Boosting the Business Case for Agents

This is the second piece in the five-part series launching CGAP’s Agent Management Toolkit. The toolkit is based on more than a year of research that yielded data on more than 16,000 agents in Brazil, India, and Kenya. In-depth interviews were conducted with 466 agents, agent network managers and providers, including mobile network operators, banks, MFIs and technology companies.

Today’s guest blogger is Prakash Lal, from Financial Inclusion Network & Operations Ltd. (FINO), which we found to have sophisticated insights on managing agents. FINO agents and technology connect more than 27 million Indians with 23 banks, 10 MFIs, 5 insurance companies and 15 government entities, via more than 11,000 POS terminals covering one-third of India. We’ve asked FINO to shed some light on how they boost the business case for their agents (referred to in India as “Business Correspondents”).

FINO was founded on 13th July, 2006 with the single objective of building technologies to enable financial institutions (FIs) to serve the under-served and the unbanked sector and also to service the technology requirements of entities engaged in servicing the bottom of the pyramid customers. Every step we’ve taken on technology, we’ve taken an equally important step forward in developing a highly-distributed, reliable network of Business Correspondents (BCs), whom we fondly call “Bandhus”, connecting clients to our technology and onward to the financial institution of their choice.

BCs are a critical link in our service delivery channel, and we invest a great deal in ensuring that working as a BC is attractive. Most of our BCs have other sources of income as well, meaning FINO needs to provide enough income to ensure that BCs will devote an adequate share of their time to the FINO business. We calculate that extra income to be, on average, INR 2500-3000 (USD 55-65) per month. This amounts to around USD 2 per day, which may not sound significant, but for a rural Indian it is welcome incremental income. Further, many of our BCs are also motivated by the desire to help their community and the social standing which comes with being allied with a high-tech product.

In addition, there are four points which strengthen the business case for our BCs:

Multiple Products: FINO has a complete suite of products to meet the financial inclusion needs of financial institutions. A multiple product suite roll-out enhances a BC’s option of increasing the number of transactions, hence an increase in their commission, as per the varied customer requirements. Product innovation in FINO is derived from its deep insight into the requirements of the client segment gained from pioneering work done with MFIs, banks and research organizations.

Financial Literacy: A regular saving habit by the customer will ensure regular transactions and thus more commission for the BC. FINO is doing various financial literacy projects with World Bank, International Finance Corporation (IFC), Microfinance Opportunities (MFO), UNDP and NABARD. FINO puts up the capital for our BCs and our staff play a large role in helping agents manage liquidity. FINO Block Coordinators manage approximately a dozen BCs and typically visits them every one to two days to retrieve excess cash or deliver new cash. In other words, if we look at the 9 drivers of the agent business case in CGAP’s Agent Management Toolkit, FINO removes the first two: upfront capital, liquidity management. We internalize that into our own business, making it much easier and more attractive for our BCs. We also pay our agents a fixed salary, in addition to per transaction commissions. This creates some certainty for our BCs as far as their income is concerned. We believe these are the best ways to build a viable network of agents in rural areas.

Take the case of one of FINO’s BC in Uttar Pradesh state, Md. Saleem. He runs a general store and also works with FINO. He handles 24 transactions on a typical day. His largest cash transaction on any given day is US$107 (INR 5,000), which effectively determines his cash-on-hand required to handle the largest transaction. A FINO Block Coordinator usually visits daily to pick up and deliver cash, and can get there within a few hours in case extra liquidity is needed for a very large deposit or withdrawal. Saleem uses his place of work—the general store—to conduct most agent transactions, obviating the need (and expense) for a dedicated agent location. As part of FINO’s “doorstep banking” model, Saleem also travels to client homes in three surrounding villages, incurring a transport expense. He nets a daily profit of US$1.84, which is very close to our target for BCs.

By FINO'S Prakash Lal for CGAP blog

A Humble question to Muhammed Yunus

The business model of for profit MFI-NBFCs – some of whom claim to follow the Grameen Model – is increasingly being questioned as an effective tool for poverty alleviation.

In a previous post [ Link ] I had presented a case for two strategies:

1. The SHG strategy (together with the SHG Bank Linkage program) which, from my experience over the past 27 years is appropriate to include poor families into the growth trajectory and also to increase their incomes in a sustained manner over a period of 6-8 years. Though the role of SHGs in the provision of credit has been highlighted, credit is only one factor; others are building self confidence and skills to negotiate and decide, joint action for lobbying to neutralize power relations which are oppressive and prevent entry into the growth trajectory (not only to credit institutions).These strengths are all incorporated in the word “empowerment” which well functioning SHGs generate. The dynamics of interaction among members generates the confidence and skills to take decisions and forge networks and federations of SHGs – these together provide the “power” to overcome hurdles and equip the poor to find entry into growth. The poor are in the status of “Pre-Clients” and need to equip themselves with the skills and resources required to be able to demand and access resources and entitlements which is the strength of “clients” who are the not poor.

However the SHG strategy (like any other strategy) cannot achieve its objective in isolation. It needs adequate investment in the area of operation from the Govt., private sector or NGOs which provides options for investment and/or reduces risk; it requires various support services to support value creation; it also needs up front investment in institutional capacity building (ICB) which includes training in at least 12 modules including how to analyse society, to foster participation, to arrive at consensus, to resolve conflict, what are the essential features of an SHG, the importance of sanctions etc – all this training in ICB takes time and money. Unfortunately this investment in ICB has been neglected in the rush to include the poor only in the financial system through no frills accounts etc. This is based on the mistaken assumption that the only reason to form SHGs is to access credit. Andhra Pradesh is a classic example of the rush to form SHGs and extend credit without adequate ICB and support services. Most of them were weak institutions. This was perhaps the major reason why the MFI-NBFC strategy to form JLGs - many of which were formed by poaching the SHGs - succeeded so well in the state.

2. The for profit MFI-NBFC model, I dared to suggest, is more appropriate for the not poor who have difficulty to access credit from formal institutions because of several reasons including distance to banks, long delays and paperwork required, no proper land records, previous defaults etc. They have the skills and resources - like good land 2-6 acres often irrigated or in good rainfall areas and/or potential to invest in non farm activities; but have to rely on money lenders who hold a monopoly situation. Apart from lack of access to formal credit, their major problems are poor infrastructure, corruption etc.

