The Three Witches of Microfinance
microfinance focus

By Shakespeare Walla,

Microfinance Focus, July 25, 2011: MFIs have a right to do business and have the onus to generate returns for their shareholders. MFI’s have not been able to untangle themselves from the complex web of global microfinance ‘specialists’, ‘accelerators’ and their suspicion arousing campaigns, partnerships, illusionary terminologies, experimentation with use of unscientific, unproven, confusing social performance measurement tools which have all collectively built an appealing, politically correct theory of microfinance as ‘the final solution for empowering the poor’, which began as a harmless illusion but has now gradually morphed into to a dangerous delusion. This in turn heralded the current MFI (Microfinance Institution) witch-hunt.

“Fair is foul, and Foul is fair…”

It is not for the first time in history of commerce that corporations have produced low-cost, mass-market products to expand markets among an aspiring lower socio-economic class, what is usually referred to as the Bottom of the Pyramid.

Amongst others, this customer segment demands consumer goods (staples, soap to bottled cola), telecom (prepaid mobile services to m-wallets), utilities (water, gas and electricity), small home appliance (water purifiers, renewable energy goods), finance (gold loan, insurance, microcredit) which corporations sell.

Many of these are listed corporations, all have client base spread across geographies, all invariably create jobs, and all ensure they pay taxes, all make profits. However, none of these above corporations work to justify their existence, their role in the economy and none strive to prove the quantum of social impact they make on the consumers, something which only MFIs have super specialized.

Imagine if a bottled cola corporation argued and presented studies at every forum, how the consumer benefits by buying bottled cola drink. Think of a telecom corporation similarly driving sustained campaigns how productivity of mobile phone users goes up. Think of a gold loan company justifying and proving why its products are beneficial.

Seldom references are normal and we hear of them, but persistent campaigns to prove the utility of the product, how the product is priced, how productivity goes up post consumption of the product, how the consumption of the product leads to nation building etc. Imagine mobile phone producers come out with regular campaigns on why their products are not carcinogenic. Wouldn’t it all arouse suspicion? Someone once said, a guilty mind or conscience is always suspicious.

Historically MFIs ‘grew’ out of programs funded by development grants. Development grant meant ensuring, justifying, qualifying and quantifying the use of grant and hence the hundred percent legitimate uses of words like program outreach, members, social performance etc. These ‘programs’ had a mélange of names which meant either or of help, prosperity, empowerment, equality, better life and similar such.

Success of these non-profit programs led to the creation of for-profit MFIs. MFIs adopted these ‘harbinger of prosperity’ names. The international development non-profits quickly labeled the creation of an MFI as ‘transformation’. These programs morphed into venture capital attracting for-profit, MFI ‘owned’ by ‘certain members of the governing body of the grant based microcredit program’. While this defied logic, through a great mix of accounting wizardry and regulatory arbitrage, all was ‘deemed’ kosher. World applauded and the domestic central bank, the regulator and the taxman equally vigorously nodded, in helplessness, frustration and disagreement.

International development non-profits whose business model is to receive grants and station teams in developing countries to help these ‘causes’. They need to obviously very quickly come up with fancy programs and fancier partnerships and keep reinventing to ensure the grants don’t dry up, some examples are ‘accelerating programs’, ‘transforming programs’. Surprisingly most of these accelerators and transformers are evangelized, though in ‘letter and not spirit’ by MFIs without an iota of understanding the long term implications of the ‘illusionary’ mess they would land up later. MFIs have been basically used like guinea pigs, where success of the program is ‘ours’, and failure is ‘yours’.

Global ‘themed’ non-profits are real experts and masters when it comes to playing with words and forging alliances and partnerships for the ‘themes of the season’. These global ‘themed’ non-profits love to showcase Asian poverty and collect dollars on their behalf. A visionary Indian Prime Minister had once famously commented how only 10% of the Rupee spent reaches the ultimate beneficiary. It’s no different or maybe worse with global ‘themed’ non-profits.

