SKS wilts under pressure

Wrong move to cap interest rates.

SKS Microfinance, the first publicly-listed microfinance company, has set a wrong precedent by capping interest rates on loans to the poor. A cap, 24% in this case, is a discretionary instrument.It will trigger a rate war among MFIs, squeeze profits that are vital to the expansion of the microfinance sector and make small and new MFIs unviable.The company has clearly wilted under pressure to lower interest rates for the second time in a month after the Andhra Pradesh government issued an Ordinance to check malpractices.Some MFIs were accused of using force to recover loans and such coercion, it is alleged, led to suicides.But only a rigorous investigation can prove the connection.Sure, regulation is needed to check malpractices and MFIs that use strong-arm tactics to recover loans must be punished.However, the Ordinance, that restricts MFIs from charging high interest rates on readily-available small loans, will encourage rent-seeking and stifle the sector's growth.This is unfortunate. The Centre should encourage the state not to convert the Ordinance into law, even as the AP High Court is hearing a case arising out of a legal challenge to the Ordinance.Today, the poor do not have access to formal finance.Unlike banks, MFIs lend without collateral and charge interest rates of up to 30% to cover high operational costs.A cap is not the answer to lower interest rates.It will only dampen the supply of microfinance and force the poor to turn to moneylenders.Caps will also curb MFIs from entering remote areas and undermine the goal of inclusive finance.Barriers in the form of price controls are retrograde and should be shunned.Instead, policy should aim at an increase in the supply of credit for lowering interest rates.An expert panel set up by the Reserve Bank of India is now examining the entire gamut of regulatory issues in the microfinance sector including interest rates, lending and recovery practices of MFIs.This is welcome as the study will help spot the trends that impinge on borrower’s interests.It should analyse whether MFIs are indeed charging exorbitant rates. Hopefully, that will end the debate.