Promoting Microfinance

Challenges and Innovations in Developing Countries and Countries in Transition

R. Manos, J. Gueyie, J. Yaron, R. Manos, J. Gueyie, J. Yaron

• Publisher: Palgrave Macmillan
• Year: 2015
• ISBN:
  9781137034915
• Topic: Business
• Subtopic: Accounting
• Index: Business

Promoting Microfinance brings together essays and empirical work by leading researchers and practitioners in the field of microfinance. It covers key issues currently facing the microfinance industry and provides an overview of the microfinance industry in selected countries/regions, pointing to the direction in which it is heading.

Part I

The Importance of Innovations

1

Challenges and Innovations in Promoting Microfinance

Ronny Manos, Jean-Pierre Gueyié and Jacob Yaron

1.1 Introduction

The competitive advantage and the distinctive feature of microfinance relative to conventional lending and saving institutions lie in its core mission of providing access to financial services to those considered unbankable by the formal financial services industry. This is based on the idea of inclusion and on the belief that increasing access to financial services should encourage entrepreneurial activity, generate growth and contribute to the alleviation of poverty (Khavul et al., 2013). It is also generally accepted that providing the unbankable with access to financial services should contribute to the empowerment of weaker populations and help them to build individual and social capital (Howson, 2012; Bateman, 2010).

However, the challenge of meeting these goals is far from trivial. It is not always the case, for example, that microloans are used to generate income thus contributing to economic growth and poverty alleviation as opposed to being used for consumption (Sooryamoorthy, 2007; Agier et al., 2012; Agier and Szafarz, 2012). Likewise, although microfinance is often associated with empowerment of women, there is also evidence of gender discrimination in the provision of microfinance services (Mayoux, 2002; Fletschner, 2009). Interestingly, the disadvantage women have in accessing microfinance services has also been shown to increase with marriage although this gender discrimination does not appear to influence success rates (Fischer et al., 1993; Agier and Szafarz, 2012).

Meeting the challenges which the microfinance industry has set out for itself requires the establishment of an appropriate institutional environment within which microfinance institutions (MFIs) would be motivated to offer suitable products and services that match the diversified and changing needs of target clienteles. This requires a constant review of the context and delivery methods, a continuous quest for innovations and an on-going evaluation of practices, impact and performance, taking into account the country, region and cultural aspects (Seibel, 2013; Hermes and Lensink, 2011; Rai and Ravi, 2011; Littlefield et al., 2003; Pitt and Khandker, 1998). The importance of adapting microfinance delivery method to context, for example, is illustrated by Howson (2012). Specifically, it is shown that group lending, commonly assumed to be an effective microfinance tool, had adverse effects in the case of women cross-border traders in Senegal. Similarly, Field et al. (2012) show how frequent repayments, commonly believed to reduce default rates, actually increased the financial stress of borrowers in Bangladesh because they prevented investment in promising opportunities. The point being made is that policies that seek to improve economic welfare may, under certain circumstances, actually have the opposite effect. The upshot is that inappropriate design or intervention can have serious adverse implications for the success of the microfinance industry in meeting its stated goals (Howson, 2012).

There are further complications that make it difficult to assess the real contribution of the microfinance industry. A period of economic uncertainty such as during the recent global financial crisis is one. Social unrest and the associated socio-economic uncertainty is another. There are also important implications to the high expectations from the microfinance industry following the 2006 Nobel Peace Prize being awarded to Grameen Bank and its founder, Muhammad Yunus. Still another layer of difficulties is due to the rapid growth of the microfinance industry, its global spread, the increasing number of people it serves, and the diversified outcome achieved by various MFIs in terms of impact on the wellbeing of target clientele.

Additional dynamics with implications to the microfinance industry include the opportunities that arise due to advances in technology, developments relating to social networks, and innovations such as crowd funding (Marom, 2013). This set of factors and their temporal, rapidly changing nature, and geographical context further emphasize the need for a flexible approach to the delivery of microfinance services, which considers diversity across societies as well as changes over time (Foose and Greenberg, 2008; Cull et al., 2007; Yaron, 1992).

