The Karnataka government recently passed an ordinance — the Karnataka Micro Loan and Small Loan (Prevention of Coercive Actions) Ordinance, 2025 — that seeks to restrain “usurious” practices in the microfinance sector. Unfortunately, the ordinance is misdirected, and is likely to do more harm than good by encouraging the return of informal money lending practices. It has incorporated stiff penalties — up to ₹5 lakh fine and imprisonment up to 10 years.
Microfinance often gets into the news for the wrong reasons. They are seen as new-age money, exploiting the poor and pursuing high loan growth.
No standard definition
The ordinance refers to the attempt “to protect and relieve the economically vulnerable groups and individuals, especially farmers, women and women’s self-help groups from the undue hardship of usurious interest rates and coercive means of recovery by microfinance institutions or money lending agencies or organisations”. Curiously, there are no standard definitions for either of them. The ordinance is not applicable to RBI regulated entities. Banks, SFBs, NBFCs, NBFC-MFIs will be out of its purview.
However, the entities that come under the ordinance’s purview are not as clearly spelt out, even as the RBI regulated entities cover about 99 per cent of the microfinance market using the JLG model. Per the recent data, the microfinance market in Karnataka comprises about 143 lakh loan accounts with an outstanding of about ₹42,000 crore.
Besides this category, the self-help group model is being practised by about 2.4 lakh SHGs with over 25.6 lakh women members in Karnataka. Further, trusts, societies, NGOs, Section-8 companies also give small loans. Would these minor entities, moneylenders and those masquerading as MFIs come under the scanner?
While this may prompt the question of whether the ordinance is at all significant, the crucial issue here is that the ordinance could have a larger ecosystem impact, signs of which are already in evidence. It is learnt that the on-time repayments have slipped from about 95 per cent to 85 per cent. Consequently, microfinance portfolios are shrinking. We should also be conscious about the ‘counterfactual’ — the rise of moneylenders, when/if microfinance recedes.
This does not seem to be understood. If an enterprise helps its borrower make money, s/he will pay for the services offered and this virtuous cycle must be respected and not disturbed.
The all-India average loan size from an SHG is around ₹20,000 and MFI, ₹40,000 (₹44,000 in Karnataka). These small amounts are “access to formal finance”. They are not for investment loans but are ways and means advances. These loans cannot really seed an enterprise, but are lubricants to the lives and livelihoods of the poor and underserved. The ordinance could compromise this source.
Resilient models
On the MFIs’ part, the views of the SROs should be given due regard. Are NBFCs pushing the envelope because of their investors?
On the Government’s part, if SHG bank linkage programme is implemented in true ‘letter & spirit’ such problems will not occur. Karnataka has resilient models like SKDRDP (Sri Kshetra Dharamasthala Rural Development Programme) and Sanghamitra Rural Financial Services.
It is appropriate to invoke this 13th century Telugu quatrain from Sumati Satakam, “One should live in a village, where there is a lender, doctor, flowing river and righteous people reside”.
The Karnataka ordinance, issued on February 12, goes against this age-old wisdom.
The writer is former Deputy Managing Director, NABARD. Views are personal
