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Over the past ten years, for many NGO’s the primary focus has been on expanding their lending activities to reach a significant percent of the micro-enterprise market. In an effort to achieve this goal and recognizing the limitations of donor monies to fund the desired increase in portfolio, a few NGO’s have built links with the formal financial system. During this period they have developed “alternative financing mechanisms”; they have moved away from donor funding into the traditional sources of capital available to the typical corporation: internally generated funds,bank loans and both debt and equity financing raised in the capital markets.

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Over the past decade, the determinants of the success of microfinance credit methodologies have received extensive attention from both practitioners and academics.

1 The resulting literature reflects consensus on the principles for the successful provision of microfinancial services that address the two central problems of all financial markets: imperfect information and contract enforcement difficulties. Microfinance technologies attempt to overcome these problems by developing nontraditional mechanisms to screen applicants, monitor the actions of borrowers, and create incentives to repay.

2 Many elements of these technologies impose costs on clients that they would prefer not to pay, or

may result in services that are less than ideal. For example, some customers would prefer not to coguarantee loans or participate in group meetings, which are ingredients of group lending methodologies; for other clients, the initial loan size required by sequential lending may be too small for the needs of their enterprise. These features have evolved in order to minimize the risk associated with providing financial services to disadvantaged communities.Having successfully controlled the credit risk, microfinance methodologies are now entering a new evolutionary phase as they become more responsive to the demands of the customers. This change in approach reflects the evolving needs of microentrepreneurs, the maturation of the institutions, and changes in the markets in which the microfinance institutions (MFIs) operate. In this new phase,MFIs are struggling to balance three potentially competing objectives:

1) to reduce the costs of microfinance for both borrower and lender;

2) to widen the range of microfinance products available to the clients; and

3) to accomplish objectives 1 & 2 without increasing the credit risk. These three

desired objectives are not independent of each other, and may require trade-offs.

An understanding of this evolutionary process informs the future of microfinance methodologies.This framework for analysis, summarized in the box below, outlines three important questions about the evolution of microfinance technologies: why do they change; how do they change; what do they change into.

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Author:Hans Dieter Seibel,Uben Parhusip

Publisher:University of Cologne

Financial and economic deregulation in Indonesia since 1983 has encouraged the growth of

microfinance institutions (MFIs). Combined with sustained economic growth, this has resulted in drastic reductions in poverty. The paper analyses the performance of Bank Shinta Daya, a private rural bank in Java, in terms of outreach to the poor AND NON-POOR, financial viability and sustainability, resource mobilisation, and sound (best) microfinance practices.Bank Shinta Daya combines individual and group-lending technologies. The experience indicates that the latter cover their costs and greatly increase the bank’s outreach to the poor as a new market segment, but initially add little to the bank’s overall profitability. The case study shows how viability and sustainability can be attained in banking with the poor and the NON-POOR to conclude that only financially viable institutions can SUSTAINABLY reach the poor in significant numbers.

Author:Liza Valenzuela,Robin Young

Publisher:Development Alternatives

Regulation and supervision have become “hot” topics in the microfinance field. Many

countries around the world—from El Salvador to Zambia—are beginning to think about

whether and how to regulate microfinance.1 In some countries, such as Peru and Bolivia,

regulators are responding to what has emerged as a growing financial services industry. In

other places, authorities are considering regulation as part of general financial sector reform

(for example, in Central America), for lack of alternative legal institutional forms (such as

former socialist transitioning economies) and/or in response to emerging pressure from

interest groups.

The key actors behind this upsurge in regulatory reform include local and international

nongovernmental organizations (NGOs), government regulators, and donors. In Africa, much

of the interest has resulted from donor-sponsored conferences and workshops that bring

together local institutions and regulators to explore mechanisms to promote microfinance. In

Central America, the impetus for microfinance legislation has emerged principally from

NGOs seeking a regulated financial institution license to access lines of credit from the

central bank or deposits from the public. Elsewhere, regulation is seen as a means of leveling the playing field and/or controlling unscrupulous practices on the part of lenders (for

example, South Africa).

The key actors behind this upsurge in regulatory reform include local and international

nongovernmental organizations (NGOs), government regulators, and donors. In Africa, much

of the interest has resulted from donor-sponsored conferences and workshops that bring

together local institutions and regulators to explore mechanisms to promote microfinance. In

Central America, the impetus for microfinance legislation has emerged principally from

NGOs seeking a regulated financial institution license to access lines of credit from the

central bank or deposits from the public. Elsewhere, regulation is seen as a means of leveling the playing field and/or controlling unscrupulous practices on the part of lenders (for

example, South Africa).

