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Micro Finance in India overview, challenges, and the role of technology

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Micro Finance in India overview, challenges, and the role of technology By Annie Duflo Centre for Micro Finance Research October 28, 2005 Outline of presentation What ... – PowerPoint PPT presentation

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Title: Micro Finance in India overview, challenges, and the role of technology


1
Micro Finance in Indiaoverview, challenges, and
the role of technology
  • By Annie Duflo
  • Centre for Micro Finance Research
  • October 28, 2005

2
Outline of presentation
  • What is microfinance?
  • Providing financial services to the poor
    challenges
  • Providing financial services to the poor in
    India Overview
  • Microfinance Challenges ahead and potential
    solutions/initiatives
  • The Centre for Micro Finance Research

3
Microfinance what is it?
4
Microfinance what is it?
  • What are the words that come to your mind when
    you hear the word microfinance?

5
Microfinance what is it?
15
37
Microfinance provision of financial services to
the poor
48
6
Microfinance what is it?
What it often is
What it really should be
  • Micro-credit
  • Group lending
  • Social/charitable activity
  • Range of financial services
  • Group and individual lending
  • Profitable activity

7
Providing financial services to the poor
challenges
8
Providing financial services to the poor
challenges
  • Risk management challenges due to information
    asymmetry problems
  • Accessibility (geographic accessibility and
    easiness to deal with)
  • No collateral, Low value and cash intensive
    nature of the business
  • Staff training and motivation

High transaction costs
9
Information asymmetry
10
Adverse selection incomplete information problem
(before the loan)
Dont know Clients type
Interest rate reflects proba of default
Safer clients drop out
Need to increase interest rate
Providing credit can become impossible
11
Moral hazard hidden action problem (after loan)
Can not observe what client is doing
Bad loan usage
Strategic unwillingness To repay
12
Clients profile
  • 75 population lives in rural areas geographical
    access difficult
  • Informal activities need access at flexible
    times
  • Illiteracy difficult to deal with traditional
    services
  • Low value of transactions
  • Lack of collateral

13
Staff
  • Lack of trained staff
  • Lack of motivated staff
  • Difficult to incentives staff

14
Delivering financial services to the poor in
India an overview
15
Providing financial services to the poor
occupied India
  • Deccan, late 19th Century
  • peasant riots on account of coercive alienation
    of land by moneylenders.

Organization of cooperative societies
as alternative institutions for providing crédit
by british government
16
Providing financial services to the
poorIndependent India
  • Credit was viewed as essential part of fight
    against poverty which led to following measures
  • Expansion of the institutional structure
  • Directed lending to disadvantaged borrowers and
    sectors
  • Interest rates supported by subsidies
  • Institutional vehicles cooperatives, commercial
    banks and Regional Rural Banks RRBs.

17
Providing financial services to the poorTimeline
  • 1950 1969 emphasis on the promoting of
    cooperatives.
  • 1969 nationalization of the major commercial
    banks beginning of commercial bank branch
    expansion in the rural and semi-urban areas.
  • 1976 Regional Rural Banks (RRB), low cost
    institutions mandated to reach the poorest in
    credit-deficient areas
  • 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)

18
Financial reforms for RFIs
  • Enhance the areas of commercial fredon
  • Increase their outreach to the poor
  • Stimulate additional flows to the sector.
  • Liberalising interest rates for cooperatives and
    RRBs,
  • Relaxing controls on where, for what purpose and
    for whom RFIs could lend, reworking the sub-heads
    under the priority sector,
  • Introducing prudential norms
  • Restructuring and recapitalising of RRBs.

19
Results
  • 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
  • The population per rural branch declined from
    2,01,854 in 1969 to around 16,000 at present.
  • 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.

20
Results (contd)
  • 31 (131.1 million) of the total deposit accounts
    are in rural India
  • 43(22.4 million) of total credit accounts are in
    rural India
  • Positive impact on the poor (Rohini Pande/Burgess
    paper)

21
HoweverSuccess was not as high as hoped
  • Defects in policy design,
  • Infirmities in implementation
  • Inability of the government of the day to desist
    from resorting to measures such as loan waivers.
  • High defaults
  • The banking system - was not able to internalise
    lending to the poor as a viable activity but only
    as a social obligation
  • More and more difficult for commercial bankers to
    accept that lending to the poor could be a viable
    activity.

22
Micro Finance apparition
  • 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.
  • NABARD empirical observation that had been
    catalysed by NGOs that poors gather in informal
    groups
  • Create a formal interface of these informal
    arrangements of the poor with the banking system.
  • Bank-SHG Linkage Programme.
  • Recent emergence of MFIs professionally run
    institutions specialiazed in delivering credit
    with low cost staff and local knowledge

23
Despite all these effortslarge gaps remain
  • Against rural population of 741.0 million, 500
    million people un-served
  • Population per branch 22,793
  • Penetration of savings accounts is below 18
  • As against 104 in urban and semi-urban areas
  • Number of villages per branch 19
  • High dependence on informal sources
  • 36 of rural credit from informal sources
  • Dependence even higher for lower income
    households 78

