MICROFINANCE: THE PARADIGM SHIFT

MICROFINANCE: THE PARADIGM SHIFT

Submitted toMr. JRS SharmaProfessorIBS – Gurgaon

Submitted ByPrateek Goel

August 30, 2008

ACKNOWLEDGEMENT

We would like to thank Professor JRS Sharma, for giving us this opportunity to prepare this report and for always being patient with his time and generous with his advice as he supervised our work.

Our special thanks to Mr. Goyal, librarian, IBS-G for the help that was offered as and when required by us during the course of preparing the report.

Finally, we would like to express our gratitude to our friends and family, who have always showed support in every assignment we undergo.

TABLE OF CONTENTS

1. Executive summary2. Problem statement

3. Introduction3.1. Background3.2. Rural scenario3.3. Reasons for commercial banks to venture into microfinance

4. ICICI Bank4.1. Introduction4.2. ICICI and Microfinance4.3. ICICI’s foray into rural market4.4. ICICI initiation to Microfinance

4.4.1. The SHG bank linkage model4.4.2. The MFI intermediation model4.4.3. ICICI partnership model

4.5. ICICI’s expansion of services

5. HDFC5.1. Introduction5.2. Recommendations to HDFC

6. Conclusion7. References

EXECUTIVE SUMMARY

Microfinance refers to the provision of financial services to poor or low-income clients, including consumers and the self-employed. As Marguerite Robinson describes in The Microfinance Revolution, the 1980s demonstrated that “microfinance could provide large-scale outreach profitably,” and in the 1990s, “microfinance began to develop as an industry”. In the 2000s, the microfinance industry’s objective is to satisfy the unmet demand on a much larger scale, and to play a role in reducing poverty. While much progress has been made in developing a viable, commercial microfinance sector in the last few decades, several issues remain that need to be addressed before the industry will be able to satisfy massive worldwide demand. The obstacles or challenges to building a sound commercial microfinance industry include:• Inappropriate donor subsidies• Poor regulation and supervision of deposit-taking MFIs• Few MFIs that mobilize savings• Limited management capacity in MFIs• Institutional inefficiencies• Need for more dissemination and adoption of rural, agricultural microfinance methodologiesHowever some of these challenges have been successfully met by the banks and MFIs in India.This report aims at evaluating the viability of one of these banks ICICI in the field of microfinance and to further suggest another grand player of banking sector HDFC as to how it should venture this field.ICICI is the biggest centralized private player in the Indian banking sector which has proved its excellence in the direction of microfinance. ICICI Bank sees an opportunity to make profits in untouched markets, while improving the lives of poor people. ICICI's microfinance portfolio has been increasing at an impressive speed. From 10,000 microfinance clients in 2001, ICICI Bank is now lending to 1.2 million clients through its partner microfinance institutions, and its outstanding portfolio has increased from Rs. 0.20 billion (US$4.5 million) to Rs. 9.98 billion (US$227 million).This success is due to a series of innovative models and initiatives. While a model of microfinance has emerged in recent years in which a microfinance institution (MFI) borrows from banks and on-lends to clients, few MFIs have been able to grow beyond a certain point. Under this model, MFIs are unable to provide risk capital in large quantities, which limits the advances from banks. In addition, the risk is being entirely borne by the MFI, which limits its risk-taking.To address these constraints, ICICI Bank initiated a partnership model in 2002 in which the MFI acts as a collection agent instead of a financial intermediary. This model is unique in that it combines debt as mezzanine finance to the MFI.The loans are contracted directly between the bank and the borrower, so that the risk for the MFI is separated from the risk inherent in the portfolio. This model is therefore likely to have very high leveraging capacity, as the MFI has an assured source of funds for expanding and deepening credit. ICICI chose this model because it expands the retail operations of the bank by leveraging comparative advantages of MFIs, while avoiding costs associated with entering the market directly.Few other major strategies used by ICICI in microfinance which gave it an edge over other commercial banks were SHG- Bank linkage, Intermediatory model, securitization, training new partners and working with venture capitalists which are covered in detail further in the report.

