A Debilitating Hang Up for Microfinance and Rahul

I would like to tell you about a professional basketball player named Rahul.

Rahul plays for the Kolkata Killers in the Indian Basketball Association (IBA). Players in the IBA make about 40% of their shots.

On average, Rahul takes 3 shots per game and makes 2 of them. This means he has a 67% shot making percentage (quite remarkable). Rahul is almost positive that if he took 20 shots per game, he could make 12. He would thus have a 60% shot making percentage (lower, but still excellent).

Although his shot making percentage would fall, Rahul would be greatly helping the team by taking those extra shots. He would be taking an additional 17 shots and making 9 of them. That would mean that he would be shooting 53% on his extra shots. When compared with the league average that is still awesome.

Stretching the analogy even farther (and this is an analogy), let us say that Rahul takes an enormous amount of pride in the fact that he has a shot making percentage of 67%. When he first came into the league, the media and fans would always say that there was no way he could shoot better than 30%. Rahul was maligned for being too slow and risky with his shot choices. But Rahul proved them wrong! So even though Rahul could better help the team by shooting 60% and taking more shots, he is wary of doing so because shooting 67% has become his identity.

If you haven’t caught on, Rahul is the microfinance industry and his shot making percentage is equivalent to repayment rates.

When people are introduced to microfinance, often the first feature of the sector they are informed of is the amazingly high repayment rates of many MFIs. There is a good reason for this. It was long believed that giving the poor access to credit was bad business because the poor were a horrible credit risk with little collateral to offer. Essentially, that last sentence has been proved incorrect over the last 20 years by the use of various innovative product designs (i.e. dynamic incentives, weekly meeting, group liability…etc).

Still, many MFIs cling to their high repayment rate as a show of their viability. MFIs often speak of their 99% repayment rates as if low levels of default were all that mattered. But repayment is not all that is important. I believe that profitability/sustainability and social impact matter even more (which one is more important is a question for another day). If an MFI has a choice between serving 5,000 people with 99% repayment or 50,000 with 96% repayment, there is certainly no shame in choosing the latter (as long as the MFI continues to provide the same level of service). In fact, they would probably be doing those extra 45,000 people and themselves a lot of good.

This is not to say that extremely high repayment is necessarily a bad thing, but it can mean that an MFI is not taking on enough risk and/or may be putting undue amounts of pressure on those unable to repay in order to maintain the statistic (some consider this a cause of the Andhra Pradesh crisis).

Just as it might help if the media and fans stopped talking about Rahul’s amazing 67% shooting percentage, it might do some good if those reporting on microfinance stopped emphasizing incredibly high repayment. A high repayment rate is only a means; outreach and impact are the ends.

The idea for this entry came from reading the paper “Group Versus Individual Liability: A Field Experiment in the Phillipines” by Xavier Gine and Dean Karlan. Amongst other conclusions, the study finds that the conversion to individual liability from group liability by Green Bank, which currently uses the Grameen model, did not lower repayment rates, but did attract new clients. The research was conducted through a randomized evaluation. http://library.financialaccess.org/pdf/I16_FAI_GroupIndividualLiability.pdf

The following are links to sites that prominently praise the high repayment rates of MFIs. These links are not mean to suggest anything negative about the publishers. They are simply examples:
http://www.investopedia.com/articles/07/microfinance.asp
http://query.nytimes.com/gst/fullpage.html?res=9C07EFDB1E31F93AA35750C0A96E9C8B63&sec=&spon=&pagewanted=4
http://www.cbc.ca/news/background/economy/microcredit.html
http://www.fwa.org/community/microfinance.htm

RBI To Evaluate Financial Inclusion Drive

The Reserve Bank of India (RBI) proposes to evaluate the progress of districts under financial inclusion through an independent external agency, said RBI Deputy Governor V Leeladhar.

The State Level Bankers’ Committee (SLBC) will identify one district in each state for 100 per cent financial inclusion. He added that to bring more such districts under financial inclusion, RBI has asked banks to introduce more no-frill accounts and general purpose credit cards (GPCCs) with limits of up to Rs 25,000 in rural and semi-urban branches.

From The Business Standard. This is good news. Our own research in Karnataka by CMF RA Minakshi Ramji, a summary of which was published in the RBI's journal CAB Calling and presented at the RBI's College of Agricultural Banking a couple of months ago, revealed that the BPL holders of "no-frills" savings accounts created during the financial inclusion drive there rarely used their accounts. Many weren't even aware that they had accounts. This wasn't the banks' fault: frills or no-frills, it just doesn't make sense for someone from a BPL household to spend 20 - 40 rs traveling to a bank branch in order to deposit 30 rs. Which is why I was not very impressed when, after lengthy deliberations, one of the few concrete measures to increase financial inclusion recommended by the Committee for Financial Inclusion was to increase targets for opening of no-frills accounts by banks.

