A woman holds the loan she has received, a stack of rupee bills, during a meeting organized by SKS Microfinance Ltd. in Sadasivpet, India, on Friday, Aug. 6, 2010. (Photographer: Adeel Halim/Bloomberg)

Microlenders Want 2010 Crisis-Era Rate Caps Eased

Self-regulatory Microfinance Institutions Network will approach the central bank to ease lending rate caps introduced for microlenders in 2014, according to two people in the know, as the limits are hurting smaller players.

The caps are affecting the margins of smaller microfinance companies which cannot raise funds at lower costs, the people said requesting anonymity.

Microlenders, which helped millions of India’s poor by offering small loans, now face competition from traditional lenders with five of their large peers turning into banks. The outstanding loans at non-bank microlenders as on March 31, 2018 were at Rs 44,892 crore. Bharat Financial Inclusion Ltd., formerly known as SKS Microfinance, accounted for Rs 12,594 crore. In comparison, universal banks had a microfinance portfolio of Rs 50,418 crore and small finance banks controlled a micro credit loan book of Rs 30,019 crore.

The aim of seeking easier rate caps is to have a level-playing field with universal banks and small finance banks, the second person quoted earlier said. Because of their ability to garner deposits from their customers, banks and small finance banks are able to reduce their cost of funds and make a better margin on microfinance lending, the person said.

The lending restrictions followed suggestions of a committee headed by YH Malegam. It had found that high pricing, questionable recovery methods and excessive lending to unworthy customers had led to a crisis in the microfinance sector in 2010.

The Reserve Bank of India in April 2014 had said microfinance institutions classified as non-banking finance companies will not be able to charge interest rates beyond a cap. The regulator described two ways to calculate lending rates and that the cap would be the lower of the two.

One, a margin of 12 percent over the cost of funds; and the second was the average of the base rates of five largest banks multiplied by 2.75 percent.

The RBI releases the average base rate of five of the largest commercial banks at the beginning of every quarter. According to a notification on the RBI’s website on June 29, the average base rate to be used by microfinance companies for the quarter starting July 1 would be 8.92 percent. Using the RBI’s multiplier formula, the maximum interest rate that microlenders could charge would be limited to 24.53 percent.

The microfinance companies argue that the average cost of funds for them works out to about 15-16 percent. If they were to consider the 12 percent margin cap, the effective rate of interest should be 27-28 percent. They are, however, forced to charge their customers lower, said the first of the two people quoted earlier who is the chief executive officer at a Delhi-based microfinance company.