A leading global microfinance accelerator decided to move out of microfinance once it realized the ability to raise funding was diminishing by the day. Similarly practitioners moved from terming themselves ‘microfinance practitioner’ to ‘Rural Finance practitioner’. Practitioners have the habit of stirring up issues and slinging mud. They find it convenient to write alarmist stories about issues such as corporate governance, executive compensation, interest rates, lack of innovation etc. Obviously if a banker joins an MFI leadership, he is bound to be paid market salaries, why should others cringe.

MFIs need to hope for good riddance from these seasonal and fair weather courtiers made of ‘Jholawallahs, global microfinance specialist accelerators and NGOs’.

The Latin phrase caveat emptor holds good for all industries and sectors as much for microfinance. Clients are much smart and savvier than we or the global microfinance NGOs estimate them to be. They understand the risks and benefits of availing a microcredit loan.

Sustained campaign for client protection, transparency of interest rates and similar such only attract the regulators eye and arouse suspicion.

Have you ever heard of a campaign by other corporations trying to justify their business? No they don’t as caveat emptor holds.

MFIs should consider getting miser when it comes to using words like outreach, members, partners and swap them with geographic presence, client and bankers. MFIs must get real and behave like mature corporations do.

MFIs also find themselves holed up in quarterly themed conferences organized by non-profits/conference organizers. Each conference needs a new theme to create scare and attract maximum paid delegates. These non-profits pick up issues like social performance (fancy, here we go again), leveraging, multiple borrowing, scaling up, mission drift (fancier, once again) etc. Representatives from the regulators and central banks invariably give these themed conferences a miss. Experts from these global microfinance non-profits offer solutions for the same. These issues are like Trojan Horses.

MFI should consider working more outside of quarterly themed conferences.

Some once said, in free markets, no surgical interventions usually help, markets help themselves.

Let’s pick up the commonly debated done to death case of over leveraging-multiple borrowing, loans for consumptive purposes etc. With the current liquidity crunch as a result of regulatory action in India and the resultant turning off the liquidity tap, client repayments from non-Andhra Pradesh states should have theoretically halted, surprisingly repayments are going strong as the total debt availed by the clients from multiple MFIs is still short of his requirements as a result of double digit inflation.

Yes, like with every industry and at every economic cycle issues exist, however the microfinance sector is strong and resilient. The demand for microcredit is large and growing. Plain economics: MFI is a seller, client is the buyer and the microcredit loan is a product at a certain price. MFIs are regulated and hence they need not justify their product, pricing, process, utility of microcredit loans. MFIs should focus on doing their business and generating returns for their shareholders where risk must equal return.

(Disclaimer: Shakespeare Walla is the author’s pen name. The opinions expressed are solely those of the author and do not necessarily represent opinion of Microfinance Focus. Microfinance Focus does not take any responsibility for correctness of the data presented by contributors.)

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Excellent piece of writing

Dear Author

An eye opener and worth reading article. A always preach "the most detrimental thing for any organization(say it is your profit bottom line or your social impact)is the idle time, space, money, opportunity. We mFI practitioner are hardly careful and used our idle space and time to the best possible productive manner. For sure we could have done much better but we will start late than never.

Agree with Peter. Accion etc

Agree with Peter. Accion etc have no regard whatsoever for local laws which differed country to country.

Sitting in USA, they begin to stir these hornet's nest for consumer protection, transparency etc

Accion needs serious soul searching

ACCION is a indeed very active in MF but

ACCION is a indeed very active in MF and can show great results. But it might want to apply coherence and consistency in the micro-finance sector on which its stability and soundness depends so much. To explain just two inconsistencies:-

1. Subsidies
Indeed all people need access to all financial services and they need it in a sustainable manner. But should there then not also be caution for the work of subsidy dependent organisations such as ACCION? Should its activities not also be regulated according to local laws and regulations and should they not also be legally accountable in cases of unfair competition when it occurs? Subsidies can indeed be helpful (and accepted) but require integration in local formal financial sector regulation (and policies).

