Crisis in Indian microfinance and a way forward: governance reforms and the Tamil Nadu model

Abstract

In recent months, microfinance practitioners worldwide have been holding their breath over events unfolding in India. Beginning in summer 2010 with controversies surrounding the IPO of SKS, a large microfinance institution (MFI) and a major player in the market, the crisis subsequently exacerbated in the state of Andhra Pradesh, with borrowers defaulting on payments and taking their lives. Echoed by the media, hostility to microfinance rose to unprecedented levels and some politicians even encouraged borrowers not to pay back their micro-loans. In fear of deterioration of MFIs’ financial solidity, numerous banks suspended flows of funds to them, leaving them severely cash-strapped. Yet until recently, Indian MFIs were widely praised for their contribution to the fight against poverty. By providing financial services to low-income clients, particularly women who would otherwise have limited or no access to them, microfinance has enabled them to develop small businesses and to reduce the volatility of their incomes. Even tiny loans have often been sufficient to empower the Indian poor. How, then, can the current turbulence be explained? Our study of microfinance in India, now at the end of its second year, addresses these concerns in a twofold way. First, it has extended from the study of a single, focal partner institution to a more global picture of the whole set of inter-organisational partnerships that relate MFIs to relevant stakeholders and regulators; as such, it is best positioned to bring to light systemic issues and to identify suitable policy responses. Second, our analysis focuses on the state of Tamil Nadu, geographically close to Andhra Pradesh and similar to it in terms of size and maturity of the microfinance market, but where the crisis has not spread. It thus enables to identify differences in the operations of MFIs in the two states which, despite a common landscape, may explain their differential capacity to achieve financial and social performance. On this basis, our analysis aims to contribute to the definition of a more sustainable model of microfinance, possibly to be extended to other parts of India