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Time to Choose

I read Chuck Waterfield’s CGAP blog post and have been participating in many discussions lately about the plight of microfinance. As people talk about the way forward, I cannot help but notice what seems to me an obsessive focus on issues that really seem rather secondary – issues such as standard setting, defining responsible microfinance, transparency, certifications, and so on. We need to focus on the real underlying issue and I am coming to think that it is commercialization that is the problem.

Let’s take an example of Bosnia: a study in this country conducted by the MFC for EFSE found that almost 50% of microfinance clients were over-indebted. I believe that one of the main reasons for this situation was the profitability driven race towards bigger microfinance institution (MFI) market share, and growth at any cost.

Cases like Bosnia should not be treated as marginal and accidental but as symptomatic of the damaging potential of commercial microfinance.

I see two problems with framing the challenge as “responsible” microfinance:

  1. There is a contradiction inherent in this concept. Microfinance, by definition, is (or is supposed to be) responsible. If we are promoting “responsible” microfinance we imply that microfinance — or at least one version — is not responsible. The focus on social performance and other new concepts as breakthroughs to make microfinance more responsible raises a similar problem for me. Let me be clear: I am speaking on behalf of an organization that is one of the founders of the social performance movement and has invested heavily in capacity building, social performance standards development, and implementation. How did we come to the stage where a supposedly socially oriented, mission driven organization (an MFI) has to be instructed on how to become socially focused?
  2. The second issue – commercial MFIs masking their true nature by using the development narrative when talking to policy makers or the public in their own countries– is still more serious. When I met with the deputy chair of the Kyrgyz National Bank last year and mentioned the need to monitor over-indebtedness issues, the vice-chair was surprised that problems such as over-indebtedness may be caused by socially oriented institutions. The “support infrastructure” of organizations such as microfinance investors and networks echo these development narratives in their external communication. This pretense of a robust social mission is misleading. And if we are not careful many of the tools we invoke to protect clients– such as responsible finance, social performance, or Smart Campaign certification –could be used as just another mask. If we fail to address the underlying business agenda, such secondary solutions could actually further conceal the real issues. Maybe instead of industry-led responsible finance initiatives, it would be more appropriate to subject companies to appropriate licensing and regulation. While a long list of issues drives the current, commercial microfinance agenda, I’d like to focus on one in particular. What if poverty has become a secondary consideration for too many of the institutions that we represent (and not just MFIs) and it has been displaced by a business agenda? And what if too many of us have a vested interested in preserving the status quo?

Microfinance has become a lucrative business for many players: commercial and social investors and even rich individuals have lined up to take part in this opportunity, which in turn has strengthened the commercial potential of microfinance. These players — including some of the donor institutions and international networks that draw on public investment funds — can take pride in “eliminating” poverty through microfinance while reaping financial returns from the less developed world. Some international networks divert portions of the profits earned by their affiliates in developing countries back to headquarters or use public money to create and then sell microfinance banks. Business must go on.

We need to stop these practices and make sure local money is used locally for development purposes. This is after all the key development strategy we preach. I believe this “hidden” business agenda is distracting us from tackling the problems in our sector in a more serious way. And it is getting in the way of our engaging in more constructive thinking about poverty issues.

In his post, Chuck seemed to be drawing a distinction between commercial vs. responsibly commercial microfinance. I’m afraid that this seems like trying to “have your cake and eat it too,” by keeping a healthy flow of financial returns while expecting strong social impact (preferably without unpleasant side effects such as over-indebtedness).

Instead we should put client and local community long-term well being first on the MFIs agenda and subordinate institutional sustainability to it. We must prioritize people over profit. We need to break the sacred institutional sustainability concept, which in many cases over the last few years has evolved to signify profit maximization. We need to challenge the “convenient” narrative that is floating around that says there is not enough subsidy to support every single MFI in the world, hence everyone has to be sustainable/profitable.

At the same time we need to deny the “development mask” to the very many microfinance promoters and commercially oriented MFIs that are operating all over the world and subject them to licensing and regulation . This is the most appropriate way to rein in the potential abuses of commercial providers and help ensure that they treat their customers appropriately.

The real choice we face is not between commercialization and responsible commercialization. It is between development and profit-making as the primary institutional goal.

Comments

24 August 2012 Submitted by Kiringai Kamau (not verified)

I have been out of microfinance discussion, but investment in my choice sector agriculture has drawn me back and are finding the subject we discussed a lot in the last 10 years.

During these earlier debates, the issues facing microfinance were as live as they are today. One passionate discussant who then seemed abrasive is my good old friend Zvi Galor from Israel. Zvi threw as much light to the challenges that he saw as potential to the practice of microfinance. Not much heed was given to his insights. The outcomes of what you see was therefore predicted by this old sage…

No need going back to history but the bottom line then, as is the case now, is if you need a microfinance model that has both faces of social responsibility and commercial benefit, then choose the savings and credit cooperative(SACCO)[credit union] that is controlled and owned by the members or shareholders in a manner defined in the by-laws that define the SACCO.

If any addition is to be added to make sense with the changes in technology, then all that a SACCO needs is the efficiency and governance imbuing ICTs to make microfinance responsible and poverty focused.

As Zvi would say, there is no contention and hence no need for other debates.

24 August 2012 Submitted by Jami (not verified)

The title of this post reminds me of Andrea Bocelli’s remake of “Time to Say Goodbye.”

