Microfinance Focus, Oct 22, 2010 (By Arvind Ashta and Djamchid Assadi) : Editor's Note: The second round table microfinance conference was held at Les Reoncontres de Babyloan. It was moderated by Dr. Djamchid Assadi, Professor at Burgundy School of Business and the participants included Jean-Michel Servet, Professor and Researcher, Geneva,  Emmanuel Landais, General Manager, ADIE, Michael Knaute, General Manager, Oxus Development Network Franck Renaudin, Director, Entrepreneurs du Monde and Pierre Valentin, Delegate General Manager, Credit Coopératif. During the conference the following views emerged
 
Microfinance started as a grassroots movement in the 1970s in different areas of the world, with Bangladesh often being accredited as an area where it took off earlier than other places.  The really fast growth of microfinance was in the end of the 1990s and during the last decade, especially 2000-2005. Today, there are about 200 million families benefitting from microfinance. The social focus of the microfinance movement came from making people responsible and accountable for money given to them as opposed to charity.
 
In the meantime, the financialization of the economy really started in the 1980s when financial products started being offered outside of banks. Both the banking sector and the financial sector exhibited strong growth rates that exceeded the growth rate of the real economy. This was possible by the development of financial assets including complex derivatives. The result of all this was over-indebtedness.
 
The financialization of the microfinance sector would include, firstly, features such as introductions of Microfinance companies in the Stock Exchange, such as the very high profile cases of Compartamos in Mexico and SKS in India. Secondly, it would include Investment Funds which are financing MFIs either through debt or equity instruments. 25% of such funds find their source in Swiss funds, although the funds may be routed through Luxemburg. However, most of these funds are chasing the same 150 to 200 top tier MFIs. Finally, it would include a whole diversity of microfinance products now being offered, beyond credit and savings, including insurance, remittances, etc. So much so that today we are no longer talking about microfinance but about financial inclusion to reach out to anyone who does not have access to basic financial services.
 
Before opening the various debates in microfinance, it is important to understand that associations like entrepreneurs du monde could not possibly assist microentrepreneurs by providing training etc, if microcredit did not supplant the grants available to the enterprise, in order to create a capital base large enough for the microenterprise to be viable. Therefore, microcredit, was an important addition to all the other services being provided to the enterprise. Moreover, it had a social capital approach similar to that of many actors trying to help microenterprises develop.
 
The main problems in microfinance are those of high interest rates, over-indebtedness and mission drift.
 
The high interest rates, sometimes 100% in firms like Compartamos in Mexico, emanate from the small size of the loan and short duration of the loans of four months. These are often tolerated if they are sustainable and morally acceptable. They are sustainable if the loans are to traders who are making even higher rates of return, judging by the high reimbursement rates. Even effective interest rates of "social" banks such as Grameen Bank have been calculated to be as high as 32% p.a. by some academics. The CGAP estimates average worldwide microcredit interest rates of 26 to 28% per annum.  However, the question of moral acceptability has to be asked to each people. It is evident that 32% would not be morally acceptable in France.  The morality of high interest rates can be easily justified if the benefits are redistributed to the borrowers, either because they are shareholders (Grameen) or members (Credit cooperatives). However, if the MFI is funded by donations or subsidized interest, the morality of high interest rates becomes unacceptable.
 
The problem of over-indebtedness may, of course, explain that the high reimbursement rates may be because new loans are being taken to repay old ones. This over-indebtedness has been manifested by suicides in India and in Mali, No Pago movements in Nicaragua where the main bank collapsed, and an Islam mandated non reimbursement of interest bearing loans in Pakistan. Over-indebtedness has been high in Bosnia-Herzegovina also. One part of the problem is that MFIs have been told by bodies like the CGAP to be sustainable and they are running towards financial sustainability by a mix of high interest rates and high outreach, including multiple loans to the same people. One estimate indicates that financial autonomy usually requires 10,000 borrowers and it takes 5 to 7 years for an MFI to achieve this.
 
To see if there is a mission drift, from the social vision historically accredited with microfinance, we need to see, for each MFI, what our mission was and where we are. To put any mission drift in perspective, we need to get over the illusion that Microfinance is a panacea to the problems of poverty. Governments in most developed countries look at it as a step in survival of the poor and a small part in development. For development, many complementary initiatives such as infrastructure building and education are far more important. To understand impact, it is important to question the beneficiaries of microfinance. An OXUS survey in Tajikistan indicates that 90% of microfirms have seen their businesses grow, 75% feel that the pressure of interest bearing loans makes them organize themselves better and improve their products, and only 10% find difficulty in repaying loans. It is also important to remember that not all microfinance organizations require the support of the financial sector. The roots of many microfinance organizations are self-help. These include SACCOs and tontines (ROSCAs). They are based on savings of their own members, obviating the need to risk mission drift by approaching the financial sector for funding. Some within the roundtable think profitability, when it is high enough, should come back partly to the borrowers/community through a rebate on rates or through shares of the MFI; they fear a mission drift otherwise.
 
Perhaps, a more realistic vision would be to allow for diversity. There is sufficient place today, in view of the 2.7 billion financially excluded, for all kinds of microfinance initiatives to exist side by side. These would include neo-liberal initiatives, purely philanthropic initiatives and all social initiatives between these two extremes. In addition to all these, there is a place for State initiatives also.
 
The real problem is that most microfinance is still in urban and peri-urban areas whereas most of the world's poor live in villages. Even the rural microfinance initiatives are financing artisanal and agricultural related activities, whereas the poor are often only growing food for their stomachs. The problem is to reach these poor people and include them. Even in urban areas, corruption, illiteracy and social exclusion may exclude people from finance.
 
The roots of legitimacy of an enterprise come from Sharing, Profitability, some kind of levy and reciprocity (or solidarity).  As a result of this latter, for example, Christian enterprises have less strikes. Therefore, in each country, there is some form of acceptable profitability. For this the interest rate needs to be acceptable. Otherwise, we need external resources.  In ADIE, the not-for-profit French MFI, a lot of funding is in the form of free volunteer workers. There are also subsidised loans and grants. All these cumulatively provide a force to the organization which allows it to be sustainable.
 
Authors
 
Arvind Ashta: He is a Professor of Finance, Control and Law. He also holds the Microfinance Chair of the Burgundy School of Business
 
Dr. Djamchid Assadi: He is a Professor at Burgundy School of Business
 
(Disclaimer: Views expressed in the article by the author is his own and do not necessarily represent those of Microfinance Focus)