This paper attempts to take a step further - to raise a doubt that the MFI-NBFC strategy as practised by the major MFI-NBFCs in India is appropriate to create value even for the not poor. Since many of them claim to follow the Grameen Bank Model - more correctly the Grameen II model which was launched around 1999-2000 and which opened the door for the neo liberal features of Grameen Phase II - the question I raise is relevant. All evidence emerging from AP indicates that under the pressure from the neo liberal market forces and venture capital to commercialise micro finance - which means to grow fast, to earn high profits and offer high salaries, with an eye on valuations and IPOs , all the while stressing that self help and privatization is the best strategy to eradicate poverty - the business model of Grameen II very quickly begins to move from focusing on the objective of achieving financial sustainability of the MFI-NBFC to one where profit is maximized. And if office bearers in our national institutions support this model on the grounds that it is the fastest to include the poor in financial services and if the governance of these MFIs sees nothing amiss, then the business model becomes entirely driven by the profit motive; without any effective regulatory framework the course is clear. Both the private sector and the MFIs sniffed profit at the bottom of the pyramid; both looked at the poor as opportunities rather than responsibilities ; both ended up by catering to consumption aspirations and making profits higher than the most valued private banks.

Muhammed Yunus has done a fantastic job, but the Grameen bank he founded in 1983 is not the one that emerged after the Grameen II Project which was launched around 1999-2000. Though the ownership of the capital structure did not change, the delivery model did. Under the Grameen II framework, Phase II commercialized the business model: the poor have to pull themselves up by their bootstraps and by implication Government should keep its distance . Music to the ears of neo liberals and columnists who are given prominence in the Indian newspapers. Savings became compulsory – and compulsion whether of savings or in repayments adds a new dimension of power to the MFI. Commercial relations were established with MNCs like Telenor and Danone which surely rubbed off on Grameen since their representatives surely had a greater impact on governance than the client share holders. Yunus himself began to distance himself from day to day involvement in GB which came under others who did not share his convictions. Today GB is no longer eradicating poverty but bringing financial services to people many of whom are not poor. The original social mission of Muhammed Yunus has been consigned to the museum, not poverty. My question to Muhammed Yunus is this:

“ Why did you not react strongly to Grameen II –or Grameen Phase II when it had begun to develop all the markings of a neo liberal product... and when it was aggressively promoted as a model to be replicated all over the world?”

Perhaps Yunus did not react because he thought that good governance and commitment to the poor which characterized the first 15 years of GB would balance or neutralise these neo liberal structural features. But my experience is that once you plant an ‘Aam’ (mango) you will not get an Anaar (pomegranate) no matter how much you want one. You may say all the prayers and apply all types of fertilizer but you will still get a mango. So what do the supporters of Grameen II do? They paint the mango like an anaar. This can throw dust in peoples eyes for some time with aggressive PR - and GB has it - besides there are too many reputations in international financial institutions at stake; but the rains do come and the paint washes off and you are back to the mango!

It is easy to say as some international organizations promoting micro finance do: “Let us learn from the mistakes and move on”. Unfortunately they have not learned from their mistakes as is clear from their reaction to Mexico’s Compartamos experience as recently as 2007. Apart from continuing to aggressively promote the business model which maximizes profits, there are increasing signs that funds will start to pour in to AP from abroad to rescue the MFI-NBFCs without any structural change in the model being required. There is no evidence that international organizations are learning from the mistakes; no structural changes in the model are being envisaged; a few superficial changes will suffice ; the aam will again be painted like an anaar This is perhaps a bigger threat than the crisis that emerged a few months ago. The structural changes required are mentioned below.

The experience in AP adds weight to my position. In 2004-05 when the Krishna District crisis emerged, the MFI- NBFCs all agreed to change some features of their business model. A code of conduct was drawn up and agreed to. Did they observe it? No. ACCION and CGAP were involved in coming up with similar codes earlier as a fall out of their experience with Banco Sol and Compartemos. But their subsequent actions did not show that the code had any impact on the structure of the MFIs. In AP, as soon as funds started flowing again after the Krishna crisis, initially leveraged by private capital, the code of conduct was consigned to the museum. My contention is that the very structure (or business model) of the MFI NBFCs lends itself to the features which precipitated the Krishna crisis as well as the crisis in 2010 and will continue to lead to further crises in future if structural features are not addressed.

The major structural features of the NBFC- MFI model which lead to these crisis because it is inappropriate even for the not poor are:

1. The inability of the Grameen II model to cope with diversity because of standardisation – same size loans to all and same intervals ; if small differences are made in the second round it is mainly due to confidence levels in the client not on the potential for income from the activity proposed; the same repayment period for loans whether for agriculture, business or off farm activities . This in turn is conditioned by the software (ICT) which is often been promoted as a solution to most of the woes faced by the sector. So far ICT has helped to cut costs of the MFI; on the other hand it has imposed a standardised system on the clients (yet we celebrate diversity in other sectors). Together with standardisation, comes speed –including topping up with similar amounts which will be discussed later. In a second part of this post I will give some profiles of the livelihood strategy of SHG members who started out as poor but came out of poverty after 6-8 years; these livelihood strategies indicate that the requirements in all cases are diverse and that it takes at least 6-8 years with around 15 loans for various purposes and of various sizes amounting to Rs 2-4 lacs before people are firmly into the growth trajectory.The software of MFIs has to be made compatible with the diversity reflected in the livelihood strategies of the poor.

2. MFIs do not have the space or time to provide support to ensure that even the non poor have the services and information required to make investments productive. MFIs need to provide this support themselves from their profits or partner with others who can - like NGOs, Private sector or government institutions. The high rates of failure in income generating activities is due to this lack of timely, appropriate and adequate support. The present approach of MFIs however is entirely driven by competition - not by partnership and by speed to provide the next loan. I am not referring here to the practice of some MFIs to start health programs to present a soft and caring image to clients. This does not change the model. Rather the model must include partners who can add value to the investment.

