Microfinance annie

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Microfinance annie

  1. 1. Micro Finance in India overview, challenges, and the role of technology By Annie Duflo Centre for Micro Finance Research October 28, 2005
  2. 2. Outline of presentation <ul><li>What is microfinance? </li></ul><ul><li>Providing financial services to the poor: challenges </li></ul><ul><li>Providing financial services to the poor in India: Overview </li></ul><ul><li>Microfinance: Challenges ahead and potential solutions/initiatives </li></ul><ul><li>The Centre for Micro Finance Research </li></ul>
  3. 3. Microfinance: what is it?
  4. 4. Microfinance: what is it? <ul><li>What are the words that come to your mind when you hear the word microfinance? </li></ul>
  5. 5. Microfinance: what is it? Microfinance = provision of financial services to the poor 48% 15% 37% R4 R3 R1 / R2
  6. 6. Microfinance: what is it? <ul><li>Micro-credit </li></ul><ul><li>Group lending </li></ul><ul><li>Social/charitable activity </li></ul><ul><li>Range of financial services </li></ul><ul><li>Group and individual lending </li></ul><ul><li>Profitable activity </li></ul>What it often is What it really should be
  7. 7. Providing financial services to the poor: challenges
  8. 8. Providing financial services to the poor: challenges <ul><li>Risk management challenges due to information asymmetry problems </li></ul><ul><li>Accessibility (geographic accessibility and easiness to deal with) </li></ul><ul><li>No collateral, Low value and cash intensive nature of the business </li></ul><ul><li>Staff training and motivation </li></ul>High transaction costs
  9. 9. Information asymmetry Decision to take loan Loan usage loan repayment Adverse selection Moral hazard
  10. 10. Adverse selection: incomplete information problem (before the loan) Don’t know Client’s type Interest rate reflects proba of default Safer clients drop out Need to increase interest rate Providing credit can become impossible
  11. 11. Moral hazard: hidden action problem (after loan) Can not observe what client is doing Bad loan usage Strategic unwillingness To repay
  12. 12. Clients profile <ul><li>75% population lives in rural areas: geographical access difficult </li></ul><ul><li>Informal activities: need access at flexible times </li></ul><ul><li>Illiteracy: difficult to deal with traditional services </li></ul><ul><li>Low value of transactions </li></ul><ul><li>Lack of collateral </li></ul>
  13. 13. Staff <ul><li>Lack of trained staff </li></ul><ul><li>Lack of motivated staff </li></ul><ul><li>Difficult to incentives staff </li></ul>
  14. 14. Delivering financial services to the poor in India: an overview
  15. 15. Providing financial services to the poor: occupied India <ul><li>Deccan, late 19th Century: </li></ul><ul><li>peasant riots on account of coercive alienation of land by moneylenders. </li></ul>Organization of cooperative societies as alternative institutions for providing crédit by british government
  16. 16. Providing financial services to the poor: Independent India: <ul><li>Credit was viewed as essential part of fight against poverty which led to following measures: </li></ul><ul><li>Expansion of the institutional structure </li></ul><ul><li>Directed lending to disadvantaged borrowers and sectors </li></ul><ul><li>Interest rates supported by subsidies </li></ul><ul><li>Institutional vehicles: cooperatives, commercial banks and Regional Rural Banks [RRBs]. </li></ul>
  17. 17. Providing financial services to the poor: Timeline <ul><li>1950 & 1969: emphasis on the promoting of cooperatives. </li></ul><ul><li>1969: nationalization of the major commercial banks: beginning of commercial bank branch expansion in the rural and semi-urban areas. </li></ul><ul><li>1976: Regional Rural Banks (RRB), low cost institutions mandated to reach the poorest in credit-deficient areas </li></ul><ul><li>During this period, intervention of the RBI (Reserve Bank of India) was essential: special credit programmes for channeling subsidized credit to the rural sector (concept of “priority sector”) </li></ul>
  18. 18. Financial reforms for RFIs <ul><li>Enhance the areas of commercial fredon </li></ul><ul><li>Increase their outreach to the poor </li></ul><ul><li>Stimulate additional flows to the sector. </li></ul><ul><li>Liberalising interest rates for cooperatives and RRBs, </li></ul><ul><li>Relaxing controls on where, for what purpose and for whom RFIs could lend, reworking the sub-heads under the priority sector, </li></ul><ul><li>Introducing prudential norms </li></ul><ul><li>Restructuring and recapitalising of RRBs. </li></ul>