The financial inclusion drive, while not a bad idea, has only resulted in more of the same when it comes to financial access for the poor. Hopefully, the RBI's evaluation will shine some much needed light on the drawbacks of this approach.

Final Comment for the day before I get to work

Someone asked me for suggestions as to what we can do now to make our office more energy efficient. So I thought about it and decided to post a couple of suggestions.

Before we start...the key to reducing energy use is to be conscious of your decisions.This is a process, a huge behavioral change for many of us and feel free to do this incrementally as opposed to all at once.

First...your laptop has a battery. Use it. Charge your laptop to 100%, let it run down and then recharge it. Repeat as necessary. As an added benefit, most people say that this will increase the life of the battery thus keeping it out of landfills.

Two...Turn off the lights when you leave a room. Yes the dark is scary, but there is a saying in the world of energy efficiency. Fluorescent, CFLs, LEDs, light dimmers are all good alternatives...efficient alternatives...but the most efficient light bulb is one that is turned off. And when choosing new bulbs remember that Flourescent Tube lights and CFLs have mercury in them...mercury is bad...if possible use LEDs.

Three...we are approaching the hot and miserable season here in Chennai. Air conditioning is essential to our ability to work...but let's determine a comfortable temperature. Some of the offices are equipped with new air-conditioners. Many of these air-conditioners have timers and adjustable temperature controls. A good rule of thumb might be 15 minutes on, 15 minutes off...21-22 degrees might be a good choice as to the temperature of our offices...use fans to circulate the air in the offices (strategically place some floor fans in the corners of the room and point them upward. This will facilitate the movement of air and lower the need for air-conditioner use). But most importantly turn off the ACs when you leave if you are the last one in the office.

Four...turn-off all desktops when not in use and when you go home for the day. Turn off all power strips when you leave at night and turn-off the little switches next to the outlets when you leave (most have lights next to them which glow all night...every little bit helps).

Five...be conscious of your decisions to use energy...walk when you can, take an LPG Rickshaw instead of the first one available (they are the ones with the green stripe around them)...

Also, lobby for some solar panels at the new office. Consider installing LED lighting at the new office. Change your light bulbs at home to LED or CFL, and if you hate them so much you can't tolerate them, install dimmer switches on all your lights. Think about trying to talk your landlord if you rent or yourself if you own into installing some passive solar techniques on your house and building (awnings on south facing windows, translucent fabric for curtains on your other windows which do not get direct light). There are a myriad of options to reduce energy use...go to Wiki and type in Energy Efficiency. Look at the list and see what you are comfortable with...and implement those first. 

Advanced techniques...

Home solar lighting systems (4000 Rs with one light...more as you add more lights...unforetunately this is really only appropriate for one of two rooms a system and the more lights you install the more solar panels you need.

Solar hot water heaters (16,000 Rs but there is (was?) a subsidy in Tamil Nadu and soft loans offered by many banks)...use especially in the Kitchen...starting with hot water will save you about half the amount of cooking gas need to cook rice, pasta, tea, etc.

The Climate Project India

I had the privilege of being invited to the Climate Project India workshop led by Al Gore. As a part of this privilege came an obligation...I agreed to give 10 presentations over the course of the next year. The first one will probably be held for CDF but I would like to make one to the entire IFMR group by the end of April. It has also been suggested that the movie An Inconvenient Truth also be aired before this presentation takes place. So as an academic exercise and restricted to only IFMR associated individuals I plan to show the movie sometime in the next two weeks...just a heads up.

When it rains it pours

This morning as I was coming to work, I saw that they had the manhole covers off the sewers in my street and were cleaning them out. And for some reason I thought to myself...adaptation. I think I am starting to become too acclimatized for my own good. But it got me thinking, because everyone talks about adaptation and mitigation, but rarely in the same sentence.

Adaptation—alteration, adjustment, modification, redesign, remodeling, revamping, conversion

Mitigation—the action of reducing the severity, seriousness or painfulness of something  

So, I got to thinking how can adaptation and mitigation become more integrated and what is the role of development agencies in this process. The funny thing is that I can't fully wrap my little brain around this yet...but I was hoping that if we had some sort of collective consciousness that maybe we as an Institute could come up with ways that Micro-Finance, Meso-Finance and Research could proactively promote this discussion and more importantly provide a road map forward.

Reduce, Reuse, Recession, Recycle...

I can't believe that my last post was on the 24th of January...I have kept my mouth shut for 2 whole months...I think it's a new record...My last post was pre-Recession.......and now I am panicked. What does it mean for the environment? What does it mean for the Green Revolution?What about Emissions Offsets? Maybe nothing, maybe everything. One of the things that people may be forced to do is to reduce consumption...it seems logical, but the consumption will come from areas which are typically considered 'good' areas. Organics, premium green products...what will happen? The great thing is that nobody knows. Wonder what your thoughts are...

