'Capping interest rates on micro-loans will be counterproductive'

Imposition of ceilings on the rate of interest that can be charged by the microfinance institutions (MFIs) will be counterproductive, according to Syed Hashemi, senior microfinance specialist of The Consultative Group to Assist the Poor (CGAP), a division of the World Bank.

"It is always tempting for governments to impose ceilings on the rate of interest that can be charged on micro-loans. But years of evidence convince us that interest rate ceilings are ultimately harmful to the very people they are supposed to protect - the poor," Hashemi said prior to presenting the CGAP Financial Transparency Award to SKS Microfinance Private Limited here on Thursday.

Hashemi's observations in this regard assumed added significance in the light of the Andhra Pradesh's government's move to bring in a legislation to impose a ceiling on the rate of interest to be charged on micro-loans following a recent row over alleged excesses committed by a couple of MFIs in the state.

It may be recalled that the loan recovery in microfinance operations in districts like Krishna and Guntur came to a halt after the borrowers complained of high rate of interest and harassment resulting in the intervention of respective district administrations.

A couple of suicides on account of alleged harassment by MFIs had forced the district administrations to close down the offices of certain microfinance operators.

The allegations included the collection of high rate of interest (24 per cent) and forced recoveries. A liberal offer of loans by MFIs also appeared to have resulted in multiple loans to a single borrower irrespective of the client's re-paying capacity.

Nevertheless, Hashemi said that any cap on the interests rates, in practice, would "reduce the supply of credit, especially to the poor, who are driven instead to borrow from money lenders whose rates are not capped and whose collection methods are notorious."

Instead of imposing ceilings on interest rates, he said, a far more effective way to ensure that interest rates were not excessive was to foster healthy competition within the financial sector and for microfinance institutions to make their operations more efficient.

In this context, he pointed out that it was critical to get systems of microfinance and the institutions behind them working in transparent, and efficient ways.

The CGAP award was presented to SKS for transparency in financial reporting. SKS chief executive officer, Vikram Akula, said his MFI had a separate and independent internal audit system right from the beginning as "we see SKS as a trustee of the capital we get from our lenders".