  19. 19. Results <ul><li>Access in terms of rural branches increased from 1,833 in 1969 to around 32,538 at present: 49% of all scheduled commercial bank branches are rural </li></ul><ul><li>The population per rural branch declined from 2,01,854 in 1969 to around 16,000 at present. </li></ul><ul><li>The proportion of borrowings of rural households from institutional sources increased from 7 per cent in 1951 to more than 60 per cent at present. </li></ul>
  20. 20. Results (cont’d) <ul><li>31% (131.1 million) of the total deposit accounts are in rural India </li></ul><ul><li>43%(22.4 million) of total credit accounts are in rural India </li></ul><ul><li>Positive impact on the poor (Rohini Pande/Burgess paper) </li></ul>
  21. 21. However…Success was not as high as hoped <ul><li>Defects in policy design, </li></ul><ul><li>Infirmities in implementation </li></ul><ul><li>Inability of the government of the day to desist from resorting to measures such as loan waivers. </li></ul><ul><li>High defaults </li></ul><ul><li>The banking system - was not able to internalise lending to the poor as a viable activity but only as a social obligation </li></ul><ul><li>More and more difficult for commercial bankers to accept that lending to the poor could be a viable activity. </li></ul>
  22. 22. Micro Finance: apparition <ul><li>The financial sector reforms motivated policy planners to search for products and strategies for delivering financial services to the poor – microFinance - in a sustainable manner consistent with high repayment rates. </li></ul><ul><li>NABARD: empirical observation that had been catalysed by NGOs that poors gather in informal groups </li></ul><ul><li>Create a formal interface of these informal arrangements of the poor with the banking system. </li></ul><ul><li>Bank-SHG Linkage Programme. </li></ul><ul><li>Recent emergence of MFIs: professionally run institutions specialiazed in delivering credit with low cost staff and local knowledge </li></ul>
  23. 23. Despite all these efforts…large gaps remain <ul><li>Against rural population of 741.0 million, 500 million people un-served </li></ul><ul><li>Population per branch: 22,793 </li></ul><ul><li>Penetration of savings accounts is below 18% </li></ul><ul><li>As against 104% in urban and semi-urban areas </li></ul><ul><li>Number of villages per branch: 19 </li></ul><ul><li>High dependence on informal sources </li></ul><ul><ul><li>36% of rural credit from informal sources </li></ul></ul><ul><ul><li>Dependence even higher for lower income households: 78% </li></ul></ul>
  24. 24. Microfinance ahead: challenges
  25. 25. Gaps in demand and supply Demand: Rs. 450 billion/y 60% in South … to cover all parts of India Less than 2 million Households reached 500 million un-served poor Disbursed: 39 billion Need employment opportunities Need protection against all risks Market constraints Insurance under-delivered Scaling up Increase impact
  26. 26. Scaling up: challenges
  27. 27. Limitation of the predominant model Bank SHG NGO Loan at 9% No liability Group formation/linkage SHG-Bank linkage model
  28. 28. Financial Intermediation Model Loan at a 9% Loan at 20% Scaling up existing MFIs: challenges MFI JLG Group Bank
  29. 29. Limitations to growth of MFIs: <ul><li>Lack of adequate quantities of risk capital </li></ul><ul><li>Lack of long-term finance to pay for creation of the necessary infrastructure and pre-operative expense </li></ul><ul><li>Lack of well trained staff in adequate numbers at all levels </li></ul><ul><li>technology </li></ul>
  30. 30. Lack of adequate capital: the ICICI Bank response <ul><li>Searched for a model which: </li></ul><ul><li>Separates risk of MFI from risk inherent in the mf portfolio </li></ul><ul><li>Provides a mechanisms to banks to continuously incentivise partners </li></ul><ul><li>Inability of MFIs to provide risk capital in large quantum, which limited advances from banks </li></ul>
  31. 31. The ICICI Bank Partnership Model Servicing fees of 11% Loan at 9% Interest charged: 20% FLDG of 10% MFI JLG Group Bank