3. The potential for rapid growth and high profits of the business model reduces the interest from financial institutions in investing in second level institutions which takes time, has higher risks and is not as profitable. Yet second level institutions to aggregate and add value to various farm products and to develop linkages with industry for design and marketing of farm and off farm products are a crucial step to sustain growth. This gap is increasing daily and must be addressed if growth in the rural sector is to take off. Financial institutions need to give this priority.

4. The MFI practice of weekly/monthly repayments at the doorstep (or nearby) does not jell with the cash flow of income activities which is lumpy. This in turn forces them to take up daily wage labour or petty business or borrow from one MFI to pay another—most resort to the last option. This structural feature results in multiple borrowing. The doorstep offer which is touted as a major plus is a double ended sword especially when there is pressure from the MFI to grow rapidly backed up by incentives to staff. As a result multiple lending has been a feature in every country where the Grameen II model (or prior to it the commercialised model) has been introduced be it Mexico, Boliva or Bangladesh and now India. In the SHGs, (the real ones), there is no such pressure from incentives and further at least a third of the common fund is owned by the group in the form of savings and interest, hence they assess each loan request carefully and make sure that here is no multiple borrowing which will affect their group interests.

5. The pressure exerted by MFI staff on clients to repay; one study has identified 9 ways in which MFI staff exercised pressure which need not be described here . This is not socially acceptable and will continue to cause negative reactions from society. There are only four sources which exert pressure to repay: a) physical collateral; b) affinity among members which exists prior to MFI entry and which needs to be discovered by the MFI - on the basis of which SHGs are formed; the members self select themselves. This affinity is a strength and is further developed by institutional capacity building and management of a group common fund consisting of their own savings, interest earned on loans, fines, donations; the pressure to repay comes from the group. When social pressure does not work the group decides to go further ;there are several examples of the SHG group lodging police complaints against defaulters, seizing assets like agri or horticultural commodities or bullocks ; but because it was the group that acted there was no reaction from society; this shows that pressure may be required at times but the source of the pressure must be from the peoples institutions and d) the expectations of another loan within a short time even though there is no potential for investment.

6. MFI-NBFCS hide under the myth that JLGs which are formed by MFIs who select the members provide joint liability and build social solidarity. The question is - if the JLGs worked effectively (as the MFIs claim) why did the staff have to exert pressure. Further in many cases the clients who are members of JLGs are forced to pay up when others default; it does not come willingly; and in such cases the JLG breaks up.

7. Very high interest rates (often well hidden) on the grounds that transaction costs in micro lending are high. The experience of a Not For profit MFI called Sangamithra over the past 10 years does not validate this. I do not have the expertise or resources to conduct further studies on the reasons behind high interest rates. But I was referred to one study made by a D. Richardson who studied the high interest rates in Compartemos. He found that the high interest, bonuses etc, were required mainly to ensure that high salaries and other allowances were paid to senior management and share holders (“Compartemos IPO issues”). There needs to be a regulatory cap on interest rates.

By:-By Aloysius P. Fernandez,

*The author is Chairperson, Nabard Financial Services and Member Secretary Myrada; the views expressed here are personal .

What Do We Know About the Impact of Remittances on Financial Development?

Remittances, funds received from migrants working abroad, to developing countries have grown dramatically in recent years from U.S. $3.3 billion in 1975 to close to U.S. $338 billion in 2008. They have become the second largest source of external finance for developing countries after foreign direct investment (FDI) and represent about twice the amount of official aid received (see Figure 1). Relative to private capital flows, remittances tend to be stable and increase during periods of economic downturns and natural disasters. Furthermore, while a surge in inflows, including aid flows, can erode a country’s competitiveness, remittances do not seem to have this adverse effect.

Figure 1: Inflows to developing countries (billions of USD), 1975-2008

As researchers and policymakers have come to notice the increasing volume and stable nature of remittances to developing countries, a growing number of studies have analyzed their development impact along various dimensions, including: poverty, inequality, growth, education, infant mortality, and entrepreneurship. However, surprisingly little attention has been paid to the question of whether remittances promote financial development across remittance-recipient countries. Yet, this issue is important because financial systems perform a number of key economic functions and their development has been shown to foster growth and reduce poverty. Furthermore, this question is relevant since some argue that banking remittance recipients will help multiply the development impact of remittance flows.

Whether and how remittances might affect financial development—banking in particular—isa priori unclear. On the one hand, money transferred through financial institutions might pave the way for recipients to demand and gain access to other financial products and services that they might not have otherwise. As an added benefit, providing remittance transfer services allows banks to “get to know” and reach out to unbanked recipients or recipients with limited financial intermediation. For example, remittances might have a positive impact on credit market development if banks become more willing to extend credit to remittance recipients because the transfers they receive from abroad are perceived to be significant and stable (i.e., serve as collateral, at least informally). However, even if bank lending to remittance recipients does not materialize, overall credit in the economy might increase if banks’ loanable funds surge as a result of deposits linked to remittance flows.

Furthermore, because remittances are typically lumpy, recipients might have a need for financial products that allow for the safe storage of these funds, even if most of these funds are not received through banks. In the case of households that receive their remittances through banks, the potential to learn about and demand other bank products is even larger.

On the other hand, because remittances can help relax individuals’ financing constraints, they might lead to a lower demand for credit and have a dampening effect on credit market development. A rise in remittances also might not translate itself into an increase in credit to the private sector if these flows are instead channeled to finance the government or if banks are reluctant to lend and prefer to hold liquid assets. Finally, remittances might not increase bank deposits if they are immediately consumed or if remittance recipients distrust financial institutions and prefer other ways to save these funds.