HDFC Bank in India was set up in August 1994 with the approval of Reserve Bank of India. The bank was promoted by Housing Development Finance Corporation Limited, a premier housing finance company of India (set up in 1977).With the growing competition in the urban sector now its necessity for HDFC to venture in the rural sector. And the best route to the rural sector of India is microfinance. Rural sector demands are much more than the current supply of financial aid. Moreover, microfinance has proved it time and again that it the access and not the interest rates that are a constraint for the poor. Another discovery followed, that the poor can and will save, and can indeed use a wide range of financial services such as remittances facilities and insurance products. The most well known and cited international example of a microcredit institution is the Grameen Bank in Bangladesh. Further, other factors that justify the venture of HDFC into microfinance are the policy push by the NABARD and government, the demand pull, the lower operating cost, cross-selling opportunities, the entry of Processing and FMCG companies into the rural sector through the similar route. Since around 78% of the banks in the banking sector today in India are the public sector banks. Its recommended for HDFC to venture into the microfinance by forming Joint Ventures with the public sector banks so that they could better avail the subsidies and funds provided by the government and NABARD.Following the Microfinance models in their venture could be a fruitful approach. Microfinance models provide the appropriate and among the best methodologies for these players to deliver services to the lower income families.

PROBLEM STATEMENT

To evaluate the viability of ICICI Bank’s thrust on Microfinance and to advice HDFC Bank as to why it should undertake similar Microfinance.

INTRODUCTION

The most important finding in the last two decades in the world of finance did not come from the world of the rich or the relatively well-off. More important than the hedge fund or the liquid-yield option note was the finding that the poor can save, can borrow (can indeed decide on loans to fellow poor), and will certainly repay loans. This is the world of microfinance.

A good definition of microfinance as provided by Robinson1 is, ‘Microfinance refers to small-scale financial services for both credits and deposits — that are provided to people who farm or fish or herd; operate small or microenterprises where goods are produced, recycled, repaired, or traded; provide services; work for wages or commissions; gain income from renting out small amounts of land, vehicles, draft animals, or machinery and tools; and to other individuals and local groups in developing countries, in both rural and urban areas’.

A bewildering range of players have jumped on to the microfinance bandwagon — for a variety of reasons. There have been NGOs which gradually metamorphosed into lending institutions, developmental professionals who have set up microfinance companies and banks that have experimented with working exclusively with groups and therefore have ‘Microfinance branches’. These range from not-for profits that see microfinance as having a role in ‘development’, to commercial banks that view microfinance as ‘good, sound banking’, an excellent way of raising deposits, and lending at low risk. In fact the success of groups in microfinance has attracted the attention of wide-ranging players to use these groups for a range of purposes. Several governmental schemes are being routed through microfinance, including a very large project funded by the World Bank and being implemented in the state of Andhra Pradesh. Similarly organizations like Hindustan Lever have looked at the potential of these groups as a channel for retailing and have launched a program called ‘Project Shakti’ to tap the smaller villages through the microcredit channel.

Microfinance leaders are gaining prominence and it is said that some of the leaders, particularly women, have been taking a more active role in other social spheres, including contesting elections for the panchayat and so on. The Indian microfinance sector is a museum of several approaches found across the world. Indian microfinance has lapped up the “Grameen” blueprint; it has replicated some aspects of the Indonesian and the Bolivian model. In addition to the imported artifacts of microfinance, we also have the home-grown model of self-help groups (SHGs).

BACKGROUND

For several decades, many economies, including the Indian, experimented with subsidized credit for the poor. But the only tangible outcome perhaps was the increase in Non-Performing Assets (NPA). Then came the realization that the core issue for the poor was access to credit rather than the cost of credit. In fact one of the contributions of microfinance can possibly be the ‘end of interest rate debate’.

Microfinance has proved time and again that it is access and not interest rates that are a constraint for the poor. Another discovery followed, that the poor can and will save, and can indeed use a wide range of financial services such as remittances facilities and insurance products.

RURAL SCENARIO

FINANCIAL NEEDS OF THE POOR:

In developing economies and particularly in the rural areas, many activities that would be classified in the developed world as financial are not monetized: that is, money is not used to carry them out. Almost by definition, poor people have very little money. But circumstances often arise in their lives in which they need money or the things money can buy.There are several types of needs:

Lifecycle Needs: such as weddings, funerals, childbirth, education, homebuilding, widowhood, old age.

