ISSN (Print) - 0012-9976 | ISSN (Online) - 2349-8846

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From Marginal Tinkering to Major Changes

Poor households are excluded from the formal credit network because mainstream lending institutions have a different set of attitudes while dealing with them. These attitudes have negatively affected the role of self-help groups, microfinance and directed lending in poverty alleviation and therefore need to be changed.

From Marginal Tinkeringto Major Changes

Microfinance and Poverty Alleviation

Poor households are excluded from the formal credit network because mainstream lending institutions have a different set of attitudes while dealing with them. These attitudes have negatively affected the role of self-help groups, microfinance and directed lending in poverty alleviation and therefore need to be changed.


ny discussion relating to microfinance starts off on the assumption that commercial banks should be given special support to offset the natural difficulties encountered in financing unviable projects. The focus is, therefore, on poor families who engage in low and intermittent income generating activity, possess little or no assets and have not acquired adequate levels of marketable skills. A case is then made for government sponsored initiatives for poverty alleviation, both through budgetary subsidies to reduce the cost of finance as well as through other direct promotional and developmental policies which build up backward and forward linkages for goods and services produced by target groups. Arguments can thus be advanced for exclusive microfinance institutions catering to the target group which need to be nurtured and offered special incentives.

Such an approach overlooks many of the systemic features of commercial banking in our country, which manifest themselves through one key indicator – stagnation in the share of the formal banking sector in overall institutional finance through several decades. It shifts attention away from policies, procedures and attitudes prevalent in mainstream lending institutions which are inimical to extension of the benefits of formal banking over a larger area. It “ghettoises” demands made on the banking system by producers and service providers in the informal sector. Entry of government bodies and officers into the arena of “directed lending” also implies substitution of numerical targets for professional loan appraisals. And when eligibility for subsidy has to be defined, the large number of middle range borrowers fall by the wayside-left to their own devices or abandoned to the mercy of usurious lenders.

We must, therefore, move away from marginal tinkering with established concepts of microfinance, self help groups and directed lending and place them within the larger context of the overall structure, attitudes and methodologies applied by commercial bankers to smaller projects in both rural and urban environments.


The Indian cooperative credit structure meant to empower families in all sectors (agriculture, processing and small industry, artisanal activity including handlooms and handicrafts, marketing and various types of services) has over time, with elite capture and excessive governmental interference and regulation, degenerated into a political minefield incapable of serving its original purpose of banding together smaller borrowers to create successful production units capable of functioning in a market environment. The search for alternative structures started as far back as the 1970s.

Between 1972 and 1974, Self-Employed Women’s Association (SEWA) achieved the first breakthrough in the rigid institutional barrier that excluded smaller borrowers from formal sector financing and set up a bank owned by small women entrepreneurs. Governmental initiatives of the 1970s in the wake of the Fourth Plan also focused on small and marginal farmers and agricultural labourers taking the individual family as the basic borrowing unit. Integrated sustainable income generation activity was promoted through subsidised lending under Integrated Rural Development Programme (IRDP) and this was supplemented over time by additional specific assistance: training through Training of Rural Youth for Self-Employment (TRYSEM), tools for artisans through South India Textile Research Association (SITRA) and irrigation through the ‘Ganga Kalyan’ and million wells schemes.

Inadequacies inherent in running programmes focused on individual households called for shift to a group-based approach. The following justifications were offered for the change in approach:

  • larger projects are more viable and can generate higher income levels,
  • the asset base of the group as a whole could provide collateral for the required amount of credit,
  • a wider pool of literacy and other skills and higher motivation levels would be available to start and sustain income generation activity,
  • transaction costs for appraising, monitoring and enforcing small loan agreements as well as risks would be reduced for lenders,
  • Economic and Political Weekly February 3, 2007 – groups would provide their members flexibility in the use of credit for different needs (production, housing, even consumption) depending upon poverty levels and immediate emergent requirements.