The Best Paragraph I've Read Today

Rural India needs a strategy that strengthens the credit structure, increases the number of bank branches and establishes sound relationship banking. Even as banks are encouraged to increase their rural commitments, an essential aspect of the incentive structure for the banking system should be an assured recovery process. A socio-political environment that nurtures expectations of a loan waiver is not conducive for building a healthy financial system, particularly in rural areas where borrowers have weak bargaining power and bank officials are known to be reluctant to lend at the smallest sign of a poor recovery.

From the EPW editorial board. The authors make a persuasive case that the last major loan waiver offered by the government in 1991 seriously impaired the functioning of rural credit markets several years. At least in the case of the present loan waiver, unlike the previous one, it is taking place just before an election. Therefore, smart potential borrowers will realize that they will have to wait for another general election to roll around before their balance sheets can be wiped clean again.

Mission Drift: Waiting to be Convinced

The Centre for the Study of Financial Innovation (CSFI) recently published “Microfinance Banana Skins 2008,” which is a part of series of reports CSFI disseminates on the risk outlook for different financial sectors. The report is based on a survey of over 300 practitioners, analysts, investors and observers (the sample was heavily biased towards Americans as the US accounted for 84 respondents). (http://cgap.org/portal/binary/com.epicentric.contentmanagement.servlet.ContentDeliveryServlet/Documents/MF_BananaSkins2008.pdf)

The report lists what were identified by the respondents as the 29 biggest risks to the profitability and sustainability of the microfinance sector. Listed number 1 and 2 are management quality and corporate governance. Listed number 14 is mission drift. I have often heard people anecdotally remark on the dangers of mission drift and the section on mission drift in the report is typical. Three microfinance managers and two researchers/experts are quoted to reveal that many in the sector fear that microfinance is just becoming another soulless industry driven by evil profit maximizing investors.

I don’t believe mission drift is a particularly well defined concept. It seems there are two main ideas about the meaning of mission drift, one narrow and the other broad. The narrow definition comes from the first sentence of this quote from a briefing paper by Opportunity International, and the broader concept comes from the second:

The concern is that efforts to reach a significant scale by securing financial sustainability may lead to a tendency to provide larger loans to less poor clients and to employ stricter loan screening procedures. In other words, scale-up could lead to a drift from an MFI’s poverty alleviation mission.
(http://www.appg-microfinance.org/files/What%20is%20Mission%20Drift.pdf)

Concerns about mission drift tend to be associated with commercialization, but I would argue that these worries apply similarly, if less so, to non-profit microfinance providers who are attempting to reach scale by traditional fundraising. This type of fundraising can lead to an institution deviating from its original purpose in an effort to satisfy the guidelines provided by major philanthropic institutions. The difference is that this altered mission, although possibly less oriented towards the organizations strength, will generally continue to be similarly development focused.

I decided to look further into the issue and sought out literature with quantitative evidence of mission drift (mostly by looking through the bibliographies of various papers and searches on the internet). The most pertinent and evidence based document I found was an Occasional Paper published by CGAP, an influential consultative group within the World Bank, titled, “Commercialization and Mission Drift: The Transformation of Microfinance in Latin America.” (http://dev.cgap.org/docs/OccasionalPaper_05.pdf).

The majority of the paper is dedicated to a portrayal of the microfinance sector in Latin America, with only a few pages specifically devoted to mission drift. Although the paper was published in 2001, it still seems quite relevant. Compared with Asia and Africa, Latin American microfinance has long been more commercially oriented. Perhaps the urban focus of Latin American MFIs led to these institutions being less interested in holistic welfare than South Asian MFIs that generally serve the rural population.

The paper explains that if you take a cursory glance at the numbers, it would seem that commercialization leads to higher loans and less focus on the poor. If you compare the average loan balance as a percentage of GDP of 10 leading Latin American MFIs in 1990, to that statistic for those same MFIs in 1999, you will find that this percentage has jumped by an average multiple of a little above 3 (ranging from 1.1 to 13.8). These are crude numbers, but they basically tell the story. Though, one could easily argue that this is not a indicative statistic for measuring whether an MFI is actually serving the poor.

The paper points out two important possibilities for why average loan size may have risen that one would not associate with mission drift. First, “Larger loan sizes could simply be the result of a deliberate strategy or choice on the part of microfinance institutions” and not caused by efforts to improve the bottom line. An MFI could benignly decide that serving slightly higher up the ladder clientele and “promoting small enterprise development” actually leads to more job creation and improved welfare for the society as whole. Second, the authors point out that maturity of the portfolio could lead to higher loan amounts. Microfinance is generally structured so that the first loan is given at a level that will be relatively easy for the client to pay back, with the size of the loan increasing as the bank gains more trust in the repayment abilities of the client. This means that an MFI that started in 1990 will naturally be giving higher loans year by year, so long as the institution retains clients.

