But consumer protection and redress cannot be left to the industry alone.
It has been a quiet period for the microfinance sector. While there was much hype about the microfinance bill, it seems to have fallen by the wayside, at least from legislative business. The oppressive Andhra Pradesh law continues to be in existence. Microfinance institutions have reconciled themselves to the “new normal”, which is reporting their performance in two parts — overall performance and performance outside Andhra Pradesh.
Some institutions which were deeply invested in Andhra Pradesh have encountered trouble and are facing bankruptcy. But the bloodbath seems to be over and we may be ready for a new beginning. That several genuine institutions became collateral damage is the bad news.
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However, there is much good news for the sector. The new governor of the RBI is a known liberal among conservatives. He signed a letter to the media when the crisis was at its peak. The letter, signed by many Indian academics teaching at American universities, called for saving the microfinance sector from the oppressive Andhra act.
Raghuram Rajan has made his inclinations on the expected roadmap for financial inclusion clear. This is a significant departure from the traditional position of the RBI, which has always believed that financial inclusion has to be bank-led.
Rajan believes in the multiplicity of institutions. He argues for specialised institutions to do specialised jobs. While he does not argue against the obligations to be placed on banks for priority sector lending targets (which include microfinance as a category), he does argue for giving them a choice on how to achieve this.
This includes the purchase of priority sector lending notes — a tradable paper that represents the portfolio achieved by somebody beyond their obligations. These notes could originate from non-banks as well, and is an attractive proposition for MFIs that are non-banks.
Rajan has also argued for specialised and regional banks. While these two MFI applicants for a bank licence might find favour with the RBI if they pass all the other criteria, others can seek solace in the fact that there could be more regulatory easing to incorporate financial institutions in a more centrally regulated banking framework. The recent report by the Nachiket Mor committee provides a framework for microfinance institutions to morph into consumer banks with limited deposit taking ability.
The committee also argues for removing all caps on the spreads that the intermediaries might have in order to be a portfolio that qualifies for the priority sector tag. If this report is accepted, it will eliminate the oppressive clauses under the Malegam committee report. This is good news for both banks and financial institutions.
While the broad direction, based on the indications of the governor’s past stance and the tone of the Mor committee report, seems to indicate an opening up of multiple institutional options to address the financial inclusion agenda, it is also opening up the sector to significant risk.
Moving towards markets and competition should lead organisations to efficiently deliver products to the poor at competitive costs. Competition is expected to make the offering better for the consumers, even if they are poor. However, past experience suggests that markets have not performed in the niche area of inclusion. While there has been competition, it has only led to mis-selling of the products rather than to better design and delivery of products or a fall in prices.
This is because of the vast difference in the power equation between the seller and the buyer. It is most likely that the buyer is grossly unaware or has underestimated the negative consequences of consuming a product that has been mis-sold. Therefore, as we open up institutional and product choices to the poor, we need to have a strong consumer protection and grievance redressal framework.
In this regard, the governor has expressed his inclination to “outsource” the solution by suggesting that an industry association could be a recognised self-regulatory organisation. Two instances in the past — the Krishna crisis of 2006 and the Andhra crisis of 2010 — have demonstrated that the self-regulatory organisation and code of conduct framework have failed to deliver. With a better framework, there might be better compliance in future.
But unless the RBI assumes residual responsibility to regulate this sector, the good news handed down by Rajan and Mor has to be regarded with some scepticism.