Microfinance is the provision of financial to people who are living in poverty. The system is providing small loans to poor person who want to expand their business. A series of financial service include loaning, saving, insurance and so on. There are two main characteristic on microfinance. Firstly, it is focus on below average income person or poor person for their customers. Secondly, it must ensure that the possibility of its own sustainable development. The beginning of the activity was most closely associated with economist Muhammad Yunus in 1976. He was born in Bangladesh. Between 30 years, the success of Grameen Bank which was built by Yunus was noticed by the world. Then, microfinance has covered nearly development countries and some developed counties. In the case of the text book, microfinance was present by two extreme parts, macro success and global mess. For the macro success, lender loaned money to women in order to support their family. Then, much family got rid of poverty. By 2001, more than 7,000 microfinance institutions had served 120 million borrowers around the world. On the other hand, there are two debates lead to huge problems. Firstly, most of microfinance institution’s new shareholders were rich investors. Secondly, several competitive microfinance institutions loaned money to the same uneducated clients, if crop or ventures fail, clients would face crushing debt loads. For example, in some parts of India, almost 80% of borrowers were in default.
2. Case question 1
Therefore, what happen about microfinance? Does it macro success or global mess?
2.1 SWOT analysis
For the critical thinking of microfinance is SWOT analysis. SWOT analysis may help us know more about microfinance totally. There are two strengths for microfinance, the first one is that helped in decrease the poverty. The target of microfinance is to provide loans to poor people who want to start small business but cannot able to receive commercial bank help. For example, more than 350 million people in Indian below average income. The microfinance institutions offer the opportunity to them to start their own
business. So, microfinance helps in decrease the poverty. The second one is that promoting the development of local community. If every individual who receive small loans to become rich, the development of local community will be promoted. There are two weaknesses about the microfinance. First of all, it is not proper regulated on banking process. Due to lack of efficient rules and regulations there would lead to high case of credit risk and defaults. Moreover, microfinance institutions focus on less people only. For example, India’s 70% of people live in the village, that is to say that most of poor area haven’t been touched. For the opportunity of microfinance, there are two main points also. Initially, it still has huge untapped market. For example, Pakistan’s microfinance industry was developing faster already, with an expansion of nearly 47 percent during 2007 (AbanHaq, 2008). By the end of 2008, the borrowers had been extended to 1.7 million (Meher Shah, 2009). In addition, some small business which were loan from Microfinance institutions would provide much more employment opportunities. Microfinance institutions not only loan money to individual to start their business but also help in the increase the employment opportunity to them. There two threat analysis about microfinance as well. The first one is that over involvement of government. For example, in Indian, bank had freeze on credit to micro lenders for many times, it led to Indian’s microfinance industry pushed to the brink of collapse (India’s microfinance sector under threat, 2010). Furthermore, it is a high competition industry. For example, Indian’s commercial bank normally provides about US$ 133 a week in credit to the microfinance industry (India’s microfinance sector under threat, 2010). So, it is cause to high competition for much more applicant.
2.2 Why has microfinance been quite successful on worldwide basis? In the study case, 84% of microloan recipients are women(D’Espallier, Guérin, & Mersland, 2011). Therefore, it is easily find that most of microfinance institutions target to women. This is because that repayment is higher among female borrowers, they usually do more conservative investment and reduce moral hazard risk(D’Espallier, Guérin, & Mersland, 2011). On the other hand, when women improve their circumstances, they also improve the lives of their children. So, by investing in nutrition and education, they can help to create a better future for their children and their communities.
Furthermore, many microfinance institutions help much poorest families get rid of poverty. It is “to ensure that 175 million of the world’s poorest families, especially women, receive credit for self-employment and other financial and business services”(D’Espallier, Guérin, & Mersland, 2011). Thus, it absorbs global attention. In addition, the success of the Grameen Bank of Bangladesh indicated that a new business model had been created. Until recently, Grameen has reported repayment rates of 98% and serving over much more function to poor person (Morduch, 1999). This new business models was imitated by the world.
