Introduction

Microfinance emerged as a noble substitute for informal credit and an effective and powerful instrument for poverty reduction among people who are economically active, but financially constrained and vulnerable in various countries. It covers a broad range of financial services including loans, deposits and payment services and insurance to the poor and low-income households and their micro enterprises. Convincing research evidences have shown significant role of MFIs in improving the lives of the deprived communities in various countries. Persuaded with the potential role of micro financing in alleviating poverty, the South Asian countries especially India & Bangladesh have been actively pursuing the policy of setting up formal network of microfinance institutions. These institutions include NGOs/NBFCs and government sponsored programs. Microfinance is being practiced as a tool to attack poverty the world over. The term Microfinance can be defined as provision of thrift, credit and other financial services and products of very small amounts to the poor in rural, semi- urban or urban areas, for enabling them to raise their income levels and improve living standards. Microfinance Institutions (MFIs) are those, which provide thrift; credit and other financial services and products of very small amounts mainly to the poor in rural, semiurban or urban areas for enabling them to raise their income level and improve living standards. Lately, the potential of MFIs as promising institutions to meet the consumption and micro-enterprise demands of the poor has been realized. Globalization has brought substantial benefits around the world, but in many developing countries it is contributing to a growing disparity between the rich and the poor. In a country like India, the structure of the economy is dualistic. We can see the Growing Companies, booming stock market and soaring profits, making the rich, richer on the one hand while faltering incomes and wages in the field of agriculture and allied activities is making the poor, poorer on the other. This worsens the access of the poor to the economic opportunities through which they could build up their assets and enhance income in order to come out of poverty cycle. The potentials to avail such economic opportunities mainly depends on the degree of access to financial services. The commercial banking sector does not consider the poor bankable owing mainly to their inability to meet the eligibility criteria, including collateral. Thus the poor in most of the countries have had no access to formal financial services. Due to the above mentioned reasons, the rural poor were relying on informal credit channels such as local money-lenders ,market- vendors, shopkeepers and others including friends and relatives. Credit in

the informal system is usually available immediately, when and where required and often without collateral and lengthy documentation formalities, since the lender relies on personal knowledge of the borrower and his surroundings. However the interest rates are not only extremely high, but sanctions often include conditions, verbal or written, which are heavily loaded in favour of the lender and are detrimental to the interest of the borrowers . The more rational way to help the poor could be the provision of sustainable economic opportunities at gross-root level especially provision of required financial services at competitive rates to support their investments and viable business activities. India is perhaps the largest emerging market for microfinance. Over the past decade, the Microfinance sector has been growing in India at a fairly steady pace. Though no Micro finance institution (MFI) in India has yet reached anywhere near the scale of the wellknown Bangladeshi MFIs.

Evolution of Micro finance

Microfinance as an industry evolved in all the third world countries almost at the same time span. World over, it was getting widely recognized that improving income levels of low income community is essential to improve their well-being besides the state sponsored welfare programmers. During the1970s and 1980s, the microenterprise movement led to the emergence of Non-Governmental Organizations (NGOs) that provided small loans for the poor. In 1990s, across the world, a number of these institutions transformed themselves into formal financial institutions in order to access and on-lend funds, thus enhancing their out reach. One of the significant events that helped it gained prominence in the 1970s was through the efforts of Mohammad Yunus, a microfinance pioneer and founder of the Grameena Bank of Bangladesh. In 2006, Prof. Yunus was awarded Nobel Peace prize for his efforts to create economic and social development from below. In India, many formal financial institutional structures were experimented with Regional Rural Banks (RRBs), District Central Credit Cooperative Banks (DCCBs), Local Area Banks (LABs), Self-Help Group(SHG) Bank linkage program. All these received mixed success and parallel, the civil society organizations started feeling the need to offer financial services to the poor. Credit was getting increasingly recognized as an essential tool to break the vicious cycle of poverty. Gradually, Microfinance Institutions emerged in 1990s and 2000s. MFIs today differ in size and reach; some serve a few thousand clients in their immediategeographicalarea,whileothersservehundredsofthousands,evenmillions,in alargegeographicalregion,throughnumerous branches.