Two recent studies provide evidence in favor of the first hypothesis. They show that remittances have a positive and significant impact on financial development. Using municipality-level data for Mexico for 2000, my coauthors (Demirguc-Kunt, Lopez-Cordova, and Woodruff) and I show that remittances are strongly associated with greater banking breadth and depth, increasing the number of branches and accounts per capita and the ratio of deposits to GDP. These effects are significant both statistically and economically, and are robust to the potential endogeneity of remittances. The most conservative estimate suggests that a one-standard deviation change in the percentage of households receiving remittances—roughly a doubling of the mean remittance rate—leads to an increase of 1 branch per 100,000 inhabitants (against a mean of 1.79), 31 accounts per one thousand residents (relative to a mean of 42 accounts), and an increase of 3.4 percentage points in the deposit/GDP ratio (compared to a mean of 4.2).

Source:-MARIA SOLEDAD MARTINEZ PERIA

http://blogs.worldbank.org

TURNING THE TIDE: ENABLING POVERTY REDUCTION

It is rare to find a woman shoulder the responsibility of farming. It is usually the male counterpart who takes up the farm responsibility, but it is not so in the life of Kamatchi. She owns around 4.5 acres of rainfed land, and lives with her husband and their two sons in Sengapadai village of Madurai district, Tamil Nadu. As Kamatchi says, “He (her husband) never has once stepped on the land for farming.” She has to run the family all alone with the income she earns from the farm and from the income she earns as a coolie. Further, vagaries of monsoon and lack of effective coping mechanism, farming itself is loosing its lustre as viable livelihood option for many in this area. Adding to this, lack of suitable financial services pushes resource-poor farmers like Kamatchi into the depths of poverty.

She says, “… one has to walk four to five times to their house (the well-offs and moneylenders) to get a loan for urgent needs. They didn’t trust us for we are from Kallar community, and even if one could get a loan, it was at the exorbitant rate of 5 to 10%.” She was unable to enterprise herself due to such lack of support and an enabling environment.

A Ray of Hope

It was during this time that Kamatchi joined the Kaliamman Uzhavar khulu (or rainfed farmers’ groups) promoted DHAN Foundation in that area. With a bit of hope in her heart, she plunged ahead, and the group helped her all along the way. The group, thus formed, proved to be a safe platform to save, to access timely credit services. This helped her meet various household needs and supported her in farming activities.

An Array of Achievements

As of today, she has a total savings of Rs.5600 in the group, and had availed a total loan amount of Rs.70191 from her group, with the current loan outstanding of Rs.21360. “In earlier days, none of the banks cared us of our credit needs. Now, the bankers they themselves invite us to take loan from their bank, for they know our group’s credibility and discipline, and trust us,” says Kamatchi. And these loans were used for variety of purposes like to purchase goats and a milch animal. She also got a loan of Rs.15000 to purchase an acre of rainfed land and to purchase oil engine to pump water. She has recently taken a loan of Rs.12000 to construct a farm house in her land. Apart from this she has taken a variety of loans for various consumption needs like medical expenses, marriage expenses, outside debt redemption and household expenses. Further, time and time again, she had also taken loans for working capital requirement of her farm activities.

As part of the watershed project, an amount of Rs.54146 was invested in her land for the construction of farm ponds and to plant dryland horticulture crops in 0.75 acres of her land. The farm pond harvests around 14.4 lakhs litres of rainwater, and with that, she cultivates around 1 acres of paddy, and gets an yield of 1400 kg of paddy that is used for household consumption.

In the past five and half-years, Kamatchi found that little spark in herself, and with the support from the group, she had made major changes in her life and livelihood. The various intervention activities resulted in the following outcomes in the lives and livelihood of Kamatchi and her family.

·         Increased income

o    Brought more area under cultivation

o    Brought more area under irrigation

·         Reduced vulnerabilities and risks

o    Increased land holding size

o    Increased food security by increased paddy cultivation

o    Crop diversification with cultivation of dryland horticulture crops

o    Reduced vulnerabilities to risks–insured in human life insurance programme, and also insured goats

o    Reduced dependency on money lenders and increased access to mainstream financial institutions

·         Increased fixed asset holdings, and asset value appreciation

o    Conversion of rainfed to irrigated land

o    Purchase of land

o    Invested in farm assets like oil engine

o    Purchase of livestock–goat rearing and milch animal purchase

Beacon of Hope

Thus, DHAN Foundation and the group promoted by DHAN, had increased Kamatchi’s access to institutional credit facilities, and reduced dependency on money-lenders. There has been an increased level of awareness and social respect that she had gained. She speaks to bankers to get loan for her group; “Now the bankers, themselves, approach us; we have shown our trustworthiness,” she says.

With the additional income from the farm, she had further invested in purchasing a pair of cattle, and a bullock cart; she is also planning to complete her little farm house. This shows a positive trend in moving towards a farming-based livelihood options, which was once a not so dependable source of income. She has gained confidence to face the future.

Through the support rendered by DHAN Foundation, and with the confidence in her heart, Kamatchi proved it could be done–to come out of poverty with a sustainable source of income. She is now a beacon of hope, and a source of inspiration, for her own villagers and the community at large.

Source:-Dhan Foundation

How to Tell Good MFIs from Bad MFIs

Most of us working in microfinance want microloan clients to be paying interest rates that are as low as possible. While we have the same vision, there is disagreement about how to determine whether an interest rate is an appropriate one.

Some people, including Mohammed Yunus, are worried about the growing commercialization of microfinance, including the entry of profit-motivated owners and managers.  They are concerned, reasonably enough, about possible “mission drift,” especially in the form of interest rates rising to (or staying at) excessive levels. In his book and in many presentations, Professor Yunus offers a straightforward formula for judging MFIs and their objectives:

• If you’re a real microlender who cares about the poor, then your interest margin (the difference between the rate you charge when lending to your clients and the rate you have to pay when you borrow from your funding sources) should be no more than 10%. That’s the “green zone” where true microlenders operate.
• If your interest margin is 10-15%, a big warning sign is flashing because you’re in the yellow zone.
• Anything above 15% is the red zone, where you’ve left true microcredit behind and joined the loan sharks.

Unfortunately, when you look at the evidence, this appealingly direct formula turns out to be pretty far off the mark.

To begin with the conceptual problem, the formula doesn’t allow enough room for legitimate differences in administrative costs among MFIs. For an MFI that makes especially small loans or serves a sparse rural clientele, administrative costs will inevitably be a higher percentage of loan portfolio, and the lion’s share of the interest rate spread goes to cover those costs. Application of the proposed formula could actually discourage outreach by such MFIs to poorer clients.