    The first step towards setting up selfhelp groups (SHGs) was taken by Mysore Resettlement and Development Agency (MYRADA), which built upon rural chit funds and informal lending networks to evolve a credit management group. After a pilot project with this NGO in 1991-92, National Bank for Agriculture and Rural Development (NABARD) worked actively to frame the legal and financial structure for SHGs and induce bankers to develop and adopt a fresh lending strategy. On the basis of the recommendations of the Reserve Bank of India (RBI) working group set up in 1994, procedures for dealing with the informal legal SHG structure were then firmed up in 1996. Several NGOs were also influenced by the success of the Bangladeshi ‘grameen’ bank concept of Mohammed Yunus.

    Growth and Progress of SHGs

    Since SHGs were formed to sidestep the dangers inherent in politicised and overregulated cooperatives, they are based on informal and non-statutory organisational mechanisms. But, lack of a reliable legal registration and monitoring system has its own shortfalls. For a start, it is not possible to obtain an accurate figure of the number of SHGs since this methodology has been used by various departments and agencies under domestic and externally aided projects to deliver the benefits of government programmes. NABARD reports figures of groups that have been linked to banks under its own schemes. The department of rural development depends on what is reported by District Rural Development Agency (DRDAs) and zilla panchayats but there is no formal registration system for SHGs and there is substantial overlapping among members of groups as well as double counting of groups under programmes of different departments. This even leads to facilitators used to form groups using the same group to claim fund releases under more than one scheme.

    Figures usually cited while talking of SHGs are those indicated by NABARD; at present, the figure is 22.39 lakhs of which

    10.05 lakhs are reported to be credit-linked with banks. The department of rural development obtains returns from states and the latest figure reported indicates a larger figure of 23.31 lakh groups of which 3.32 lakhs have taken up economic activity. In a paper prepared by Aloysius Fernandes of MYRADA, the estimated figure for SHGs for March 2006 is three million, of which

    1.6 mn are estimated to be linked to banks.

    However, even without increasing reporting and registering requirements for SHGs, it is possible to obtain a fairly accurate idea of the number of functioning groups by requiring banks to report the number of deposit accounts that have been opened under the special procedures developed for group financing. NABARD could collect such data, instead of confining itself only to groups assisted by banks under its own scheme for which they have subsequently claimed refinance from NABARD. Even this will not eliminate the issue of double counting of members nor even of groups, but it would provide a more reliable statistic which can then be refined through further sample studies. Groups which function like chit funds on their own savings without depositing money with banks will continue to remain uncounted.

    Institutional advantages expected by using SHGs for realising outcomes under poverty alleviation programmes are being obtained. But the poorest households are least equipped to access credit and other kinds of assistance under government programmes and improve their income earning capacity on a sustainable basis by acquiring the right kind of asset or selecting the most suitable activity. Not surprisingly, statewise data reported to the ministry of rural development relating to SHGs indicates that low income states have still a long way to go regarding formation of the groups and access to credit for economic activity. Impact assessment studies of schemes run by the ministry of rural development also confirm that benefits of self-employment programmes accrue to slightly better off rural households while those of wage employment programmes are more likely to reach the poorest families. There is a case, therefore, for using work sites under the National Rural Employment Guarantee Act (NREGA) where the poorest families seeking unskilled rural labour are employed for identifying beneficiaries for self-employment schemes, providing skills and launching all other planning and preparatory activities.

    One clear positive result of the growth of SHGs is increased availability of credit to poorer households especially in rural areas. Where SHGs have proliferated, as in Andhra Pradesh and Tamil Nadu, they have ensured that during distress periods or for intermittent credit needs, funds are available from the common savings pool augmented by bank credit. Additional induction of government support (in the form of a revolving fund) has happened only in the case of a limited number of SHGs. There are today SHGs which are borrowing from banks on a continuous basis without claiming subsidies. These groups have overcome the major barrier in access to bank credit by poor households, which is lack of knowledge and bargaining strength to face appraisal procedures and negotiate appropriate credit packages for potentially viable proposals.

