Should banks be more discriminating when lending to microfinance institutions?

Rogue microfinance institutions in India have recently caused banks to question whether they should be more discriminating when lending to these organizations. Recently in the southern state of Andhra Pradesh of India, officials have mentioned creating new regulations in the microfinance industry. Politicians in the state have told borrowers to stop paying back loans which is hurting the high repayment rates that most microfinance lenders expect.

Having a few bad borrowers that are unwilling to pay will affect the entire landscape of the microfinance industry. It's likely to affect more than just India if the trend were to continue. It raises several issues and questions about how to handle microfinance in these rural areas. Should banks have a more stringent process for lending to microfinance institutions? Should less money be allocated to the industry because of the higher risk if borrowers would be unwilling to pay in some of these areas? How can socially responsible banks continue to lend but ensure repayment from these microfinance organizations?

If regulation increases it will likely make it more difficult for some borrowers to get funding for their business. The structure of lending could change where sometimes funds are dispursed to a group of entrepreneurs and each is responsible to pay collectively. Other models require the individual to be responsible and use past history to determine how much is loaned.

Yet another issue with the regulation is making the cost structure more transparent for microlenders so banks can better determine who to lend to. Ensuring microlenders aren't charging too high rates to borrowers has also come into discussion as their isn't much regulation around what they can charge.

As banks continue to lend to the microfinance industry it's apparent more regulation or transparency needs to take place. Most importantly, how can banks ensure money loaned to the microfinance institutions is effective and responsible?