But concepts aside, how does the formula match up against actual MFI experience? It turns out that this formula would place most of the world’s MFIs in the red zone—the average interest rate spread for MIX MFIs in 2008 was over 20%.  But to be fair to Prof. Yunus, that shouldn’t end the discussion.  After all, maybe plenty of the MFIs in the MIX are charging their borrowers rates that are way too high.

Now let’s test the green-yellow-red formula against a group of Grameen-approved MFIs. Christoph Kneiding and I analyzed MIX data on Grameen along with several dozen MFIs that received support from the Grameen Foundation and reported to MIX. In 2007, for instance, 33 MFIs (representing about two-thirds of the Grameen Foundation recipients) reported to the MIX.  The only one in the green zone that year (interest spread below 10%) was Grameen Bank itself. Seven were in the yellow warning zone (10-15%). All the other 25 were up in the red zone (above 15%) and most of them way up in the red zone (between 30 and 55%). The three preceding years looked pretty much the same.

The proportion of Grameen affiliates in the red zone was about the same as the worldwide proportion:for instance, 75% of all MIX MFIs were in the red zone in 2008, according to a new study by Adrian Gonzalez of MIX. NGOs were more likely to be in the red zone than for-profit MFIs, suggesting that interest spreads may be driven more by the higher costs of smaller loans than by profit maximization objectives. (Average loan size in NGOs is about a third of what it is in for-profit MFIs.)

Has the Grameen Foundation has been fooled into working with a bunch of red-zone partner MFIs that are wolves in sheep’s clothing? Far from it. The Grameen partner MFIs that look so terrible on the green-yellow-red test actually appear quite strong—in fact, well above average—on indicators normally thought to be associated with commitment to the poor, such as average loan size.  Nor do they appear to be inefficient: they average considerably lower on cost per borrower than the other MFIs in their countries.

It’s disappointing that simple formulas can’t help much when it comes to appraising things like mission drift or fairness of interest rates. It takes a more complex analysis (see, for example, the CGAP papers on microcredit interest rates and Banco Compartamos).  I hope we see a lot more MFI-by-MFI analysis, in which the reasonableness of interest rates is judged by the reasonableness of the costs and profits that produce those interest rates. We all want to see MFIs charging clients rates that are as low as possible, so we need analytic tools that can do a credible job of separating the sheep from the goats in that regard.

by Richard Rosenberg

Source:-CGAP

India: Microfinance and Its Emerging Challenges

The recent debate on the rise and regulation of Micro Finance Institutions (MFIs) has put the focus squarely on the neo-liberal model of microfinance, being followed by the government since the beginning of the economic reforms. The early 1990s saw the emergence of microfinance as a major strategy of poverty alleviation by the neo-liberal state, especially in the wake of the reduction of public spending on welfare programs. The formation of self-help groups (SHGs) and their links with banks and government schemes was seen as a way of offsetting the problems of the limited outreach and of mobilizing capital for self-employment and other income generation programs. Many of these schemes targeted poor women, who were largely dependent on the informal sector credit from moneylenders. Thus the self-help groups formed under the bank linkage program attracted many women and more than 70 per cent of the bank and government linked groups were formed by women.

Perspectives on the SHGs

It was for this reason that the democratic movement and its organizations were not only forced to take this development seriously, but also develop their own perspective on SHG formation, while recognizing the limitation of the neo-liberal model of microfinance. The main critique of the neo-liberal model was built around the fact that it was largely designed to mobilize the savings of the poor for providing liquidity to banks and also for mobilizing the savings for self-employment programs in which the government had started to invest less and less money. In this situation, the formation of the SHGs was becoming a way of absolving the state of its own responsibility towards poverty alleviation programs. At the same time, many communal organizations and profit seeking commercial enterprises had also started to use these SHGs for their own narrow ends.

In stark contrast to this, the alternative perspective of the Left led governments saw the SHGs as a way of increasing the outreach of the government as well as channelling the government funds to the people. For example, the Kutumbashree, neighborhood micro-credit program of the Kerala government, linked the panchayat development with the organization and livelihood security of women. In West Bengal too, SHGs were given loans at subsidized, low interest rates, and they also received adequate training and marketing support. This showed that the democratic movement’s model of SHGs was concentrated on the democratization of governance rather than on the withdrawal of government support. By the same measure, democratic organizations working for women’s rights saw the formation of SHGs (for instance, MALAR federation in Tamilnadu) as providing a window of opportunity to mobilize women on social, economic and political issues.

Roots of the Rise of MFIs

The recent rise and growth of micro finance institutions has only made such SHGs all the more vulnerable in the present scenario of economic distress. According to the State of the Microfinance Sector report of the ACCESS alliance, the MFI operations expanded by 13 times in four years to end the year 2009 at Rs 117.9 billion ($2.6 billion) in outstanding loans. Of its 26.6 million borrowers, poor women and disadvantaged sections form one of the largest sections of the clientele. Whereas there was only one for-profit MFI in the country in the middle of the 1990s, this number had spiraled to 149 registered micro finance institutions by 2009. Of these, about 11 per cent of the large micro finance companies had a disproportionally larger share in the credit market, having 82 percent of the clients and controlling about 88 per cent of the loan portfolio. This reveals the emergence of new corporate entities and private finance companies who have started to exploit the credit needs of the poor by charging high interest rates. An investigation by a report from the Down to Earth magazine in Andhra Pradesh revealed that whereas bank linked self-help groups were charging interest rates of about 15 percent from their borrowers, the interest rates charged by the MFIs were at about 60 per cent. This clearly showed that a space had been created for exploitative financial intermediaries for entering the rural and urban credit markets.

That this phenomenon was linked to the refusal of public sector banks and the state to extend the outreach of its formal credit infrastructure is evident from the fact that most of the MFIs are concentrated in the 256 districts where the poor have a demand for credit, but the formal banking system is not able to meet this demand. Of this Andhra Pradesh and Karnataka have the greatest density of micro finance institutions, and more than 50 percent of the outstanding loans are in the southern states.

