MICRO FINANCE CREDIT LENDING MODELS ACROSS THE WORLD

MICRO FINANCE CREDIT LENDING MODELS ACROSS THE WORLD

Introduction

"Microfinance:Credit Lending Models" is an attempt to document the various models currently being used by microfinance institutions throughout the world.

A total of 14 models are described below. They include, associations, bank guarantees, community banking, cooperatives, credit unions, grameen, group, individual, intermediaries, NGOs, peer pressure, ROSCAs, small business, and village banking models.

In reality, the models are loosely related with each other, and most good and sustainable microfinance institutions have features of two or more models in their activities.

Many of these models are in deed "formalized" versions of informal financial systems. Informal systems have historical precedents that predate modern banking systems. They are still in existence today used mostly by low-incoe households who do not have access to formal banks. GDRC has developed a continuum of informal credit suppliers that clearly illustrates the link between such informal systems and the models illustrated below.

The models were developed through extensive field work/observations and interviews carried out in India, Thailand, Philippines, Indonesia and Sri Lanka, and includes information from literature as well.

Associations Model

This is where the target community forms an 'association' through which various microfinance (and other) activities are initiated. Such activities may include savings. Associations or groups can be composed of youth, women; can form around political/religious/cultural issues; can create support structures for microenterprises and other work-based issues.

In some countries, an 'association' can be a legal body that has certain advantages such as collection of fees, insurance, tax breaks and other protective measures. Distinction is made between associations, community groups, peoples organizations, etc. on one hand (which are mass, community based) and NGOs, etc. which are essentially external organizations.

Closely related to the group model and similar models.

Bank Guarantees Model

As the name suggests, a bank guarantee is used to obtain a loan from a commercial bank. This guarantee may be arranged externally (through a donor/donation, government agency etc.) or internally (using member savings). Loans obtained may be given directly to an individual, or they may be given to a self-formed group.

Bank Guarantee is a form of capital guarantee scheme. Guaranteed funds may be used for various purposes, including loan recovery and insurance claims. Several international and UN organizations have been creating international guarantee funds that banks and NGOs can subscribe to, to onlend or start microcredit programmes.

Community Banking Model

Community Banking model essentially treats the whole community as one unit, and establishes semi-formal or formal institutions through which microfinance is dispensed. Such institutions are usually formed by extensive help from NGOs and other organizations, who also train the community members in various financial activities of the community bank.

These institutions may have savings components and other income-generating projects included in their structure. In many cases, community banks are also part of larger community development programmes which use finance as an inducement for action.

Closely related to the village banking model.

Cooperatives Model

A co-operative is an autonomous association of persons united voluntarily to meet their common economic, social, and cultural needs and aspirations through a jointly-owned and democratically-controlled enterprise. Some cooperatives include member-financing and savings activities in their mandate.see the International Cooperative Alliance website for more details.

Credit Unions Model

A credit union is a unique member-driven, self-help financial institution. It is organized by and comprised of members of a particular group or organization, who agree to save their money together and to make loans to each other at reasonable rates of interest.The members are people of some common bond: working for the same employer; belonging to the same church, labor union, social fraternity, etc.; or living/working in the same community. A credit union's membership is open to all who belong to the group, regardless of race, religion, color or creed.A credit union is a democratic, not-for-profit financial cooperative. Each is owned and governed by its members, with members having a vote in the election of directors and committee representatives.

Grameen Model

The Grameen model emerged from the poor-focussed grassroots institution, Grameen Bank, started by Prof. Mohammed Yunus in Bangladesh. It essentially adopts the following methodology:

A bank unit is set up with a Field Manager and a number of bank workers, covering an area of about 15 to 22 villages. The manager and workers start by visiting villages to familiarize themselves with the local milieu in which they will be operating and identify prospective clientele, as well as explain the purpose, functions, and mode of operation of the bank to the local population.

Groups of five prospective borrowers are formed; in the first stage, only two of them are eligible for, and receive, a loan. The group is observed for a month to see if the members are conforming to rules of the bank.

Only if the first two borrowers repay the principal plus interest over a period of fifty weeks do other members of the group become eligible themselves for a loan.

Because of these restrictions, there is substantial group pressure to keep individual records clear. In this sense , collective responsibility of the group serves as collateral on the loan.

More information on Grameen Bank can be found in the Case Studies section.

Group Model

The Group Model's basic philosophy lies in the fact that shortcomings and weaknesses at the individual level are overcome by the collective responsibility and security afforded by the formation of a group of such individuals.

The collective coming together of individual members is used for a number of purposes: educating and awareness building, collective bargaining power, peer pressure etc.

The Group model is closely related to, and has inspired, many other lending models. These include Grameen, community banking, village banking, self-help, solidarity, peer pressure etc.

One example of the Group Model is "Joint Liability". When a group takes out a loan, they are jointly liable to repay the loan when one of the group's members defaults on the repayments.

Several resources for the group model can be found in the Capacity Building for Microfinance section.

Individual Model

This is a straight forward credit lending model where micro loans are given directly to the borrower. It does not include the formation of groups, or generating peer pressures to ensure repayment.

The individual model is, in many cases, a part of a larger 'credit plus' programme, where other socio-economic services such as skill development, education, and other outreach services are provided.