24
Microfinance ahead challenges
25
Gaps in demand and supply
Demand Rs. 450 billion/y
Disbursed 39 billion
Less than 2 million Households reached
500 million un-served poor
Scaling up
60 in South
to cover all parts of India
Need protection against all risks
Insurance under-delivered
Increase impact
Need employment opportunities
Market constraints
26
Scaling up challenges
27
Limitation of the predominant model
SHG-Bank linkage model
Loan at 9
SHG
Bank
Group formation/linkage
No liability
NGO
28
Financial Intermediation Model
Scaling up existing MFIs challenges
Loan at a 9
Loan at 20
29
Limitations to growth of MFIs
  • Lack of adequate quantities of risk capital
  • Lack of long-term finance to pay for creation of
    the necessary infrastructure and pre-operative
    expense
  • Lack of well trained staff in adequate numbers at
    all levels
  • technology

30
Lack of adequate capital the ICICI Bank
response
  • Searched for a model which
  • Separates risk of MFI from risk inherent in the
    mf portfolio
  • Provides a mechanisms to banks to continuously
    incentivise partners
  • Inability of MFIs to provide risk capital in
    large quantum, which limited advances from banks

31
The ICICI Bank Partnership Model
Loan at 9
Interest charged 20
Servicing fees of 11
FLDG of 10
32
Long-term finance the ICICI bank response
  • There is an underlying business model in the
    MFIs expansion no reason why it cannot be
    funded by commercial debt
  • ICICI Bank is offereing to its MFI partners
    long-term finance of a tenure of 3-5 years

33
Lack of well-trained staff ICICI Bank response
  • Initiated partnerships with training institutions
    (Indian Grameen Services, Care India)
  • Establish a Financial Services Learning School in
    collaboration with MicroSave India
  • Provide high level training in banking and
    finance to MFI practitioners in collaboration
    with IFMR (Institute for Financial Management
    Research)

34
Technology
  • Role of technology in microfinance
  • MIS
  • Cash handling
  • Data capture and subsequent management

35
Technology ICICI Bank response
  • Creation of rural connectivity in partnership
    with telecom companies and internet service
    providers
  • Assistance to emerging MFIs to adopt scalable MIS
    solutions
  • Support to research and development on
    technological devices that can reduce transaction
    costs
  • Low cost ATMs, low-cost computing devices, mobile
    and internet-based transaction platforms

36
Scaling up creation of new MFIs
  • Need 200 MFIs to cover all India
  • ICICI Bank (SIG) support to entrepreneurs to
    start MFIs
  • KAS Foundation, Orissa
  • Inputs are needed
  • Organizational and staff incentive structures
  • Finance related issues (source of funds, capital
    structure)
  • Legal issues regulations etc.
  • Business plan related issues scale, expansion
    strategy etc.
  • Corporate partnerships attractive track to build
    access to microfinance

37
Support new MFIs The Venture Capitalist model
  • VCs specifically focused on the micro-finance
    space Lok Capital, Aavishkar and Bellwether. 
  • Bellwether
  • three equity commitments for start-ups
  • increased the size of fund from 10mn USD to 25mn
    USD.
  • ICICI Bank solution
  • Each MFI will need to reach a minimal CRISIL or
    an MCRIL operational sustainability rating
  • 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.

38
Scaling-up what form of support is needed?
  • Interest rates should reflect the costs of
    transactions/probability of default and be
    sustainable
  • Focus on diminishing the cost of these
    transactions and expand access

Equity support, Remove caps and floors, create
facilitative infrastructure to reduce
transaction costs
39
Alternate channels
  • Agent model
  • Model of LIC
  • Challenge control fraud
  • Internet connectivity
  • BSNL if wireless system installed ate the
    existing connected rural exchanges 80-85 of
    villages could be connected
  • Variety of devices that can work with internet
    kiosks biometric low-cost ATMs
  • Makes controlling fraud easier

40
Internet Kiosks
Connectivity
  • STD/PCO
  • Enabling voice communication

Multimedia PC with Power backup
  • Kiosk Operator
  • Entrepreneur
  • Provides commercial services

Printer Other Accessories Enabling job work
41
Internet kiosks
  • ITC, nLogue, Drishtee more than 6000 internet
    kiosks using Wireless in Local Loop, VSAT
    terminals
  • ICICI partnered with some of these organizations
  • Finance individual entrepreneurs to purchase
    operating license and equipment
  • Break even within 1st year
  • Suite of financial services
  • 2000 kiosks

42
Internet kiosks remaining gaps
  • Providing constant connectivity expensive
  • Finding motivated entrepreneurs difficult
  • Break even has been delayed for various reasons
    (required back-end systems to service clients
    difficult tp find etc.)