This meteoric rise of the MFIs has its roots in the liberalization of the banking system and its failure to meet the demands of the rural poor, especially women. Initially the MFIs were started in response to the program of financial inclusion. The SHG-bank linkage program was started by the National Bank for Agriculture and Rural Development (NABARD) where non-government organizations (NGOs) and not-for-profit institutions played an intermediary role in promoting and facilitating the link between self-help groups and banks. Thus many MFIs started as not-for-profit NGOs and then began to expand their operations to make direct contact with the clients. Thus SKS Microfinance (which is the largest MFI in the country today) started as a not-for-profit institution and converted itself into a non-banking financial company in 2004. Similarly, Sampdana, another of the MFI giants, started with 500 clients and increased its clientele to about 3 lakh (300,000) in the period between 1998 and 2004 when it became another for-profit company. This conversion of not-for-profit institutions into MFIs was a result of a state policy that increasingly facilitated the penetration of big private capital in this sector. International institutions like the World Bank supported the funders of the MFIs like Basix and the NGOs like PRADAN and SEWA in order to facilitate the demise of public sector banking.

Weakness of the Neoliberal Model

Such policies only exposed the weakness and inability of the current government and bank driven programs to meet these challenges. Women participating in the bank linkage program faced difficulties in getting access to bank credit despite the fact that it is they who had formed the SHGs. Thus around one lakh SHGs under the bank linkage scheme are yet to be credit linked even though they have formed the group under the linkage scheme. Further, the bank linkage scheme itself operates in two ways: first where the SHGs are supported directly through the banks on the one hand and, second, where banks lend to the MFIs for onward lending to the SHGs. They believe that this will only increase their outreach. But it is precisely this strategy which has also created the space for a replacement of the banks with the MFIs in some regions. Thus NABARD’s own report on the Status of Microfinance, 2009-2010 shows that while the rate of growth of direct bank support to the MFIs went up by 8.1 percent during the last year, direct support to the SHGs only went up by around six percent. This shows that the banks found it easier to give bulk loans to the MFIs rather than strengthen their direct links with the SHGs. Further, the ACCESS alliance report shows that the operation of the MFIs expanded by 83 percent in the last two years whereas the expansion of banking operations was only half that rate. This shows that the roots of rise of the MFIs lie in the slow growth of public sector banking and their reluctant and tenuous links with the SHGs.

The second important factor that led to the rise of the MFIs was the failure of the poverty alleviation programs that relied on the SHGs as the main mobilization strategy. The Andhra example is well known in this regard. Here the withdrawal of low interest rate based self-employment programs has led to the increasing operation of the MFIs. Further, in governmental schemes like the SGSY or the Urban Self-Employment Schemes, subsidies were linked to the ability of the SHGs to get loans from banks. The design of many of these schemes was such that applicants had to get their loans sanctioned before they could avail of even the inadequate and reduced subsidy (which in most cases did not exceed 35 per cent of the entire project). This was accompanied by inadequate infrastructural, training and marketing support for such employment opportunities. Thus, even though many of these schemes were targeted at the poorest of the poor (those below the poverty line), the rural and urban poor were not able to avail of these schemes adequately. For example, the government of Delhi was able to make only about 500 SHGs and train 3,000 women in one decade of its Shahri Swarozgar Yojana. Thus, along with other macro economic factors, the failure to provide work to the rural and urban poor also made them more and more vulnerable to the MFIs as well as informal sources of credit to meet their daily needs.

Need to Resist the Current Trend

The pressure being applied by the MFIs to resist the regulation should be seen in this context. Their political influence is reflected in the fact that the Andhra Pradesh Micro Finance Institutions (Regulation of Money Lending) Act (passed in December 2010) has no caps on interest rates. This once again shows that the government is willing to let the micro finance institutions do business as usual and manipulate the urban and rural poor for maximizing their profits. Needless to say, this trend needs to be countered and linked to the larger fight against neo-liberal policies and the increased social security for the urban and rural poor.

The democratic movement has been raising demands based on their experience with women’s SHGs and the government programs of the Left ruled states. It recognizes that the MFIs can only be countered if the government supports the SHGs through increased subsidies and low interest credits. The direct links of public sector banks with rural and urban poor and their SHGs need to be strengthened by expansion of the banking infrastructure and provisioning of low interest rate credit at a repayment rate of four percent. In such cases, the government may require to provide interest subsidies to these groups. But along with this, political mobilization for the regulation of the MFIs needs to be strengthened. For-profit NGOs and MFIs need to be stopped from expanding their operations in this sector on an urgent basis. It is no surprise that the finance minister has already stated that the government does not want to ‘strangulate’ the micro finance sector. The intention of the government is thus clear and large scale political mobilization is urgently required to stop its devious and anti-people design.

Source:-People's Democracy

Do the poor need financial literacy?

Olga Morawczynski is Project Manager for Grameen Foundation’s financial literacy project in Uganda.

When I started the financial literacy project at the Grameen Foundation in Uganda, I was faced with some very fundamental questions—what exactly is financial literacy? And do the poor really need it, or even want it? Aside from my own questions, I also faced some reservations from colleagues in the field. Many were very frank in their opinions. There is no need for financial literacy, they told me. What the industry needs is appropriate financial products. The learning bit will take care of itself.

I have spent the last months travelling around Uganda and speaking with individuals who depend on a wide variety of livelihoods, from fishing to trading and farming. And I have made some extremely interesting discoveries. Amongst the people I spoke to, there was a clear demand for financial information. Many of my informants did not have a lot of money, and their inflows of cash were extremely irregular. But they had many questions on how to manage it better. A significant portion wanted advice on savings and budgeting. As one farmer explained, “when you have so little, you have to become an expert at managing it. If not, it will disappear from your hands before you even had the time to count it”.

But what makes one an expert at managing their cash? “When times are good, you put cash away”, the farmer explained. “So when the cash is not flowing, you have something saved”. I asked what happens if you don’t have something little saved. The farmer pointed to a small herd of his cows. “You sell one of them”, he said. So maybe that brings us a little bit closer in our understanding of what financial literacy is and what it should do. That is, helping people to plan accordingly so they are prepared for the periods of cash deficits. And when you are an expert, you get to keep your cows.

