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The Times of India / Lending A Helping Hand

Critics have suggested that some profit-minded microfinance institutions (MFIs) have failed to lower interest rates and are exploiting the poor. Others think MFIs should be non-profits or “sustainable non-profit maximising” entities focussed solely on social outcomes. 

Having followed microfinance for almost a decade and funded both for-profit (SKS which recently IPO-ed) and non-profit ventures ( CASHPOR), i believe each competing model has a role. For-profits are likely to scale faster, albeit with mixed goals and some abandonment of the less profitable ultra poor. Non-profits prove out new models and work in certain areas where for-profit ventures don’t work. 

Early this decade, i studied microfinance’s poverty alleviation potential with trips to India and toBangladesh, microfinance’s birthplace. My wife and i met with professor Muhammad Yunus and other pioneers. We met poor women learning about financial services that westerners take for granted. I also saw the ugly side of non-profits with valuable donor resources supporting studies that were done more for funding western researchers or to make large institutions’ self-serving justifications on impact while poor consumers were yearning for services in the marketplace. 

On that trip, we saw the human face of my studies: microfinance enables women to improve their socio-economic condition, and sometimes become successful local employers. The intelligence and drive these women exhibited mirrored that of Silicon Valley’s best entrepreneurs, for whom i had spent the previous decades providing venture assistance. Furthermore, world-class management techniques were pioneered by the for-profit MFIs like SKS to attain something no government or large organisation could have done. 

I concentrated on discovering the critical barriers to microfinance expansion. I saw that weaning MFIs from philanthropy was critical and that accessing capital markets is essential. Do we meet the people’s needs, or do we force-feed “acceptable” interest rates and throw the baby out with the bath water? If credit isn’t funded by “market” rates, its availability will be limited and necessarily rationed; most viable microfinance demand will go unfunded, something left-leaning critics and institutions cannot internalise. Even for poverty alleviation, “for profit” is key to scaling except in select uneconomic domains. 

We joined other entrepreneurs to backstop a $31 million fund “loss guarantee” organised by the Grameen Foundation. The project catalysed $170 million in commercial loans to MFIs without a single default. More than one million micro-loans were funded in diverse developing markets. Commercial banks opened their eyes and our “non-profit” support was no longer needed, “proving” MFI creditworthiness. The fund established a new economic model: an excellent goal for a non-profit effort. 

I learnt that strengthening the equity base of MFIs was vital, as many were converting from non-profit trusts to regulated financing institutions. My wife and i committed $5 million to invest in MFIs, and helped attract others and spur growth. These MFIs now serve 5-50 times more clients than five years ago, something that would not have been possible had they not gone “for profit”. A small equity investment in SKS has had more impact than the hundreds of millions spent by various non-profit efforts and it has made a profit for us of over Rs 400 crore, which we currently intend to use for non-profit purposes. A small risky investment has led to providing credit to the 30 million family members SKS serves, with 450,000 families (two million people) added monthly by SKS alone. 

Equity provided by social investors has prompted commercial investors, including private equity firms, to get involved. Their role is more controversial than that of commercial banks that provide loans. Reportedly, some have pushed MFIs to raise fees and interest rates, and prepare for IPOs that give them large financial exits. But capitalistic competition will minimise these profits before long. Our personal commitment is to channel any profits to other “capitalistic solutions for poverty” experiments done on a non-profit basis. There is a continuing need for social investors to instigate and demonstrate powerful new economic models. However, i suspect that global political efforts like MDG will remain largely ineffective or at least inefficient. 

What is needed to take micro-finance to the next level? First, microfinance must lead the financial services industry in responsible lending practices and stronger monitoring and regulation by authorities. Second, social investors can help countervail short-term financial objectives of purely commercial investors. Third, to ensure a poverty reduction ethos, means need to be developed to allow clients to directly benefit from IPOs. SKS’s IPO has created a significant non-profit Mutual Benefit Trust in India. Last, investments in technology R&D that improve efficiency of microfinance lending are critical. 

I suspect microfinance will open up cheaper distribution channels into the rural economy and accelerate rural GDP growth, ultimately having far more impact than most of the world’s foreign aid and similar non-scalable, non-sustainable efforts. Non-profits will pioneer new models until the “for-profits” come in to scale it, where possible. As the world moves beyond the financial crisis, partially caused by unethical lending practices, it is essential to ensure MFIs’ ethics remain above reproach. There will be abuses of this opportunity authorities need to be vigilant and responsive. Capitalism needs policy restraint in all arenas, poverty-related or otherwise.