Yet, the ability to adapt to local conditions in terms of creating congruence between the microfinance industry and its clients is not sufficient. The challenge of the microfinance industry is to fulfil its mission of reaching excluded populations with effective economic tools and at the same time to create sustainable MFIs. This dual mission implies an intricate balance between outreach and sustainability, two goals that are sometimes mutually exclusive or involve trade-offs. The important point here is that defining the mission of microfinance as a dual mission amounts to upgrading the quest for the establishment of sustainable MFIs from a mere instrument for reaching the unbankable, to part of the microfinance mission. This is driven by the recognition of an inseparable link between deliverers and recipients. It rests on the idea that the extended mission of the microfinance industry relates to the responsibility it has towards excluded populations and towards itself in terms of building sustainable institutions.

While many MFIs accept the dual mission of extending outreach to the poor and improving sustainability through financial performance, other MFIs and many stakeholders believe that there is an inherent trade-off between outreach and financial results. This view is also supported by some empirical studies (see for instance Hartarska et al., 2013; Hermes et al., 2011; Mersland and Strom, 2010). For example, Mersland et al. (2012) show that the lower financial performance of Catholic MFIs is driven by lower interest rates that are charged on loans. In turn, charging low interest rates may be driven by the focus of religiously oriented MFIs on outreach. Thus the results in Mersland et al. (2012) imply a trade-off between the pursuit of social objectives and maintaining tight financial discipline in order to improve financial performance and sustainability.¹ Another example is the recent microfinance crisis in Andhra Pradesh where suicides amongst over-indebted microfinance borrowers instigated ‘debt-strikes’. This experience illustrates the complexity of having to balance outreach and financial sustainability and the inherent conflict between the microfinance industry’s social mission and its financial practices² (Field et al., 2012; Taylor, 2011). In contrast, it could be argued that a trade-off between sustainability and reaching the poor is not an inherent problem but that it may be due to inappropriate design or is often supply-side driven (Aggarwal et al., 2012). Wichterich (2012) compares the US subprime mortgage crisis, which resulted from the oversupply of cheap mortgage loans to low-income households, to the oversupply of microcredit in rural areas of Andhra Pradesh, resulting in over-indebtedness and collapse of repayments.

Related to this discussion is the on-going debate over mission drift, commercialization and accusations relating to excessive concentration on profit and financial performance³ (Hermes et al., 2011; Mersland and Storm, 2010; Cull et al., 2007). These debates position the global microfinance industry at a crossroad with relation to the formulation of objectives and principles and are often reflected in the argument regarding the legal form under which MFIs should establish themselves. In particular, the argument is around the question of whether for-profit institutions are really part of the microfinance industry.

An alternative approach, which accepts the need for sustainability, states that a focus on either outreach or sustainability is erroneous as there is not necessarily a trade-off – and there may even be complementary relationship – between social performance (outreach) and (financial) sustainability. Accordingly, the various legal forms under which MFIs can structure themselves represent different balances of outreach and sustainability. In line with this alternative view, MFIs should select a legal form that best facilitates the development of effective financial tools to match the demands and capabilities of MFIs and their clients in terms of affordability, risk and range of services. Indeed, one way by which the dual mission of extended outreach and improved sustainability can be achieved is through the encouragement of competition amongst microfinance providers. Such competition could, for example, motivate successful NGOs to transform into regulated financial institutions that offer a wide range of microfinancial services. Consistent with this view, Galema et al. (2012) show that powerful CEOs of MFIs that are organized as NGOs have more decision-making freedom than powerful CEOs of other types of MFIs, which leads to worse performance. It is hence concluded that NGOs should be transformed into regulated share-holding financial institutions. Alternatively, healthy competition should also drive formal, well-established and regulated financial institutions, such as banks, to extend their services to those previously considered unbankable. This has happened in places like Guatemala and requires the adoption of a flexible approach that facilitates shifts in institutional logic (Khavul et al. 2013).

