Microfinance Muddle: Is Equity Fund the Solution?

It is not a secret that microfinance institutions are under fire for what their critics see as usurious interest rates. The sector plunged into a crisis last year with Andhra Pradesh, the largest market for microfinance, introducing a restrictive law and the country’s largest MFI, and calls being raised all over to put a cap on MFI interest rates. The companies, on their part, said they would be forced to close down if such a cap was imposed.

What was required to pull MFIs out of this mess was the establishment of an MFI regulator who would balance the need for encouraging the growth of the sector with the social objective of taking cheap loans to the poor. Finance Minister Pranab Mukherjee was silent on this objective but instead announced the setting up of an MFI equity fund with a corpus of Rs.100 crore in association with SIDBI.

It remains to be seen how this equity fund can scale up. Will it invest in MFIs criticised for charging high interest rates? Will it ask the investee company to cap its interest rates? How will it achieve a market-based solution for the problem?