Indicator of success of MFIs

Concept of Outreach in Microfinance Institutions:

The conventional view has held that microenterprise finance helps poor people and therefore is a
desirable development activity but that it cannot be financially viable. Small loans, it is said, are
simply too costly to administer, and the profits from such lending too meager to permit
profitability. However, a study examining some of the best microfinance institutions concludes
that this conventional wisdom is quite wrong. Microfinance institutions can and indeed need to be
self-sustaining if they are to achieve their outreach potential providing rapid growth in access to
financial services by poor people.
Outreach is the breadth and width of the major services of microfinance institutions such as: credit
provision, savings mobilization, micro insurance, money transfer, and payment services. It is a
hybrid measure that assesses the extent to which a Rural Financial Institution (RFI) has succeeded
in reaching its target clients and the degree to which the RFI has met the clients’ demand for
financial services.

Mobilization of savings:
More individuals throughout their lives have a need for savings deposits services rather than
credit. Savings therefore offer significant leverage for economic development and self-sufficiency
and are valuable to both microfinance institutions and their clients or members.

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The importance of rural savings mobilization: The mobilization of rural savings is important
for economic development for several reasons. In order to develop a healthy and viable rural
financial market, resources should be mobilized from the rural sector itself. In other words, rural
savings mobilization is an integral and essential component for developing a sustainable rural
financial market. Much of the rural sector’s development could be financed from the sector itself,
if only the correct techniques, incentives and institutions are provided.
However in most countries the emphasis has been on giving credit to the rural sector.

Factors influencing savings: Five economic conditions affect and influence savings. They are;
1. Interest rates: Interest rates have a bearing on savings mobilization. While slight changes in
interest rates do not necessarily affect savings, high interest rates do provide an incentive to saving.
There is growing evidence that interest rates do affect rural people’s willingness to save. For
instance, it has been shown that people shift their savings from lower interest higher liquidity
savings to higher interest lower liquidity fixed deposits when the interest rates of the latter are
distinctly attractive. High interest rates attract new deposits. In fact, high interest rates create an
interest consciousness among people - even among people who cannot calculate interest rates
accurately.
2. Real interest rate: It is not only nominal interest rates but real interest rates which affect
savings. The real interest rate is the nominal interest rate, adjusted for inflation. It is true that
people, especially rural people, don’t make fine decisions regarding the real interest rates. Yet,
where there is a high rate of inflation, people are aware that financial investments are unprofitable
and that it does not pay to keep cash. They may save but not in financial forms. They would buy
land or jewelry or even some consumer durables whose price they know would rise quite sharply
and visibly in a short time. Therefore inflation is an important factor influencing the willingness
of people to save in financial terms.
3. Income levels: The third factor which influences the capacity to save is the income levels and
the cost of living. When incomes are low and the costs of living are rising, the capacity to save is
less.
4. Consumer durables: The fourth factor is the availability of consumer durables. If we are willing
to accept that saving is an act of delayed consumption, then the availability of consumer durables,
which are not affordable on current income results in people saving a part of their income to buy
a consumer durable later. Therefore in a society where people are consumer oriented and think
they must possess a radio, a TV set, refrigerator, sewing machine or motor vehicle, they may very
well cut their current consumption and save in order to enable them to purchase these.
5. Social and cultural values: Social and cultural values play an important role in influencing
decisions to save. A society or people given to ostentation may spend a larger proportion of their
income, if not all of it, to display their wealth. On the other hand, social values may dictate others
to be frugal and save for a rainy day or for their children and grand-children. It is a fact that such
attitudes play an important role and particular ethnic or cultural groups can be identified as having

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different attitudes to consumption and savings. For instance, societies which require a dowry
system or possession of jewelry may save more for such needs. Therefore social and cultural
values, as well as expectations of the future, are important influences on people’s propensity to
save.

Cost of loan production:

Before determining loan price one should take these two costs, (a) Administrative costs by the
bank (MFI) and (b) Transaction cost by the client/customer. Customers, on the other hand, may
have expenses for travelling to the bank branch, acquiring official documents for the loan
application, and loss of time when dealing with the MFI (opportunity costs). Hence, from a
customer's point of view the cost of a loan is not only the interest and fees she/he has to pay, but
also all other transaction costs that she/he has to cover.
One of the principal challenges of microfinance is providing small loans at an affordable cost. The
global average interest and fee rate is estimated at 37%, with rates reaching as high as 70% in some
markets. The reason for the high interest rates is not primarily cost of capital. Indeed, the local
microfinance organizations that receive zero-interest loan capital from the online micro lending
platform Kiva charge average interest and fee rates of 35.21%. Rather, the main reason for the
high cost of microfinance loans is the high transaction cost of traditional microfinance operations
relative to loan size.
Microfinance practitioners have long argued that such high interest rates are simply unavoidable,
because the cost of making each loan cannot be reduced below a certain level while still allowing
the lender to cover costs such as offices and staff salaries.

In the microfinance sector there´s other services expanding as well. The poor need, like all of us,
a secure place to save their money and access to insurance for their homes, businesses and health.
Microfinance institutions are now innovating new products to help meet these needs, empowering
the world’s poor to improve their own lives. Products common used in the microfinance sector
today is:

Micro savings – A possibility to save money without no minimum balance. Allows people to
retain money for future use or for unexpected costs. In Self-Help Groups (SHGs) the members
save small amounts of money, as little as a few taka a month in a group fund. Members may borrow
from the group fund for a variety of purposes ranging from household emergencies to school fees.
As SHGs prove capable of managing their funds well, they may borrow from a local bank to invest
in small business or farm activities.