Personal Emergencies: such as sickness, injury, unemployment, theft, harassment or death.

Disasters: such as fires, floods, cyclones and man-made events like war or bulldozing of dwellings.

Investment Opportunities: expanding a business, buying land or equipment, improving housing, securing a job (which often requires paying a large bribe), etc.Poor people find creative and often collaborative ways to meet these needs, primarily through creating and exchanging different forms of non-cash value. Common substitutes for cash vary from country to country but typically include livestock, grains, jewellery and precious metals.

As Marguerite Robinson describes in The Microfinance Revolution, the 1980s demonstrated that “microfinance could provide large-scale outreach profitably,” and in the 1990s, “microfinance began to develop as an industry” . In the 2000s, the microfinance industry’s objective is to satisfy the unmet demand on a much larger scale, and to play a role in reducing poverty.

While much progress has been made in developing a viable, commercial microfinance sector in the last few decades, several issues remain that need to be addressed before the industry will be able to satisfy massive worldwide demand.

The obstacles or challenges to building a sound commercial microfinance industry include:

• Inappropriate donor subsidies

• Poor regulation and supervision of deposit-taking MFIs

• Few MFIs that mobilize savings

• Limited management capacity in MFIs

• Institutional inefficiencies

• Need for more dissemination and adoption of rural, agricultural microfinance methodologies

REASONS FOR COMMERCIAL BANKS TO VENTURE INTO MICROFINANCE

Policy Push: The most important factor that got banks involved (in spite of the horrendous IRDP experience) is what one might call the policy push. Given that most of our banks are in the public sector, public policy(including frowns and nods from the Finance Minister), does have some influence on what they will or will not do. In this case, policy was followed by diligent, if meandering, promotional work by NABARD. (It would be worthwhile to look at how this particular policy was implemented compared to the other policy and programme interventions by the state). The policy change about a decade ago by RBI to allow banks to lend to SHGs was initially followed by a seven-page memo by NABARD to all bank chairmen, and later by sensitisation and training programmes for bank staff across the country. Several hundred such programmes were conducted by NGOs alone, each involving 15 to 20 bank staff, all paid for by NABARD. The policy push was sweetened by the NABARD refinance scheme that offers much more favorable terms (100% refinance, wider spread) than for other rural lending by banks. NABARD also did some system setting work and banks lately have been given targets. The

canvassing, training, refinance and close follow up by NABARD has resulted in widespread bank involvement.

Demand Pull: There is a huge gap between demand and supply .The SHG bug spread among NGOs rather quickly and they began going to banks to get SHGs linked. But the favourable policy environment made it possible for NGOs and others to draw the banks out.The most recent interest among banks, particularly regional rural banks, is perhaps because they are looking for alternative markets given their present high liquidity. Their SHG portfolio,though small volumetrically, is performing well (comparable to their prime clients).

Lower operating cost

Finally, for banks the operating cost of microfinance is perhaps much less than for pure MFIs. The banks already have a vast network of branches. To the extent that an NGO has already promoted SHGs and the SHG portfolio is performing better than the rest of the rural (if not the entire) portfolio, microfinance via SHGs in the worst case would represent marginal addition to cost and would often reduce marginal cost through better capacity utilisation. In the process the bank also earns brownie points with policy makers and meets its priority sector targets

Cross selling opportunities

Further, bank-groups are motivated by a number of cross-selling opportunities in the market, for deposits, insurance, remittances and eventually mutual funds. Since the larger banks are offering all these services now through their group companies, it becomes imperative for them to expand their distribution channels as far and deep as possible, in the hope of capturing the entire financial services business of a household. Banks and insurance companies have realized that NGOs offer a gateway to thelarge market of the lower-income households and that accounts for why a number of them, the ICICI Group leading, are establishing business alliances with NGOs. As long as this enables the spread of financial services to the underserved at competitive rates, I think it is a good thing that is happening.

