MUMBAI: The Reserve Bank of India (RBI) has acknowledged rising stress in microfinance sector but downplayed its severity, asserting that the issue remains manageable. However, industry insiders and data reveal a concerning trend: the growing number of borrowers juggling loans from multiple lenders, raising questions about credit discipline and oversight mechanisms.
At the end of June 2024, 2.5 million microfinance borrowers held loans from five or more lenders, a 17.2 per cent rise compared with the previous year, according to credit bureau Crif High Mark.
This multi-institution borrowing often leaves customers over-leveraged and struggling to meet repayment obligations. Prominent microfinance institutions, including CreditAccess Grameen, Fusion Micro Finance, and Equitas Small Finance Bank, have flagged this as a critical risk.
Borrowers at risk
Borrowers’ financial juggling acts stem partly from the removal of pricing caps on microfinance loans in 2022.
While the RBI mandated lenders to set board-approved pricing policies, it stopped short of imposing limits on the number of loans a borrower could take, leaving oversight primarily to self-regulatory organisations (SROs).
Sa-Dhan and Microfinance Institutions Network (MFIN), two key SROs, have introduced measures to curb excessive borrowing.
While Sa-Dhan capped household debt from all sources at Rs200,000, MFIN recently reduced the maximum number of lenders a borrower can approach to three, down from four. Yet, the enforcement of such policies often appears inadequate, leading to systemic risks.
Lenders face RBI scrutiny
Deputy Governor Swaminathan J admitted that stress in microfinance loans had increased, partly due to the sector’s “outlier growth” in the preceding year. He emphasised that while the overall increase in stress in microfinance is modest – about 20-30 basis points – the RBI is closely monitoring individual lenders with disproportionately high delinquency rates.
“We engage bilaterally with entities showing outlier behavior. At the system level, the issue is manageable, but lenders must ensure robust underwriting standards to prevent this stress in microfinance from translating into bad loans,” Swaminathan said.
This stress has drawn sharp attention to gaps in credit evaluation. While lenders are required to assess borrowers’ creditworthiness using tools like CIBIL scores, concerns linger over whether these checks are consistently performed. Over-leveraged borrowers, burdened by multiple loans, suggest lapses in this critical screening process.
Impact of aggressive lending
In recent months, RBI Governor Shaktikanta Das has issued warnings to microfinance institutions and non-bank financiers about the dangers of “growth at any cost.” The regulator has also raised concerns about lenders charging high, sometimes “usurious,” interest rates on small-value loans.
Analysts argue that the industry’s aggressive growth trajectory, fueled by the easing of regulatory caps, has inadvertently encouraged over-borrowing.
“Microfinance lenders must balance growth with responsible lending. The absence of strict borrower-level caps has led to an unhealthy credit cycle,” said a senior banking analyst.
Gold loans surge
Parallel to the microfinance sector’s stress, the demand for gold loans has soared, with loans against gold jewelry growing 56.2 per cent year-on-year in October 2024. Rising gold prices and global uncertainties have made these loans more attractive as borrowers reassess the value of their collateral.
While Swaminathan noted that gold loans remain a small fraction of total bank credit, he emphasised the need for responsible portfolio management. “Percentages can be misleading if taken out of context. What matters is whether lenders are following norms like loan-to-value (LTV) ratios and fair customer practices,” he said.
The road ahead
As microfinance institutions grapple with the dual challenges of over-leveraged borrowers and regulatory scrutiny, industry players and regulators must collaborate to strengthen risk management practices.
“Ensuring consistent use of credit assessment tools like CIBIL scores and enforcing stricter borrower-level debt caps could help mitigate systemic risks,” said CFO of an NBFC while talking to businessbenchmark.news.
While the RBI remains confident in the sector’s ability to handle rising stress in microfinance, the increasing complexity of borrower profiles underscores the need for immediate and coordinated action. The question now is whether lenders can strike a balance between growth and sustainability in a market where the stakes continue to climb.