This paper summarizes discussions from a workshop held on May 17, 1999, in Washington,

D.C., and provides information on regulation and supervision issues based on recent

literature and on specific country examples mentioned at the workshop. Organized by the

USAID-sponsored Microenterprise Best Practices Project, representatives of donor agencies(Consultative Group to Assist the Poorest [CGAP], Deutsche Gesellschaft fur Technische Zusammenarbeit [GTZ, German Technical Cooperation], Inter-American Development Bank[IDB], USAID Microenterprise Development Office, and The World Bank), practitioners(ACCION, FINCA, and WOCCU), universities (Ohio State University Rural Finance Program, Institutional Reform and the Informal Sector at the University of Maryland), and international consulting firms (Development Alternatives, Inc.; EFK Tucker Inc.; Frontier Finance; and International Management and Communications Corporation) participated.Elisabeth Rhyne and Maria Otero jointly facilitated and moderated the meeting.

The purpose of the workshop was to gather together the main microfinance regulation

advisors to discuss key questions and identify specific areas of consensus and disagreement.The workshop highlighted several areas of fundamental agreement. This consensus across a wide spectrum of informed opinion provides important guidance for those involved in reform

Author:Robert C. Vogel,Arelis Gomez,Thomas Fitzgerald

Publisher:U.S. Agency for International Development

Interest in the regulation and supervision of microfinance institutions has been driven

primarily by the desire of unregulated microfinance institutions to mobilize deposits from the

general public. Having become sustainable and seeking to expand their outreach, these

microfinance institutions are less likely to receive funding from donor agencies in the amount and timeframe needed to meet their desired levels of expansion. One alternative that some microfinance institutions have pursued is borrowing from banks. ACCION International, for example, has fostered this approach by using guarantees to develop borrowing relationships between its affiliates and commercial banks. Many other microfinance institutions, however,have preferred to investigate the possibility of mobilizing deposits from the general public.

There are three major reasons why microfinance institutions are attracted to the idea of

deposit mobilization as a source of funding: (1) deposit mobilization appears to leave funding

decisions in the hands of the microfinance institution; (2) deposits appear to be a cheaper

source of funds than bank loans; and (3) there may be economies of scope between lending

and deposit mobilization to the extent to which the borrowing and depositing clienteles

overlap. In any case, a number of sustainable microfinance institutions in various countries

have looked to deposit mobilization as the primary source of funds for their growing loan

portfolios.Since virtually every country in the world requires the licensing and regulation of institutions

that mobilize deposits from the general public, the issue of regulating and supervising

microfinance institutions has become an increasingly important item on the microfinance

agenda, especially for the more successful and aggressive institutions. As expected, this has

led to some undesirable side effects:

1. The debate about what is to be done tends to focus excessively on the characteristics of

microfinance institutions, particularly their nonprofit origins, to the neglect of the risk

characteristics of clients and loan products.

2. Microfinance institutions that want to mobilize deposits, as well as some of their

supporters in government and donor agencies, have been interested in creating a

regulatory environment that is more lenient toward microfinance institutions than other

financial intermediaries.

3. In some instances, the role of the regulatory agency has been extended to cover

institutions that do not yet mobilize deposits in an effort to help them qualify to accept

deposits or to obtain funding from other sources.

4. Those who are not so enthusiastic about the new more market-oriented practices of

microfinance have used the attention devoted to regulation and supervision as an

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Author:Thi-Dieu-Phuong Nguyen,Korotoumou Ouattara and Claudio Gonzalez-Vega

Publisher:Ohio State University

This case study illustrates a comparatively successful process of institution building that has been able to overcome many significant difficulties that expansion of microfinance faces in Africa. This institution-building process has been directed at establishing a system of

decentralized and sustainable microfinance organizations (MFOs)2 in an environment

characterized by low incomes and high systemic and idiosyncratic risks.Comparative success has resulted from a combination of competent external technical

assistance, characterized by a long-term commitment in the field, and the use of existing

informal village institutions and social arrangements for the cost-effective operation of the

new organizations.

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By Daniel Rozas,

Microfinance Focus, March 28, 2012: Last month, the headlines of the world’s papers read déjà vu.  “Suicides in India linked to microfinance debt.”  “SKS Microfinance implicated in farmer suicides.”  The headlines may have differed, but the article was one and the same, penned by Erika Kinetz of the Associated Press.  SKS was appalled, calling the report “libelous” and “scurrilous.”