Reasons for people to use Traditional Banks

Traditional Banks serve large client base with a large bouquet of products which includes many sophisticated products. Their systems and processes are very complex to support the requirements associated with their range of services. As a corollary, their processes became too complex for low income people to comply with. Moreover, banks are not able to service the customers at their doorstep. Therefore, if a low-income customer like a wage laborer has to access formal banking services, she/he would end up losing wages every time she/he needs tovisit a bank branch to get loan disbursement, make repayment or access savings and withdrawals. Add to it the additional transport fare for the poor laborer. Effectively, the Banking system remains in accessible to this customer segment .Therefore, even if a Bank branch exists, the customers would prefer to take loans from MFIs. Internationally, poor people in developing countries usually do not qualify for any type of services from the formal banking sector: they typically have no credit history, and most are not employed in the formal sector, so there is no record of employment. Moreover, they are unable to provide collateral. Yet, people living in poverty, like everyone else, need access to financial services to help run a small business, manage risks, and plan for a more stable future. The inadequacies of the formal financial system to cater to the needs of the poor and the realization of the fact that the key to success lies in the evolution and participation of community based organizations at the grassroots level led to the emergence of new generation of MFIs. MFI A microfinance institution (MFI) is an organization that provides microfinance services credit, savings, insurance, investments, remittances etc. to the poor/lowincome households. In India, an MFI can operate as a nonprofit non-government organization (NGO) such as a society, trust, credit cooperative or under a regulated for profit structure of Non-Banking Finance Company(NBFC), or even a formal Commercial Bank. In India, provision of savings/ thrift under for-profit structures is restricted by regulation to make it difficult to offer. Therefore, most of the NBFC MFI so offer micro-credit and insurance linkages with mainstream insurance service providers. One kind of MFI is an NGO engaged in promoting Self Help Groups (SHGs) and their federations at a cluster level and linking SHGs with Banks. MFIs have also become popular throughout India as one form of financial intermediary to the poor. MFIs exist in many forms including co-operatives, Grameenabank -like initiatives

and private sector MFIs .Thrift co-operatives have formed organically and have also been promoted by regional state organizations like the Cooperative Development Foundation (CDF) in Andhra Pradesh. The Grameena bank-like initiatives following a business model like the Grameena Bank. Private sector MFIs include NGOs that act as financial services providers for the poor and include other support services but are not technically a bank as they do not take deposits.

Emergence of Micro finance in India

The post-nationalization period in the banking sector, i.e., 1969, witnessed a substantial amount of resources being earmarked towards meeting the credit needs of the poor. There were several objectives for the bank nationalization strategy including expanding the outreach of financial services to neglected sectors. As a result of this strategy, banking network underwent an expansion phase without comparable in the world. Credit came to be recognized as a remedy for many of the ills of the poverty. This has led to the emergence of several pro-poor financial services, supported by both the State and Central governments, which included credit packages and programs customized to the perceived needs of the poor. The pioneering efforts at this were made by National Bank for Agriculture and Rural Development (NABARD), which was given the tasks of framing appropriate policy for rural credit, provision of technical assistance backed liquidity support to banks, supervision of rural credit institutions and other development initiatives. In the early 1980s, the Govt. of India launched a massive poverty alleviation credit program known as the Integrated Rural Development Program (IRDP), Which provided government subsidized credit through banks to the poor. It was aimed that the poor would be able to use the inexpensive credit to finance themselves over the poverty line. In 1999, the GoI merged various credit programs together, refined them and launched a new program called Swaranjayanti Gram Swarozagar Yojana(SGSY). The mandate of SGSY is to continue to provide subsidized credit to the poor through the banking sector to generate self-employment through a self-help group approach and the program has grown to an enormous size. Credit Demand for the Poor It is estimated that in India there exist approximately 7.5 crores poor households, out of which 6 crores are rural and 1.5 crores urban households. Statistics have shown that the total annual requirement of credit for the rural poor families would be at least Rs.15,000crores on the basis of a maximum need of Rs.2000/- per family. Another estimate for requirement of credit (excluding housing) is Rs.50,000 crores assuming that annual average credit usage are Rs.6000/-per rural

