COMMENTARY
The dialog about microfinance continues ... with widely different views about the contribution of the microfinance sector to matters like 'progress out of poverty' and socio-economic well-being.

I get very nervous when writers like Michael Chu describe the performance of microfinance. He has been successful as a microfinance investor, but the same level of success for the industry beneficiaries is unclear. Nobody, it seems has taken any interest in finding data that shows how communities have performed, and how people living in communities have progressed. What we do know is that the investors in the Compartamos organization in Mexico have been able to extract a substantial money profit and dividend from the organization, while it being at the same time quite unclear where this value extraction originated. Michael Chu argues that 'the market' decides everything, and I have to disagree totally with this conclusion. A market is usually better than a bureaucrat ... but markets are subject to gaming and insider dealing and all sorts of predatory practices. When markets are controlled by evil operators, anything goes.

Microfinance, in my view, has a tremendously important role to play in socio-economic progress. The money is only a part of what a good microfinance program provides ... the human capital dimension is also very important. The interest rate is a tiny part of the critical metrics of microfinance ... the purpose of microfinance is socio-economic progress for a person, a family, a community. We do not look enough at this aspect of microfinance in the metrics being compiled. My impression is that a lot of MFIs are doing good work on this ... but it is not much formalized in the ongoing dialog and the data.
Peter Burgess

Dear Colleague,

Given your interest in microfinance, I thought you might enjoy this recent article from the Inter-American Dialogue. In the article, a group of industry experts were asked: Where does Latin America's microfinance industry stand today, following a year when the negative sides of microfinance captured headlines? Here is a link to read the responses from:

• Michael Chu, Harvard Harvard Business School and IGNIA Fund
• Kai Schmitz, Payment Systems Development Group, World Bank
• Earl Jarrett, Jamaica National Building Society

All the best,

Luis Viada
EVP, MicroRate Inc.
luis.viada@microrate.com
1.703.243.5340

Microfinance, which had been hailed as a tool to help the indigent escape poverty, last year became increasingly associated with misery and controversy, as debtors in places like India and Bangladesh were driven to suicide and critics decried the industry's interest rates as exorbitant.

Where does Latin America's microfinance industry stand today, following a year when the negative sides of microfinance captured headlines? To what extent has microfinance in Latin America avoided abuses seen in other parts of the world?

Has the concept been successful in the region, and what is the future of microfinance in Latin America and the Caribbean?

Michael Chu, senior lecturer at Harvard Business School and managing director and cofounder of IGNIA Fund:

'Latin American microfinance today continues to grow steadily, delivering to low-income clients billions of dollars in an ever-widening array of financial products, at declining prices (Bolivia's BancoSol has lower rates than Grameen Bank).

At the same time, it is providing superior returns to investors (In Mexico, Compartamos Banco's market capitalization is twice what it was before the global financial meltdown). This is the result of two powerful forces, commercial markets and intense competition, acting in unison under a regulatory framework that promotes both fiscal prudence and transparency, while keeping politics at bay.

This combination has ensured through two decades that the greatest amount of people is being reached, with the best alternative available, at the lowest possible price and in the least amount of time.

While the pace of microfinance in the region as a whole has been dramatic, in the largest countries of Latin America there is still ample room to grow.

While specific institutions may face crises and even die, microfinance as an industry will continue to thrive. It will be a pillar in the future economic development of Latin America.

All these factors were absent in Andhra Pradesh. The debacle in India was not a failure of microfinance but the collision of two different interpretations of financial inclusion: should the poor access finance through the political process or through the market?

Once the crisis erupted, two interpretations of regulation also came into play: should the regulator define product or policy? Now, the world can judge.'

Kai Schmitz, senior financial sector specialist at the Payment Systems Development Group of the World Bank:

'The current discussion about the benefits of microfinance is important, especially in light of its expansion over the past few years.

