First Credit Rating, Then Social Performance and Now Seal of Excellence: Time For All of Us To Focus on Ground Realities…

Ramesh S Arunachalam

Rural Finance Practitioner

A friend altered me to a paper being presented at the forthcoming micro-credit summit on a seal of excellence for micro-finance.  I am simply appalled at the number of instruments that key stakeholders in the Indian micro-finance industry seem to be pulling out of their hat to justify the existence and good work done by MFIs...

Surely, it is about time to set the record straight...Read on...

Credit rating has failed to provide an accurate picture of what has been happening on the ground for various reasons – during the period, 2006 – 2009, two of India’s major credit rating agencies gave the highest governance, management and systems rating to an MFI that subsequently got listed. The also argued that the presence of a board comprising of eminent people surely translated to good governance. They were sadly mistaken as it was during this period, that several not so good practices occurred in the same MFI including the granting of a loan by the MFI to its founder MD of Rs 1.6 crores to buy shares in the same company, multiple lending by the MFI and several other aspects. That a nominee director of SIDBI on the board of the company permitted the granting of a related party transaction (above loan) silently is also worthy of mention and the fact of the matter is that most credit rating assignments at that point in time were sponsored (and/or requested) by SIDBI. It must also be mentioned that apparently, the same company, offered ESOPs to several independent directors including nominee directors and again, this practice was neither pointed out nor seriously questioned by the credit rating reports. In fact, there were a huge number of apparent not-so-good practices in the above company – Prof Sriram highlights much of this in his paper in EPW, June 2010 and I have also written about it in detail. That the credit rating reports did not point out these critical aspects surely undermines their objectivity and utility.

The larger point I want to make is that the incentives for credit rating agencies were inappropriate – they were so structured as to keep recommending increased amounts of loans to MFIs and this can be seen in several prominent cases as I have analysed over the last 10 years. Also, at least in India, there was a huge conflict of interest in terms of staff/boards of directors in the credit rating agencies having close relationships with many of the MFIs being rated. Yet another aspect was that, the major credit rating agencies had sister organizations or institutions/divisions in the same Corporate group that were involved with capacity building in micro-finance and therefore, it suited them to recommend higher loans with capacity building. I have done an analysis of several credit rating reports and also followed up who actually did the capacity building – the results are rather startling. And last but not the least, that credit rating could not point out the prevalence of many bad practices including use of agents, ghost clients, frauds and the like (when the MFI annual reports themselves acknowledged these) is a clear vindication of what I have been saying above

Likewise, social performance is a great concept on paper but sadly does not exist on the ground. It is a wonderful to talk about in a workshop in Mumbai or Delhi or Barcelona or Washington but let us get the facts clear – there is nothing like that in operation in India and make no mistake, the ground situation in several of India’s populous micro-finance states including AP, Tamilnadu, Karnataka, Orissa and West Bengal is far from that…

Therefore, using so called tools of social performance or seals of excellence - merely to justify the existence of such (and especially, For-Profit) MFIs - that sound GREAT on paper but are rarely implemented (or visible) on the ground, certainly does not befit the status of a great industry like micro-finance. And it is about time that we start asking the question as to why, many so called great concepts (like social performance or even principles of Corporate Governance etc) are not implemented on the ground and in the field rather than creating newer and newer tools that may have lesser and lesser relevance to field realities…

And before I sign off, my humble plea is as follows: “The micro-finance industry needs to tackle issues head on and ensure that low-income people get access to a wide range of appropriately designed and delivered high quality financial services at affordable costs. And this does not have to come from MFIs (and For-profit MFIs) alone – and this is a point that needs to be noted carefully and appreciated by various stakeholders like CGAP, MCS and others. Therefore, let us stop creating tools to justify existence of MFIs and rather focus on building a REALLY transparent client oriented micro-finance industry on the ground…that alone will help bring back glory to the beleaguered micro-finance industry...in places like India as well as globally...

Have A Nice Day!