India: The Next Subprime Crisis?

The Wall Street Journal has a report from India about mounting concerns of a credit crisis in microfinance. That's the business of making small loans to some of the poorest people in the world.

Micro lending fights poverty by helping poor people finance small businesses -- snack stalls, fruit trees, milk-producing buffaloes -- in slums and other places where it's tough to get a normal loan. But what began as a social experiment to aid the world's poorest has also shown it can turn a profit.

That has attracted private-equity funds and other foreign investors, who've poured billions of dollars over the past few years into microfinance world-wide.

That's not unlike what happened with subprime mortgages in the U.S. When banks discovered they could make easy money by lending to the poor and un-credit-worthy, they rushed in. The outcome appears similar as well:

Today in India, some poor neighborhoods are being "carpet-bombed" with loans, says Rajalaxmi Kamath, a researcher at the Indian Institute of Management Bangalore who studies the issue. In India, microloans outstanding grew 72% in the year ended March 31, 2008, totaling $1.24 billion, according to Sa-Dhan, an industry association in New Delhi.

"We fear a bubble," says Jacques Grivel of the Luxembourg-based Finethic, a $100 million investment fund that focuses on Latin America, Eastern Europe and Asia, though it has no exposure to India. "Too much money is chasing too few good candidates."

Muhammad Yunus, an early pioneer of microfinance who was awarded the Medal of Freedom by President Obama yesterday, has decried for-profit micro lending. The problem is that the program was designed to fight poverty, not generate profits for big banks.

Couldn't such programs do both? The problem is the bankers. We know all too well what happens when bankers smell easy profits from exploiting the financially illiterate.

Disclosure: no positions.

Comments

[adventure62:]

Your analysis has severe flaws. Banks have lent the money against homes that were overvalued and hyped in prices. People took the equity out to buy fancy cars and vacations. When house prices fell, they filed for foreclosure.

Micro finance loans are given to small businesses. These people work very hard to protect their investment and livelihood. Default rate on these loan is nearly zero. Small businesses manage their assets very carefully and don't buy expensive items. They manage their debt very carefully.

Comparing the very small businesses to a US home owner is not correct and completely wrong. Problem in US is the huge debt taken by people. People spend money without watching their affordability. This is not true in Asia or elsewhere. There is no bubble in micro finance.

Aug 13 12:48 PM

[mna:]

a whole 1.24 billion market? There's a LONG, LONG way to go before you can call it anything even remotely resembling a bubble.

Aug 13 01:48 PM

[HaavBline:]

Ridiculous hyperbole!

A whole $1.24B? That is minute even in poor India. And this is the result of "carpet-bombing" India's poor neighborhoods?

So what's wrong if banks make profits from those loans? Are they profitable only at tax-payers' expense? Author did not expalin here.

Aug 13 03:22 PM

[TinyTim:]

Wasn't that the Goldman Sachs guy that just went by??

No, sorry, it was just a giant squid.

Aug 13 05:21 PM

[derryl:]

adventure62 wrote, "Micro finance loans are given to small businesses. These people work very hard to protect their investment and livelihood. Default rate on these loan is nearly zero. Small businesses manage their assets very carefully and don't buy expensive items. They manage their debt very carefully."

The point of Loren Steffy's article is that this is how microfinance USED TO work. Small loans were usually made to women who used their business profits to support their family and to repay the loans. These women are prime loan candidates and the microbankers' lending criteria was not diluted by the need to pump out $X amount of loans to earn bank profits. Microbankers were surprised to find that lending to these people was profitable in addition to being a self-refinancing approach to improving the economic lot of borrowers.

But now that the prime motive for lending is profits both the quality of the borrowers and the economic outcomes have declined. There was a nice little thing going on with microfinance until some big greedy money insinuated itself into the picture.

Aug 14 01:37 AM

[Preshit Mulay:]

This is a rubbish article.

Aug 14 08:57 AM

[captainjohann:]

Hi,
The people who get microfinance in India have only their REPUTAION IN NEIGHBOURHOOD and Bare hands(labour) as security. So they guard it with all their might. It is this which banks are exploiting and making profit.If they fail due to poor monsoon or political pressure to default, then the problem comes.

Aug 17 12:44 AM

[kd2000:]

It is not easy to get a loan in India regardless of economy and liquidity! There is no chance of credit bubble in India. It can only be created by big corporations, not by a average consumer. Further the dollar amounts are way significantly less. Average person credit card limit is like $250. Besides India is not like US, shop till death and file bankruptcy and walk away laughing at your lenders. Even if you get jailed in US these people are watching cable and enjoying free food. India people who don't pay get beaten up and harassed by goons! Even banks indirectly employ goons!

Aug 17 03:42 PM

[Soham Das:]

"The problem is the bankers. We know all too well what happens when bankers smell easy profits from exploiting the financially illiterate."

Exploiting the Financial Illiterate???

Exploiting?
Profit is good, monsieur.

Financial Illiterate.
They might be academically illiterate, but not quite financially. A recent research paper, has shown that marginalised folks in EM have much better personal finance habits than even the blessed in Western Hemisphere.
All said and done, crisis comes time and again, but not the same one!

Sep 02 02:08 AM