However, there is a risk of throwing the baby out with the bathwater. The benefits of microfinance and its development impact have been widely analyzed and demonstrated before its large expansion began at the start of the millennium.

Following the claim that only a very small portion of microfinance demand was met because there was not enough capital available, many donors increased their funding for MFIs and, at the same time, new, often commercial private investors offered capital for microfinance.

The result was comparable to the beginning of the housing crisis and other debt bubbles: a lot of capital was chasing a limited number of borrowers. As a result, many MFIs, under pressure to put the newly raised capital to work, reduced their lending standards or more aggressively pursued borrowers.

With hindsight, it seems likely that the number of suitable borrowers was not as large as claimed so that either these borrowers received loans that were too large, or loans were made to borrowers who under more conservative appraisal standards should not have received them.

The microfinance crisis should therefore be a cause to carefully analyze the lending standards and the role commercial capital can (and should) play in microfinance.

The recent commentary by some that microfinance just unduly exploits poor borrowers is as simplistic as the previous calls for a massive increase of capital.'

ANSWER

Luis A. Viada, member of the Financial Services Advisor board and executive vice president of MicroRate, Inc.:

'The crisis in India was the product of a very unique set of circumstances. There were four main contributors to the problem.

The first was the existence of two national microfinance programs—one public sector, the other private sectorsupported—both competing for the same markets in southern India.

Next was the declaration of microfinance as a priority economic sector. Banks were obliged to invest 40 percent of their portfolios in those sectors. As a result, microfinance institutions (MFIs) were awash with excess funds, leading to aggressive growth and the emergence of less qualified MFIs

Then ICICI Bank devised a program in which MFIs primarily acted merely as loan-origination offices. Loan volume soon replaced risk management as the focus of these institutions. Overborrowing, defaults and tragedies ensued.

Nicaragua has so far been Latin America's sole trouble spot—where deteriorating conditions led to a grassroots 'No Pago' moratorium.

Growth in the rest of the region has been more measured and regulators have tried to set up safeguards to prevent predatory practices.

In the 2011 Economist Intelligence Unit 'Microscope' global report on microfinance conditions, 12 Latin American countries appear in the top 20 overall rankings, with Peru and Bolivia in 1st and 2nd place. However, asset growth is accelerating in Peru and Colombia, and Mexico's interest rates are among the highest.

Problems may still arise, but so far Latin America is one of the bright spots of microfinance.'

ANSWER

Earl Jarrett, member of the Financial Services Advisor board and general manager of the Jamaica National Building Society:

'Microfinance in Latin America and the Caribbean is significant for the economic development of the region, creation of jobs and lifting people out of poverty. Microfinance is recognized and documented in Africa, Asia and the Caribbean as providing much-needed financing to support business ventures.

In Jamaica, there are microfinance entities such as the JN Small Business Loans (JNSBL) Ltd. which has loaned approximately 13 billion Jamaican dollars ($147 million) over the past 10 years and created some 270,000 jobs, with a portfolio at risk of less than 1 percent.

The impact of this kind of access to microfinance is evident in a study conducted by the Tropical Medical Research Institute of The University of the West Indies on a group of JNSBL clients. It revealed social transformation in households with greater levels of investment in the education of children, increased wealth and an overall improvement in the quality of life.

While there are negative stories of burdensome microfinance interest rates, it should be noted that most microfinance institutions charge no fees; therefore, the interest rate includes the cost of the money and the service, which incorporates business training and supervision by employees of the lending agencies.

These inputs are critical in ensuring that loans remain sustainable and debtors are not placed in a position where the business fails or the debt remains unpaid.

There are safeguards in Jamaica and the wider Caribbean to protect debtors against the experiences of debtors in Bangladesh and India.

Countries are also being encouraged to develop a legislative framework for individuals to have greater access to microfinance through avenues such as mobile banking.

Microfinance will remain a key component in driving the creation of new business and jobs, particularly as the world works its way through the current economic crisis.'