Multiple borrowing or multiple lending – who is to blame for debt fatigue?

by N Srinivasan: Friday, August 28, 2009

In some districts of Karnataka State (India) there has been resistance to repay loans taken from MFIs (also refer to the WSJ article on repayment problems in that state). In Kolar the Muslim clergy have given the call, pronouncing the MFI loans as un-Islamic; in Mysore a ten day curfew that followed a communal clash created repayment problems, in Tumkur another local group asked the MFIs to pay some kind of protection money to carry on their business resulting in repayment disturbances The size of the affected portfolio is estimated to be between $12 and 15 million. For the large MFIs, the problem is very small, while some small MFIs have a large problem. The MFIs are confident that the problems will be resolved and that they would recover most of the loans. The affected portfolio is tiny: less than 0.5% of overall outstanding loans. So we shouldn’t think of this in terms of the sub-prime crisis. Nonetheless we should draw lessons from those events.

The common thread across locations in which repayment problems have been experienced is that customers are showing signs of fatigue arising from debt. Typically, more than five MFIs compete. Exceptionally, more than ten MFIs operate in one location. Taking advantage of the label of microfinance, some predatory lenders have started “MFIs” with highly undesirable lending practices bringing the entire sector into potential disrepute.

But MFIs can’t entirely blame external intervention for their problems. Competition seems to have lowered lending discipline, borrower selection standards, and weakened the relationships with customers. The State of the Sector report 2008 on Indian Microfinance covered some of the negative fallouts of unbridled competition. The incentive structure for staff rewards customer acquisition and portfolio growth more than quality. In some cases, field staff overlook the existing debts of potential customers and their limited repayment capacity. The lack of an information exchange between the MFIs made them blind to facts and developments that are critical. Informal estimates are that 25% of borrowers in urban and periurban areas have borrowed from more than 5 MFIs. The average borrower in these areas would have three MFI loans.

Collaboration, at least for the present seems to have won over competition in Karnataka. Now the MFIs are taking some concerted action–scaling down loan sizes, setting up a system for exchanging information about defaulters, reviewing concentration levels of credit exposure and strengthening borrower appraisal systems to bring in more quaity information. The awareness among the borrowers that if MFIs shut up shop they would be left with no viable financial services access is increasing. A group of women clients met the local Masjid Committee and pressured them to reverse the decision (of not repaying loans) in one of the block towns. For the MFI sector, this is a critical part of its evolution and a valuable learning process. Hopefully MFI credit officers will learn to spend more time and effort knowing their customer and how she responds to other externalities.

TAGS: india, Indian Microfinance, Karnataka, mfis, repayment, sub-prime crisis, Wall Street Journal

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16 Comments

August 31st, 2009 at 9:32 am, S Santhanam ()

Dear Sir
It looked like reading a movie / cine fiction. The punchline is “A group of women clients met the local Masjid Committee and pressured them to reverse the decision (of not repaying loans) in one of the block towns.” The willingness to pay notwithstanding the announcement for waiver of bank loans, pressure from the clergy and similar external pressures is the key difference between mf programmes and other programmes. With all the characters in full play, the hero (mf) getting all punches throughout and in the end coming out victorious is typical of all indian cinema themes. Just because some failures in bank loans, bankers do not stop lending as their business is to lend and earn income. So, the lesson is that one should have faith in mf and move ahead. As the objective of mf is to improve the economic status of poor in any part of the world, let us work for its success.
September 2nd, 2009 at 10:18 am, More Bubble Kerfuffle | David Roodman's Microfinance Open Book Blog ()

[...] N Srinivasan, a leading observer of Indian microfinance, blogs for CGAP on the subtleties of the troubles in Karnataka. “For the large MFIs, the problem is [...]
September 3rd, 2009 at 2:48 am, Sara Duke ()

I agree, these happenings are akin to “growing pains,” for the microfinance sector. However, I do not forsee the sector going down like the “Titanic,” but rather it is being pushed to technologically evolve and produce a client information sharing credit desk. The big question will be, will be - “Will the sector come together and collaberate on this vital need?”
September 6th, 2009 at 6:18 am, V.Rengarajan ()