Source:-Grameen Foundation

A Nation Awakens to The Freedom of Finance

For the first time in India’s history, everyone from politicians to entrepreneurs to technology gurus are converging on a common theme — to take the benefit of banking and finance to India’s neglected millions

If you are the scion of India’s most powerful political family with a fair chance of becoming the prime minister one day, what do you choose as the most important agenda to anchor your career on? Rahul Gandhi must have pondered this question several times in his fledgling Parliamentary career and as the years rolled by, the answer has become clearer. The kurta-clad handsome young man is not in the league of usual rabble rousers. He is playing for a unique positioning — that of a leader who brought millions of poor people living at the edges of society into the economic mainstream. He wants to take the benefit of banking and financial literacy to the remotest corners of the country. His agenda, then, is ‘financial inclusion’.

“The speed and continuity of our economic growth depend on inclusion. A small, resource-rich section of India cannot grow indefinitely while a vast disempowered nation looks on,” Gandhi said in a speech in Lok Sabha in 2008. “If opportunity is limited to a few, our growth will be a fraction of our capability as a nation.”

He followed up his statement with action. He roped in experts including central banking veterans to counsel him on the complexities of financial inclusion. He took his constituency, Amethi in Uttar Pradesh, as the test bed for some of his experiments. He took billionaire Bill Gates and British politician David Miliband there to showcase the work done by the Rajiv Gandhi Trust in bringing financial power to women. A close friend of Gandhi’s says he is steadfast and sincere in his commitment to this cause. “There is no doubt in my mind that his passion for social upliftment outweighs his passion for mundane political objectives.”

Rahul Gandhi may have read the people’s pulse just right. There is enough evidence to suggest that the concept of financial inclusion will be a major theme in India’s economic and political discourse in the coming years. The economy is at a point where the rural segment has to become vibrant to maintain the growth pace. The largely saturated urban markets can’t guarantee the same growth. But the village economy cannot kick off unless financial services such as credit, savings and money transfers reach there.

Today, large swathes of India are ‘financially excluded’. At least 73 percent of farmer households are in need of formal financial services. Out of 600,000 villages in the country, only 30,000 have a bank branch. Only 40 percent of the country’s 1.2 billion people have bank accounts. Nine out of 10 people don’t have insurance. Debit cards cover only 13 percent of the population and credit cards, a mere 2 percent. “We are totally under-banked as a nation,” says Nachiket Mor, former president of ICICI Foundation for Inclusive Growth.

But the buzz has begun. Today, everybody is talking about financial inclusion. The regulators, like the Reserve Bank of India, are giving it a fresh impetus and making it easy for bankers to take financial services to sections previously considered unviable. Technology is making it easy for the poor people to get bank accounts and transfer money without getting overwhelmed at the prospect of visiting a branch. Microfinance institutions (MFIs), which have played a large part in creating this buzz, are taking services deeper — to the poorest parts of Bihar and even some Naxalite-infested regions, for instance. Banks, both public and private, are appointing agents to offer financial services through kiosks and grocery stores.

“There is a new financial system coming together,” says Kaushik Basu, chief economic advisor in the finance ministry. “We want to have financial inclusion in a relatively market oriented way and there is a lot of imaginative work going on which could have a dramatic impact.”

For the first time in India’s history, entrepreneurs and investors have joined hands with the government and the banking network to power financial inclusion. It is important that they keep in mind the lessons of the past — such as the pointlessness of ‘loan melas’ — and the lessons of the present — such as the missteps of microfinance companies — to bring about lasting change.

Source:- Forbes India Magazine

SHGs for the Poor; MFIs for the Non-Poor

SHGs (Self-help groups) need to return to their original fundamentals of being strong grassroots institutions and the market for credit needs to be segmented

The focus of concern in the recent past, and leading up to the Andhra Pradesh microfinance crisis, has been the risk to commercialized microfinance organizations or MFI-NBFCs. Very little has appeared in the media on the risk borne by the clients, until the reported suicides in October brought their risk squarely into the political domain. This post focuses on the risk borne by clients.

First I would like to distinguish between two groups of clients: The first group is the poor who need credit and other opportunities for livelihood activities to survive. The second group is not poor; their livelihood strategy largely includes non-farm activities but they cannot grow to meet their aspirations without access to credit even at market rates.

My position is that the poor need substantial investment, besides credit, for them to move beyond survival and increase their incomes.

This investment includes institutional support- like the self help groups (SHGs) at the base - which provides the poor with the space to set their agenda to support their livelihood strategy. The services required to support livelihood strategies of the poor and to build these participatory institutions like SHGs need subsidy.

In short, this requires a long term perspective.

I do not think the business model of the MFI-NBFCs, which is driven by venture/private capital, quick disbursements, weekly repayments, high profits and remunerations for senior staff, a focus on valuations and IPOs and a quick exit, is appropriate for this group. Short term credit at commercial rates cannot help improve lives of the poor.

In fact, this business model increases the poor’s risk, often beyond a level that they cannot bear. The SHG model with links to banks (as it was originally conceived) is the appropriate strategy for this group.

Weekly repayments increase the borrowers risk and vulnerability to local power groups. Incomes from agriculture are lumpy not weekly; incomes from animal or dairy farming are usually monthly.

In order to repay the MFI loans weekly, clients are forced into activities that can help them earn daily, like wage-labor, or push them into a cycle of multiple borrowing, where they have space to borrow from one and repay to another.

The second group, the non-poor, who cannot get credit from banks because they do not have land records or fixed assets to provide collateral, are better suited to be clients of MFIs.

This group does not have the confidence and skills required to negotiate with banks if they need credit for activities in the non-farm sector and do not have access to working capital from formal financial institutions.

The business model of MFIs can meet the needs of this group provided profit is not maximized to an extent where there is little difference between them and the moneylenders. Good governance of MFIs can play a greater role than regulation; but evidence indicates that good governance is in short supply.