3. Case Question 2
Using agency theory, identify the area or improvement for the government of certain MFI have be found to engage in questionable practice. Microfinance institution is a party that helping poverty to do business by offering mini-loan. It is an agency of not only providing finance service to support poverty but also an organization contributes to society. The main problem of lending money to pool people is high risks of returning the money. The pool people, who are lack of educations, experience and need more train to return to the job. As an agency the “principal” (top managers) require profit while loan office is less concern about the interest.
3.1 Agency theory
Agency theory explains the relationship between principals and agents. The objective about this theory is to identify and resolve the problem and conflict between principal and the agent of the principal. The two problems agency theory addresses are: * Problem of desire goal of principal and agent are in conflict. * Problem of different acts in managing the risk.
This theory had been used in examining the relationship of agency, define as “a contract under which one or more persons (the principal) engage another person (the agent) to perform some on their behalf which involves delegating some decision making authority to the agent” (Jensen & Meckling, 1976) The following equation shows the result of problem come from. The utility of the principal will focus on return, whereas the utility of the agent will focus on the income. Agent wants to increase the income while the principal
refers to more return. As the result, there is a trade-off exist in between. UP (R) = 1/UA (I)
UP = Utility of the principal
UA= Utility of the agent
R = Returns
In consequent, to resolve the problem is to design the ideal contract. There are two types of contracts design for such problem: behavior-based contracts and outcome-based contracts. Behavior-based contract, the principal monitor, measure and reward the base on the agent’s behavior (Bergenetal, 1992). The outcome-based contract, the agent will be rewarded according to the realized outcome (Bergenetal, 1992).
3.2 Porter’s Five Forces
Porter’s five forces is concept for analyzing industry and developing strategy of a company to position business. Base on this concept to understand microfinance industry environment. Investors always seek for return; the industry environment will impact how efficient the decision made for profit.
There are many investors in market; those can divide into two types, commercial investor and faith investor. The faith investors are not seeks for profit, but long term poverty alleviation. (Cranenburgh, 2010)Commercial investors are looking for return because the capital market is cheaper. Unfortunately there are most MFI remain lending money to pool people are informal which the stakeholder are commercial investor. Threat of new entrants (High)
Commercial investors are better in positioning that they have better access than financial service expertise. Low entrant capital require lead to low entrant standard require. The investors seeks return, it cause high impact
in investment. Commercial investors look for short term invest, and it can be re-enter for commercial investment as a cycle. Threat of substitute (Medium)
Poor people need money of making living and other social purpose (education, insurance, sickness.eg) for life long. In India, the Reserve Bank of India (RBI) provides life insurance for poverty to improve the life expenses under the microfinance category. In many other countries, MFI design new financial service according to the need of poverty which charge very low interest. Internal rivalry
In fact, the intensity of competition is depends upon the size of the company in the game. As entrant barrier low, the major operators in industry are informal institution (SHGs, MFI and NGOs). The competition will increase when an established organization goes into market and implement promotional strategy for boosting out of bad situation as it is weak. In additional, some formal bank start to do financial support with the help of other commercial organization like provide loan for SHGs. This factor will attract more operators in market.
3.3 Challenge Facing by Microfinance
The microfinance system is separated in three levels: micro, meso and macro. To understand the function of those levels activity, identify the challenge MFIs are facing by governance.
Source: Adapted from Helms, Access for All
The micro level activity includes both perspectives of clients and MFI. The problem comes out from the borrower’s perspective is limitation of financial support. This would cause predatory lending practices. From the clients’ perspective, the problem relate to the managerial experience of clients, how they manage the funds and sustainable funds. The meso level is about services and infrastructures. The MFI need strong backup to support ongoing financing lending process. Limited capacity would terminate the funds to borrower. The macro level consists of central bank, finance ministries and other financial department. The problem comes out the potential risk when
new policy established (monetary and currency, egg). The failure of systemic function would lead to a collapse of MIFs. 4. Case Question 3:
ON ETHICS: Given the criticisms that “the rich have literally profited from the dirt poor”. Do you have any reservations about investing in MFIs that have gone through IPOs? Microfinance is a key thing that can help people living in poverty to become financially independent. It is better able to provide for their families in times of economic difficulty. Considering nearly half of world in less than two dollars a day to survive, microfinance is an important solution. However, microfinance has its shortcomings. Thus, in our opinion about this question, we are neutral. Here are advantages and disadvantages in below.