43
ICICI Bank strategy summary
Conventional Rural Banking
Manpower intensive
Product driven
Single product
Branch based
Our strategy
Technology intensive
Customer driven
Multiple products
Hybrid channels
44
Maximize impact of microfinance challenges
45
Maximize impact
46
Maximize impact
Local Financial Institution serving all credit
constraint- Segments in 2-3 districts
47
Range of Microfinancial services
  • Individual lending
  • Information problem
  • No unique ID
  • No credit info sharing
  • Need technology!
  • Insurance
  • Adverse selection, moral hazard, fraud

48
Range of Microfinancial services
  • Health insurance
  • Reimbursement model
  • Cashless model
  • How to identify illness?
  • How to avoid fraud?
  • Livestock insurance
  • Recognize cause of death
  • Identify animal (role of technology)

49
Range of Microfinancial services
  • Weather insurance
  • Index-based index created by assigning weights
    to critical time periods
  • Past weather data mapped to this index to arrive
    at normal treshhold index
  • If deviation compensation
  • Commodity price derivatives
  • NCDEX offers price discovery services offer
    farmers instruments to hedge pre and post harvest
    risks
  • Makes using commodity as collateral possible

50
Range of Microfinancial services
  • Savings and investments products
  • Could be offered through Money Market Mutual
    Fund MFI acts as agent
  • Remittances
  • 10 million seasonal and circular migrants
    (National Commission on Rural Labour)
  • Adhikar, Orissa
  • ICICI remittance product through internet kiosks

51
Key enablers needed for maximize impact and
scaling up
  • Credit Bureau
  • Unique identifier
  • Technology platform
  • Rural infrastructure
  • Change in regulations (interest rates et.)
  • Training institutions
  • Research

52
CMFR The Centre for Micro Finance Research
53
Objectives
  • Fill gaps in understanding of microfinance
  • Extent and channels of impact
  • What programme designs work and what do not?
  • What programme variants can increase impact?
  • Fill gaps in practice of microfinance limitation
    to micro-credit, lack of financial capacity

54
Mission
  • The Centre for Micro Finance Research will aim to
    help improve the life of the poor by
  • Systematically researching the links between
    access to financial services and the
    participation of the poor in the larger economy
  • Participating in maximizing access to financial
    services and its impact for poor through
  • Research on micro finance and livelihood
    financing
  • Research-based policy advocacy
  • High level training for practitioners and
    institutions
  • Strategy building for Micro Finance Institutions

55
Strategy
Training
Research
Influence practice
Advocacy
Strategy building
56
Partnerships
Universities
Banks/ Insurance Companies
CMFR
Regulators/policy makers
MFIs/NGOs
International organizations
57
CMFR Research Areas
58
Impact of Microfinance
Access to Financial services
Impact?
?
Advocacy based on rigorous results
59
Constraints to Productivity
Inputs
infrastructure
Impact
Access to Financial services
Health
entrepreneurship
60
Economics of Micro-Enterprise
  • Scale, Returns, Constraints of micro-enterprise
  • Market linkages
  • Documentation of best practices

61
Experimentation on Product Design
selection
monitoring
Enforcement
  • Individual/group liability
  • Self/MFI selection
  • Guarantors
  • Collaterals
  • Interest rate
  • Repayment schedule
  • Communication strategies
  • Loan size
  • Interest rate
  • Within group monitoring
  • Staff supervision

Design the most cost-effective products
62
Behavior and Psychology of Borrowers
  • How do households face shocks and risk?
  • Do households save and how?
  • What drives savings and credit behavior?
  • Why do people default?
  • Why dont households adopt the most profitable
    activities?

63
MFI Policies Impact
  • How do MFIs policies affect loans and repayment
    behavior of clients?
  • Staff incentives
  • Combination of different products
  • Compulsory savings or insurance

64
Cost and profitability of SHGs/MFIs
  • How to reduce transaction costs?
  • Compare costs of SHG-Bank linkage and MFI model
  • Show investors risk return performance of
    microloans

65
Research other initiatives
66
Research Panel Databases
  • Construction of a panel database repeated
    observations of same households
  • Study vulnerability, consumption patterns over
    time
  • Have a panel database for on-going research
  • Construction of a cross-sectional survey
  • Document access to financial services over time

67
Research weekly seminar series
  • Foregone seminars
  • Prof Ashok Jhunjhunwala (IIT Chennai),
  • Prof Vaidyanathan (Madras Institute of
    Development Studies)
  • Prof Sendhil Mullainathan, Harvard
  • GN Bajpai, ex-Chairman of SEBI
  • Greg Fisher, MIT
  • ..
  • Forthcoming seminars
  • Suresh Sundaresan, Columbia
  • Dr Narendra Jadhav, RBI
  • ..

68
Research Courses
  • Economics of Micro Finance
  • Prof. Adel Varghese, TAMU
  • Economic theory of microfinance
  • Evaluating Social Programmes
  • Professors from the Poverty Action Lab/MIT
    Esther Duflo (MIT), Abhijit Banerjee (MIT),
    Sendhil Mullainathan (Harvard), Michael Kremer
    (Harvard)
  • Teach practitioners and researchers how to
    identify programs impacts without bias

69
MFI Strategy Unit at CMFR
70
Strategy Building
MFIs
Sectoral Experts
Pilots
Scale-up
LFI
71
Training
  • Building blocks of Banking and Finance Training
    Programs
  • Meet training needs of the sector In
    collaboration with MicroSave India
  • Development of national curriculum
  • Collaboration with 6 Regional Training Institutes

72
THANK YOU!
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