household, and Rs.9000/- for poor urban household. An additional Rs.1000crore is estimated to be required for housing per year. Apart from micro-credit, they require savings and insurance also. Meanwhile, bank advances to weaker section aggregated Rs.9700 crores during1997-98. MFIs and SHGs are estimated to have provided about 137 crores (cumulative up to September 1998). The above scenario, suggests a vast unmet gap in the provision of financial services to the poor. Moreover, 36% of the rural households are found to be outside the fold of institutional credit. Limitation of Government Schemes/Rural Banks In India, numerous government schemes have tried to provide various subsidized services to the poor households. However, various studies have exposed the limitation of these programs, showing the lack of access of mainstream financial services for these poor households and their over dependence on the local moneylenders in meeting their consumption and microenterprise demands. According to an estimate, only 16% credit usage was met by the formal sources, while the remaining 84%was met by the informal services. Despite having a wide networkorruralbankbranchesinthecountryandimplementationofmanycreditlinkedpo vertyalleviationprogramms, a large number of the very poor continue to remain outside the fold of the formal banking system. Various studies also suggested that the policies, systems and procedures and the saving and loan products often did not meet the needs of the very poor. Though NABARD re-finances the microfinance sector loans by banks, but doesnt undertake direct financing. Thus, its ability to promote innovations or establish any missing link units is very limited. Even Small Industries Development Bank of India (SIDBI) also depending on the network of State Financial Corporations (SFCs) and commercial banks to extend microfinance sector loans in rural small towns. It also faces the same constraint. Apart from this State Financial Corporations (SFCs) largely concentrate on the upper end of SSIs and that too in urban areas. However, through their district branches, a small proportion of lending is done to the microfinance sector. Their lengthy and stringent procedures inhibit the poor. Regional Rural Banks (RRBs) that are located in rural areas, have low CD ratio and are suffering immensely from lack of skills, incentives and infrastructure support. As can be seen from above, while there is no dearth of institutions and branch network in urban and rural areas, this physical outreach does not translate into access to credit by microfinance sector producers. However, wherever mainstream finance institutions are engaged in financing small borrowers, their experience is characterized by a number of factors. Their institutional design and mandate, which determines their procedures, do not suit the poor. The poor find their procedures cumber some ,complicated and unsuitable for the local environment. They have also failed to provide a mix of

credit for both consumption and productive loans. Therefore poor feel alienated in dealing with them. They feel scared to go to them. Repeat loans, except for crop production are rare, even for the borrowers who have repaid fully. Further, even though the many of the loans extended to the poor by the public sector financial institutions are subsidized, their ultimate cost to the borrowers is high which includes payments to the middle men, wage and business loss due to time spent in getting the loans approved. Growth of microfinance The growth of microfinance is visible in many aspects. There are more than 2000NGOs involved in the NABARD SHG-Bank linkage program. Out of these, approximately 800 NGOs are involved in some form of financial intermediation. Further, there are 350 new generation cooperatives providing thrift and credit services. According to a survey the present total outstanding, including Sa- Dhan members and bank linkages is approximately Rs.700 crores (Rs. 150 crores of SaDhan members and another Rs. 550crores from the Banking system). The total client base is estimated at 6-8 million as opposed to the Government of India (GOI) intention to reach 25 million clients. The growth of community institutions has taken place with the role to take social and financial intermediation. A numbers of community banks have come into existence at village and block levels call ' Federation of Self Help Groups'. Today, poor population of India is potential microfinance clientele; the market size for microfinance in India is in the range of 58 to77 million clients. This translates to an annual credit demand of USD5.7 to 19.1billion (INR 230 to 773 billion) assuming loan sizes between USD100 and 250. If we assume that the low-income but economically active population including small and marginal farmers, landless agricultural laborers, and micro entrepreneurs, are also potential microfinance clients, the annual credit demand goes further up to an estimated245.7 million individuals and USD51.4billion (INR 2.1 trillion) in annual on lending requirements. Impact of Microfinance Though impressive recent growth of certain sectors of the Indian economy is necessary, but they lack sufficient condition for the elimination of extreme poverty. In order to ensure that the poorest benefit from this growth, and also contribute to it, the expansion and improvement of the microfinance sector should be a national priority. Many researches have shown that in Bangladesh, where 15 million families now benefit from small loans and other financial products such as micro-savings and microinsurance,40% of the overall reduction of rural poverty in recent years has been due to microfinance. Two other studies suggest that the impact of microfinance on the poorest is greater than on the poor, and yet another that nonparticipating