An alternative market

It does not take much analysis to figure out that the market for financial services for the 50-60 million poor households of India, coupled with about the same number who are technically above the poverty line but are severely under-served by the financial sector, is a very large one. Moreover, as in any emerging market, though the perceived risks are higher, the spreads are much greater. The traditional commercial markets of corporates, business, trade, and now even housing and consumer finance are being sought by all the banks, leading to price competition and wafer thin spreads. Usage of SHGs as entry points by Processing and FMCG companies

Both agri-input and processing companies such as EID Parry, fast-moving consumer goods (FMCG) companies such as Hindustan Levers, and consumer durable companies such as Philips

have realised the potential of this big market and are actively using SHGs as entry points. Some amount of free-riding is taking place here by companies, for they are using channels which were built at a significant cost to NGOs, funding agencies and/or the government. In response to this, BASIX has launched an initiative in retail mutual marketing called ‘Our Way’, where it has encouraged, trained and financed SHG federations to act as wholesalers for not one but any number of companies and capture the margins as well as bargain for higher discounts on the strength of their ‘ownership of demand’. Once again, if this initiative works, it would not be such a bad thing, for low-income households will get things 5-10% cheaper.

ICICI BANK

INTRODUCTION

ICICI Bank was originally promoted in 1994 by ICICI Limited (a development financial institution for providing medium-term and long-term project financing to Indian businesses), and was its wholly-owned subsidiary. After consideration of various corporate structuring alternatives the managements of ICICI and ICICI Bank formed the view that the merger of ICICI with ICICI Bank would be the optimal strategic and legal structure for both entities. Consequent to the merger in January 2002, the ICICI group's financing and banking operations, both wholesale and retail, have been integrated in a single entity.ICICI Bank is India's second-largest bank with total assets of about US$ 38.5 bn at March 31, 2005 and profit after tax of US$ 461 million for the year ended March 31, 2005 (US$ 376 million in fiscal 2004). ICICI Bank has a network of about 610 branches and extension counters and over 2,000 ATMs. ICICI bank is India’s second – largest bank (after the State Bank of India ) with total assets of about Rs 1,327 bn. And a strong network of branches and (no. of ATMs) ATMs across the country . It offers a wide range of banking products and services to corporate and retail customers through a variety of delivery channels, Investment banking , life and non life insurance, specialized subsidiaries and affiliates venture capital and asset management.

ICICI Bank set up its international banking group in fiscal 2002 to cater to the cross border needs of clients and to offer products internationally. ICICI Bank currently has subsidiaries in the UK, Canada and Russia, branches in Singapore and Bahrain and representative offices in the United States, China, United Arab Emirates, Bangladesh and South Africa. ICICI Bank's equity shares are listed in India and its American Depositary Receipts (ADRs) are listed on the New York Stock Exchange (NYSE).

ICICI AND MICROFINANCE

The last few years have witnessed a spate of rural microcredit activities with more and more institutions moving towards the rural segment in search of new opportunities for revenue and profit. ICICI bank is one such organization that has been highly noticeable over the past few years in delivering highly innovative microcredit services to the rural populace. The bank has come up with viable and promising strategies to see a strong foray into the rural and semi – urban sector.

The banks activities range from financially supporting a network of village internet kiosks to partnering with microfinance institutions in providing cheap loans. The Social Initiatives Group (SIG) of ICICI bank is concerned with development and dissemination of a appropriate financial services to the economically lagging rural populace .It is working towards providing four classes of micro financial services : basic banking services, insurance services and financial services including credit ,equity and leasing and derivatives.

A guideline of the RBI requires all private sector banks to allocate a minimum of 18 % of their net credit to the agricultural sector .In consonance with this requirement and also due to its own corporate commitments , the bank is aggressively pursuing its objectives for the rural sector. In its pursuit to reach a larger rural populace , the bank is currently engaged in forming strategic alliances with existing Microfinance Institutions .Besides the bank is also encouraging local entrepreneurs to start up new microfinance institutions as franchisees.The bank is investing in low cost technology networks that would help it keep the operational costs low . In accordance with this , the bank is purchasing the high cost loans of existing MFIs and replacing them with newer loans at lower interest rates. To ensure repayment , the bank has opened an escrow account allowing the small borrowers the flexibility to repay as per their convenience.

