural asset base is worth around Rs 18,000 crore and is expected to grow further.

HDFC is also planning to walk on the same lines. It has created a microfinance unit with more than 100 employees to complete its aim of doubling its lending levels in rural India to Rs 100 crore.