New RBI regulations would strengthen MFI ecosystem: India Ratings

India Ratings and Research (Ind-Ra) opines that the key changes in the final regulations for microfinance institutions (MFIs) will bring in the entire industry under the regulatory coverage unlike one-third of the industry coverage earlier.

Moreover, the ability of small and mid-sized MFIs players to implement risk-based pricing would enable building both scale and operating buffers, resulting in improved credit worthiness in the eyes of lenders. This is in line with the agency’s FY23 Outlook: Microfinance where it had said that the viability of the small-medium MFIs could improve post the implementation of the proposed harmonisation guidelines.

The notification is also expected to improve the ability of non-bank finance company (NBFC)-MFIs to penetrate into newer geographies, as pricing can now be differentiated, and cover the higher operating costs for the same.

RBI regulations for microfinance loans

The Reserve Bank of India’s (RBI) announced ‘Master Direction – Reserve Bank of India (Regulatory Framework for Microfinance Loans) Directions, 2022’, on 14 March 2022 (effective from 1 April 2022).

The key changes in the final regulations include the widening of the definition of regulated entities to include commercial banks, co-operative banks, district/state central co-operative banks, NBFC-MFIs, NBFC housing finance companies (HFCs), as well as the removal of pricing caps.

The RBI also expects the not-for-profit companies (with assets under management more than INR1 billion) involved in the microfinance activities to apply for an NBFC-MFI licence.

These guidelines withdraw the regulated pricing caps and allow NBFC-MFIs to implement risk-based pricing based on the customers’ risk profile (more driven by the board’s policies on pricing), although the RBI does keep the right to qualify interest rates usurious in case it deems so.

The new guidelines expand the definition of microfinance borrowers (in terms of household income assessment) and reduce the qualifying assets criteria to 75 percent from 85 percent of the total assets earlier. This could spur investments by NBFC-MFIs in building capabilities in other loan products that an MFI customer can graduate to, Ind-Ra said.

Positive Implications for MFI Sector

The implementation of the new regulations would lead to a positive effect on NBFC-MFIs, especially for mid and small sized ones which were unable to originate substantially and their viability came under question once the lending rate came down to 21.5 percent on account of the price caps, the ratings agency said. In addition, only 30 percent of the microfinance industry was constituted by NBFC-MFIs where the RBI guidelines were mandatory while it was voluntary for the rest (where banks, small finance banks, NBFCs were larger players).

There were differences in the way two-lender norms were followed by all regulated entities. Some considered banks as among the two eligible lenders while some were of the view that this was applicable only to NBFC-MFIs.

There was also diverse opinions on whether the extant norms include secured NBFCs (gold, two-wheeler etc). This has been completely removed to bring a level playing field. From the borrowers’ point of view, this could result in increased cost of credit; nevertheless, this borrower segment’s demand and performance are reasonably inelastic to pricing range as it exists now (19 percent-25 percent), Ind-Ra said.

The regulator by reducing the minimum requirement of microfinance loans in the total loan assets of NBFC-MFIs to 75 percent from 85 percent earlier wants to encourage portfolio diversification to improve the shock-absorbing capacity in case of an event risk, and hence is a long-term positive as companies can offer secured loans up to 25 percent of assets under management to minimise the overall credit risk. This could also provide adequate opportunities to NBFC-MFIs to invest in capabilities related to non-micro loan products, Ind-Ra added.

Published on: Tuesday, March 15, 2022, 06:31 PM IST