The new policy measures ensures profitability to all the parties involved. The smaller borrowers are finding it convenient to repay the loans at lower interest rates . The MFIs are economizing on resources , while the ICICI bank is finding it a profitable business opportunity to make inroads into the rural segment without making compromises on profitability , as full repayment is assured .

The bank also offers a variety of other products to the rural masses . Affordable loan schemes to purchase buffaloes or credit for small tea shops are on its product catalogue .Then there are schemes for life , non life and even for weather insurance( covering all kinds of climatic uncertainties ).

ICICI BANK'S FORAY INTO RURAL MARKETS

Banking with the poor is a challenging task as the nature of demand requires doorstep services, flexibility in timings, timely availability of services, low value and high volume transactions and require simple processes with minimum documentation. The nature of supply however involves high cost of service delivery, rigid, inflexible timings and procedures and high transaction costs for the customers. With these features on the supply side, traditional banking is not poised to meet the requirements of the demand side. The reach of the banking sector in the rural areas was as low as 15% in terms of credit potential, and 18% in terms of population with physical access to a bank branch.ICICI Bank chose to pursue the unreached rural markets as part of its strategy of being a universal bank. However, instead of taking the conventional branch banking model for increasing its outreach, the Bank decided to work with models which would combine the strengths of intermediary forms of organization with the financial bandwidth of a banking institution.

ICICI’S INITIATION TO MICROFINANCE

THE SHG BANK LINKAGE MODELTo enable its foray into the rural markets, ICICI Bank merged with the Bank of Madura (est.1943), which had a substantial network of 77 branches in the rural areas of a South Indian state – Tamil Nadu. The Bank of Madura had an expertise in catering to the needs of the small and medium sector and had a strong network of SHGs. At the time of the merger the Bank of Madura had 1200 SHGs. However, the program was not yet sustainable. To reach profitability ICICI Bank devised a three-tiered structure. The highest level was to be a project manager, who would be an employee of the bank. Six coordinators would report to each project manager and would in turn oversee the work of 6 promoters. The target for promotion of groups was 20 groups within 12 months, upon which the promoter would receive financial compensation from the Bank. The coordinator would usually be an SHG member who would coordinate the activities of the promoters.The women who had finished a year of promoting the requisite 20 groups were given the

designation of Social Service Consultant. These would travel within a radius of 15 kilometers, in order to promote as many groups within their area as possible. Strict guidelines were set for selection of SHG members and SHGs would focus on those who were illiterate and below the poverty line so that there would be homogeneity in the socio economic background as well. The SHGs followed the normal pattern of saving until they had internally collected an amount of Rs 6000 in a bank account held in the group's name, through a weekly payment of a small amount by each member of the group. After this, the amount collected would be lent internally at 24% p.a. This rate of interest was much less than was available from the informal lenders, and the entire groups stood to gain as the interest was churned back into the group.

ICICI Bank achieved a high rate of growth, reaching 8000 SHGs in March 2003, with its team of 20 project managers. Within three years of the merger with Bank of Madura, ICICI Bank had

extended its reach to 12000 SHGs. However, the pace of outreach was still slow, and the Bank began to experiment with other models of reaching the unreached. This was because existing branches could be leveraged for outreach, but in areas where there were no ICICI Bank branches, it would not be viable to set up branches solely for the purpose of rural outreach, as such branches would have a very long gestation period and would costly in terms of overheads. ATMs were also costly proposition and the infrastructure required was not in place in most of the remote areas.

It was felt that in the case of the SHG formation, there was no risk sharing or financial stake/ performance stake of the social intermediary (NGO) in the process of group formation. Once the groups were formed and linked to Bank credit, there was no more responsibility on the part of the NGO. The SHGs had been repaying at very good rates, above 95%, yet there was a need to control the quality of group formation and link it to credit discipline. ICICI Bank also worked with Self Help Promotion Institutions to outsource the work of group formation institutions whose core competence was in social intermediation. In this case, the alignment of incentives remained the same, as the bank staffs were replaced by an external entity, who albeit with the best of intentions and competencies, would not be able to vouch for the quality of groups created by it. Thus, despite having good increase in outreach, the model failed to scale up further.