2. Consumer protection
It is clear that consumer protection means that all financial services clients have access to the legal system when holding providers responsible for their actions. As an NGO residing in Washington USA, ACCION promotes Voluntary Codes instead of promoting that all MF services providers (and their supporters) should support the development of strict local laws and assurance that all citizens can effectively enforce their rights. Work on Voluntary Codes cost a lot of resources and, like CGAP's Pink Book, will not have any "bridging" function towards clients being able to hold MFIs and their supporters legally responsible.

If ACCION is serious about supporting poor people with sustained financial services then it should promote application of local laws and rules on a market-oriented regulated financial sector. There where local strategies, policies and laws (in that logical order otherwise the legal fwk does not work) need to be improved, ACCION's work could focus on supporting the local process instead of shouting foul from abroad. ACCION has let go of Bancosol that demonstrated that poor people deserve banking services and that MFI-NGOs can transform into banks. Every day it avoids applying its own principles coherently and consistently hurts the poor.

Respectfully, witch Peter (thank you Shakespeare Walla for your excellent article)

Peter van Dijk
BSD City, Indonesia

Totally Agree. These witches

Totally Agree. These witches are responsible for getting MFIs in the mess they are today.

Microfinance has assumed

Microfinance has assumed mythical proportions .Microfinance is not a low cost solution as the client has to nescessarily pay for the cost of transactions plus the cost of money.
Operational costs have to be kept low reflected in the low wages paid to the bank staff and if they are to be paid as per the banking industry norms the the interest will have to be much more highier than what is charged at present 26%
Microfinance merely creates access to credit to the non bankable and to say leads to creation of income is totally falsified .MFIs including NGO MFIs are not equipped to assist the clients to enhance the income levels either through skill building or marketing assistance as the clientele diverse and the MFIs simply do not have skills in this area
Let us treat microfinance is a tool to create access to credit for the unreached replacing money lenders .In fishing communites the money lendrs still rule the roost as the occupation it self is risky .
Let us not forget the the banks are money lenders FI are money lenders so are the MFIs None of them are in business for charity MFIs recovery rate is good becuase of regular follow up (weekly recovery )
NGO MFIs may talk of social capital which requires a lot of investment which is never recouped which they can afford with donor funding.NBFC type are in business they cant afford to invest their time .
What happened in Andhra has been done with out much fore thought .Sure the industry requires regulation but not execution .Unhealthy competition amongst the MFI race to contribute to equity MFIs pursuite to become bigger and bigger are some of the reasons for the unhealthy trends .
There are no such thing as MFI leaders .They have merely found a niche that exists between the money lenders and the banks they are merely anscillaries to banks catering to clientele whose credibility with the system is low



Vote up!

Totally Agree. These witches are responsible for getting MFIs in the mess they are today.

Could not agree more with

Could not agree more with shakespearewalla. Reality check and plain talking.

Microfinance a bird eye view

I am pasting it here just have a comparative analysis of both write ups and just to senthesize ....

How Can Advanced Economies Learn from Microfinance in Developing Countries?
Remarks by Michael Schlein at the French Senate, Palais du Luxembourg, Paris, July 8, 2011

Good morning and thank you. It’s a pleasure to be here with you.

For those who may not know us, ACCION celebrates its 50th anniversary this year. Our roots lie in Latin American microfinance, but today we also work throughout Africa, India, China – and the United States. Over the years, we’ve helped build 62 microfinance institutions in 31 countries, on four continents, and today those institutions serve millions of clients. Our work in the U.S. spans 20 years, and in that time we’ve become the largest microlending network in the nation.

Prior to joining ACCION, I spent more than a decade at Citigroup – where I managed the network of Citi’s chief country officers on the ground in 100 countries. I also spent several years as a regulator helping to manage the US Securities and Exchange Commission. I would like to share some observations about what banking in the developed world may learn from microfinance in the developing world. Before that, I want to set the context and discuss the five key challenges that face microfinance today.