members of communities where microfinance operates experience socio-economic gains suggesting strong spillover effects. Moreover, well-managed microfinance institutions (MFIs) haves own a capacity to wean themselves off of subsidies and become sustainable within a few years. The GoI introduced significant measures in the annual budget affecting MFIs. Specifically, it mentioned that MFIs would be eligible for external commercial borrowings. It has suggested them to work with private banks to do business to increase their capacity. Today, Self-Help Groups and MFIs are the two dominant sectors of microfinance in India. The impressive accomplishments of MFIs and their clients in Andhra Pradesh provides a glimpse as to what is possible country-wide. In the year 2000 three leading MFIs- SHARE- SKS and Spandana reached far fewer than 100,000 families. The rest of India is catching on and catching up. According to Sa- Dhan, the overall outreach is 6.5 million families and the sector-wide loan portfolio is Rs 2,500 crores. However, this is meeting only 10% of the estimated demand. Importantly, new initiatives are expanding this success story to the some of the country's poorest regions, such as eastern and central Uttar Pradesh. Anew institutional capacity-building collaboration between American Express Foundation and Grameena Foundation will be critical in ensuring that progress is nationwide and sustainable. Other side of the coin : Though microfinance has garnered significant worldwide attention as being a successful, it does not directly address some structural problems faced by the Indian society and the economy, and it is not yet as efficient as it will be when economies of scale are realized and a more supportive policy environment is created. Loan products are still too inflexible, and savings and insurance services that the poor also need are not widely available due to regulatory barriers. Insufficient data exists on client-level impact, though new tools such as the Poverty Progress Index of Grameena Foundation and the work of Sa- Dhan (the association of Indian MFIs) on measuring client satisfaction are addressing this gap. Still, microfinance is one of the few market-based, scalable anti-poverty solutions that is in place in India today, and the argument to scale it up to meet the Overwhelming need is compelling. Sustainability of MFIs: Nonetheless, some of the MFIs especially the NGOs are facing serious sustainability problems indicating lapse in their financial procedures, organizational design and governance. Moreover, most of the MFIs do not provide deposit services to their clients. In contrast, some of the successful MFIs like Grameena Bank in Bangladesh and Banco Sol in Bolivia have incorporated the provision of deposit services in their operations. Appropriately, managing the deposit service and micro and small savings help MFIs to reach financial self-sufficiency through generating their own internal flow of funds that in turn reduce their dependency on external sources (Murdoch and Haley,

2002). The MFIs exclusively dependent on external sources of funding usually are not sustainable Indian MFIs are reduced to talking about something more basic survival. Politicians from the state of Andhra Pradesh (AP), where microfinance has made the deepest inroads and where SKS has its headquarters, have held micro lenders responsible for the suicides of 57people. It is alleged that they were hounded to their deaths by lenders coercive recovery practices. MFIs deny wrongdoing. Vikram Akula, SKSs founder, says that although 17of the 57 women who killed themselves were SKS clients, none was in default so there was no scope for putting any pressure. Despite this, the state government passed an executive order on October 15th imposing curbs on MFIs. The order stopped short of capping interest rates, as many had feared, though a subsequent statement by a senior bureaucrat suggested that this remains an option. SKS has voluntarily shaved two percentage points off its loan rates in AP, where it has 2.2m borrowers. But it is barely functioning in the state anyway. A series of arrests of field workers has led the company to keep 6,000 staffers idle. It has made no collections in swathes of AP for three weeks. Though the interest rates of 20-30% may seem high, but so are recovery and loan servicing costs in remote villages. According to Mary Ellen Is kenderian of Womens World Banking, a network of MFIs, a more pressing problem is likely to be over-indebtedness, fuelled by rapid growth in a sector with no formal credit bureaus. Big Indian MFIs are now sharing information, pledging not to lend to a person who has already borrowed from three others and to keep total lending to a limit. But smaller lenders have fewer qualms. Conclusion After the pioneering efforts by Government, Banks, NGOs, etc. the microfinance scene in India has reached in take off stage. An attempt could be initiated to promote a cadre of new generation micro-credit leaders in order to strengthen the emergence of Micro-Finance Institution (MFIs), so as to optimize their contribution towards the growth of the sector and poverty alleviation. Each Indian state could consider forming a multi-party working group to meet with microfinance leaders and have a dialogue with them about how the policy environment could be made more supportive and to clear up misperceptions. With one state leading the way, we need to build on a successful model. By unleashing the entrepreneurial talent of the poor, we will slowly but surely transform India in ways we can only beginto imagine today.