RBI advocates SHG model for lending to SMEs

Mumbai: The Reserve Bank of India (RBI) has asked banks to research the option of using the self help group (SHG) model to lend to the over 31 million small and micro units, to ensure that they have easy access to funds and low default rates.

RBI deputy governor Usha Thorat said that many banks were not following norms specified on collateral security when lending to the small and micro enterprises. Those guidelines exempt banks from taking any form of collateral for group loans up to Rs5 lakh. However, banks continue to seek some form of security from these units for these loans.

Thorat did not clarify the RBI's own views on the matter.

Speaking at the Indian Bank's Association meet on leveraged lending to MSMEs, Thorat said that banks could use the group collateral approach along with SHG model and micro finance institutions. She said that both have helped in improving financial inclusion for micro and small units. Bankers contend that the collateral and group lending approaches are expected to apply some amount of peer pressure for prompt repayment of loans, leading to low incidence of defaults.

The SME sector account for almost 39 per cent of India's manufacturing output, and over 34 per cent of exports, according to data for the year 2007 from the Directorate General of Commercial Intelligence and Statistics.

Thorat said that credit guarantees trusts could also look at charging a premium to banks based on the risk of their SME portfolios, which has the potential to bring in new borrowers into the SME segment. Presently, a flat fee is levied for assuring repayment in case of defaults by the SME units. She said banks should price credit to SMEs according to risk assessment, using the trends and signals thrown up by the core banking software.

Speaking at the same event, RBI chief general manager for rural planning and credit department G Srinivasan expressed concerns over increasing dependence on external credit rating agencies by lenders. He cautioned that it may not be entirely prudent to rely on these agencies, given the current context in the global economy, saying that credit rating has still not penetrated adequately within the Indian banking system.

Moreover, he said given the present global situation, reliance on external rating agencies is an issue, as most banks in India resent the involvement of external agencies into this procedure and hence, insist upon deploying their own internal resources for assessing creditworthiness of borrowers.

Deputy governor Thorat also laid stress on the need for financial literacy across India, as the lack of financial awareness in rural and unbanked areas precludes entrepreneurs there from accessing formal credit. Reports suggest that up to 60 per cent of the population does not have access to the formal financial system.