Micro-Financing in India

 | June 16,2010 03:26 pm IST


Microfinancing is the provision of financial services to poor and low income households without access to formal financial institutions.


As defined by the Asian Development Bank (ADB), it is - A provision of a broad range of financial services such as deposits, loans, payment services, money transfers, and insurance to poor and low-income households and their micro-enterprises.

In the late 90s, numerous agencies involved in micro-financing operations in India started adding other financial services, including micro-insurance to its micro-finance operations.


The situation of micro-financing in India has thereby improved with certain steps taken by the government and now, the private players, banks etc as well.


Need for Micro - Financing

Since independence, various governments in India have experimented with a large number of grant and subsidy based poverty alleviation programmes. These programmes were based on grant/subsidy and the credit linkage was through commercial banks only. As a result, these programmes became unsustainable, perpetuated a dependant status on the beneficiaries and depended ultimately on the govt. employees for delivery. This not only led to misuse of both credit and subsidy but banks never looked at it as a profitable and commercial activity as well.


Hence was adopted the concept of micro-credit in India. Success stories in neighboring countries, like Grameen Bank in Bangladesh, Bank Rakiat in Indonesia, Commercial & Industrial Bank in Philippines etc, gave further boost to the concept in India in the 1980s. India thus adopted the similar model of extending credit to the poorest sector and took a no. of steps to promote micro-financing in the country.


Types of Organizations and Composition of the Sector

Microfinance providers in India can be classified under three broad categories: formal, semiformal, and informal.


Formal Sector

The formal sector comprises of the banks such as NABARD, SIDBI and other regional rural banks (RRBs).
They primarily provide credit for assistance in agriculture and micro-enterprise development and primarily target the poor. Their deposits at around Rs. 350billion and of that, around Rs. 250billion has been given as advances. They charge an interest of 12-13.5% but if we include the transaction costs (number of visits to banks, compulsory savings and costs incurred for payments to animators/staff/local leaders etc) they come out to be as high as 21-24%.


Semi - formal Sector

The majority of institutional microfinance providers in India are semi-formal organizations broadly referred to as MFIs. Registered under a variety of legal acts, these organizations greatly differ in philosophy, size, and capacity. There are over 500 non-government organizations (NGOs) registered as societies, public trusts, or non-profit companies.


Informal Sector

In addition to friends and family, moneylenders, landlords, and traders constitute the informal sector. While estimates of their importance vary significantly, it is undeniable that they continue to play a significant role in the financial lives of the poor.


Steps taken by India to promote micro-financing

It set up development banks, such as SIDBI, NABARD which focused on rural credit and micro-financing. NGOs and SHGs were encouraged to become the govt's arm in extending micro-credit to the poor. They were provided supplementary credit needed to fund the credit, paper work was reduced between them and the banks. Also, the govt assisted in mobilizing funds from formal financial institutions to meet the larger credit needs of these organizations.