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The MUDRA Bank- Details & Benefits of Funding the Unfunded

Posted in Finance Articles, Total Reads: 1694 , Published on October 29, 2015

India is a country where nearly 70% people live in villages. These villages along with sub urban areas are home to 5.77 Crore of small business units which provides employment to 12 Crore Indians. The number is huge, and still INCREASING. Considering the importance of the Small And Medium scale Enterprises (SMEs) in the country, government of India (GoI) has announced to set up Micro Units Development Refinance Agency (MUDRA).


There is an old saying that goes like this: “Give a man a fish you feed him for a day, teach him how to fish and he will never go hungry”. 

Making SMEs self sufficient to sustain in long term is the main agenda of Mudra Bank. Before that let have a look at why government felt the necessity to establish MUDRA. Here are some reasons

Image: Mudra website

1. Unorganized Sector

Unlike corporate sector, SMEs in India form highly unorganized structure in terms of financing, labour management and lack the vision to achieve growth. There are number of concerns related to this sector such as lack of centralized regulatory authority, non-transparent pricing, low financial literacy etc. It is not unusual to hear that many small business units shut down within a year because of insufficient funds, multiple lending and over-indebtedness.

There is considerable demand-supply credit gap in this sector. As shown in the below graph, the demand –supply gap is nearly Rs 15 Billion in FY2014-15 . Though this gap is decreasing over the years , economy needs higher financial inclusion to tackle this issue.

Fig 1.1.-Demand –Supply Financing Gap

2. Inefficient Banking structure

The current modes of financing to SMEs is shown in the below figure.

Fig 1.2- Modes of Financing to SMEs

SI. No.

Type of MFI


Legal Registration

Not – for Profit MFIs




Society Registration Act

Indian Trust Act,1882


Non Profit Companies


Section-25 of Indian Companies Act,1956

Mutual Benefit MFIs


Mutual Benefit MFIs-Mutually Aided Cooperative Societies(MACS)


Mutually Aided Cooperative Societies, Act enacted by State Governments

For Profit MFIs


Non-Banking Financial Companies(NBFCs)


Indian Companies Act,1956

Reserve Bank of India Act,1934


The microfinance sector is constituted by NGO, non-profit companies, mutually aided co-operative societies (MACS) and Non-Banking Financial Services (NBFCs) together called as MFIs.

MFI constitutes about 42 percent of the microfinance structure in terms of credit given. NBFCs play major role and dominates the MFI channel. MFI lends through the concept of Joint Liability Group (JLG) which is a group of 5 to 10 members who can avail bank loan without providing any external security. It seems that MFIs carry great potential to fulfill the micro-financial needs of SMEs.

But there is more to it which is discussed below. Also banks keep themselves away from Microfinance sector due to problems like High transaction cost, absence of collateral (As poor can’t afford security for their loans) and higher rate of default.

3. Problems with MFIs

The biggest concern with MFI is its inability to raise enough funds. Though NBFCs meets its fund needs through private equity investment, they are restricted from accessing cheapest source of fund i.e. public deposits. On other hand, NGOs and non-profit companies have to primarily rely on donations and government grants. Due to inadequate source of finance, MFIs have to rely on bank loans causing high debt to equity ratio.

There is vicious cycle which goes like this. MFIs issues bank loans against their equity. If MFIs are required to increase their portfolio size, they need more bank loan. To avail loan they need more equity. Hence the only way to increase the portfolio size is to issue fresh equity. This puts considerable limitation on the growth of MFIs.

Let’s look at the demand side. MFIs get involved in the non-transparent pricing. In absence of knowledge of the actual price borrower often end up borrowing more funds than capacity which leads to over-indebtedness. Also cluster formation (accessing only well established market) defeats very goal of MFI leaving the untapped market untouched.

Single Solution to All the Problems – The MUDRA Bank

Having discussed the major problems with Indian microfinance sector, here is the solution to those problems offered by MUDRA Bank

1. Making it more organized

MUDRA banks will be intended to play dual roles viz. refinance facility and regulating MFIs. The role envisaged to MUDRA includes registration & rating of MFIs, laying down policy for Micro-finance business, establish best financial practices to tackle over-indebtedness and ensure the proper loan recovery methods.

2. More effective Banking System

MUDRA is going to partner with State and regional- level coordinators to increase the penetration of small business enterprises. MUDRA will also help in hedging the risk. Risk is a major reason for higher rates charged to people. Hence this will drastically reduce the cost of financing. This will enable small banks, NBFCs, other MFIs to lend at much lower rate.

3. From Credit-Only Approach to Credit plus solution

Unlike corporate sector, small business enterprises lack talent & Skill development .This is one of the areas our government emphasizing upon. If provided with proper direction, many small businesses can take a big leap and can achieve sustainable growth over the years.

In the similar attempt, MUDRA bank has come up with credit plus solution approach.

Under this approach MUDRA will work on mobilizing the resources in order to provide assistance to poor especially women.

4. Fund the unfunded

MUDRA will help in providing the financial assistance to the “unfunded” entrepreneurs. The bank will start as NBFC with the corpus of Rs 20,000 Crore. Later on it will act as a fully equipped financial institution aiming at refinance credit management and regulator of MFIs. This will help to spread the roots to reach more unfunded entrepreneurs.


It’s evident that to increase the GDP growth rate and more importantly for betterment of livelihood of the rural people, SMEs have to thrive towards sustainable growth. MUDRA is the step in that direction. If MUDRA can focus on nourishing the underprivileged, It can be another success story after Grameen Bank Of Bangladesh.

This article has been authored by Saurabh Dongare & Anshita Lalwani from NMIMS





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