• Exploring the support regulations should provide

When Prof. Muhammad Yunus and his initiative Grameen Bank won the Nobel Peace Prize in October 2006, it was to recognise the work done through microcredit services to create economic and social development from below. In a short interview with the Nobel Foundation soon after, referring to the success of the initiative, Prof. Yunus happily revealed that the real trick for people to come out of poverty was the “right kind of institutional support”. Does the proposed Microfinance and Credit Regulatory Authority Bill make this true for Sri Lanka?

Microfinance is broadly defined as the “provision of financial services to low income people” (Consultative Group to Assist the Poor). These groups are typically labelled high risk and structurally excluded from the formal banking system as they own limited assets or identification papers and engage in precarious work. To these marginalised groups, well-intended microcredit and finance is more than just a lifeline, but a pathway to build enterprises and leave their woes of poverty behind.

A call for microfinance regulation 

In Sri Lanka, the microfinance landscape has tectonically shifted since the early days of the microfinance industry. Microcredit programmes began as government and donor funded development projects. While vestiges of this model remain, this space is crowded by a melange of actors today.

Regrettably, the most powerful of the actors have chosen to disguise perverse exploitation of the poor for money-making as microfinance initiatives. By the estimates of a study by Movement for Land and Agricultural Reform (MONLAR), these companies have driven around 200 borrowers to die by suicide during the years 2018-2021. The number of families being lured into debt traps by these institutions has only risen with the economic crisis. This is despite the framework laid out by the Microfinance Act No. 6 of 2016, which has clearly been ineffective in preserving the development virtues of microfinance. For this and other reasons, over the years, there has been a loud and legitimate call from the victims of predatory microfinance schemes for proper regulation to protect beneficiaries from exploitation.

The scheme of the proposed bill

The Microfinance and Credit Regulatory Authority Bill gazetted on 30 October 2023 seeks to replace the 2016 Microfinance Act. It establishes a central authority named the Microfinance and Credit Regulatory Authority with the key objectives of regulating and supervising money-lending and microfinance, coordinating with other relevant regulatory bodies and customer protection. A full analysis of the bill’s provisions is beyond this article’s scope. The article makes observations on three central features of the bill’s scheme which run counter to the development aspirations of low income families dependent on microcredit and finance facilities.

1. Authority is not constituted to guarantee expertise and sensitivities distinct to microcredit and finance

The bill vests the administration and control of a largely powerful authority with a board of directors. However, the board comprises a majority of directors who, owing to their backgrounds, would presumably be more concerned with fiscal solvency requirements (also important) as opposed to social welfare. Of the seven members in the board, the minister has an option to appoint a microfinance expert, but there is no guarantee as he is free to choose experts from a variety of fields.

The objective of the authority to regulate and supervise moneylenders and microfinance businesses is important. However, regulation and supervision alone is not an end of itself, but are means to broad policy goals. Failing to be specific allows the authority to use the bill for any number of purposes. For instance, while financial system stability may be a goal, excessive or overly strict regulations can stifle the context-specific and organic workings of community-based organisations providing microcredit and finance facilities and be counter-productive.

2. A regulatory framework far removed from the realities of the microfinance landscape

The broad spectrum of institutions in microfinance range from those that are strictly formal, semi-formal, and informal with different core objectives (profit making, social welfare etc.), and funding sources (donations, membership fees, bank investments, public deposits etc.). Inclusive and effective regulation recognises the differences in capabilities and capacities, inherent dangers, and the nature of functioning of each actor. Indian legislations are a good example of this.

Unjustified exclusion of selected institutions

The bill expressly excludes from its scope and purview of the authority licenced commercial banks, licenced finance companies, registered leasing establishments, cooperative societies, and Samurdhi community based banks. This is despite strong evidence that some finance companies engage freely in exploitative and predatory lending practices. While they are governed by legal frameworks, these frameworks are neither specifically tailored for microfinance nor do they respond to the financial precarity of the client base. This unjustified exclusion from regulation permits predatory loan shark type behaviour.

Prohibitive and disabling conditions

Small community based organisations (CBOs) have staunchly criticised the bill on the basis that the regulatory framework does not account for their distinct nature. They are distinct because of their small scale of operations (within village parameters), sources of funding (membership fees, savings, and grants from developmental programmes), predominant social welfare goals, and close relationships with the community. Their service provision is often situated in trust and communal ties. Officers themselves are community members, sufficiently trained but not necessarily with academic or professional qualifications. Their model has sustained and been long supported by governments although in recent years, government support has dwindled.

The bill adopts a one-size-fits-all approach to regulation. As a result, the authority’s strict reins inescapably extend to CBOs, stifling their autonomy which has determined their success. For instance, the bill insists that all CBOs must register as a company under the Companies Act or a non-governmental organisation (NGO) under the Voluntary Social Service Organisations Act to obtain a licence to engage in microfinance.

Such registration imposes excessive administrative costs which small CBOs, even if they have 40-50 village members, are unable to support. Inability to obtain a licence will remove them from the microfinance space as it would be an offence to operate without it. The authority can also make many intrusive directions, including prescribing the required minimum educational and professional competence of employees.

Where there are administrative irregularities, CBOs can be subject to harsh penalties as high as Rs. 5 million or five-year prison terms. These penalties attach without necessity for proof of fraud, criminal conduct, or causing loss or harm. In many ways, the bill dangerously equates informality with criminality, and through excessive control disables and creates prohibitive conditions for CBOs.

Falling short of meaningful consumer protection

The protection of customers of licenced moneylenders and licenced microfinance institutions is a central object of the regulatory authority. Protection measures include setting out specific obligations of a licensee such as ensuring that the loan agreement is in writing, that it is easy to understand and in a preferred language, prohibition against specified practices (discrimination, undue influence, and harassment), and credit counselling centres.

Unfortunately, these mechanisms mean little practically. First, the most notorious of actors such as finance and leasing companies are not covered as they are not licensees within the Act’s meaning. Second, the mechanism itself lacks teeth to afford real protection because handling of customer complaints is to be done by an inquiring officer who must prioritise an amicable settlement. No rules of procedure are specified to account for the significant disparity in bargaining power between the poor borrowers and big lending institutions, and lawyers are not allowed to provide representation. It is only where amicable settlements fail that directions may be issued by the Director General of the authority. Curiously, while many practices are expressly criminalised, no harsh penalties are specified against customer exploitation.

The way forward

Stated above are a few reasons why the new bill is widely criticised. The bill was also challenged before the Supreme Court which made observations, among other things, that certain specifically excluded institutions must be included and that at least one member of the board of directors must have microfinance expertise for the bill to maintain constitutionality.

Recent news reports indicate that the Government wishes to withdraw the bill. Much of the time and energy spent on designing and resisting the bill would have been averted if meaningful consultation with all stakeholders preceded its drafting. A comprehensive regulatory framework for microfinance is very much a necessity as the regulatory gaps are still wide open. Hopefully the failures of this bill would inform progressive reform that will allow the right kind of institutional support to enable economic and social development from below.

(Namashya Ratnayake is an Attorney-at-Law with advocacy and research interests in public law and development. She is a member of the Feminist Collective for Economic Justice, and was thankful to attorney at law Ermiza Tegal, Dr. Amali Wedagedara, and the Collective of Women Victimised by Microfinance for their insight when writing this article)