  32. 32. Long-term finance: the ICICI bank response <ul><li>There is an underlying business model in the MFI’s expansion: no reason why it cannot be funded by commercial debt </li></ul><ul><li>ICICI Bank is offereing to its MFI partners long-term finance of a tenure of 3-5 years </li></ul>
  33. 33. Lack of well-trained staff: ICICI Bank response <ul><li>Initiated partnerships with training institutions (Indian Grameen Services, Care India) </li></ul><ul><li>Establish a Financial Services Learning School in collaboration with MicroSave India </li></ul><ul><li>Provide high level training in banking and finance to MFI practitioners in collaboration with IFMR (Institute for Financial Management Research) </li></ul>
  34. 34. Technology <ul><li>Role of technology in microfinance: </li></ul><ul><li>MIS </li></ul><ul><li>Cash handling </li></ul><ul><li>Data capture and subsequent management </li></ul>
  35. 35. Technology: ICICI Bank response <ul><li>Creation of rural connectivity in partnership with telecom companies and internet service providers </li></ul><ul><li>Assistance to emerging MFIs to adopt scalable MIS solutions </li></ul><ul><li>Support to research and development on technological devices that can reduce transaction costs </li></ul><ul><ul><li>Low cost ATMs, low-cost computing devices, mobile and internet-based transaction platforms </li></ul></ul>
  36. 36. Scaling up: creation of new MFIs <ul><li>Need 200 MFIs to cover all India </li></ul><ul><li>ICICI Bank (SIG): support to entrepreneurs to start MFIs </li></ul><ul><ul><li>KAS Foundation, Orissa </li></ul></ul><ul><li>Inputs are needed: </li></ul><ul><ul><li>Organizational and staff incentive structures </li></ul></ul><ul><ul><li>Finance related issues (source of funds, capital structure) </li></ul></ul><ul><ul><li>Legal issues: regulations etc. </li></ul></ul><ul><ul><li>Business plan related issues: scale, expansion strategy etc. </li></ul></ul><ul><li>Corporate partnerships: attractive track to build access to microfinance </li></ul>
  37. 37. Support new MFIs: The Venture Capitalist model <ul><li>VCs specifically focused on the micro-finance space: Lok Capital, Aavishkar and Bellwether.  </li></ul><ul><li>Bellwether </li></ul><ul><ul><li>three equity commitments for start-ups </li></ul></ul><ul><ul><li>increased the size of fund from 10mn USD to 25mn USD. </li></ul></ul><ul><li>ICICI Bank solution: </li></ul><ul><ul><li>Each MFI will need to reach a minimal CRISIL or an MCRIL operational sustainability rating </li></ul></ul><ul><ul><li>Then the entrepreneur buys out the stake of the VC and ICICI Bank gives an option to the entrepreneur to take a long-term debt to finance this buy out. </li></ul></ul>
  38. 38. Scaling-up: what form of support is needed? <ul><li>Interest rates should reflect the costs of transactions/probability of default and be sustainable </li></ul><ul><li>Focus on diminishing the cost of these transactions and expand access </li></ul>Equity support, Remove caps and floors, create facilitative infrastructure to reduce transaction costs
  39. 39. Alternate channels <ul><li>Agent model </li></ul><ul><ul><li>Model of LIC </li></ul></ul><ul><ul><li>Challenge: control fraud </li></ul></ul><ul><li>Internet connectivity </li></ul><ul><ul><li>BSNL: if wireless system installed ate the existing connected rural exchanges: 80-85% of villages could be connected </li></ul></ul><ul><ul><li>Variety of devices that can work with internet kiosks: biometric low-cost ATMs </li></ul></ul><ul><ul><li>Makes controlling fraud easier </li></ul></ul>
  40. 40. Internet Kiosks Connectivity <ul><li>STD/PCO: </li></ul><ul><li>Enabling voice communication </li></ul>Printer & Other Accessories : Enabling job work <ul><li>Kiosk Operator: </li></ul><ul><li>Entrepreneur </li></ul><ul><li>Provides commercial services </li></ul>Multimedia PC with Power backup Internet Kiosk
  41. 41. Internet kiosks <ul><li>ITC, nLogue, Drishtee: more than 6000 internet kiosks using Wireless in Local Loop, VSAT terminals </li></ul><ul><li>ICICI partnered with some of these organizations </li></ul><ul><ul><li>Finance individual entrepreneurs to purchase operating license and equipment </li></ul></ul><ul><ul><li>Break even within 1 st year </li></ul></ul><ul><ul><li>Suite of financial services </li></ul></ul><ul><ul><li>2000 kiosks </li></ul></ul>
  42. 42. Internet kiosks: remaining gaps <ul><li>Providing constant connectivity expensive </li></ul><ul><li>Finding motivated entrepreneurs difficult </li></ul><ul><li>Break even has been delayed for various reasons (required back-end systems to service clients difficult tp find etc.) </li></ul>
