Evolution and Challenges in Microfinance: A Journey of Risk Management and Financial Inclusion
CXOToday has engaged in an exclusive interview with Mr. Firoz Anam, Chief Risk Officer, CreditAccess Grameen.
- How has the market for the microfinance sector evolved over the years? What are the unique challenges and risks that you see in the present market developments compared to the banking industry?
Microfinance has been a great success story in our country. From a humble beginning in the 1980s, the industry has come a long way being amongst the largest market in the world. Today the joint liability group (JLG) oriented industry boasts of serving 7.4 core unique customers with an AUM of Rs. 4 trillion in India. The most interesting part of this journey is how credit assessment has evolved. Unlike banking which serves the formal sector and undertakes credit assessment using cash flow analysis backed by verified documentation, the microfinance institutions (MFIs) credit strength rests on twin pillars of group guarantee and income-generating end-use. This is further supported by the credit bureaus which help identify wilful defaulters.
MFIs have operated in a sheltered environment where RBI determined much of the credit guardrails through total indebtedness, number of lenders, fixed pricing formula, etc. Post the new regulation which came in March 2022, the scope of microfinance has been vastly expanded. Naturally, the companies now require far more sophisticated risk management capability than they had in the past. To that extent, the credit assessment in MFI is converging towards that of the banks.
2. What is the role of data analytics in your risk management strategy framework? How are you leveraging the same to make informed decisions?
In contrast to common belief, the microfinance institution (MFI) lending process involves a wealth of data. India’s credit bureaus are notably advanced, receiving highly detailed granular information on a daily basis. MFIs leverage a distinctive household-level credit report, offering unparalleled insights compared to other retail loan products. At CreditAccess Grameen (CA Grameen), we’ve consciously built robust risk analytics capabilities. Our internally developed credit scoring system is used to upsell higher-value products. Additionally, we’ve invested in a cutting-edge business rule engine, facilitating complex credit rules. Today 99.9% of our credit decisions for repeat customers are fully automated with an average decision turnaround of approximately four seconds.
3. At CA Grameen, how do you balance your goals towards achieving financial inclusions with risk management priorities?
I don’t perceive these two goals as conflicting objects. Risk management serves as a tool to support customers in maintaining discipline in their credit behaviour. We don’t insist on any formal documentation beyond KYC, which makes virtually every household eligible to apply. Our credit assessment encompasses a blend of house visits, group consent, and the customer’s past credit history. That process ensures fair treatment for all unserved customers. In our stringent credit risk mitigation process, we ensure that no one is denied credit unjustly.
4. How do you incorporate the dimension of risk on the pricing front after new regulations?
The deregulation of pricing has significantly benefited the MFI sector, granting companies the freedom to establish their own pricing models. At CA Grameen, we’ve adopted a board driven risk-based pricing approach. With the expanding scope of microfinance, we’re observing varying customer behaviors, which we identify through our data analytics capabilities, considering factors such as customer credit maturity and geography. These differing behaviors result in uneven credit costs. Consequently, it’s logical to offer price discounts to incentivize positive conduct and adjust pricing accordingly. Previously deemed “risky” segments or geographies can become attractive after factoring in enhanced risk pricing, fostering the inclusion agenda.
5. How has the dynamic of Operation risk vs. Credit risk changed after new regulations?
Extensive handholding and doorstep service make the MFI operations highly people-intensive. This necessarily puts a lot of emphasis on managing operational risks. Historically, controlling operational risk has been one of the main recipes for success. However, with the experience of demonetization and Covid-19 in our rearview, over-the-cycle credit cost is more prominent now. That puts a lot of emphasis on managing risk through lending. In the past, when incomes were generally below a certain level, there wasn’t much room for error, as nearly every household met a specific income threshold. This allowed for a straightforward approach to assessing credit risk. But now things have changed; understanding a customer’s income situation, either directly or indirectly, will be crucial for successfully managing credit in the new normal.
6. What is your approach toward credit risk assessment in the absence of traditional credit history of the underserved population?
We strongly encourage customers who do not have a credit history to apply for a loan with us. One-third of our new customers are new to credit (NTC) i.e. first time taking a loan. We have seen that the approval rate of NTC customers is comparatively higher than that of the overall population. Building financial literacy in new customers is part of our onboarding process, the traditional Grameen model. We start with a small loan and encourage the customer to build a strong credit history that would help her continue to get credit at favourable terms.
7. How do you ensure compliance with regulatory requirements while maintaining operational efficiency in serving the underserved population?
We treat regulatory requirements as the law of the land and there is zero tolerance for non-compliance. Our unique business model and customer-centric approach have resulted in the best-in-class operational efficiency. We make sure that as responsible lenders, we strive to pass on the efficiency benefit to our customers, hence able to price the lowest in the industry.