    Shift to Borrower-led Credit

    The central issues in the area of microcredit today are access to credit as well as exercise of choices by borrowers relating to the kind, quantum and conditions of loaning.

  • (a) Lending to individuals or groups: In the first place, there is the choice between individual and group lending. An unfortunate fallout of the policy of promoting SHGs is open or tacit discouragement of individual loans. As a consequence, theentire structure of borrowing by the poor has become ghettoised and there is still little dent on exclusionary approaches adopted by banks towards small rural clients.
  • (b) Selection of income generating activity: There are also severe limits on choices available for poor households while identifying productive activities. The Swarnajayanti Gram Swarozgar Yojana (SGSY) programme emphasises the need for adopting a cluster approach with focus on identifying at least 10 key activities per block so that income generation is promoted in a sustainable coordinated manner. Unfortunately, this is the least successful aspect of the present programme. Government departments, agencies and even NGOs have not succeeded in understanding market demand or creating fresh demands for products and services to be delivered by SHGs in a professional manner. Activity and cluster identification is being done almost purely from the point of view of what can be supplied by poor households with very little appreciation of quality, branding, packaging and positioning issues which are all treated as peripheral or additional items that can simply be added on at a later stage. Poor families tend to either move passively from one skill training programme to another and depend on
  • Economic and Political Weekly February 3, 2007

    government functionaries to tell them what they should do or follow their own judgment and take up an activity with no access to external expertise or guidance. As a result, all kinds of training programmes are on offer but the number of poor households which have benefited from them for improving their income on a sustainable basis is limited.

    Professional assessment of demand and strategising suitably for the short and long terms by involving trained persons is essential before adopting a cluster approach. There must also be much greater emphasis on guidance and counselling so that families are able to choose the skills they need and the activities they would like to undertake. A menu of multiple activities should be available and flexibility to use group and bank finance to meet perceived needs – for consumption, production, housing and the rest.

  • (c) Production and consumption credit: Bank credit is by and large restricted to “productive” purposes but poor households in particular seek credit to cover income gaps for immediate consumption needs also. Fine distinctions are not drawn between these two kinds of needs when the informal sector caters to poor households. The issue of allocating funds for different needs has been tackled by large-scale use of SHGs which become borrowers and then on lend both borrowed money as well as their own savings to meet production and consumption needs of individual members. Where a specific poor household directly seeks bank credit, however, it is only made available for productive activity although there could be far greater use of lending instruments against movable property (like jewellery) as is done by informal sector bankers.
  • (d) Borrowing mechanisms: There is again little choice available for a borrower to opt for the best borrowing option. While undertaking a productive activity, the least cost most efficient method would be a cash credit limit where debits and credits move in tandem with revenue inflows and outflows. This luxury is not available for poor households. Loan disbursements tend, therefore, to be larger than required at any point and these are parked in deposit accounts of borrowers at no interest or lower interest rates till they are actually spent on productive assets, even while the loan account is clocking up interest dues. The project or composite loan mechanism is a poorer option and it is essential to devise an appropriate financing tool that
  • provides a currency credit (CC) limit mechanism for small loans.