Access Banks will not extend loans to those with little or no assets, and generally so not engage in small size of loans associated with micro-financing companies. Microfinance is based on the concept that even small amounts of credit can help end the vicious cycle of poverty. Extending education
Families receiving microfinance are less likely to pull their children to leave school for economic reasons. Improve health and welfare
Microfinance can lead to better access to clean drinking water and better sanitation, and providing better access to health care as well. Sustainability
In the developing country, even a small working capital loans $100. It can be launch a small business. Benefactors can help pulling themselves and their families out of the poverty. For example, a 19-year-old girl named Salamatu, from Sierra Leone started selling rice business (Kate, 2011). When her father and brother died, she could not pay the school fees by her own. She joined a local saving and Loans Group Plan in her community. This group can give small loans to them. Salamatu took out two loans. One is starting a small rice selling business and one is paying for her school fees (Kate, 2011). Job creation Microfinance can help create new jobs. It has a beneficial impact on the local economy. 4.2 Disadvantages
Some investors who are interested in specific microfinance IPO must be wary (wise GEEK, 2012). Because some microfinance institutions are free with funding to the poor, but require excessive interest payments in return. This can put a person into a wore financial hole. This would cause social unrest.
MFIs in India increased the risks. MFIs might face increased pressure to provide the assets and income growth (Jennifer, 2010). Thus it would increase default risk. In addition, because of high yield investors’ interests, microfinance institutions issuing high risk loans. This could cause valuation issues. However, lenders often could not perform. Because India does not have national systems that track the borrower’s credit history (Jennifer, 2010).
Firstly, we give the reason of microfinance has been successful. Secondly, we identify the areas for improvement of MFIs. Then, we provide the two parts – advantages and disadvantages. Some considering buying into microfinance IPO should be carefully examined, and understand the company and its specific practices, then proceeding. Microfinance is not always appropriate. For extreme poor, or those who are sick or unable to work, microfinance may not be an appropriate tool. Bibliography
India’s microfinance sector under threat. (2010, November). Australian Banking & Finance, p. 20. Cranenburgh, K. C. (2010). Analysis of the Microfinance Sector Faith Institutions and Impact Investing. International Interfaith Investment Group, 37-38. D’Espallier, B., Guérin, I., & Mersland, R. (2011, 5). Women and Repayment in Microfinance: A Global Analysis. World Development, pp. 758-772. Haq, A. (2008). Microfinance Industry Assessment: A Report on Pakistan. Islamabad Pakistan: Pakistan Microfinance Network (PMN). Jongbloed, K. (2011). DIY Banks Make Education Possible For Girls. Retrieved from http://blog.becauseiamagirl.ca/diy-banks-make-education-possible-for-girls Meher Shah, A. N. (2009). Spot light on microfinance. Micro note. Islamab: Pakistan Microfinance Network (PMN). Morduch, J. (1999, October). The role
of subsidies in microfinance: evidence from the Grameen Bank. Journal of Development Economics, pp. 229-248. Shevock, J. (2010). Microloan Default Risk Rises in India as SKS Microfinance Plans Initial Public Offering (IPO). Retrieved from http://www.microcapital.org/microcapital-brief-microloan-default-risk-rises-in-india-as-sks-microfinance-plans-initial-public-offering-ipo/ WiseGEEK. (2012). What Is a Microfinance IPO? . Retrieved from http://www.wisegeek.com/what-is-a-microfinance-ipo.htm