What stops microfinance?

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The idea of giv­ing high­in­ter­est loans to peo­ple who earn a dol­lar a day has been con­tro­ver­sial from the start. Ex­am­ples have been cited of peo­ple be­com­ing over­whelmed with debt – some­thing that should not hap­pen in mi­cro­cre­dit, where the money is bor­rowed by a pool of peo­ple who help one an­other with the re­pay­ments.

The prob­lem arose when the mi­cro­fi­nanc­ing in­sti­tu­tions de­cided to be­come more prof­itable ahead of mak­ing their com­pa­nies public and sell­ing loans as pack­ages of se­cu­ri­ties. There have also been cases where the other bor­row­ers in the pool were urged to seize the debtor’s chairs, uten­sils, and wardrobe and pawn them to make loan pay­ments.

Should there be an end to putting the very poor into debt and use char­ity in­stead?

Muhammad Younus, the cre­ator of the mi­cro­cre­dit con­cept, has an­swered this wisely though, “When we cre­ated microfinance, we had no in­ten­tion of mak­ing money. It is a busi­ness, be­cause it has to be – mean­ing that it cov­ers its costs, it makes a profit. But profit for the com­pany, not for your­self. I don’t want to take money from it.”

In ac­cor­dance with this phi­los­o­phy, mi­croloans work when very poor peo­ple are try­ing to get out of their sit­u­a­tion, usu­ally, in or­der to en­ter a proper labour mar­ket. The loan pro­vides the means to im­prove one’s life, and its re­pay­ment is the in­cen­tive. Younus says, “If you want to en­cour­age peo­ple to earn, en­cour­age peo­ple to change their cul­ture, you have to make the road­way for them to do that – re­move the bar­rier.”

To respond to spec­u­la­tions over high in­ter­est rates, Younus en­dorses the fact that mi­croloans must have in­ter­est rates as high as to cover their ba­sic cost. If they do not do so, the pool of cap­i­tal will dis­ap­pear fast, and there won’t be any more loans.

“The rea­son this works bet­ter than char­ity is be­cause char­ity is de­pen­dent on an ex­ter­nal in­fu­sion of money, and the mo­ment that in­fu­sion stops, the whole thing stops. So that’s not sus­tain­able. If you de­sign it as a busi­ness, it con­tin­ues, it never stops, be­cause it has its own steam.”

Ac­cord­ing to Younus, the dif­fer­ence be­tween a microfinance in­sti­tu­tion and a Money Mart of­fer­ing a high­in­ter­est, profit- mak­ing loan to the poor is all in the or­ga­ni­za­tion of pay­ments, the col­lat­eral and the penal­ties, where the lat­ter two are ba­si­cally non- ex­is­tent in tra­di­tional mi­croloans.

In the con­text of Pak­istan, it is one of the few coun­tries and one of the first ones which pro­mul­gated a sep­a­rate le­gal and reg­u­la­tory frame­work for microfinance banks. Sec­tor ex­perts ap­pre­ci­ate the role of the State Bank of Pak­istan in this re­gard; the Bank has guided the in­dus­try in an ex­tremely pro­fes­sional man­ner by reg­u­lat­ing fi­nan­cial in­sti­tu­tions which do not rely on grants but on mar­ket- based re­sources to be­come sel­f­re­liant.

Ac­cord­ing to Hus­sain Te­jany, for­mer Pres­i­dent, First MicroFinance Bank, “MFIs need to ad­dress all the causes of poverty by not only of­fer­ing fi­nan­cial ser­vices for in­come gen­er­at­ing ac­tiv­i­ties but also to help cre­ate ac­cess and af­ford­abil­ity to health, ed­u­ca­tion and hous­ing ser­vice. There needs to be an ef­fort to im­prove the over­all qual­ity of life of the un­der- priv­i­leged seg­ment.”

He sug­gested, “Key play­ers in the sec­tor must make con­certed ef­forts to fo­cus on in­sti­tu­tional de­vel­op­ment to en­sure that their struc­ture is kept sus­tain­able. It is only through de­vel­op­ing an ef­fi­cient fi­nan­cial sys­tem which per­forms the func­tion of in­ter­me­di­a­tion be­tween those with ex­cess sav­ings and those in need of fund­ing for ac­tiv­i­ties with high re­turns. Ad­di­tion­ally, re­li­able and sus­tain­able struc­ture will al­low MFIs to gen­er­ate as much re­sources as re­quired for growth.”

“In re­cent years, SBP has taken var­i­ous steps for the pro­mo­tion and growth of this sec­tor. Also, a strat­egy for ‘ Ex­pand­ing Microfinance Out­reach’ ( EMO) had been de­vel­oped by the SBP which was ap­proved by the Gov­ern­ment. For the microfinance sec­tor to flour­ish, it is im­per­a­tive that there is con­sis­tency in the poli­cies and that a con­ducive pol­icy en­vi­ron­ment pre­vails for the mi­cro- fi­nance play­ers in Pak­istan.”

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