Evolution of Microfinance in the Indian Economy

The expression microfinancing has its roots in the 1970s when organizations, such as Grameen Bank of Bangladesh with the microfinance pioneer Mohammad Yunus, were starting and shaping the modern industry of microfinancing. In India, the concept of microfinance first came into existence in 1974 when Mrs. Ela Bhatt started the Self-Employed Women’s Association (‘SEWA’) of the state of Gujarat. Microfinance institutions in India have risen significantly in India over the last two decades, and they now serve roughly 102 million impoverished people’s accounts (including banks and small financing banks).

In contrast to formal banking, microfinance is a shorter-duration loan and is also small in size. There is no need for collateral security and also those of lengthy procedures. The major difference between these two is that the banking system is something that is a fully commercial organization whereas the major objectives of microfinance are indeed social enhancement in nature. Loans under this scheme are indeed explicitly offered to those people who are living under the poverty line.  

The Task Force constituted by NABARD in 1998 to arrive at a conceptual policy framework encompassing issues in policy, regulation, financing, and capacity building, for sustainable growth of Micro Finance in the country, has suggested a working definition of microfinance as “provision of thrift, credit and other financial services and products of very small amounts to the poor in rural, semi-urban or urban areas for enabling them to raise their income levels and improve living standards”.

When microfinance activities gained prominence in the 1990s, RBI recognised it as a new paradigm with immense potential and has been very supportive of its growth. When the need for regulating the MFIs was felt in the early 2000s, a view was taken that MFIs are significantly different from other financial institutions – both in terms of institutional structure and product portfolio and needed to be regulated differently. Since then, our approach has been to carve out a distinct regulatory regime for these institutions in alignment with the specific nuances of the sector without diluting the principles of prudence, financial stability, and customer interest.

Based on the recommendations of the Shri.Y.H.Malegam Committee, RBI introduced a comprehensive regulatory framework for NBFC-MFIs in December 2011. The regulations prescribed the eligibility criteria for microfinance loans which were linked to core features of microfinance i.e., lending of small amounts to borrowers belonging to low-income groups without collateral, with flexible repayment schedules. Besides, the regulations laid special emphasis on the protection of borrowers and fair practices in lending such as transparency in charges, ceilings on margins and interest rates, non-coercive methods of recovery, measures to contain multiple lending and over-indebtedness. This is an important milestone in the evolution of the regulatory framework for microfinance.

Definition of microfinance:

The RBI defines a microfinance loan as a collateral-free loan given to a household having annual household income up to ₹3 lakh. For this purpose, the household means an individual family unit — husband, wife, and their unmarried children. Earlier, the annual household income limit for giving micro-loans to individual borrowers was revised in 2022, when it was upped from ₹1.25 lakh in rural areas and ₹2 lakh in urban- and semi-urban areas to a uniform ₹3 lakh.

As per RBI notification, a microfinance loan is defined as a collateral-free loan given to a household having annual household income up to ₹3,00,000. For this purpose, the household shall mean an individual family unit, i.e., husband, wife, and their unmarried children. All collateral-free loans, irrespective of end use and mode of application/ processing/ disbursal (either through physical or digital channels), provided to low-income households, i.e., households having annual income up to ₹3,00,000, shall be considered as microfinance loans. To ensure the collateral-free nature of the microfinance loan, the loan shall not be linked with a lien on the deposit account of the borrower. The REs shall have a board-approved policy to provide the flexibility of repayment periodicity on microfinance loans as per borrowers’ requirements.

Microfinance Industry Network (MFIN) was established in 2009 as an Association for NBFC-MFIs. In 2014, MFIN was recognised by the Reserve Bank of India (RBI) as India’s first Self-Regulatory Organization (SRO) for the NBFC-MFIs. Over some time, as members graduated as Universal Bank and Small Finance Bank coupled with the entry of banks and NBFCs in the microfinance space, MFIN has expanded its umbrella to cover the entire microfinance ecosystem. MFIN Members are RBI-regulated entities comprising the Non-Banking Financial Companies – Microfinance Institutions (NBFC-MFI), Banks, Small Finance Banks, NBFCs, Banking Correspondents, Credit Bureaus, Fintech companies, among several others. According to the Microfinance Industry Network (MFIN), the impact of Microfinance on borrowers can be gauged by the fact that over 7 crore women are at present being reached through these small, easily serviceable, collateral-free loans, impacting as many as 300 million families in 2014. As a result, a vast unbanked and unserved population of India today has access to formal credit even in the remotest districts of India.

According to MFIN data, 91 NBFC-MFIs are the largest providers of micro-credit with a loan amount outstanding of Rs 1,56,245 crore, accounting for 39.1 per cent of total industry portfolio. Banks hold the second largest share of the portfolio in micro-credit with a total loan outstanding of ₹1,33,759 crore, which is 33.5 per cent of the total micro-credit universe. Small Finance Banks have a total loan amount outstanding of ₹70,449 crore with total share of 17.6 per cent. NBFCs account for another 8.9 per cent and other MFIs account for 0.8 per cent of the universe. Micro-finance Institutions’ portfolio has touched almost Rs four lakh crore during the third quarter of the current financial year (2023-24), according to the self-regulatory organisation Microfinance Industry Network (MFIN) report. The report said that the industry saw a robust growth of 24.6 per cent over the last financial year, while portfolio delinquency has reached pre-COVID levels indicating improving health of the sector.

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