Tuesday, November 02, 2010

Microcredit becoming a 'trap' for some borrowers

The recent suicides of microcredit borrowers in India has given momentum to the critics of the practice. Microcredit critics say that interest rates are too high for the poor, also that repayments are required too soon and even through disasters. The critics also point to the evidence that some borrowers have to take out another loan to pay the previous off.

From the BBC, writer James Melik talks about the possible death trap that microcredit borrowers could find themselves in.

Microfinance is not without its critics. Some argue that people can quickly sink into a cycle of debt, with many lenders charging exorbitant rates of interest.

Dr Qazi Kholikuzzaman Ahmad, chairman of PKSF, a body that monitors microfinance, describes microcredit as a "death trap" for the poor.

He explains how poor people often take up the loans without thinking of the consequences, and that 60% of borrowers take loans from several sources.

"There is no understanding that it might take 10 or 20 years to repay their loan," he says.

Furthermore, from the weekly repayments, some lenders deduct 10% of that payment for compulsory saving schemes - money the company then uses to lend to other people.

"Interest on repayments begin at around 15%, but it is a flat rate and can soon rise to anything between 40% and 100%," Dr Ahmad says.

Repayments are generally due on loans from the first week after they are taken out, which does not give the borrower enough time to establish any form of income-earning enterprise.

To cover those first payments, people often resort to taking out a further loan from a different company.

1 comment:

Rajan Alexander said...

Interest rates: The Poisonous Fangs of MFIs

MFIs were touted to provide the poor access to affordable credit, reduce poor people’s need to use moneylenders and indebtedness. In short, provide a much kinder, cheaper alternative to the village loan shark. Instead, they evolved as the new class of institutionalized loan sharks which neo-liberals gave respectability to. MFIs did improve access to micro loans but failed in their touted mission to provide affordable and gentler credit and above all, one that lifted people from the clutches of poverty. Objects of institutional financial sustainability exhort them to charge interest rates and fees high enough to cover the costs of their lending and other services.

MFIs argue that they need a spread apart from all costs to provide for contingencies and growth. Fine but the moot question is how much should be this spread.

MFIs argue that economies of scale and competition will drive interest rates down. This remains only a theoretical argument. “Mexican micro-finance institutions charge such high rates simply because they can get away with it”, said Emmanuelle Javoy, the managing director of Planet Rating, an independent Paris-based firm that evaluates micro lenders!!

If at all, the average Indian MFI interests rates appear more benign than in Latin America or Nigeria, then it simply because other than factors internal to the MFI industry, the sector faces strong competition from governmental and NGO SHG micro-saving programmes in the absence of which, these MFIs would have formed a cartel. Past angry public and government reactions that resulted in a backlash against them, which included the arrests of MFI top leaders, like Uday Kumar of Share Microfinance Ltd as in 2007, keeps their profiteering impulses under check.

The sooner MFIs are seen as profit enterprises, the better. The longer they pretend they are pro-poor, the longer they discredit the NGO sector that gave birth to a Frankenstein. By 2014, they target to reach 110 million borrowers. Remarkably, despite two decades of operations, if statistics are to be believed, these MFIs only reach just 20 million people in the country, a good proportionate of them, multiple counted. Yet, they succeed in gaining an attention, so disproportionate to this minuscule reach. Act now to prevent they becoming an epidemic in the country. Act now, when they are most vulnerable.

And how do know they are vulnerable? Because Vijay Mahajan, the father of MFIs in India tells us so:

“We are facing collapse. Unless something changes on the ground, the industry as we know it is basically gone. ”

Mahajan, we have news for you. The day when the likes of you are gone, that will be the turning point for the fight against poverty!

What’s wrong with Micro-finance Institutions? Practically everything as the case of SKS illustrates.

Read More: http://devconsultgroup.blogspot.com/2010/10/whats-wrong-with-micro-finance.html