RBI Acceptance of Malegam Committee Recommendations: Great Beginning But Miles To Go Before We Can Sleep…

Ramesh S Arunachalam

Rural Finance Practitioner

The RBI has finally given its view on the Malegam Committee Recommendations (MCR) and it is on the lines expected. In this post, I broadly compare the MCR recommendations with RBI statements in the monetary policy and then comment on what is unfinished with regard to the Micro-Finance regulation agenda in India

I quote from the Monetary Policy document of the RBI, which is re-produced below (http://www.rbi.org.in/scripts/NotificationUser.aspx?Id=6376&Mode=0)

92. “In the wake of the Andhra Pradesh micro finance crisis in 2010, concerns were expressed by various stakeholders and the need was felt for more rigorous regulation of non-banking financial companies (NBFCs) functioning as micro finance institutions (MFIs). As indicated in the Second Quarter Review of November 2010, a Sub-Committee of the Central Board of the Reserve Bank (Chairman: Shri Y. H. Malegam) was constituted to study issues and concerns in the MFI sector. The Committee submitted its report in January 2011, which was placed in public domain.

The Committee, inter alia, recommended (i) creation of a separate category of NBFC-MFIs; (ii) a margin cap and an interest rate cap on individual loans; (iii) transparency in interest charges; (iv) lending by not more than two MFIs to individual borrowers; (v) creation of one or more credit information bureaus; (vi) establishment of a proper system of grievance redressal procedure by MFIs; (vii) creation of one or more “social capital funds”; and (viii) continuation of categorisation of bank loans to MFIs, complying with the regulation laid down for NBFC-MFIs, under the priority sector. The recommendations of the Committee were discussed with all stakeholders, including the Government of India, select State Governments, major NBFCs working as MFIs, industry associations of MFIs working in the country, other smaller MFIs, and major banks.

In the light of the feedback received, it has been decided:

·         to accept the broad framework of regulations recommended by the Committee;

·         that bank loans to all MFIs, including NBFCs working as MFIs on or after April 1, 2011, will be eligible for classification as priority sector loans under respective category of indirect finance only if the prescribed percentage of their total assets are in the nature of "qualifying assets" and they adhere to the "pricing of interest" guidelines to be issued in this regard;

·         that a “qualifying asset’’ is required to satisfy the criteria of (i) loan disbursed by an MFI to a borrower with a rural household annual income not exceeding ` 60,000 or urban and semi-urban household income not exceeding ` 1,20,000; (ii) loan amount not to exceed ` 35,000 in the first cycle and ` 50,000 in subsequent cycles; (iii) total indebtedness of the borrower not to exceed ` 50,000; (iv) tenure of loan not to be less than 24 months for loan amount in excess of ` 15,000 without prepayment penalty; (iv) loan to be extended without collateral; (v) aggregate amount of loan, given for income generation, not to be less than 75 per cent of the total loans given by the MFIs; and (vi) loan to be repayable by weekly, fortnightly or monthly instalments at the choice of the borrower;

·         that banks should ensure a margin cap of 12 per cent and an interest rate cap of 26 per cent for their lending to be eligible to be classified as priority sector loans;

·         that loans by MFIs can also be extended to individuals outside the self-help group (SHG)/joint liability group (JLG) mechanism; and

·         that bank loans to other NBFCs would not be reckoned as priority sector loans with effect from April 1, 2011.

93. Detailed guidelines in this regard will be issued separately.”

What does all of this mean for Indian micro-finance?

First of all, it is great for the micro-finance industry that the broad framework of The Malegam Committee Report (MCR) recommendations have been accepted - as this provides the much needed legitimacy to the sector. That the RBI has recognized loans to low income people as part of priority sector is excellent news and that it has given first cut (but explicit) guidelines regarding the same is very welcome.

As I have been reading the MCR more and more, I am now convinced that the framework of report (forgetting the nitty gritty recommendations and value for different criteria) has a lot of merit because it has used regulation by principles, rules and incentives in appropriate balance. This will be elaborated in a separate post

Second, what is really interesting from the RBI pronouncement is the fact that priority sector is being used as an incentive to shape the behavior of MFIs and provide direction for the orderly growth of the Micro-finance industry. In this regard while the aspect of enhancing overall indebtedness to Rs 50000 is a very pragmatic one, the decision to shift the loan ceiling for the 1^st loan from 25,000 to Rs 35,000 needs careful consideration. I do hope that to be appointed committee on priority sector looks at this and other aspects carefully…Here are some my suggestions with regard to the priority sector… Read On..

http://microfinance-in-india.blogspot.com/search/label/Priority%20Sector%20Lending and

http://microfinance-in-india.blogspot.com/2011/01/regulation-and-supervision-of-nbfc-mfis.html

Third, the Malegam Committee Report (MCR) provided a large number of excellent recommendations regarding several others aspects including minimum systems for MFIs, supervision, client protection, corporate governance and the like and the real time implementation of these aspects on the ground. Please see summary of MCR recommendations here (http://microfinance-in-india.blogspot.com/2011/01/rbi-sub-committee-report-my-summary-of.html).

I do sincerely hope that the detailed guidelines of the RBI do touch upon these aspects in serious measure. Otherwise, priority sector could be misused again… and there are numerous examples in the public domain for the RBI and various stakeholders on how priority sector could be misused (e.g., huge loan to promoter to buy shares in the same MFI as highlighted by Prof Sriram in one case in his EPW article) if the accompanying facets of the Malegam Committee Report (MCR) including Corporate Governance aspects are not considered, while drawing up detailed guidelines…

Hope the RBI ensures that other facets concerning minimum systems, corporate governance, supervision and all other important issues, as mentioned in the Malegam Committee Report, are duly considered and appropriately implemented

Have A Nice Day!