Micro insurance – Gives the entrepreneurs the chance to focus more on their core business which
drastically reduces the risk affecting their property, health or working possibilities. The is different
types of insurance services like life insurance, property insurance, health insurance and disability
insurance. The spectrum of services in this sphere is constantly expanded, as schemes and terms
of providing insurance services are determined by each company individually;

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Micro leasing – For entrepreneurs or small businesses who can´t afford buy at full cost they can
instead lease equipment, agricultural machinery or vehicles. Often no limitations of minimum cost
of the leased object;

Money transfer – A service for transferring money, mainly overseas to family or friends. Money
transfers without opening current accounts are performed by a number of commercial banks
through international money transfer systems such as Western Union, Money Gram, and Ria. On
the surface they may seem like small money transfers, but when one considers that such
transactions take place millions of times around the world each week, the numbers start to become
impressive. According to the World Bank, the annual global market for remittances – money
transferred home from migrant workers – is around 167 billion US dollars.

Microfinance Models:
8 Microfinance Lending Models (Types of MFIs)
1. Associations
An association is formed by the poor in the target community to offer microfinance
services (micro savings, microcredit, micro-insurance, etc.) to themselves. The association, which
can form on the basis of gender, religion, or political and cultural orientation of its members, then
gathers capital and intermediates between banks, MFIs and its members. Example: Self Help
Groups, SHGs (India).
2. Bank Guarantees
A donor or government agency guarantees microloans made by a microfinance/commercial
bank to an individual or group of borrowers. Compulsory deposits by borrowers in such banks are
also included in this model. Examples: Afri Cap Microfinance Fund (Mauritius), Bellwether
Microfinance Fund (India), Latin America Bridge Fund, Microfinance Credit Guarantee Facility
(Pakistan).
3. Community Banking/ Grameen Bank/ Village Banking
Community Banks/Village Banks are formal versions of ‘associations’ and are created by
members of a target community who wish to improve their living standards and to generate
employment. By offering microfinance services, these banks seek to develop their communities.
Guarantees are provided by social collateral (peer-pressure) as services are distributed through 5-
member groups where each member’s eligibility for loans is based on his/her peer’s performance.
Examples: Grameen Bank (Bangladesh), MuCoBa (Tanzania).
4. Cooperatives Co-operatives are very much like ‘associations and Community Banks’ except
that their ownership structure does not include the poor. A group of middle or upper class
individuals may form a co-op to offer microfinance services to the poor. Examples: Co-operative
Bank (England), Cooperative Rural Bank of Bulacan (Phillipines).

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5. Credit Unions
In a credit union, members of a target community gather their money and make loans to one
another at low interest rates. Compared to community banks, credit unions are smaller and non-
profit oriented, charging interest rates that merely allow sustainability. Example: Unión
Progresista Amatitlaneca (Guatemala), Vancity Credit Union (Canada).
6. Non-Governmental Organizations (NGOs)
Unlike community-based models, NGOs are ‘external organizations’ and their activities range
from offering microfinance services (loans, insurance, savings, etc.) to improving credit rating
of the poor, training, education and research. NGOs may also act as intermediaries between the
poor and donor agencies (UN, ADB, World Bank) and operate locally, as well as globally(through
a physical or online presence). Examples: ACCION International (headquarters in USA), KIVA
(Headquarters in USA), Kashf Foundation (Pakistan)
7. For-profit Banks
Commercial Banks, as well as specialized Microfinance Banks offer various financial services
tothe poor but the main purpose may be to secure a high return on investment. Unlike other models,
the aim is social development as well as financial progress, beyond institutional sustainability.
Read about a bank that exploited the poor under the guise of microfinance. Examples: Bank
Compartamos (Mexico), Khushali Bank (Pakistan)
8. Rotating Savings and Credit Associations (ROSCAs)
ROSCAs are small groups, typically composed of women, where each member makes
‘regular cyclical contributions into a common fund’, which is given entirely to one member at the
start of each cycle (weekly, monthly, quarterly). The benefit of this model is the matching of a
client’s cash flows with the loan, the ability to structure the deal without interest rates, and the
absence of over-head costs

Financial Sustainability and social cost of Microfinance Institution:

Generally, sustainability has been defined as performance, also the capability to recurrence
performance over time. It allows the continued operation of the microfinance provider and on-
going provision of financial services to the poor. Sustainability in MFIs concerns with the
capability of institutions to manage their operating costs through operating revenue generated from
their own operations without depending on external support or subsidy. Financial sustainability
of MFIs as the ability to operate microfinance objective without any support from donor.
Sustainability in MFIs generates continuous operation of the institution when donor and funding
partners are unable to arrange funds for operations. Hence, there is the question of how capable
are MFIs to run with operations in the future without depending on subsidies from donor’s
financial viability is measurable in two stages, Operation Sustainability (OSS) and Financial Self-
sufficiency. Operational sustainability refers to the ability of the Microfinance Institution to

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capture its operating costs from its operating income whether it is subsidized or not. However,
MFIs are financially self-sufficient when they are able to manage their both operating and
financing costs from their own generated income and other form of subsidy valued at market
prices.
The expense to an entire society resulting from a news event, an activity or a change in policy.
When assessing the overall impact of its commercial actions in terms of social costs, a socially
responsible business operator should take into account its own production expenses, as well as
any indirect expenses or damages borne by others.