  43. 43. ICICI Bank strategy: summary Conventional Rural Banking Branch based Manpower intensive Product driven Single product Our strategy Hybrid channels Technology intensive Customer driven Multiple products
  44. 44. Maximize impact of microfinance: challenges
  45. 45. Maximize impact Vulnerability Need for More than credit Differences among customers Need for customized products Understand what programmes work the best and for whom
  46. 46. Maximize impact Local Financial Institution: serving all credit constraint- Segments in 2-3 districts Employment scarcity Other constraints Finance other credit constraint segments MFI-sectoral experts Partnerships
  47. 47. Range of Microfinancial services: <ul><li>Individual lending </li></ul><ul><ul><li>Information problem </li></ul></ul><ul><ul><li>No unique ID </li></ul></ul><ul><ul><li>No credit info sharing </li></ul></ul><ul><ul><li>Need technology! </li></ul></ul><ul><li>Insurance </li></ul><ul><ul><li>Adverse selection, moral hazard, fraud </li></ul></ul>
  48. 48. Range of Microfinancial services: <ul><li>Health insurance </li></ul><ul><ul><li>Reimbursement model </li></ul></ul><ul><ul><li>Cashless model </li></ul></ul><ul><ul><li>How to identify illness? </li></ul></ul><ul><ul><li>How to avoid fraud? </li></ul></ul><ul><li>Livestock insurance </li></ul><ul><ul><li>Recognize cause of death </li></ul></ul><ul><ul><li>Identify animal (role of technology) </li></ul></ul>
  49. 49. Range of Microfinancial services: <ul><li>Weather insurance </li></ul><ul><ul><li>Index-based: index created by assigning weights to critical time periods </li></ul></ul><ul><ul><li>Past weather data mapped to this index to arrive at normal treshhold index </li></ul></ul><ul><ul><li>If deviation: compensation </li></ul></ul><ul><li>Commodity price derivatives </li></ul><ul><ul><li>NCDEX: offers price discovery services: offer farmers instruments to hedge pre and post harvest risks </li></ul></ul><ul><ul><li>Makes using commodity as collateral possible </li></ul></ul>
  50. 50. Range of Microfinancial services: <ul><li>Savings and investments products </li></ul><ul><ul><li>Could be offered through Money Market Mutual Fund: MFI acts as agent </li></ul></ul><ul><li>Remittances </li></ul><ul><ul><li>10 million seasonal and circular migrants (National Commission on Rural Labour) </li></ul></ul><ul><ul><li>Adhikar, Orissa </li></ul></ul><ul><ul><li>ICICI: remittance product through internet kiosks </li></ul></ul>
  51. 51. Key enablers needed for maximize impact and scaling up <ul><li>Credit Bureau </li></ul><ul><li>Unique identifier </li></ul><ul><li>Technology platform </li></ul><ul><li>Rural infrastructure </li></ul><ul><li>Change in regulations (interest rates et.) </li></ul><ul><li>Training institutions </li></ul><ul><li>Research </li></ul>
  52. 52. CMFR: The Centre for Micro Finance Research
  53. 53. Objectives <ul><li>Fill gaps in understanding of microfinance: </li></ul><ul><ul><li>Extent and channels of impact </li></ul></ul><ul><ul><li>What programme designs work and what do not? </li></ul></ul><ul><ul><li>What programme variants can increase impact? </li></ul></ul><ul><li>Fill gaps in practice of microfinance: limitation to micro-credit, lack of financial capacity </li></ul>
  54. 54. Mission <ul><li>The Centre for Micro Finance Research will aim to help improve the life of the poor by: </li></ul><ul><li>Systematically researching the links between access to financial services and the participation of the poor in the larger economy </li></ul><ul><li>Participating in maximizing access to financial services and its impact for poor through: </li></ul><ul><ul><li>Research on micro finance and livelihood financing </li></ul></ul><ul><ul><li>Research-based policy advocacy </li></ul></ul><ul><ul><li>High level training for practitioners and institutions </li></ul></ul><ul><ul><li>Strategy building for Micro Finance Institutions </li></ul></ul>
  55. 55. Strategy Research Influence practice Advocacy Strategy building Training
  56. 56. Partnerships CMFR Banks/ Insurance Companies International organizations MFIs/NGOs Universities Regulators/policy makers
  57. 57. CMFR: Research Areas
  58. 58. Impact of Microfinance Access to Financial services Impact? Advocacy based on rigorous results ?