MFI INTERMEDIATION MODEL

ICICI Bank began to experiment with the micro finance institution (MFI) as a substitute for the more granular Self Help Group. The MFIs were willing to take on the risk of the financial performance of the groups/ individuals that were being lent to. Therefore the stake in good quality group formation was also built in. Also, this channel was better for leveraging large amounts of funds without necessarily having a grassroots level presence of the bank staff. The MFI would undertake the processes and operationalization in terms of group formation, cash management, disbursal and recovery, and also record keeping. The Bank would lend to the MFI on the basis of its balance sheet and portfolio performance and the MFI would repay the bank.

The MFI-Bank linkage model paved the way for taking a wider range of services to the financially underserved populace. These financial services include provision of microinsurance tailored to the cash flows and insurance needs of the low-income clients. The microinsurance ensured the end client a support in case of accidents/ disablement as well as loan insurance in case of death. This was a significant step towards reducing household vulnerabilities.

The intermediation model at first looked scalable, but there seemed to be constraints in this model as well. For instance there was a double charge on capital created, once at the level of the Bank lending to the MFI and secondly at the level of the MFI on lending to the client. This seemed to be a sub optimal lending structure due to the double counting that also, because the small balance sheet size, unduly affected the risk perceived about the MFI, even if it had very robust systems and processes. Other key challenges to performance were that the MFIs could not grow and scale as fast as their capabilities would permit, because of severe capital constraints. Most MFIs had potential access to large debt funds, but because of their small size balance sheet (which would represent the very limited initial capital of the promoters); they were constrained to operate with limited debt funding. In the complete absence of equity investors in the microfinance institutions, there was hardly any scope for the MFI to scale up rapidly.

MFIs on the other hand, were exposed to the entire risk of lending to the end clients, despite their constrained risk appetite. Most MFIs were operating in a single geography, and the systematic risk that they were exposed to was large. This put undue risk bearing on these organisations, especially in the light of their limited geographical risk diversification capabilities. Banks, which were lending ostensibly to the end- clients, could not get access to any information regarding the repayment capacity, or repayment behaviour of the end clients, as the MFI not only acted as an operating and servicing agent, but also assumed the entire risk. If the MFI collapsed due to any internal organisational issues as opposed to client default, the entire client segment which had demonstrated credit-worthiness would be deprived of a service provider. On the one hand were the competencies of the Bank (which had a large amount of finances waiting to be channelled into the sector) and on the other, the social intermediation expertise of the MFI (which had a grassroots presence, customer outreach and contact, and could also achieve better economies of scale if it scaled up and extended outreach faster). There was a need to combine the strengths of both players, while also building in the correct incentives and using capital parsimoniously to leverage the maximum value and client outreach from it. Furthermore, there was a need for close supervision and information tracking so that at no stage would rapid expansion lead to undetected default due to slackness in monitoring. Costs would have to be recovered to ensure sustainability. The model would also have to incentivize growth and preserve the incentives of the originator (of the portfolio) to maintain portfolio performance.

ICICI PARTERNISHP MODEL: JOINING HANDS TO SCALE UP

In 2002, an internal analysis by ICICI Bank revealed that despite consistent evidence of viable demand from clients, access to MFIs was constrained due to the organization-based financing model adopted until then. Owing to the limited number of rural branches, the SHG–Bank Linkage model was not considered a scalable route for ICICI Bank.

Hence ICICI decided to enter into partnerships with the NGOs on a long term basis. These NGOs set up field organizations for the promotion and management of SHGs as a service provider. ICICI Bank provides credit, savings and other services such as insurance directly to the SHGs and NGO further helps in monitoring and collection activities. ICICI also provides working capital assistance to NGOs to meet cost of promotion during initial years. NGO repays working capital loan from donor funds (when available) or from service charges.

UNIQUE FEATURES

ICICI Bank funds the cost of SHG promotion during initial years Marries the core competence of NGOs/MFIs with that of banks including social mobilization skills with Finance and lending directly to the borrowers through innovative channels. Model overcomes constraints of NGOs having complete dependence on donor funding and MFIs Capital Adequacy Requirements. ICICI’s partnership model hence proved to be unique with its features giving a

sustainable solution for the microfinance.

