Microfinancing

Micro-financing – Issues and practices

By: Ghulam Qadir Arbab

(Article was published in daily dawn on October 01, 2001)

Last decade witnessed a sharp decline in availability of funds as a policy shift from the directed approach to the financial market approach. Most of the traditional lending lines to agricultural banks were discontinued.

Donor assistance currently centers more on micro enterprise financing and on the promotion of non-governmental financial institutions. Micro-credit is characterized by short duration loan, small loan sizes, strict supervision and direct or indirect client screening. This reduces default risks and leads to an overall improved performance.

Micro financing is not just forwarding credit or is not charity help to the poor. But it is to bring revolution in their lives with enhanced access to financial market. it is an enabling, empowering, bottom up tool to poverty alleviation that has provided considerable economic and non economic externalities to low income households in developing countries. There has been a gradual realization that microfinance alone is not enough. As it is not a replacement for jobs that are not there, markets that are inaccessible, or education and skills that does not exist. Particularly the main objective of microfinance institutions requires a holistic and in-depth understanding of the interplay between economic, social, cultural extracts of the development process.

Pakistan has the largest microfinance sector with more than 6.3 million poor households. But the available facilities for micro-financing are underdeveloped having less than 5% outreach micro-credit, whereas, DFIs do not target the poor which tend to perpetuate rather than ameliorate poverty. Realizing the needs, the government of established microfinance division to ensure orderly development of microfinance sector in the country. As a first step, the microfinance bank (MFB) has been established as a public sector joint venture with an initial paid up capital of Rs. 1.7 billion. The loan size ranges from Rs. 3,000 to Rs. 30,000 for upto a year. The bank lends at 18% per annum out of which approximately 6% of the interest revenues are diverted to the deposit protection fund and risk mitigation fund that will provide insurance cover to small savings mobilized by the bank and will mitigate default risk of the poor. In addition to the MFB, three categories of micro-finance institutions (MFIs) have been planned to be licensed with minimum paid-up capital ranging from Rs. 100,000 million to Rs. 1,000 million, on district, province and country based operations. The framework will provide the scope for NGOs to become regulated microfinance institutions (MFIs) to broaden and deepen the microfinance sector.

It is learn that MFB will follow the peer group strategy for its financing activities. No doubt peer group monitoring has been proved successful in micro financing as weekly meetings plays a role in increasing discipline, ensure regular payments, and promoting the transparency of financial transactions with bank staff. But peer groups as well as staff may have a tendency to exclude those most likely to experience repayment difficulties. During the process of self selection, group members will filter out those who represent the greatest risk for the group. There has also been allegations that in fact very poor are so weak as not to benefit from micro lending, and that it is the “better of poor” that benefit. While all poor need to be included in the programmes, the shortage of funds impels organizers to make special efforts to reach the less well off among the poor.

In the absence of long term sustainability, micro credit operations become a welfare or charity operations. Probably the single most important element in ensuring long term sustainability of the operations is to include in them the savings mobilization function. Having little or no saving or assets of their own, the poor are cut off from conventional credit sources at market interest rates and forced to borrow at usurious interest rates from landlords and informal money lenders. Any emergency from sickness to a social obligation like a marriage or funeral, even a bad day when their income falls below subsistence, can plunge the poor into further debt, which further erodes their income. The perception is that if you are going to help people overcome poverty, in addition to helping then increase their incomes through better livelihoods, you are going to build in some carefully targeted and tailored credit mechanism. Therefore, the result of emphasis on saving first is that members’ own saving serve as a guarantee. But more importantly, because most of the funds are derived from the community, failure to repay is seems as “stealing” from one’s own neighbors.

The microfinance bank following a realistic approach decided to ensure that at least 40% of its loan goes to women. Whereas, the Grammen Bank of Bangladesh disburses almost 94% loan to 2 million women members. But studies on women’s control over loans, or having relinquished all control to the males in the family. Behavior of the bank staff becomes undesirable with female clients once default occurs. Obviously, micro-enterprise of women does not appear in most of the cases. Micro-credit can often contribute to the workload of women, increasing women’s dual burden of productive and reproductive work. In fact, whether the borrower is a man or a woman, there will likely be an impact on women and girls in the household. The impact of micro-credit alone on women’s status and gender equity is limited. As part of a broader effort to raised awareness and mobilize women, credit could play an important role as entry point to strengthen women’s networks and mobility increase their knowledge and self confidence, and increase their status in the family.

Most micro-financing institutions show their recovery figures as success indicators. But repayment is not an important indicator as finds could have been invested other than in productive activities. Even when a borrower repays a loan on time, the source of income is not necessarily from revenues generated by investing the loan in the productive activities. In most peer group lending, for instance, borrowers must commence weekly installments almost immediately after the investment is made. Hence, borrowers will either be forced to choose activities that generate almost immediate revenue, or they will have to repay the loan from other sources. In practice, repayment is often derived from general family income rather than the income generating activity itself.

Hence, repayment may be good due to discipline or peer pressure, regardless pf business performance. Further, it recovery is the key indicator for success, then the Grameen Bank and such MFIs are successful with more than 90% recovery rate. But the status quo in highly distorted patterns of wealth distribution continues to persist raise questions for their success. No doubt recovery percentage is a key indicators but impact assessment should be the pre requisite to measure the sustainability of any micro-financing activity.

A key lesson for microfinance implementers is that micro credit involves a long term commitment. Financial intermediation is an on going requirement, and short term interventions may have a negative impact on existing informal and formal financial arrangements. The best programmes have proven the ability to bring about short-term increases in borrowers’ income. But a closer look at results a big difference between impact on the poor and impact on the poorest.

The development and implementation of a microfinance programme facilities, and is facilitated by organizational and operational systems that are set up as a part of the programme. They include community based organizations, peer groups etc. as well as systems of operation to manage the microfinance programme. A good organizational / operational system also leads to better financial sustainability. The success of microfinance programmes greatly depends on the degree of networking incorporated into the programmes – both within the community it operates and with external agencies and institutions that can help its development. Building the MFI’s capacity as well as institutional governance structure in its management is dependant on the links it develops, and in the information and transparency it incorporates into the programme. Good networking and information gathering system also leads to better informed decisions and understanding market operations.