Microfinance Bubbles?

> Posted by Charlotte Connors
I’ve just read today’s Wall Street Journal article about Microfinance ‘Bubbles.’  Having recently entered the field of microfinance myself, it occurred to me that while the Journal called attention to an important issue, there is one crucial point that the they overlooked.  The microfinance industry is tight.  It’s like a large extended family – one that acknowledges challenges and deals with them.  One such challenge is that of how to keep clients as the central focus of this fast-growing industry, and the industry has addressed this challenge in a collaborative and proactive way.
Twenty-seven industry leaders and more than six hundred MFI’s, Investors, Donors, Networks and Associations have gotten behind the Campaign for Client Protection in Microfinance.  First announced at the Clinton Global Initiative in September 2008, the Campaign, under the leadership of the Center for Financial Inclusion at ACCION International and the Consultative Group to Assist the Poor (CGAP), seeks to unite microfinance providers worldwide to develop and implement standards for the appropriate treatment of low-income clients, based on six principles, which the Campaign aims to embed within the fabric of the microfinance community. The first of these principles is avoidance of over-indebtedness (which has the subject of the WSJ article).
The Campaign aims to develop norms, knowledge and tools that will help MFIs develop and maintain a rigorous focus on client welfare.  The first of such tools, available online, is a Client Protection Questionnaire that provides a detailed self-assessment of controls currently in place. For example, MFIs are asked to rate themselves on 10 controls against client over-indebtedness:

  1. Management is aware of the potential for over-lending, regularly obtains information on client over-indebtedness, and is responding appropriately to risks.
  2. Management regularly monitors product performance, lending sales practices, approval procedures, and incentive programs to reduce the risk of over-selling and mis-selling and adjusts operations and training programs accordingly.
  3. The loan approval process requires borrower repayment capacity and loan affordability to be assessed. The loan approval process does not rely solely on guarantees (whether peer guarantees, co-signers or collateral) as a substitute for sound risk management.
  4. Credit approval policies give decision makers explicit guidance regarding borrower debt thresholds and acceptable levels of debt from other sources.
  5. When available, the financial institution checks a Credit Registry or Credit Bureau for borrower current debt levels and repayment history.  When not available, the financial institution maintains and checks internal records and, when possible, consults with competitors for same.
  6. The financial institution avoids increasing debt levels of borrowers who are already indebted beyond their capacity to repay, avoiding re-financing the loan at a higher amount, and adhering to a standard protocol for debt restructuring.
  7. The financial institution offers multiple loan products or flexible loans that address different business and family needs. The organization ensures product suitability through careful product design and testing with the target markets.
  8. The credit decision-making procedure and supervision function promote salesforce or loan officer accountability for the quality of the loan.
  9. Incentives and productivity targets reward risk management. Productivity targets and incentive systems value portfolio quality at least as highly as other factors, such as disbursement or customer growth. Growth is reward only if portfolio quality is high.
  10. Internal audits check household debt exposure, lending practices that violate procedures including unauthorized refinancing, multiple borrowers or co-signers per household, and other practices that could increase indebtedness.

The questionnaire provides similar self-assessment criteria for each of the Campaign’s six principles…
I have been fortunate to attend both Campaign Steering Committee meetings and public forums about the issue of client protection in microfinance.  What I hear (from vast majority of the big extended microfinance family) is that they care.  They want to make a positive difference in people’s lives and they want microfinance to be a model of responsible finance.  I, for one, am proud to be part of this family. Check out the Campaign and become part of the solution!