First, we have much more work to do. In a short amount of time, we have grown significantly, and today the industry reaches 150 million clients worldwide. This is impressive, but we have much more work to do if we are to reach the estimated 2 billion working poor who could benefit from financial services.

Second, we need to expand beyond the single product of credit. If we are to build a truly financial inclusive world, we need to expand our product offerings to include savings, insurance, payments, and more.

Third, we need to develop and harness new technologies and drive down costs in order to reach more people and better serve remote communities. Today, the industry remains highly labor-intensive.

Fourth, there remain vast, underserved markets throughout the world, where it is still too difficult, or too expensive, to reach needy clients. We need to keep pushing further.

Last, the industry has grown significantly, but is still very young in many respects and we need to face our growing pains directly. We need to mature as an industry and develop higher standards.

Many of the challenges I’ve just mentioned are true for most industries – growth, product diversification, reducing costs, expanding markets. But the issue of industry standards is of particular importance, especially because our clients are those struggling at the bottom of the pyramid.

As you know, there has been a lot of soul-searching in the microfinance industry, triggered by the Andhra Pradesh crisis last fall. But I think it goes much deeper. Over the last few years, a series of questions have been raised about industry practices and the efficacy of our work.

Four concerns are raised repeatedly. Over-indebtedness, bad collection practices, high interest rates and fees, and fundamental questions about the impact of our work. These issues are compounded further by the entrance of new players who may have different, less mission-driven motives from those of the original, pioneer NGOs.

If these are generally the right concerns, then the appropriate responses lie in strong consumer protection, meaningful transparency, and the development of an industry standard to measure social impact.

Over the last several months, a group of a dozen CEOs from various global MFI networks has been working together to fashion an agenda that leverages the terrific work of three key industry initiatives. This group of CEOs is trying to lead by example and raise the standards of their own networks. In so doing, we may provide some critical mass and coordination to what until now have been disparate efforts.

First, strong consumer protection. The Smart Campaign, led by the Center for Financial Inclusion at ACCION, under Beth Rhyne’s leadership, is creating the first-ever industry-wide consumer protection effort. Built upon seven principles of client protection, the Campaign has already been endorsed by 2,000 networks, MFIs and individuals representing more than 130 countries. This industry-wide initiative is unprecedented.

Second, we need greater transparency. Microfinance Transparency, under Chuck Waterfield’s direction, has had a great impact in a short amount of time. It is currently active in 29 countries. Over time, this transparency will put pressure on all players to compete and reduce rates. And their data allows investors, regulators and, eventually, clients to see at a glance who is pricing products competitively.

Third, we need an industry standard to measure social performance. Coordinated by Laura Foose, the Social Performance Task Force holds the prospect of giving us common tools to measure our impact. It took decades to develop tools like ROE, ROA and ROI, which we all use today to measure financial impact. We need to be patient, yet persistent, as we develop equally powerful tools to measure social impact.

It’s still early days, but I hope you will pay attention to these developments and join us.

Against this backdrop, let me now share some observations on the similarities and differences between banking in the developed and developing world – and some lessons we can learn from one another.

First, all financial products and services – developed or developing – are very powerful tools. They can create enormous opportunity – but they also can do much damage. A loan can set an entrepreneur on a very positive course – or drown the same person in debt – and often, it is hard to tell which outcome is likely until after the fact. Because of this nature, those who sell these products have a special duty to know their customers and to design and sell products that are suitable to their needs. That’s even more important when your clients are at the bottom of the pyramid.

Here, microfinance wins hands down. Microfinance loan officers often meet with their clients weekly. In some markets in Africa, savings collectors see their clients daily! Our staff get to know their clients very well.

One of the causes of the global subprime financial crisis was the disconnect between mortgage originators and borrowers. Banks were ever more clever in creating synthetic CDOs to shed the risks associated with their loans. As of today, MFIs do not have any way to get rid of their risk. That is a strong incentive to make sound loans in the first place. In this sense, developed world banking can learn from microfinance and would benefit from a closer relationship to their clients and an obligation to hold some portion of the loans they originate.