Although most participants agree that both social performance and financial performance are important, there is no consensus on how either should be measured (Mersland et al., 2012). Moreover, there is also no agreement on how the impact of microfinance should be assessed, and the belief that it is positive is also often questioned (Duvendack and Palmer-Jones, 2012; Duvendack et al., 2011; Bateman, 2010; Stewart et al., 2010).

In contrast, using household panel data covering the period 1997 to 2005, Imai and Azam (2012) show that MFI loans have a positive impact on food consumption growth in Bangladesh. These results support the poverty-reducing effects of microfinance and are in line with microfinance having a positive impact on the welfare of a target clientele. Hulme and Mosley (1996) review a number of impact studies and conclude that microfinance was beneficial for households at above the poverty line but not for households below that line (see also Pitt and Khandker, 1998; Rutherford, 2001).

In this book of readings we provide a ‘voice’ to scholars of microfinance who recognize that there are different trajectories and strategies of action that could be considered in establishing a successful microfinance industry that effectively achieves its aims. MFIs are diverse in terms of their target population, the products they offer, their delivery methods and the environment in which they operate (Dehejia et al., 2012; Bogan, 2011; Mersland et al., 2011; Cull et al., 2011, 2007; Mersland and Strom, 2010, 2008; Tchakoute-Tchuigoua, 2010). Thus the book endeavours to capture cross-country differences in microfinance by analysing challenges and innovations in different contexts and cultures.

1.2 Overview of the book

The chapters in this collection address issues relating to challenges and innovations in the microfinance industry and how these affect and are affected by the relationship between outreach and sustainability. The book is divided into four parts as follows. The first part introduces the role and importance of innovations and technology (the current chapter and Chapter 2). The following parts deal with innovations and related challenges in three key areas: policy formulation and regulation (Chapters 3 to 5); performance and impact measurement (Chapters 6 to 8); and the role of microfinance in coping with conflicts and disasters (Chapters 9 and 10).

The contribution of innovations to the successful development of the microfinance industry is the topic of Chapter 2 by Ana Pantelić. Pantelić examines the role of innovations and technology in supporting the microfinance sector in Latin America and the Caribbean, and reviews the social benefits and accompanying challenges of a growing microfinance sector. It is argued that microfinance has been a source of positive outcomes for many low-income individuals and their families. However, it is also suggested that maintaining innovations in both the public and private sectors is necessary to ensure that microfinance continues to contribute effectively to poverty alleviation and sustainable economic development.

Pantelić notes that the microfinance industry faces challenges. A noted one is having to implement an efficient and effective extension of the banking model of providing multiple products and varied services such as lending, savings or insurance. It is argued that without an appropriate regulatory framework and policies to oversee these developments, the rapid growth of the microfinance industry would not yield the expected long-term benefits. Thus the challenges faced by the microfinance industry also include the creation of a flexible and adaptive institutional environment which stimulates the growth of micro-enterprises. As the three chapters in Part II stress and illustrate, such an institutional environment requires the backing and support of an adequate set of policy and regulations.

In Chapter 3 Pablo Cotler and Giovanna Aguilar explore the main reasons that the microfinance sector in Peru has followed a substantially different development path compared with the microfinance sector in Mexico. Specifically, Cotler and Aguilar argue that the microfinance sector in Peru was successful in achieving both financial sustainability and outreach, including reaching target clientele with effective saving services. On the contrary, the authors propose that in Mexico the microfinance sector was not as successful as in Peru principally due to inadequate policies and inappropriate regulatory approach.

Cotler and Aguilar discuss and illustrate how innovative microfinance-related policies in Peru were designed to aid the establishment of sustainable institutions offering savings and a range of other financial services. These in turn facilitated a healthy expansion...

Table of contents

• Cover
• Title
• Copyright
• Contents
• Tables and Figures
• Notes on Contributors
• Part I The Importance of Innovations
• Part II Policy Formulation and Regulation
• Part III Measuring Impact and Performance
• Part IV Coping with Conflicts and Disasters
• Author Index
• Subject Index