ICICI’S EXPANSION OF SERVICES

EXPANDING THE RANGE OF FINANCIAL SERVICES

ICICI Bank under its strategy to expand in the Micro finance sector is aiming to provide “complete” market. It is aiming to provide its customer in the rural sector with all sorts of insurance as and when required by them. All these are provided by the bank along with the normal loans provided. Under this expansion, the basic insurances that are covered include:

Weather Insurance: Launched India’s first index based rainfall insurance product which compensates the farmer for loss in yield due to deficient rainfall

Health Insurance: A varied number of health insurances framed especially for farmers have been launched.

Remittance: Domestic fund transfer facility between urban centre and villages especially to cater to the migrant population. This plan proved to be a great success and equally useful for the

customers. Family back at home is now easily receiving money sent by the migrated family members.

Commodity Derivatives: Enable price discovery and hedging against price risks by small farmers through participation in commodity exchanges with NGO/MFIs serving as aggregators.

ICICI BANK EXPANDS RETAIL MICROFINANCE IN INDIA

Besides retail, ICICI Bank, the second-largest commercial bank, has aggressively doubled its rural microfinance and agri-business loan portfolio over a period of nine months. The outstanding in group's total rural microfinance and agri-business portfolio has increased to Rs 10,000 crore compared to Rs 5,200 crore last year.

This comes from an outreach of to 3.2 million low-income clients. Simultaneously, the bank has also increased its partner strength of microfinance institutions (MFIs) to 102, from 49, over a period of one year. The bank plans to partner with 200-250 MFIs, each serving three districts in the country, thus reaching out to 600 in all across the country, through a mix of its products and channels.

Commenting on the same, ICICI Bank’s executive director Nachiket Mor said: "We are targeting at partnering with 200-250 MFIs in the next few years." The bank also plans to develop a unique rural banking proposition by capitalising on the partnership model instead of solely relying on the branch-led approach.

Under the partnership model with MFIs, the bank forges an alliance with an MFI, wherein the latter dons the promotional role of identifying, training and promoting microfinance clients, and the bank finances the clients directly, based on the recommendations of a given MFI.

HDFC BANK

INTRODUCTIONHDFC Bank (NYSE: HDB), one of the first, new generation, tech-savvy commercial banks of India, was incorporated in August 1994, after the Reserve Bank of India allowed setting up of Banks in the private sector. The Bank was promoted by the Housing Development Finance Corporation Limited, a premier housing finance company (set up in 1977) of India. Net Profit for the year ended March 31, 2006 was Rs. 1,141 crores. Results of the latest quarter ended June 2007, indicate that the bank continues to grow in a steady manner.

The Housing Development Finance Corporation Limited (HDFC) was amongst the first to receive an 'in principle' approval from the Reserve Bank of India (RBI) to set up a bank in the private sector, as part of the RBI's liberalization of the Indian Banking Industry in 1994. The bank was incorporated in August 1994 in the name of 'HDFC Bank Limited', with its registered office in Mumbai, India. HDFC Bank commenced operations as a Scheduled Commercial Bank in January 1995.

Currently HDFC Bank has 758 branches, 1,716 ATMs, in 325 cities in India, and all branches of the bank are linked on an online real-time basis. The bank offers many innovative products & services to individuals, corporate, trusts, governments, partnerships, financial institutions, mutual funds, insurance companies.

It is a path breaker in the Indian banking sector. In 2007 HDFC Bank acquired Centurion Bank of Punjab taking its total branches to more than 1,000. Though, the official license was given to Centurion Bank of Punjab branches, to continue working as HDFC Bank branches, on May 23, 2008.

RECOMMENDATIONS TO HDFC

Microfinance is one of the major alternative market given their present high liquidity. It does not take much analysis to figure out that the market for financial services for the 50-60 million poor households of India, coupled with about the same number who are technically above the poverty line but are severely under-served by the financial sector, is a very large one. Moreover, as in any emerging market, though the perceived risks are higher, the spreads are much greater.

Joint ventures with rural banks

HDFCs positioning as of today in Indian market is as an urban centralized private bank .Given that most of our banks are in the public sector, public policy (including frowns and nods from the

Finance Minister), does have some influence on what they will or will not do. For example the policies were followed by diligent, if meandering, promotional work by NABARD.