  59. 59. Constraints to Productivity Impact Health infrastructure entrepreneurship Access to Financial services Inputs <ul><li>Build relevant partnerships </li></ul><ul><li>Provide useful products through credit </li></ul>
  60. 60. Economics of Micro-Enterprise <ul><li>Scale, Returns, Constraints of micro-enterprise </li></ul><ul><li>Market linkages </li></ul><ul><li>Documentation of best practices </li></ul>Help increase productivity of micro-enterprise
  61. 61. Experimentation on Product Design selection monitoring Enforcement <ul><li>Individual/group liability </li></ul><ul><li>Self/MFI selection </li></ul><ul><li>Guarantors </li></ul><ul><li>Collaterals </li></ul><ul><li>Interest rate </li></ul><ul><li>Repayment schedule </li></ul><ul><li>Communication strategies </li></ul><ul><li>Loan size </li></ul><ul><li>Interest rate </li></ul>Design the most cost-effective products <ul><li>Within group monitoring </li></ul><ul><li>Staff supervision </li></ul>
  62. 62. Behavior and Psychology of Borrowers <ul><li>How do households face shocks and risk? </li></ul><ul><li>Do households save and how? </li></ul><ul><li>What drives savings and credit behavior? </li></ul><ul><li>Why do people default? </li></ul><ul><li>Why don’t households adopt the most profitable activities? </li></ul>Design the most effective communication strategies
  63. 63. MFI Policies: Impact <ul><li>How do MFIs policies affect loans and repayment behavior of clients? </li></ul><ul><ul><li>Staff incentives </li></ul></ul><ul><ul><li>Combination of different products </li></ul></ul><ul><ul><li>Compulsory savings or insurance </li></ul></ul>Understand better impact of policies over time
  64. 64. Cost and profitability of SHGs/MFIs <ul><li>How to reduce transaction costs? </li></ul><ul><li>Compare costs of SHG-Bank linkage and MFI model </li></ul><ul><li>Show investors risk return performance of microloans </li></ul>Bank Transaction ? Micro-loan 9% 25% Return?
  65. 65. Research: other initiatives
  66. 66. Research: Panel Databases <ul><li>Construction of a panel database: repeated observations of same households </li></ul><ul><ul><li>Study vulnerability, consumption patterns over time </li></ul></ul><ul><ul><li>Have a panel database for on-going research </li></ul></ul><ul><li>Construction of a cross-sectional survey </li></ul><ul><ul><li>Document access to financial services over time </li></ul></ul>
  67. 67. Research: weekly seminar series <ul><li>Foregone seminars </li></ul><ul><ul><li>Prof Ashok Jhunjhunwala (IIT Chennai), </li></ul></ul><ul><ul><li>Prof Vaidyanathan (Madras Institute of Development Studies) </li></ul></ul><ul><ul><li>Prof Sendhil Mullainathan, Harvard </li></ul></ul><ul><ul><li>GN Bajpai, ex-Chairman of SEBI </li></ul></ul><ul><ul><li>Greg Fisher, MIT </li></ul></ul><ul><ul><li>… .. </li></ul></ul><ul><li>Forthcoming seminars: </li></ul><ul><ul><li>Suresh Sundaresan, Columbia </li></ul></ul><ul><ul><li>Dr Narendra Jadhav, RBI </li></ul></ul><ul><ul><li>… .. </li></ul></ul>
  68. 68. Research: Courses <ul><li>Economics of Micro Finance </li></ul><ul><ul><li>Prof. Adel Varghese, TAMU </li></ul></ul><ul><ul><li>Economic theory of microfinance </li></ul></ul><ul><li>Evaluating Social Programmes </li></ul><ul><ul><li>Professors from the Poverty Action Lab/MIT: Esther Duflo (MIT), Abhijit Banerjee (MIT), Sendhil Mullainathan (Harvard), Michael Kremer (Harvard) </li></ul></ul><ul><ul><li>Teach practitioners and researchers how to identify programs’ impacts without bias </li></ul></ul>
  69. 69. MFI Strategy Unit at CMFR
  70. 70. Strategy Building MFIs Sectoral Experts Pilots Scale-up LFI
  71. 71. Training <ul><li>Building blocks of Banking and Finance Training Programs </li></ul><ul><li>Meet training needs of the sector: In collaboration with MicroSave India </li></ul><ul><ul><li>Development of national curriculum </li></ul></ul><ul><ul><li>Collaboration with 6 Regional Training Institutes </li></ul></ul>
  72. 72. THANK YOU!

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