I agree that the two problems of multiple borrowing and multiple lending are causing concern very much in Micro finance arena as timely highlighted by Srinivasan. The prevailing dilemma in the causative factor of the problem is whether the former leads to the later or vice versa. ( like egg and chick riddle) However, an anatomy on this phenomenon reveals that there is hardly any space for ethics in MF arena which is required for making it subtle difference with other pro poor finance in the market driven economy.
It is irony to note that these unbridled unethical practices which causes ‘debt fatigue’, are
observed both in demand and supply side. The root cause for it , is due to a visible “shift.” from the mission to practice by the MF players.
From the demand side, there is shift in utilization of micro credit from ethical end use ( income generation or genuine need based ) to unethical end use ( ostentatious consumption ) thanks to Media world ( WSJ article. as in the case of Ms Taj besides many empirical evidences of my studies) There is also shift from ‘self help’ and ‘Self reliance’ based life to a( debt )dependent or parasitic life always. Eventually in the process of change, repayment ethics has become first causality with the enhanced level of debt.
From supply side, there is a shift from social engineering to financial business engineering practiced with unethical practices in both delivery and recovery process in the poverty sector. There is also shift in product design from demand based to supply oriented. In the case of provision of MF services to the poor clients, more focus on solo input namely micro credit instead of all other financial services and non financial services actually needed for sustainable poverty reduction. A major visible shift is from the role of counseling and guidance with all MF services to profit motivated commission agent for selling loans unethically (e.g. repeat loan for clearing the earlier debt – for whose survival?)
The captioned twin problems were found earlier also in multi sector banking system in India and ‘service area approach’ with the demarcation for each players and practice of insistence of ‘No over due certificate’ before lending and exchange of information in coordination forums among the players at district level under ‘lead Bank scheme’ facilitated for addressing the problems like multiple loaning and multiple borrowing. The inclusion of MF players in such coordination forums and guiding them in falling line with other financial players for practicing ethical financial practices collectively in a given area may help in avoidance of unhealthy competition and unethical practices by both the borrowers and lenders.
In fine, whatever the rules of the game are framed , healthy participation depends on how the players in the field adhere to it in practice with or without referee in the field. This pathetic situation exists because there is a major drift in ethics discipline where traditional economics once occupied as a branch of it: but over a period of time contemporary economics, although an offshoot of Ethics (A.Sen) has occupied significant place with non ethical character focusing more on material welfare development of modern society. .In the process the values of ethics is lost with all the negative eventualities such as equity gap. poverty, deprivation. marginalisation, in our contemporary development models.
September 7th, 2009 at 3:51 am, Nagesh S S ()

Of late there are some signs of consolidation in the MFI sector showing that the sector is entering a pre- maturity phase.ur blog also points out the same thing. information sharing among the mFIs would lead to better assessment of credit worthiness of borrowers, and that’s a good sign.Now the governmental efforts should also enable consolidation … Read Moremeans there should not be multiple efforts by the state/development agencies.. this would eventually lead to proper use of savings at the ground level/curb mushrooming of local money lenders in the form of micro finance agencies.
September 7th, 2009 at 3:53 am, Nagesh S S ()

Of late there are some signs of consolidation in the MFI sector showing that the sector is entering a pre- maturity phase.ur blog also points out the same thing. information sharing among the mFIs would lead to better assessment of credit worthiness of borrowers, and that’s a good sign.Now the governmental efforts should also enable consolidation, means there should not be multiple efforts by the state/development agencies.. this would eventually lead to proper use of savings at the ground level/curb mushrooming of local money lenders in the form of micro finance agencies.
September 10th, 2009 at 2:02 am, Ashley Alred ()

Economic support to the poor and their uplift should be the main primary object. Liquidity could impact the ability of MFIs to refinance their clients, leading to a rise in the current default rate. More than social collateral, access to future loans is the incentive for clients to re-pay current loans. If this future access to credit is jeopardized, due to the liquidity crunch, re-payment rates will fall. For lenders in itself the lack of liquidity is not a risk.
September 10th, 2009 at 10:56 am, N.Srinivasan ()

Ashely’s point is a valid one. The aspirational loan size is not met by most MFIs. when multiple lenders come in the borrower gets more than what is required. Then there is no more incentive to keep payments up. In multiple lending this is the danger, unless the MFIs know the client very well. But if they knew the borrower well, then he would not have been allowed to shop elsewhere for his credit needs. Underfinancing and easy availability of other MFI sources put together have the potential to create a negative mindset in even a good client
September 17th, 2009 at 5:10 am, sivasankar.S ()

Now days multipile lending common.the MFIs do the mistakes for theire owen bussines purpose.not for poverty allivation.they increase the profit so lend overfinance to brrowers.more ngos and mfis in same place why they didnt go to remote areas/grassroote level they are not ready to face a risk.so operation area one common place we have duplication of brrowers so its leeds to Multiple browings. we have over due problems.better we make association between MFIs and select the areas.
September 22nd, 2009 at 11:31 pm, Subrata Gupta ()

A nice write-up but I do have a few comments to make which are as follows:

First of all let me make it clear that I am neither in favour of MFI nor against. I just want poor to be helped and in this regard many MFIs are doing great job in terms of making money available. However the question of multiple financing raises a question - Why should a person go to multiple lenders at the first place? Is it because each of them singularly do not consider him credit worthy or is it because any one of them is not in a position to meet the credit need? Or is it because there are too many chasing the same piece of cake? I have a strong feeling that out of the three the first and the third reasons are true. After all what would be the total credit requirement of such individuals in rural areas? If MFIs are making credit available at the doorstep, then there is no problem in taking from one. However if more MFIs make it available at the doorstep that could create problems of multiple financing leading to debt fatigue, which incidentally is happening in many cases, then the signals should be taken seriously.