Second, even the best products must be used wisely, so financial education is critical. The very same products may succeed or fail depending on the financial literacy of the client. Here, I think one of the main differences between the developed and the developing world is the original mission. So much of the microfinance industry has common roots as non-profit NGOs – and therefore they are anchored by mission-driven work. In the developed world, on the other hand, financial education is often tied to protecting companies from liability. In microfinance, financial education is far more sincere and mission-related – and more effective.

A third area for discussion is the broad brush – and this reflects the immature nature of the industry. Regardless of where or how we practice microfinance, we are painted by the same broad brush. If we work in microfinance, we have to defend the whole industry – in ways that Goldman does not have to defend JP Morgan. Over time, this will change and different brands will distinguish themselves – but for now, we are all in the same boat. Here I give the edge to the developed world. The banking industry strikes a healthy and sophisticated balance between competing and collaborating where prudent. Too often, the microfinance world remains fragmented by differences in methodology and ideology – at the expense of broader collaboration for the greater good. I think this is beginning to change.

Another similarity is the shape of the industry. Banking in the developed world has thousands of small banks and a handful of global giants. Microfinance is similar in that there are an estimated 10,000 MFIs worldwide, but 85 percent of all clients are served by fewer than 100 MFIs. It is that small number that has truly reached scale and sustainability. Just like the big differences between a small neighborhood bank and JP Morgan, there are great differences between a small NGO and Grameen Bank. The big MFIs, like the big banks in the developed world, have special obligations to lead and set standards.

We also need to compare the clients we aim to serve. Microfinance serves people living in poverty – society’s most vulnerable. Lacking a social safety net, they often remain one event away from destitution, deprivation or starvation.

Developed world banking generally caters to the affluent, and that leads to many differences. It is far easier to lend to the rich than to lend to the poor and it is far easier to lend against collateral. Perhaps, most important, is to recognize the value of financial services to our clients. For a person in poverty, access to financial services is almost like your access to medical care in its importance. It is vital. In the developed world, we can afford to be indifferent.

One similarity between the developed and developing world is the hidden subsidies implicit in each. Though we like to describe much of microfinance as largely commercially sustainable, the truth is that most MFIs require significant subsidies – philanthropy – especially in the early years. And, besides credit, most other products are not yet commercially viable. For the most part, banking in the developed world is, of course, commercially sustainable and profitable – but there are deep subsidies nonetheless: deposit insurance, preferred access to low-cost funds from central banks, and of late, enormous bailouts in times of crisis. With these subsidies come certain responsibilities that other industries do not have.

Another observation reflects the young nature of the microfinance industry. Most MFIs lack deep benches of talent – particularly in risk management and governance. When you are operating in Manaus or Inner Mongolia – as we do – we struggle to find talent, much less experienced talent. That is not a challenge for banking in the developed world, which seems to have an endless supply of aspiring bankers.

Last, and it is appropriate here at the gathering of the G-20, the microfinance industry lacks a well-developed group of international regulators. The industry has no international bodies, like the G-20, or Basel, to oversee the industry from on high. And even at the national level, regulation remains highly uneven, with many regulators new to microfinance, or occasionally prone to political pressure. This will evolve over time and today’s gathering is an important step. In the meantime, microfinance needs strong self-regulation. We need to establish and live up to our own high standards. And this is more important for microfinance than it is for the developed world, where regulation has evolved considerably. I am optimistic that some of these self-regulatory efforts are already making, and will continue to make, a real difference.

Financial systems in the developed world can learn a lot from this. In developed-world banking, I do not see meaningful, industry-led self-regulation. I think it would be very powerful if a group of banks aspired to set high standards. Today, it’s far more likely that the banks will work together to thwart new consumer protection regulation rather than strengthen it.

So let me stop there. These are just a few observations on the similarities and differences between banking in the developed world and microfinance in the developing world – and some of the lessons we can learn from one another. I look forward to discussing these observations in the discussion to follow. Thank you.

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