The SHG model is not an effective model for fast disbursement of credit. Therefore, it is not appropriate for this second group which needs credit.

Risk and the official policy promoting inclusion

Inclusion of the poor (the first group) into the formal financial system of the country involves considerable risks and costs on their part.

The SHG model was an attempt to lower this risk and costs for the poor by providing an intermediary institution which the poor managed. The banks that lent to them were satisfied even though the profits were low because their loans were categorized under “priority sector” lending and repayments far exceeded those from rural development programs in the past.

Between 2003 and 2008 the Reserve Bank of India (RBI) carefully managed India’s integration into the global financial system. Unfortunately the RBI did not take the same careful approach with the MFI-NBFCs in their rapid growth on the grounds that it was urgent to integrate the poor into the international financial sector.

Its focus was pushing the official financial system further into the interior on one hand and, on the other, a “hands off” approach as far as the MFI-NBFCs were concerned, encouraging them at most to self-regulate.

The MFI-NBFCs have not included the marginalized into the country’s financial system but instead included them directly into the international financial system which is not only inappropriate as a first step but raises the level of risk that clients have to bear.

Moreover, the emphasis on credit disbursement to SHGs increased when they were adopted by the Andhra Pradesh Government as part of its official strategy to mitigate poverty. Fortunately, high profits and remunerations were not part of the Government’s strategy.

The SHG Bank Linkage Model had grown till 2000 with adequate investment in building the institutional capacity. When it became part of AP state government policy in 2000, pressure was exerted by dedicated Government officers at the district levels to grow fast and achieve targets.

As a result, the quality of SHGs declined and their earlier emphasis on mobilizing savings, managing repayments and building a supporting environment for a livelihood strategy, considerably weakened.

Instead, SHGs were formed to achieve targets, with the wives of the Panchayat president and secretary dominating proceedings. They borrowed from banks and lent outside the groups at higher rates, at the cost of neglecting their own members.

Official reports focused on disbursements; corrective measures were taken to balance the spread of credit in areas where growth was slow. However, no investment was made to add value or to support increases in productivity and diversification.

Investment in institutions, the very essence of SHGs, was no longer a priority. Instead, the Government was in a hurry to disburse and increase financial inclusion.

Risk and interest rates

MFIs argue that high interest rates are justified because the risk of lending to small borrowers is high, the cost of delivery at the doorstep is high and finally the rates are far less than those of the private moneylenders.

However, high interest rates when offered by MFIs increases risk for the poor.

The State of the Sector report 2010 (N. Srinivasan) indicates that out of 60 MFIs which reported on profitability, six had ROAs over 7%; thirty five had ROAs over 2%.

In contrast the public sector banks in 2009 had average ROAs of 0.6% with the best being 1.6%, while the best private bank had ROAs of 2%. The yield on portfolio confirms this picture; in the case of 23 MFIs it was above 30 %(the highest being 41.29%).

The report also says that economies of scale have not led to lower interest rates or lower yields. This implies that MFIs maximized their profits and competition did not decrease rates as it was expected to.

The largest MFI recorded a 116% jump in net profit at Rupees 81 crores ($18 million) in the second quarter ending September 2010 as against the corresponding period last year.

The level of profit required to meet all costs, cover risks and expand operations is lesser than the level of profit required to meet all these costs and, in addition, attract venture and private capital, and pay salaries higher than the remunerations of the CEOs of the largest private banks.

What should be the interest rate? The figure of 24% is floating around in official circles. The problem is that the effective interest rates of MFIs are far from clear. There appears to be a difference of 5% to 10% between the rates as provided by the MFIs and the rates that emerge from an analysis of the books of clients.

MFIs also argue that the cost of credit from banks is high and that they should be allowed to mobilize public deposits if interest rates are capped. Interviews with clients show clearly that they do not have an idea of what they actually pay over and above the capital. They are satisfied if credit keeps coming.

In fact interviews with those clients who had succumbed to the temptation of multiple borrowings showed clearly that they wanted to borrow from several MFIs to maintain a cash flow to cope with repayments as well as their expenditure. This increases their risk substantially. In contrast, interest rates of SHGs in Myrada stabilize after two years or so between 12% and 14%, which is about 3% to 4% above cost of credit from banks.

Non-profit MFIs who do not pay high salaries but still pay adequately enough to attract experience and capital from banks manage to make a surplus at interest rates between 17% to 19%, where the average cost of credit is around 9% -10% and annual growth rates are 40% to 50%.

For-profit MFIs should be able to manage their affairs and attract sufficient capital (not venture capital and high valuations) by charging effective rates ranging from 15% to 17% above the average cost of credit. This would enable them to charge interest rates in the range of 24% to 29% instead of their current rates which are 20% to 30% above the average cost of credit.

The poor in SHGs are able to manage interest rates of 12% -14%. They have also managed with interest rates higher than 14% in the initial period of group formation until they have built up their group’s common fund. In my experience, they can cope with interest rates of around 17%. The risk involved is manageable and the cushion provided by the SHG can help them tide over urgent needs.

The non poor in the second group can cope with higher interest rates levied by for profit MFIs but the rates should not exceed 30%.

Competition among MFIs has not reduced rates, neither has self regulation.

Interest rates, commissions, salaries, profits have to be regulated by the board of an MFI. A decision by the Board to opt for an IPO will force management to focus on quarterly figures because the logic of financial markets dictates that it should.

This will further integrate the marginalized into the free market system increasing the risk of the clients who are particularly vulnerable.

SHG is not a good model for speedy disbursement of credit; but it is a good model for lowering the risks of borrowers as well as lenders. SHGs have savings which they use to cushion irregular cash flows; they are able to adjust to urgent and unexpected situations. Myrada’s analysis of its SHGs shows that their common fund increases year on year.

The SHG model, with lower interest rates and risk, is most appropriate to financially include the poor, while the product offered by for profit MFIs is appropriate for the non-poor who are in need of credit.

–Aloysius P. Fernandez, Chairperson, National Bank of Agriculture and Rural Development (NABARD) Financial Services, India and Founder of Myrada; the views expressed here are personal.