  • (e) Size of loan: Loan size again is hardly determined by small borrowers. One size fits all is currently the manner in which such credit is managed. Theoretically, the maximum loan size is flexible and only the subsidy limit is specified in SGSY guidelines. It is also differentiated between general and SC and ST borrowers and between groups and individuals. However, the subsidy level determines the standard loan size, irrespective of what the project needs to become viable. Bankers also limit loan demands to the level up to which they are permitted to lend without seeking collateral. Ideally, loan size should be based also on the creditworthiness of the borrower, as demonstrated by his involvement in and commitment to the project and his past saving and credit history. But no attempt is made to review these factors and even poor families and SHGs who have faithfully saved with the same banker over years and drawn and repaid earlier loans without default are kept short of funds. Failure of many projects can also thus be attributed to mindless underfinancing.
  • (f) Loan maturities: The same inflexible approach is applied to loan maturities. A five-year composite loan of Rs 2.5 lakh is routinely offered to a SHG of 10 persons, without recourse to active appraisal and assessment of the specific needs of each project. Maturities are also compressed to enable bank branches to be able to report progress under all three monitored heads: sanctions, disbursements and recoveries, to the detriment of projects and their promoters.
  • (g) Bidding goodbye to directed lending?: What is required, therefore, is to make lending procedures and conditions borrowerled. They must be determined by the needs and viability of each project as assessed professionally by a trained banker. The system of directed or induced lending that is now in force has shifted the initiative and responsibility for lending from the banker who is the sole expert in assessing viability to the government functionary who promotes the loan. The banker needs to be brought back to the centre of the lending process and become the only decisionmaking point for lending to poor households. The responsiveness of the banking structure to poor rural borrowers as individuals as well as in groups and improvement in their access to credit for potentially viable projects must be increased not by case-to-case recommendation as is the present practice but by evolving incentives
  • which do not affect the initiative and flexibility of trained banking personnel.

    One solution is to tie up government business with banks to their achieving an overall limit of lending to poorer households leaving selection of projects to internal professional strategies of different banks. The quality of lending done could be assessed through some kind of occasional monitoring which evaluates on a sample basis whether real choices are indeed available to such clients. Distortions and perversities arising out of subsidy based lending can be reduced by phasing out subsidy in the case of viable projects, for which the real issue today is ready access to the required credit level.

    At present, subsidy is the mechanism used to make self employment projects for poorer households viable. However, this also leads to promotion of unviable projects which will never be sustainable once the subsidy ceases. A better use of budgetary support is to focus on provision of infrastructure,marketing advice, skill training and the like. The government machinery should also concentrate on supporting group formation and helping to identify viable activities for different areas (using NGOs, professionals, etc). This will obviate the need for the suboptimal strategy of subsidy linked lending, which has developed into a complex web in which front or back ended transfers are made from government accounts to beneficiary accounts, very often with little benefit in terms of access to the required level of finance at a fair price.

    Use of NGOs and ‘Facilitators’

    Group formation and support are done through facilitators working generally through NGOs and funds are provided in different schemes for different stages of activity. Detection of natural groups which can sustain themselves on a platform of trust and mutual dependence is not something that should be done on a routine basis to fulfil targets. For this reason, no targets were fixed under SGSY in early years of the programme.

    Selection of NGOs and facilitators with aptitude for group formation and support is a difficult task. A detailed process has been laid down for this and there is scope for certification and rating of NGOs through Council for Advancement of People’s Action and Rural Technology (CAPART) or a similar organisation. The original intention was to use already existing voluntary organisations formed for philanthrophic

    Economic and Political Weekly February 3, 2007 purposes and engaged in different areas of social work to mobilise SHGs, train and support them. But, large-scale recourse to NGOs for group formation under various departmental schemes has generated perverse effects; it has itself led to the formation of several voluntary organisations whose credentials and commitment are not always satisfactory. Facilitators selected by such bodies go through the process of group formation in a mechanical and routine fashion purely to claim government handouts and meet targets. It has become difficult to distinguish self-motivated and professionally sound NGOs from those which have come into existence purely to respond to government programmes. There is a need to use NGOs who have a purpose of their own and largely rely on activities outside government programmes for group formation.

    Towards Sustainable SHGs

    A major handicap of the informal structure of SHGs is the absence of a good auditing and maintenance mechanism. The entire thrust is on formation and bank linkage. Unfortunately, several groups, particularly those which are formed hastily and artificially, receive little attention for continued activity once government handouts for group formation and training are drawn by facilitators. Hence, they tend to stop functioning after some time, which implies that hard earned savings of group members fall into the hands of the last set of borrowers and are then not recovered. The need for inspection and audit cannot be denied even where groups have only mobilised their own savings and have not yet accessed bank finance. SHG federations could do the audit or facilitators themselves could be trained and supervised for the purpose.

