Microfinance Focus, October 22, 2012: With European Microfinance Week fast approaching, we at Microfinance Focus thought it appropriate to interview influential members of the European Microfinance Platform (e-MFP) and get their perspective on current events. In this interview, Dr. Hans Dieter Seibel discusses the major microfinance news of today, in the context of the past. Dr. Seibel on the board of directors at e-MFP, as well as an expert in microfinance history.

In a 2005 paper titled, “Does History Matter? The Old and the New World of Microfinance in Europe and Asia,” Seibel explains through historical research, perhaps we can learn from the mistakes of the past in order to help impoverished communities in the present. Seibel highlights the progress of the savings movement in Germany, from the first cooperative founded in 1850 to the modern age, where cooperative banks and similar institutions now comprise over half of all banking assets in Germany (1997 data).

Seibel reminds us that microfinance is not a recent development, nor a temporary solution for developing countries. In recognition of European Microfinance Week, we discussed the relationship between European and Indian microfinance histories. Seibel explains how the future of Indian microfinance could benefit from a lesson in history, especially when it comes to effective supervision and regulation.

Microfinance Focus: What are some key lessons from Europe and Asia’s past concerning the regulation of microfinance?

Dr. Hans Dieter Seibel: "Before the German Reich, the German empire, existed there was the Prussian State. The political system of the area before that was absolutism, there were 38 separate, independent states. The first laws governing financial institutions that arose were those of the Prussian State, because that was the first major state. The first Prussian savings banks regulation was in 1838, and the first Prussian cooperative law was in 1867.

"Without this legal framework, this movement could not have spread. And this is something that has not been recognized in developing countries...The credit NGOs hated regulation and supervision. They just wanted to do their own thing.

"As a result of the crisis of the last few years, this is becoming an issue for organizations, but above all to governments. Governments realize, and central banks now realize that they have to regulate. Something they shied away from in the past.

"It is not only the regulation; it is also the associations and networks behind the movement that brought about the legislation [in Prussia]. The legislation in Germany was not imposed by the state on an unwilling sector. Quite the contrary, it was the savings banking sector, the cooperative sector, which requested regulations, because they felt as institutions they needed the legal protection, and their members also needed the legal protection.

"These are certainly lessons, the importance of legislation, of regulation and supervision, the importance of networks and associations, that can be clearly distilled from history."

MFF: The Indian microfinance industry is facing strict regulations mostly due to the lending-related suicides in Andhra Pradesh, however many argue that the immense debt that led to these suicides could be linked primarily to moneylenders. What historically causes an increase in client indebtedness? What can prevent this in the future?

HDS: "The issue of moneylending in India is more than 2000 years old. I don't think that the moneylenders are the problem...the real issue in my opinion is that the poor have no opportunities to deposit their savings.

"If you can't deposit your savings anywhere, if you don't have anything to fall back to, then [with] every small crisis, every small financial need… you have to run to someone to lend you money. This can be friends, this can be neighbors and if their funds are exhausted, then there is the moneylender.

"There are going to be friendly moneylenders, and there will be unfriendly moneylenders that charge very high interest rates, some may not even be interested in you paying back a loan.

"Over-indebetedness has something to do with the fact that people have different financial needs. I did a small study in Andrha Pradesh last year, amongst elder group members incidentally, and each one of them had loans from between four and six different creditors. Most of them were not moneylenders.

"In my view it has something basically to do with the fact that you cannot deposit voluntary savings. The self-help groups, the MFIs, they all have compulsory savings programs, but compulsory savings, they are something like a collateral substitute. You cannot withdraw them in the case of need.
"What really made the savings banking movement great, the cooperative banking movement great, in Germany and other countries in Europe and also India between 1904 and the mid-thirties was the opportunity to deposit personal savings.

"This is an issue that is rediscovered every 20 to 30 years. The microcredit movement swept it away. Now, the microcredit movement got into its problems and now we are back to discussing serious savings issues."

MFF: Can savings be worked into the current microfinance structure, or does the industry need to transition to a new model?
HDS: "Microcredit institutions that do not give members the opportunity to deposit or/and withdraw savings, well they are just a structural disaster. And that is the genuine reason why so many things are going wrong.

"These organizations that do not mobilize savings, where to they get the money to lend to their clients? They get it from investors, and then you get into this whole commercial thing...where ultimately the investors want to maximize their profit, and that means you have to expand too hard, too fast. You have to lend to anybody to make a fast buck.

"It's just like what happened in America in 2008 with Lehman Brothers, on a very different scale, but it's the same sort of story -- grabbing, grabbing, grabbing. There is only one solution to that in my view...give people the opportunity to save in a safe place, and to which they have access.

"Microcredit is not a solution to finance. It's a supplementary solution, yes, but the basics for the individual and for the institution has to be savings mobilization, savings depositing."

MFF: What is the historical relationship between microfinance in Europe and India?

HDS: "Starting in the 17th and 18th century, there was mass poverty in [British Colonial] India. Moneylenders expropriated from borrowers, charging very high interest rates and structuring the loan in such a way that borrowers could not repay. They grew into a new social class, not just moneylenders, but also landowners who derived land ownership from expropriation."

"The British Colonial system made all kinds of efforts to remedy this with state subsidies, and all of them didn't work. Now comes the year 1894, and someone by the name of Sir Nicholson. He heard of developments of Germany. He wrote a report as to what to do about the situation of poverty alleviation in India and the report was summed up in two words, 'Find Raiffeisen.'

"Raiffeisen is the credit cooperative movement in Germany for rural areas. The result of this was, to answer your question very precisely, in 1904 the first cooperative law was passed in India and in Burma...it was modeled after the Raiffeisen system. In 1904 the law came out...within about 20 or 25 years, about 50,000 credit cooperatives were operating in rural India. That was the result of that law and the experience in Germany."

MFF: Is there historical evidence that this cooperative law was successful?

HDS: "There were no impact studies, but the reports that we have say 'there were immense benefits to the farmers.'
“The Registrar in the 1920s, [C.F.] Strickland studied the situation. He gave us a report on where the resources [for cooperatives] came from, and he said 60% of the resources were mobilized by the cooperatives themselves, 40% were commercial credit. So essentially, they were self-financed. No donors, no government. Until the mid-1930s, the majority of resources are mobilized by members of the credit cooperatives, plus access to commercial credit.

"1935, The Reserve Bank of India became operational. And that central bank said, "Oh this cooperative movement is a great movement, we have to help them get aid." They refinanced the movement, and put in their own money. After Indian Independence the government declared a state partnership for the cooperative movement...governments in the various states provided credit and used the cooperatives as credit channels. [The government] installed its own staff, sometimes you could even say 'cronies' into cooperatives and cooperative banks.

"And then the government took over the cooperative movement...used and abused it for political gain. And that is the story that led to current figures...2006, 51% of credit cooperatives [in India] are insolvent. This is a story which repeats itself time and again, the government has a tendency of abusing substructures. The fundamental distinction if you compare different movements in different countries, is between those where the government provides a conducive framework and those situations where the government exploits these for its own benefit.

"It's two things, regulation and government support. Regulation is something that comes out of a more or less rational process, and then there are the politicians and the politicians are greedy actually...Before elections [in India] the subsidies go up, and the interest rates subsidies appear, and the loan waivers appear or the promise of waivers, and it's highly disruptive."