New RBI Guidelines on Microfinance

ECONOMY/ GOVERNANCE

Topic:

• GS-3: Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment. 
• GS-2: Government policies and interventions for development in various sectors and issues arising out of their design and implementation.

New RBI Guidelines on Microfinance

Definition: Microfinance is a type of banking service provided to low-income individuals or groups who otherwise would have no other access to financial services. The goal is to give impoverished people an opportunity to become self-sufficient.

Merits

• Low interest rate prevents people from taking loans from private money lenders who charge very high interest rate. As a result, they are saved from debt trap.
• Promotes Self-employment opportunities thus reducing burden on govt. to provide jobs.
• Regionally balanced development, thus reduces rural to urban migration
• Enhanced financial literacy

New RBI Guidelines for Microfinance

1. Standard definition of what is microfinance

Collateral free loans repayable in instalments for households with annual incomes of Rs 1.25 lakh for rural households and Rs two lakh for urban households will be considered microfinance loans

2. Bringing all institutions giving microfinance loans under one regulatory umbrella

• • Banks, Small Finance Banks and NBFC-MFI were all undertaking microfinance activities. 

• • Earlier MFI regulation was only focused on NBFC-MFI which accounts for only 30% of outstanding microfinance loans.

• • RBI is now proposing a single uniform set of regulations to govern microfinance irrespective of who delivers it, thus creating a level playing field.

3. EMI must not exceed 50 per cent of household income

• • This is done to prevent reckless lending by micro finance institutions to single borrowers, which can lead to defaults in long terms.

4. Market forces to determine the cost (interest rate) of microfinance

• • The existing complicated formula on cost is done away with and the pricing of loans will henceforth be determined by the market, as is the case with lending rates adopted by banks.

Connecting the dots:

• Cooperative Banking
• RBI Regulatory Sandbox