The CGAP paper concludes that “at first blush” the statistics they collected might seem to demonstrate mission drift, but that a variety of factors could have been the reason average loan size has increased. CGAP has long been a proponent of sustainable and commercial approach to microfinance, so the conclusion that mission drift may not be happening in Latin America may be caused by an affirmation bias.

It would seem to me that there must be better ways of measuring mission drift. Many social performance indicators are being developed with a focus on determining the economic status of the clients that MFIs serve and whether MFI are truly delivering positive outcomes. But if strong studies have already been completed that demonstrate a deleterious affect of scaling up on social impact, I for one have not seen them (suggested readings are welcome). In a thorough article published by The Centre for Economic Self-Reliance, British microfinance analyst, James Copestake sets up a theoretical framework for the possible causes of and ways to avoid mission drift. He astutely writes:

In a mythical world of perfect information, the directors of an MFI would set performance goals, the managers would make decisions to achieve them, employees would systematically monitor outcomes, and everyone would learn. Unfortunately, leaders of MFIs are handicapped by the lack of timely and reliable evidence about performance. Mission drift occurs when their goals and preferences for the future subconsciously change in response to actual performance outcomes rather than being a fixed point against which performance can be guided and assessed. (http://findarticles.com/p/articles/mi_qa5457/is_200710/ai_n21298587/pg_1)

Yet this well-informed and balanced paper left in me an even greater desire for more tangible data.

Malcolm Harper, former chairman of BASIX and a man I admire, claimed in the “Microfinance Banana Skins” survey that microfinance was at risk of turning into “just another exploitative business which will continue the trend towards growing inequity, worldwide.” This may be true, but if those people in the sector who are concerned about mission drift want microfinance to change course, they must go beyond the anecdotal and begin to prove their point.

Blanket Schemes - bon pour rien!

Loan waiver in Indian budget has received mixed reactions. The economist calls it a bold step and efficient tool to poverty alleviation schemes, newspaper editorials, blogs (for example IFMR, ToI) have replied to it by saying popular budget doesn’t win election (sometimes analyzing the economics into it), Government is happy and poor Banks are thinking why us? I say steps like waiving off loan are OK, if they are well targetted! I draw my conclusion using common sense, no big reading.
Schemes like this are announced if Farmers in the country are in very bad shape, they don't have money to spend on daily living, so government gives them this respite. Is this true for India? Yes, there are few regions where this is true but not the whole country. This is one of the drawbacks of all the thinking that has gone into this announcement. The biggest, in my view is differentiation between big and small farmer.
In many instances a farmer with less land is supposed to be vulnerable. But there are places where big farmers face problems too. In Vidarbha a farmer with even 25 acres land holding is generating lesser income than a farmer having 5 acres in madhya pradesh. There are reasons for it, which range from weather to bad government policies and support.
The waiver, while comes as boon for farmers all over the country, big farmer, like the ones in Vidarbha has no respite. And boons of these kind are not good, they lead to increase in no of defaults. More so, think of a farmer who actually repaid the loan amount, by cutting down expenses. He'd have got a heart attack.
If this scheme was to prevent debt trap and ultimately the suicides, it should have been announced for all farmers and in places like Vidarbha. The cost would have been less, and farmers in general would not be thinking of free- riding on future loans. A blanket is necessary when mosquitoes are all around, but if they are biting only hands, why cover the whole body and suffocate!

As far as political budgets are concerned I would say what a panwala told me in a village, “Governments are shrewd, they announced loan waiver and hiked Petrol prices”.

James Surowiecki on Microfinance

James Surowiecki has a piece in the most recent New Yorker on microfinance and, specifically, its limitations. Most readers have probably heard or read most of what's in the article before. Nevertheless, it's a very good piece that, in the words of a colleague, manages to adequately describe microfinance's limitations while not denigrating its benefits.

Some Links on the Farmer Loan Waiver

I've shared my own views on the massive loan waiver scheme for farmers here. Below are some others' views:

• P. Sainath in The Hindu Sainath shows why the money won't go to the farmers who need it most.
• Indian Economy Blog Nitin at IEB argues that since increasing credit to the ag sector has not resulted in increased technology uptake or productivity gains the waiver will have little effect. In my view, IEB misses the point of the waiver (waivers are intended to provide relief not enhance productivity) but the comments are priceless. Be sure to check out the dude at the end who rails against the "slavery" of fractional reserve fiat currencies.
  
• Barbarindians The author argues that the move is bad because it will be a setback to the development of farmer insurance programs. Huh?