Transparent Pricing In India

India is one the largest microfinance industry in the world. From early beginnings in 1990s, the microfinance industry in India went through significant changes during 2000s, including commercialization and high growth. However, in October 2010 the industry suffered a crisis resulting from the issuing of an emergency Ordinance (The Andhra Pradesh Micro Finance Institutions (Regulation of money lending) Ordinance, 2010) by the government of Andhra Pradesh (AP) aimed at regulating the activities of MFIs operating in the state. The onerous provisions of the Ordinance (promulgated as a law in Dec 2010) halted the activities of the MFIs in the state and, in the months to follow, nearly 100% of AP’s borrowers (accounting for 30% of total microfinance borrower in the country) defaulted on their loans. Indian banks reduced their willingness to lend to any MFI across the country and, as a result, MFIs across India were forced to contract their business plans.

At the start of the crisis, there were an estimated 32 million borrowers (27 million of which are covered in the MFTransparency 2010 dataset). The number of borrowers reduced significantly after the crisis, however over the past year the industry made a strong come-back and MFIs, outside of AP, on an aggregate basis registered 40% growth.

Since 2010, the microfinance industry in India has undergone some significant changes in regulations and operations. On the regulatory front, in 2011 the Reserve Bank of India (RBI) created a new category of Non-Banking Financial Company (NBFC MFIs) and laid down a detailed set of regulations, based on the Malegam Committee Report, including clearly defined microfinance loans, pricing, target population, client protection principles, and other prudential regulations. The directive initially introduced a maximum interest rate cap of 26% (using the declining balance method) which was later replaced with an interest margin cap (of either 10% or 12% depending on the size of the institution) limiting the interest income earned by MFIs over the institution’s cost of funds. The new legislation limits additional components of loan pricing to a maximum of 1% for the loan processing fee, and also limits the size of the insurance premium.

Complementing these regulatory directions, there also have been a number of self-regulatory initiatives aimed at promoting responsible business practices in the microfinance market such as the Industry Code of Conduct, the development of a Credit Bureau ecosystem and an increased focus on social performance among others.