Very good article Grzegorz, and I agree with you and Mssrs. Kamau and Galor that the cooperative and SACCO models are more about community development whereas commercial (i.e. investable) micro finance is more about profit margins for investors (though certainly there are exceptions to my rule).

The rising levels of debt globally are also another 800 lb. gorilla that the MF sector has elected to deal with by campaigns, codes of conduct & other forms of self-regulation, adding a few industry-lead financial literacy projects from time to time.

We need only look at countries which aggregate data on will happen when credit is too easily accessed or inappropriately sold. South Africa, for instance, which is doing its best to address the problem through the 2006 National Credit Act and debt counseling and financial literacy and outreach campaigns, but it is still a poster child along with the US for debt saturated citizens. Close to 50% of South Africa’s 18.35 million credit active citizens are not in good standing with credit providers (all this info is reported in easy to read publications on the NCR site). And, most of these over indebted South Africans are also under court mandated supervision and/or in debt counseling procedures.

Translated in terms that the financial services industry can understand: these are people who by law you may not lend to; perhaps for a period of up to a decade.

If your market is diminished by 50% or even more conservatively speaking say 10-15% you have become your own worst enemy.

Also, on this same note, I wonder whether countries such as Bosnia, which do not have mandated debt counseling will have much success with those 50% who are over indebted with an average of how many loans (4+ per person I am guessing)? Will micro loans be restructured over an extended period of years or will (GASP for air) there be some debt forgiveness involved when loans have been issued irresponsibly? And, what’s the incentive for all the creditors to amicably work things out when they could keep the debtor on the hook forever as well as his/her guarantors — that is until someone figures out how to navigate the byzantine bankruptcy and insolvency procedures.

Then, just thinking out loud, but I wonder if there is a lawyer out there somewhere who will one day attempt a class action bankruptcy on the part of all debtors similarly situated. Maybe that will be the plot of a film someday …

24 August 2012 Submitted by Diala (not verified)

Chapeau bas! You are saying what many people think but do not dare saying. As you rightly pointed out, between what is read and communicated in high places such as international foras on microfinance, and what customers live with daily, there is a big gap. My first shock dates back in 2007 when I discussed with microfinance customers in Benin (informally, without my accompanying loan officers of course). They described unfriendly loan recovery practices, over-indebtedness (taking loans to reimburse other loans), etc. which was in total contradiction with the testimonies given by customers in front of loan officers.
I fully agree with you that the pro-poor branding is really misleading but it looks like normal practice these days. I see the same going on for mobile and branchless banking, but now with the financial inclusion umbrella. Lots of interests and money are in play and it will be difficult to change the profit maximization process as this is the basic essence of capitalism.

24 August 2012 Submitted by Dr V.Rengarajan (not verified)

An interesting posting! Yes It is time to change but what are strategic directions for such change?
Commercialization issue need not be the ‘core’ issue in MF industry. The fact that how precisely the micro credit is functioning effectively or absorbed productively for additional income generation task at poor household level(HH), assumes importance. Conceptually in this industry, development need to be ‘intentional’ goal and profit to be ‘incidental’ one albeit both are necessary. Functionally, over indebtedness(OI) analysis therefore requires more anatomy on the demand side apart from the causative factor on profit driven and market share approach of the MFIs from supply front. Some of my observations on the study report on indebtedness of Micro credit clients in Bosnio & Herzegovina are shared
1. The classification of over indebtedness into three groups is mostly based on the percentage share of HH Income for debt servicing . The rationale for linking HH income for debt servicing is debatable as it varies from different HHs depending on earning members in the respective HH. In such case the HHs having more number of salaried /earning members, have more repaying capability are considered as viable clients of credit institution and the very purpose of MF services to the poor is likely defeated. This apart, intra poor inequity gap further widens consequently. Rather, repayment capacity particularly for micro credit services is to be ideally linked to Income generated (IG) from the economic activity financed and accordingly level of repayment made from such IG , the level of the over indebtedness is to be reckoned. This approach may also help avoiding over estimating ‘repayment capacity’ and over crowding on particular product. OI analysis on credit product wise (consumption, individual economic activity and others ) would facilitate concentration of potential credit product with good repayment for the given area/region. Basically consumption credit deserves back seat in MF arena.
2. ‘Credit contract’ does not make it clear on the purpose for which credit is sanctioned. Further, repayment schedule and holiday (moratorium) period for each one of the products is not based on time lag of income generation from the respective product. As these factors influence much on the repayment capacity and the level of over- indebtedness, they assumes vital for reckoning in demand side analysis on debt servicing.
3. Another macro level factor, which also causes worsening financial situation at HH level for OI is deterioration in economic condition as reported. Albeit partially true, the fact that micro level presence of physical infrastructure for supporting the productivity of the micro credit in the given area/region , matters most as presence of these .non financial service influence the functioning of the ‘debt service chain’ – Income generation, repayment, recovery, over due, level of indebtedness level of repayment .The study result showing 27% of sample HHs not affected (as reported ) suggests that the influence of external variable such as economic condition is more contextual and not necessarily due to macro level economic condition.
4. As a way forward for preventive measures for OI problem a few suggestions include a) clear identification of the target group for MC b) inculcation of prudential borrowing habit for the client more for income generation purposes c) service area demarcation for each player in a given area for avoiding multiple borrowing and multiple lending d) Micro credit planning for identification of potential credit products capable of income generation e) repayment capacity and recovery based on income generation from the activity and not based on HH’s income for Micro credit services. f) close monitoring through supervised credit system after delivery at HH level.
Dr Rengarajan

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