As I was told by a friend of mine, possible solution lies probably in restricting the competition among MFIs by taking a leaf out of the TRAI model wherein you have only 3-4 operators in each circle. It is probably then that proper information sharing would be possible. There would be questions of takeover, etc., in such cases but the same could be worked out by laying down transparent rules and regulations.

It is also observed that many of the MFIs rather than going in for spatial increase in the market, are relying on groups formed by the banks earlier and are giving them credit. In such cases they know very well that there will be double financing. If we knowingly do what is not supposed to be done just for the sake of growth, consequences could be disastrous.

It is true that the quantum at present is small and nothing like subprime crisis but are we not going the same way in terms of lending? Why do we have to reinvent the wheel even in a smaller scale? Moreover, how long did it take for the subprime crisis to erupt after showing its first signs? Not long. May be this would not reach the size of housing bubble but if it happens, it would hurt quite a few including banks who have lent to MFIs. And the result of such an event is very well known to us.
Probably its time to have a level of self regulation and code of conduct mutually agreed upon by the MFIs to prevent such a thing from happening.
September 25th, 2009 at 12:34 pm, N.Srinivasan ()

Subrata Gupta’s argument for regulation is compelling. His view that multiple lending is not accidental, but knowingly done is also to be reckoned. The MFIs at least in Karnataka, did seem to appreciate both these points and are doing something about it. But whether it would completely address the problems of overcrowding - we have to wait for some time and watch the developments,
While self regulation at sector level could restrain unfair practices, risk management policies, competition policy and credit decisions are internal to institutions. Because the competitor is doing something wrong, I also need not feel compelled to do the same!
November 15th, 2009 at 2:03 pm, ruski ()

I must say that the writeup of N.Srinivasan is a very interesting and a good food for thought. Infact it is of great help to me since I am working on a project on Multiple lending.
Even I have certain views on this.I think that the poor go to multiple souces as no MFI gives them a huge amount of credit.Moreover, the who would not want to take as much money as he gets.
According to me, its the responsibility of the MFIs to collect the information on creditworthiness of the customers. Due to the rising competition and the many new MFIs which are coming up, everyone is interested in being better than the others. But they forget that by multiple lending they are creating future problems.
MFIs which work in common area should try to share information about the customers to safeguard their benefits as well as to help the other MFIs.
I do agree with v.Rengarajan that these problems of Multi lending are due to unethical practices.But its not only one sided. It is from MFI side by giving loans without proper investigation for fulfilling the high targets. And from the customer side by hiding the fact that they have already taken loans from any other MFI.
But these things wont stop.Rather this is going to magnify day by day.
So the MFIs should try to be more cautious as it is a question about their profitability and sustainability as well.
November 17th, 2009 at 3:58 am, Opinion : Is There a Microfinance Bubble in South India? | Microfinance News ()

[...] of multiple borrowers grows beyond these stand-out individuals – just a few months ago on the CGAP blog, N. Srinivasan stated that 25% of borrowers in urban and peri-urban areas have 5+ loans, while 3 [...]
December 2nd, 2009 at 8:02 am, N.Srinivasan ()

If MFIs have a competition code and make analysis borrower’s debt servicing capacity and measurement of debt levels mandatory before arriving credit decisions, many of these problems can be prevented. We want to prevent excessive debt; not multiple sources of borrowing.
March 18th, 2010 at 2:46 pm, Raunak Kapoor, Spandana Sphoorthy Financial Ltd. ()

I dont see this industry to sink in near future but the symptoms definately indicate towards a dip. Problems like Karnataka are a learning experience for all the MFIs but such small pockets are bound to develop all over India in current scenario of multiple lending across all states. The industry will take a toll when default rates start escalating in many such pockets all over India. Such large scale default would be a blessing in disguise for the sector as a whole. It will lead to small players being flushed out of the market. There would be a collaborative efforts on part of remaining players to come out of this hole which will lead to infusion of technology and change in approach of many of the MFIs. The long standing demand of regularising industry will also take a concrete shape specially after huge losses of public money. But all this will happen only when this industry undergoes a major problem of rising default in near future. so lets hope that such a phase comes very soon and industry gets regularised like the commercial banking industry.
June 16th, 2010 at 2:52 am, Greg Roberts ()

I have been watching the mico loan evolution from the US and I think it is an amazing business that helps all involved. Like any other business that is brand new there will be bumps in the road.