    The central issue of exclusion of poor households from the formal credit network lies within the banking community, in attitudes which have given rise to procedures that do not fit the needs of poorer borrowers. To modify them, training is essential all down the chain, from policy-makers who lay down formal and informal performance appraisal networks and create the institutional ethos of a bank to rural branch managers who deal directly with smaller clients. Skills for assessing the viability of small rural projects and adopting the appropriate perspective for handling poor households must be imparted and incentivised for bankers in mainstream training programmes not merely in programmes run for “priority sector” or “rural” lending. This could cover mandatory visits and attachments to professionally run microfinance institutions (the Bangladesh Grameen Bank) and NGOs with wide experience of microcredit, Rural Development and Self Employment Training Institute (RUDSETTI, MYRADA, etc), village stays and hands on experience of exclusion from the formal banking structure, projects and seminars focused on looking at rural user perspectives about bankers, etc. The experience of bankers who have worked within a different perspective as in the case of RUDSETTI in Karnataka proves that it is possible for the same banking fraternity to promote and fund poor households successfully.

    Finally, there is the all-important question of cost of credit. The argument that availability, not cost of credit, is the issue is only partially true. Widespread acceptance of this belief has resulted in a situation in which credit availability has been substantially improved through SHGs but little effort has been made to tackle the issue of interest rates taken by the final user. An unfortunate outcome of the campaign to promote large-scale lending through SHGs without essential modification in attitudes of bankers to lending to small borrowers is the multiplication of intermediary levels in the lending process with each tier adding its mark up to the credit cost.

    SHGs themselves are rarely the final borrowers; this happens only when a group activity is taken up and profits shared by all members. A more common situation is that of a SHG on lending to members. Groups are rarely trained in the art of modulating the onlending rate to cater to different requirements of members; there is for example hardly any rate differentiation between production and consumption loans. Bankers are now also taking the easy route of lending not just to SHGs but also to micro credit institutions which then lend to SHGs, not to their members. As a consequence, the final rate at which the poor household borrows is often between 24 per cent and 30 per cent, which is only slightly lower than the prevailing informal lending rate. Such high cost lending can hardly be expected to promote sustainable productive activity.

    The pity is that multi-tiered lending is both inefficient and unnecessary. It is easily possible to structure methods which provide for direct lending from banks to individual borrowers using the SHGs to which they belong as guarantors and facilitators charging a much lower guarantee or transaction commission for maintaining records and organising repayment. NGOs of various kinds should operate as facilitators, trainers and the like at a fixed cost without contributing their mite to increasing the onlending rate for the ultimate borrower. Much more would be done in this area if increasing the coverage of formal sector lending becomes a mainstream objective of the banking sector.


    National Seminar on


    March 28-29, 2007

    Organised by Department of Political Science Newman College, Thodupuzha (Affiliated to Mahatma Gandhi University, Kottayam) Idukki Dist., Kerala-685 585

    Call for Papers

    Papers on the following themes are invited:

  • Globalisation: Reforms and Development
  • Impact of Governance on Poverty
  • Gender, Governance and Development
  • Decentralisation and Local Governance
  • Governance in Cooperatives and NGOs
  • Governance in Natural Resource Management
  • Governance Issues in Water and Sanitation
  • Governance in Education and Health
  • Governance in Rural Finance
  • Governance in Rural Infrastructure
  • Last date for the submission of abstracts : February 28, 2007 Last date for the submission of full papers : March 15, 2007

    For all enquiries and details contact: Dr. T. M. Joseph, Seminar Coordinator;

    Economic and Political Weekly February 3, 2007

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