Microfinance

Over the last few decades, Indian economy has been at the forefront of world trade & industry. The opening up of the economy to encourage foreign investors, financial services providers & global corporations has transformed modern day India into a bustling world power & brought in state-of-the-art technology & wealth across different sectors.
This has however not been transferred to a sizeable section of the population, which continues to remain excluded from the most basic opportunities and services provided by the traditional financial system.
Thus, the idea behind Microfinance is to provide financial services to the low-income proletariat who traditionally lack access to banking and other monetary services.
During the last two decades, substantial work has been done in developing and experimenting with different concepts and approaches to reach financial services to the poor, by the Government, Non-Governmental Organisations (NGOs) and banking institutions in various parts of the country.

Microfinance in India

Microfinance based credit delivery mechanism ensures viable financial services to address issues like actualising equitable gains from development activities on a sustained basis, and plays a vital role in fighting poverty.
National Bank of Agriculture and Rural Development (NABARD) has taken the lead in promoting microfinance in India. Its Self Help Group (SHG) model has created opportunities for commercial banks to lend to the poor. It has been encouraging voluntary agencies, bankers, socially spirited individuals, other formal and informal entities and also government functionaries to promote and nurture SHGs & Microfinance Institutions (MFIs)).
Due to the Government's active promotion & special schemes, Commercial banks have actively started lending capital to SHGs & MFIs, which then further lend to their members overcoming the information asymmetries that the bank would normally have faced. Thus engaging a dormant source of financing for the needy, as in lending to the poor, banks face high risks and transaction costs, while the lack of borrower information and of collateral make it unattractive for the formal financial sector to lend to the very poor.

Dominant Models of Microfinance in India

SHG-Bank Linkage Model:
This model involves Self Help Groups (SHGs) which are financed directly by the Commercial Banks (Public Sector and Private Sector), Regional Rural Banks (RRBs) or Co-operative Banks.
Microfinance programmes focus on organisation at the grassroots level through a process of social mobilisation that enables the poor to build Self Help Groups (SHGs) amongst themselves, consisting of 10-20 persons. They participate fully and directly and take decisions independently in such organisations.
These groups are formed, developed and strengthened to evolve into self-managed people's organisations which provide internal loans to its members from the group corpus. The group corpus is supplemented with Revolving Fund sanctioned as cash credit limit by the banks.

MFI-Bank Linkage Model:

This model covers financing of Microfinance Institutions (MFIs) by banking agencies for on-lending to SHGs and other small borrowers covered under microfinance sector.
MFIs combine flexibility, sensitivity and responsiveness of the informal credit system with technical & administrative capabilities and financial resources of the formal financial sector which rely heavily on collective strength and closeness of social groups for effective social mobilisation to enable financial empowerment.
MFIs have adapted themselves to circle around the shortcomings of traditional financial organisations, by forming a partnership between socially focussed NGOs, which invest in human and social capital at the grass roots, and economically sensitive banking institutions, experienced in mobilising funds for graduating and enabling rural communities.
MFIs enable commercial banks to overcome the formal requirements of paper-work to support transaction costs, information asymmetries and risk, making lending to the poor a commercially attractive proposition. The role of the MFIs therefore is to act as the guarantor to the bank, to support the credit worthiness of the poor.

		Support in the Formal Sector
		National Bank for Agriculture and Rural Development (NABARD) NABARD is a development bank which facilitates credit flow for promotion and development of agriculture, small-scale industries, cottage and village industries, handicrafts and other rural crafts. Its Financial Inclusion Department (FID) is the nodal agency which oversees the Financial Inclusion Fund (FIF) and Financial Inclusion Technology Fund (FITF) which promote microfinance initiatives. Rashtriya Mahila Kosh The National Credit Fund for Women or the Rashtriya Mahila Kosh (RMK) has a large number of grant and subsidy based poverty alleviation programmes comprising micro-credit & micro-savings schemes with a focus on poor women across the country. RMK takes active initiatives in channelising funds, market development social advocacy. Small Industries Development Bank of India (SIDBI) SIDBI's Foundation for Micro Credit is the apex wholesaler for micro finance in India. It provides a range of financial and non-financial services such as loan funds, grant support, equity and institution building support to the retailing Micro Finance Institutions (MFIs) including two-tier MFIs so as to facilitate their development into financially sustainable entities, besides developing a network of service providers for the sector. Tamil Nadu Womens' Development Corporation The Tamil Nadu Corporation for Development of Women, in partnership with Non Governmental Organisations (NGOs) and Community based organisations, supports 'Mahalir Thittam' or Self Help Groups (SHGs) which inculcate sound habits of thrift, savings and banking amongst the volunteer members of the scheme.

Challenges Faced

Microfinance was first introduced in India in the 1970s. Forty years on, the phenomenal growth rate of the microfinance sector in the country has brought in funds from socially motivated donors and investors, both foreign and domestic.
But cost of capital has been considerable, prompting lenders to charge high interest rates as the average number of loans with borrowers of very small capital has increased across the country. Large numbers of very small loans demand high rates, and artificially lowering rates can de-sensitize MFIs from expanding their reach to the very poor.
The high growth of the industry has meant MFIs have, at times, ignored due diligence and have not taken measures to limit multiple lending. The rapid growth in the for-profit MFI industry, which is still at a nascent stage, has raised several questions on both corporate governance issues as well as the viability of the business model.
The fact that the client base of MFIs is the most vulnerable sections of society makes them a target of political activism and regulatory intervention as well, especially because the high profit growth of these firms is often seen to be at the expense of the poor.
Although many of the Indian Non-profit organizations (NGOs) which have extended themselves and set up their own in-house microfinance units, find themselves flailing, financially. Some of those can be attributed to lack of expertise in the sector, but the primary reason is suspected to be NGOs' alignment towards public service commitment which makes it difficult for them to transition into profit based microfinance sector. The ability to re-gain borrowed capital is necessary for sustainability of the organisations.
The Government has initiated a number of Innovative Pilot Projects  to address these new challenges and improve the outreach and sustainability of the MFIs. It has also been promoting the need for self-regulation by MFIs & NGOs, as over-regulation at a time when the entire sector is at a budding stage of growth, could throttle the growth potentials of the SHGs.

		Impact & Future of Microfinance in India
		Microfinance has been a major success & is growing fast across the country. It has proved to be a powerful tool in initiating a cyclical process of growth and development. The general recovery rates for all services have been very high for all MFIs. Although interest rates are higher than the formal sector due to the perceived risk involved, MFIs still undercut the local moneylenders by a large margin. Although microfinance has helped in providing social and economic empowerment, it cannot eradicate poverty by itself. Good governance, security, health, education and financial inclusion all work hand-in-hand at poverty alleviation. Availability of credit may be a trigger for growth but the credit amount, by design, is too low to eradicate poverty. The Government thus has adopted a multi-pronged strategy to provide credit to the economically backward, with microfinance positioned strategically as a livelihood generator. With the steady growth in reach of microfinance, the SHGs and their federations provide the social space and the political power that the poor need to overcome these hurdles. The scope for expansion in the sector remains the major draw for socially inclined profit-motive organisations & non-profits, both.