3. A new banking model

For how long can a microcredit programme function?

Authors: Péter Futó, Márton Gosztonyi, Mehdi Hasan

Sustainability and social mission. Sustainability in general means the ability of a model or program to continuously carry out activities and services in pursuit of its objectives. In case of microcredit, the major factors of sustainability are interest rate and guarantees. A microcredit scheme with low interest rates and no collateral contributes to poverty alleviation, but involves high risks regarding its sustainability: its continuous survival may depend on external donors. Public and private donor funds and government funds continue to be important subsidies to ensure the sustainability of many microfinance organisations. Grameen Bank charges its poor clients around 20 percent interests for microloans and works without collaterals. The Grameen group lending approach spreads the risk of default and the associated costs among the members of borrower groups.

A social enterprise is an organization that applies commercial strategies to maximize improvements in human well-being and the protection of the environment. In most countries social enterprises enjoy a more favorable tax rate than profit-oriented firms. Grameen Bank defines its mission as poverty alleviation and claims to be a social enterprise.

Relationship between interest rates and sustainability. In microcredit schemes, credit interest rates are frequently higher than bank interest rates, because the costs of making many small loans are higher in percentage terms than the costs of making a few larger loans. Microcredit is frequently accompanied by training, consultancy, organisation of self-help groups, moreover clients frequently live in remote areas and are illiterate. It is expensive to go to these clients’ doorsteps and to monitor their income generating projects and the repayments. Unless microcredit organizations charge high interest that cover all administrative costs, plus the cost of capital (including inflation) and loan losses, they may only operate for a limited time and may reach only a limited number of clients. In particular, programs targeting vulnerable populations can offer low interest rates only with donor or government support. These programs have generally suffered low repayment rates, and limited growth, because clients often view these loans as one-off “gifts” that need not be repaid.

Problems of donor involvement. Governments or private donors frequently subsidize microcredit programmes in order to keep interest rates low. But interest rate subsidies may distort credit markets and the competition among small businesses, and may also encourage the unfair use of Government funds. Microcredit institutions supported by external funds might end up being driven by donor or government goals, not by client needs. Government supported microcredit institutions have a tendency to become bureaucratic and inefficient, similarly to some Government agencies. Another disadvantage of government involvement is that subsidized microcredit organizations might fail to be sustainable because they are not exposed to the effects of the competition of financial institutions.

Discussion points:

• Should microcredit programmes function for a long time, for many years? Why?
• Do Governments have some task in relation to microcredit programmes? What? Why?

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Grameen Bank (ESP)

A mikrohitel programok fenntarthatósága (HUN)