Hence if HDFC comes up with joint ventures with the public sector banks working in this direction they shall have a free ride availing various government subsidies and financial policies.

Adopting the major microfinance models

The following is a typology of major methodologies shall be employed by HDFC bank for the delivery of financial services to low income families:

Self-help Group (SHG)

The SHG is the dominant microfinance methodology in India. The operations of 15-25 member SHGs are based on the principle of revolving the members’ own savings. External financial assistance – by MFIs or banks – augments the resources available to the group-operated revolving fund. Savings thus precede borrowing by the members. NABARD has facilitated and extensively supported a programme which entails commercial banks lending directly to SHGs rather than via bulk loans to MFIs. NABARD re-finances the loans of the commercial banks to SHGs.

Individual Banking Programmes (IBPs)

IBPs entail the provision by MFIs of financial services to individual clients – though they may sometimes be organised into joint liability groups, credit and savings cooperatives or even SHGs. The model is increasingly popular for microfinance particularly through cooperatives. In the case of cooperatives, all borrowers are members of the organisation either directly, or indirectly by being members of primary cooperatives or associations which are members of the apex society. Creditworthiness and loan security are a function of cooperative membership within which member savings and peer pressure are assumed to be a key factor.

Grameen Model

This model was initially promoted by the well known Grameen Bank of Bangladesh. These undertake individual lending but all borrowers are members of 5-member joint liability groups which, in turn, get together with 7-10 other such groups from the same village or neighbourhood to form a centre. Within each group and centre peer pressure is the key factor in ensuring repayment. Each borrower’s creditworthiness is determined by the overall creditworthiness of the group. Savings are a compulsory component of the loan repayment schedule but do not determine the magnitude or timing of the loan.

Mixed Model

Some MFIs started with the Grameen model but converted to the SHG model at a later stage. However they did not completely do away with Grameen type lending and smaller groups. They are an equal mix of SHG and Grameen model. Others have chosen to adapt either the Grameen or the SHG model to cater to their markets while some organisations like BASIX use a number of delivery channels and methodologies (including lending to SHGs) to provide financial services.

CONCLUSION

Microfinance refers to small-scale financial services for both credits and deposits — that are provided to people who farm or fish or herd; operate small or microenterprises where goods are produced, recycled, repaired, or traded; provide services; work for wages or commissions; gain income from renting out small amounts of land, vehicles, draft animals, or machinery and tools; and to other individuals and local groups in developing countries, in both rural and urban areas

The obstacles or challenges to building a sound commercial microfinance industry include:Inappropriate donor subsidies, Poor regulation and supervision of deposit-taking MFIs, Few MFIs that mobilize savings, Limited management capacity in MFIs, Institutional inefficiencies and Need for more dissemination and adoption of rural, agricultural microfinance methodologies.ICICI’s success in microfinance is due to a series of innovative models and initiatives. While a model of microfinance has emerged in recent years in which a microfinance institution (MFI) borrows from banks and on-lends to clients, few MFIs have been able to grow beyond a certain point.With the growing competition in the urban sector now its necessity for HDFC to venture in the rural sector. And the best route to the rural sector of India is microfinance. Rural sector demands are much more than the current supply of financial aid. Following the Microfinance models in their venture could be a fruitful approach. Microfinance models provide the appropriate and among the best methodologies for these players to deliver services to the lower income families. Microfinance has proved it time and again that it the access and not the interest rates that are a constraint for the poor. Another discovery followed, that the poor can and will save, and can indeed use a wide range of financial services such as remittances facilities and insurance products.

REFERENCE

Business communication by Raymond Lesikar and John Pettit – Irwin AITBS Books

Professional Communication by Aruna Koneru – Tata Mcgraw –Hill publishing Company Ltd

Churchill, C.F. (1996)," An Introduction to Key Issues in Microfinance: Supervision

and Regulation, Financing Sources, Expansion of Microfinance Institutions,"

Microfinance Network, Washington, D.C. February.

www.wikipedia.org

www.moneycontrol.in

www.intomicrofinance.com

www.unpan1.un.org