Aug 04 2015
MUDRA: Potential Game Changer for the MSME Sector
Inaugurating the MUDRA (Micro Units Development and Refinance Agency) bank in April this year, the Prime Minister remarked that the bank will help “fund the unfunded”, leading to the opening up of major avenues of employment in the Micro, Small and Medium Enterprise, MSME sector. The government’s big push to this sector is to not only help bridge the sizeable credit gap but also to boost employment as the MSME sector gives employment to an estimated population ten times that of the corporates*. The corpus and guarantee offered by the MUDRA bank is an initiative to bridge the demand-supply gap of credit flow to the MSME sector. The ‘Make in India’ initiative, focused on manufacturing in India, cannot be seen as separate from MUDRA as financing is the backbone of the MSME sector, a major contributor to manufacturing.
As per research done by the Institute of Financial Management & Research, IFMR, Chennai, the formal credit supply caters to only a quarter of the demand for MSMEs. Even with a 30 percent growth in outstanding bank credit to the MSME sector, a sizeable gap of 35-40 percent, amounting to about Rs 20 lakh crores will be there in 2016-17 which will need to be addressed by various measures from the government.
It is to bridge this kind of gap that the RBI has recognised the sector as a priority sector and has set minimum annual targets for banks in terms of lending to the sector. A major step in this direction is the setting up of the MUDRA bank with a corpus of Rs 20,000 crore and a credit guarantee of Rs 3,000 crore. The MUDRA bank will not only be a credit institution but will, in turn, encourage creation of more Micro Finance Institutions, MFIs to further provide micro credit to enterprises in the MSME sector at reasonable interest rates, formulating processes of registering new MFIs. The MUDRA bank will also formulate processes and guidelines for the interest rate that can be charged. The MUDRA bank is a planned and focused push to address the demand supply gap in credit in each of Micro, Small and Medium sectors by providing three levels of loans: Shishu (up to INR 50K), Kishor (50K up to INR 5 lakh) and Tarun (INR 5 lakh to INR 10 lakh). With MUDRA later becoming the sole regulator for all the players in the MFI sector, there will be uniformity in regulations for the Self Help Group (SHG)-Bank linkage program, NBFC-MFIs, and trusts/societies/not for profit NBFCs/Section 25 companies engaging in MFI activities. Also, refinancing to MFIs may likely increase access to low cost funding for MFIs, which could lead to a reduction in the cost of funds by 100 to 400 basis points for MSMEs.
The one barrier for moving from an informal source of lending to a formal source of lending to MSMEs is the high rate of interest. At present, the interest rate charged by leading MFIs to MSMEs is more than 24 % per year. The RBI guidelines for the rate of interest that can be charged by an NBFC-MFI is far lower; however, their operating costs are far higher than those of organised financial institutions.
Exhibit 6: Guidelines on Interest Rates by NBFC-MFIs
|Lower of I and II||Component||Guideline||Sample Interest Rate|
|I. Margin cap||Upto 10 % for MFIs having loan portfolio exceeding 100 crore and 2 % for others||For SBI loan to MFIs 12.35%+10-12 = 22.35% to 24.35%|
|II. Interest cap on individual loans||Average Base Rate of five largest commercial banks by assets multiplied by 2.75 per annum||For SBI 9.7 % X 2.75 = 26.65%|
In order to promote lending by MFIs and reduce the credit gap, MUDRA interest rates should be substantially lower. One way of doing this is by segmenting the loan seeking MFIs based upon performance rating by credit rating agency, CRISIL. MFIs with higher rating (AAA/AA/A) will then get funds at lower rates than lower performing MFIs. An Intellecap study says that requirement of debt financing is higher for small and growing enterprises during the start-up or early stage. Also, such debt requirement is largely overlooked by banks and other formal sector lenders. MUDRA may look forward to identify a model to fund growing MSMEs during their incubation phase.
Among the key decision points that the government needs to address at the drafting stage of the MUDRA and MSME Bills is to clarify their roles and scope.
- The question of converging all existing credit guarantee funds from the MSME sector to MUDRA, such as SIDBI’s Credit Guarantee Fund Trust for Micro and Small Enterprises needs pondering.
- The scope of MUDRA also needs to be defined in terms of regulation. At present, the RBI is the regulatory authority for MFIs registered as companies and the State government is the regulatory authority for MFIs registered as Societies. The idea of MUDRA being the sole regulatory body for both these organisations needs to be explored.
- Another moot point that needs to be looked at is whether MUDRA is to be a self-regulated body or to be overseen by the RBI.
- A clear role of MUDRA as a refinancing and regulatory body needs to be evolved to prevent it from getting into business activities which could lead to erosion of its independence and discomfort in competitive business entities.
- To increase productivity, MUDRA must also be given the liberty to engage with Trade Receivables Discounting System (TReDS) or other financial products or even develop an equity investment fund to be at a sound financial footing.
With a clear demarcation of its role and scope and given independence to make itself more productive, MUDRA has the potential to be a real game-changer in the MSME sector, bridging the credit gap and allowing entrepreneurship to bloom.