For what it’s worth, the damage has been minimal.  SKS stock slid 4.25% on the day of the article, but recovered within a few days of trading.  The slide shows little distinction from its already volatile trading pattern (Figure 1).  Of course bad news can also cause lenders and investors to take a second look, or simply slow things down.  One MFI manager told me of exactly this very reaction on the part of an Indian bank in the immediate days after the AP article.  But the story got relatively little press in India, and no follow-up of significance.  By now it’s reasonable to say that the microfinance sector in India can breathe a sigh of relief.  Seeing bad news get swept back under the carpet can be quite satisfying, even if the stink remains.

This was, after all, just a minor aftershock.  Just 18 months ago, the Indian microfinance industry went through one of the fastest reversals of any market.  Within the space of a few months in late summer and early fall 2010, the dominant public narrative of Indian microfinance shifted from a rapidly growing sector catering driven by strong social goals to one where greed and utter disregard for common decency are the rule.  Instead of being regarded as beneficiaries, microfinance customers started being cast as victims. This new narrative may no longer generate headlines, but it has yet to be replaced or successfully challenged.  The reputation of Indian microfinance has not been restored.

Walking down memory alley

What did happen to the sector’s reputation in India?  Largely, it was the juxtaposition of two narratives:  an alleged avalanche of client suicides in Andhra Pradesh and the millions being reaped by the owners of SKS in its public offering.  I have written before that this juxtaposition was no random alignment of events, but rather a well-engineered political maneuver on the part of the sector’s long-time opponents.  Nothing I have learned since has made me change my mind on this point.  However, recent revelations about what the industry leaders knew during and after those momentous months have deeply disappointed and made me increasingly doubtful of their ability to repair the sector’s tarnished image.

The industry did get some things right.  Following the AP Ordinance, MFIN retained Glocal, an independent organization with prior experience investigating farmer suicides in India.  Glocal’s remit was to establish the facts behind the 87 suicide cases that the AP government alleged to have been abetted by MFIs in the state.  According to MFIN President Alok Prasad, Glocal found that the majority of the government’s allegations were unsubstantiated, with many cases showing no link to MFIs whatsoever.  As was already evident during the fall of 2010, the AP government was clearly not motivated by a search for truth or a desire to protect the innocent.  Its approach was to throw everything against the wall and see what sticks.  Moreover, ascribing suicides to unrelated events is a well-established tradition in Andhra Pradesh politics; why should microfinance be any different?

However, not all the charges turned out to be bogus.  In its investigation, Glocal found cases that did have strong links between the actions of MFI staff and subsequent borrower suicides.  According to Mr. Prasad, “the findings were troubling. MFIN members all took the view that while MFI policies had not been to blame, these actions arose from how they were implemented.”  In response, MFIN members have used the report to tighten lending and collections practices, alongside the tightening of MFIN’s own Code of Conduct and the intensified push to implement credit bureau reporting.

Many of these rehabilitation efforts were covered in the press and have helped to some extent improve the industry’s reputation.  They are in any case necessary in order to assure that the failures that led to client harassment cannot be repeated again.   However, the Glocal report itself was never published.  Mr. Prasad emphasized that it had always been meant for internal use only, though the decision to not publish may well have been contentious even within MFIN itself – it was none other than its Chairman Vijay Mahajan who back in June 2011 wrote that the study would be released to the public domain.

The ultimate decision not to publish the study is deeply disappointing.  By choosing to hold on to those results, MFIN has also given up its best opportunity to challenge the narrative established in the media during the height of the scandal back in Fall 2010. In many respects, this is similar to its efforts at atonement during that time, when Vijay Mahajan and Alok Prasad were publicly acknowledging the errors of excessive growth and loss of internal control, with the implication that in such circumstances, a loan officer somewhere may well have gone too far.  I have no doubt that their statements were heartfelt and genuine, but they nevertheless proved weak tea.

For one thing, apology for a general wrong (“mistakes were made”) is not the same as apology for the thing itself.  Recitation of wrongdoing is an integral part of a full apology (think “I’m sorry” vs. “I’m sorry that I hit my sister”).  Secondly, neither Vijay Mahajan nor Alok Prasad can realistically apologize for the sins of their peers.  That must come from the MFIs whose staff committed these acts, yet none of them have issued any such apologies, let alone accepted responsibility. As things stand, we don’t even know which MFIs we should be asking to apologize – their names have been privy only to those who have seen Glocal’s report.  We can only speculate (let’s see…  Spandana?  SHARE?).  At least, thanks to Erika Kinetz, we now know one: SKS.  So what’s this only publicly-listed MFI in India been saying about the role of its staff in suicide cases?

