Avoiding a Microfinance Bubble in India: Is Self-Regulation the Answer?

An interesting blog by Daniel Rozas and Sanjay Sinha (Microfinance Focus) on self-regulation in the Indian microfinance industry.

Previously Daniel Rozas has made a case on the existence of a microfinance bubble in India. From the debate is has become clear that the current path of multiple lending and rapid growth in the Indian microfinance industry is unsustainable. New data shows:

Market penetration has continued its rapid growth, with Indian MFIs adding six million customers in 2009.  This is of course good news. [...] of the top five growth contributors, the three southern states of Andhra Pradesh, Karnataka and Tamil Nadu contributed 54% of new MFI clients in India during 2009.  Since these states in 2008 already accounted for nearly half of all microfinance clients in India, the clear conclusion is that growth continues to be driven by states with an already large client base.

Yet, one ‘advantage’ of the concentration of local growth is that it helps to keep local delinquency crises (found in Southern India) from spreading.

The question is: can self-regulation prevent (the bursting of) a bubble? The authors welcome  the idea of  establishing credit bureau(s) and recognize the call for a Code of Conduct by Indian MFIs, placing ‘boundaries’ on multiple lending.

According to the authors, this top-down approach of implementing boundaries:

… to limit MFI lending to no more than three loans and a maximum combined amount of Rs 50,000 ($1,000) per person is a big step in the right direction.  This limit, [...] , will no doubt slow growth, most notably in already saturated regions.  But with the high growth rates currently enjoyed by top MFIs along with the broadening of their national presence, sacrificing some part of that growth is a small price to pay for insuring against the downside risks of unbridled growth.

Finally, the auhtors express a number of  concerns:

• market situations may rapidly change, reducing the incentive for MFIs to comply with standards or codes;
• how will participating MFIs be monitored?;
• what enforcement mechanisms will be used?;
• what to do with ‘outside’ actors?
• what can/should be the role of the government?