Actually, nothing.  And also, something.  In a particularly strange replay of October 2010 (remember Gurumani’s firing?), SKS is once again enlightening the public with boardroom struggles that could form the script for a soap opera, what with its dramatic characters and sudden plot twists.  Individuals morph from whistle-blowers into disaffected employees out for revenge, depending on who you ask.  Independent organizations are either commissioned to investigate client suicides or they aren’t, notwithstanding the many email and other trails pointing to their findings.  Presentations on suicide cases are either made to the board and individual directors or they aren’t.  Between all these accusations and counter-accusations, it’s easy to lose track of the main question:  was SKS responsible for any of its client suicides?

The company’s main defense is that 14 out of 15 criminal probes against its staff have been either dropped or resulted in acquittals (one is still pending).  On this score, the results support the MFIN/Glocal finding that many of the initial allegations by the AP government were scatter-shot.  In the case of SKS, some charges lack that most basic of requirements – that the suicide involve an actual SKS borrower (although some of them involved a husband or another relative).  As for its own officially non-existent report that found seven suicides for which staff bear some responsibility, the company’s management claims no knowledge of any of it, according spokesman J.S. Sai.

More surprisingly still, SKS also appears to have no knowledge of the MFIN/Glocal report.  The latter is, frankly, difficult to believe.  There is no question that, as a member of MFIN, SKS has full access to this report, which, according to Kinetz, details four cases of borrower suicides where SKS staff “actions appeared strongly linked to the subsequent deaths.”  Yet when I requested SKS to share the portion of the MFIN/Glocal report that pertains to the company, the answer I received was that they don’t have it.  Either the report does contain these four cases or it doesn’t.  Given that SKS was happy to share exculpatory material (such as summaries of the 15 AP criminal probes), but is unwilling to share the MFIN report, I have to conclude that the MFIN report does contain these four cases.

Atoning for the past, building for the future

In my discussions with industry leaders over the past month, I have been repeatedly asked – why am I writing about this now?  Is it not better to focus on the future than dwell on the past?  Well, yes, it would be better.  The problem is that it is not possible to divorce the two.  Only by fully acknowledging its past mistakes – in both word and deed – can the sector free itself to pursue a future unimpeded by its tarnished image.

There is at SKS and probably at most Andhra MFIs a sense of victimhood.  Such is the extent of their focus on the wrongs committed by the AP government that they fail to see – indeed, they actively try not to see – their own culpability.  For there is little doubt that there were instances of severe harassment by the MFIs that may have contributed to borrower suicides.  Those cases may be few, far fewer than what had been alleged by the AP government.  But they are there nevertheless.  It also seems clear that the MFIs, via MFIN and individually, have taken steps to insure that such harassment can’t happen again, and in so doing, they have sought to rebuild their credibility.  That is, of course, of critical importance.  However, what they have neglected is the first step of credibility management – admitting one’s own wrongdoing and taking responsibility for it.

It’s time to stop circling the wagons.  MFIN should publish the Glocal investigation report in full.  Each MFI should then apologize and appropriately compensate the families of those victims for whose suicides they were found to have borne some responsibility.  Finally, it is high time for the boards of many other large Andhra Pradesh MFIs to display real governance and show their current managers the door, then turn attention to themselves and do some house-cleaning by bringing in new directors (a nudge from RBI would help here).  Going forward, the MFIs, under the auspices of MFIN, should submit themselves to annual audits of lending and collections practices, and insure that the findings – however damaging – are made public.  And for those MFIs that are more worried about solvency than their public image, it’s worth bearing in mind that if they are to have any future at all, these changes cannot be avoided.  Better now than later.

Going through all this at a stage when the sector appears to be recovering may well create difficulty in the short run.  It would’ve been far preferable to do this last summer.  But despite the passage of time, the underlying absence of trust in microfinance institutions – both in India and abroad – still runs deep.  By publicly acknowledging and atoning for their wrongdoing, the struggling MFIs of Andhra can finally start the long process of rehabilitating the sector’s tarnished reputation.  Only then can they hope to shake off the heavy burdens of the sector’s sorry past.

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Disclaimer: The opinions expressed are solely those of the author and do not represent opinion of Microfinance Focus.

About the Author:

Daniel Rozas is a microfinance consultant based in Belgium, with broad-ranging expertise in risk and crisis management, business strategy, market analysis, funding, and client protection.  Prior to entering microfinance, he worked for the US mortgage investment company Fannie Mae.  For a complete archive of Daniel’s writings, please visit danielrozas.com.