Intermediaries Model

Intermediary model of credit lending positions a 'go-between' organization between the lenders and borrowers. The intermediary plays a critical role of generating credit awareness and education among the borrowers (including, in some cases, starting savings programmes. These activities are geared towards raising the 'credit worthiness' of the borrowers to a level sufficient enough to make them attractive to the lenders.

The links developed by the intermediaries could cover funding, programme links, training and education, and research. Such activities can take place at various levels from international and national to regional, local and individual levels.

Intermediaries could be individual lenders, NGOs, microenterprise/microcredit programmes, and commercial banks (for government financed programmes). Lenders could be government agencies, commercial banks, international donors, etc.

Most models mentioned here invariably have some form of organizational or operational intermediary - dealing directly with microcredit, or non-financial services. Also called the 'partnership' model. Specifically see NGOs.

NGO Model

NGOs have emerged as a key player in the field of microcredit. They have played the role of intermediary in various dimensions. NGOs have been active in starting and participating in microcredit programmes. This includes creating awareness of the importance of microcredit within the community, as well as various national and international donor agencies.

They have developed resources and tools for communities and microcredit organizations to monitor progress and identify good practices. They have also created opportunities to learn about the principles and practice of microcredit. This includes publications, workshops and seminars, and training programmes.

Peer Pressure Model

Peer pressure uses moral and other linkages between borrowers and project participants to ensure participation and repayment in microcredit programmes. Peers could be other members in a borrowers group (where, unless the initial borrowers in a group repay, the other members do not receive loans. Hence pressure is put on the initial members to repay); community leaders (usually identified, nurtured and trained by external NGOs); NGOs themselves and their field officers; banks etc.

The 'pressure' applied can be in the form of frequent visits to the defaulter, community meetings where they are identified and requested to comply etc.The Grameen model extensively uses peer pressure to ensure repayment among its borrower groups.

ROSCA Model

Rotating Savings and Credit Associations or ROSCAs, are essentially a group of individuals who come together and make regular cyclical contributions to a common fund, which is then given as a lump sum to one member in each cycle.

For example, a group of 12 persons may contribute Rs. 100 (US$33) per month for 12 months. The Rs. 1,200 collected each month is given to one member. Thus, a member will 'lend' money to other members through his regular monthly contributions.

After having received the lump sum amount when it is his turn (i.e. 'borrow' from the group), he then pays back the amount in regular/further monthly contributions. Deciding who receives the lump sum is done by consensus, by lottery, by bidding or other agreed methods.

Small Business Model

The prevailing vision of the 'informal sector' is one of survival, low productivity and very little value added. But this has been changing, as more and more importance is placed on small and medium enterprises (SMEs) - for generating employment, for increasing income and providing services which are lacking.

Policies have generally focussed on direct interventions in the form of supporting systems such as training, technical advice, management principles etc.; and indirect interventions in the form of an enabling policy and market environment.

A key component that is always incorporated as a sort of common denominator has been finance, specifically microcredit - in different forms and for different uses. Microcredit has been provided to SMEs directly, or as a part of a larger enterprise development programme, along with other inputs.

Village Banking Model

Village banks are community-based credit and savings associations. They typically consist of 25 to 50 low-income individuals who are seeking to improve their lives through self-employment activities.

Initial loan capital for the village bank may come from an external source, but the members themselves run the bank: they choose their members, elect their own officers, establish their own by-laws, distribute loans to individuals, collect payments and savings. Their loans are backed, not by goods or property, but by moral collateral: the promise that the group stands behind each individual loan.

The Village Banking model is closely related to the Community Banking and Group models. This model is widely adopted and implemented by FINCA. See their Village Banking Homepage.

MICRO FINANCE INSTITUTIONS::

Microfinance or Micro Credit is defined as provision of thrift, credit and other financial services and products of very small amount to the poor in rural, semi-urban and urban areas for enabling them to raise their income levels and improve living standards.

Since the latter half of 2010 Micro Finance Institutions (MFIs) have come under the scanner of public and journalistic scrutiny, particularly in Andhra Pradesh, due to a variety of reasons.

RBI constituted a Sub-Committee of the Central Board of Directors of RBI headed by Shri Y. H. Malegam, commonly known as Malegam Committee, to study Issues and Concerns in the MFI Sector in October 2010. The committee has now presented its report.

A microfinance institution (MFI) is an organization that provides financial services to the poor. This very broad definition includes a wide range of providers that vary in their legal structure, mission, and methodology. However, all share the common characteristic of providing financial services to clients who are poorer and more vulnerable than traditional bank clients.

Alternatively, MFIs are institutions devoted exclusively to microfinance.

Microfinance Microfinance or Micro Credit is defined as provision of thrift, credit and other financial services and products of very small amount to the poor in rural, semi-urban and urban areas for enabling them to raise their income levels and improve living standards. Formally, microfinance service has been defined in the Microfinance Services Regulation Bill as providing financial assistance to an individual or an eligible client, either directly or through a group mechanism for:

 i. an amount, not exceeding rupees fifty thousand in aggregate per individual, for small and tiny enterprise, agriculture, allied activities (including for consumption purposes of such individual) or

ii. an amount not exceeding rupees one lac fifty thousand in aggregate per individual for

housing purposes, or

iii. such other amounts, for any of the purposes mentioned at items (i) and (ii) above or other purposes, as may be prescribed.

Categorization of MFIs

MFIs can be categorized as formal, semi-formal or informal.

Formal MFIs are defined as those that are subject not only to general laws but also to specific banking regulation and supervision (development banks, savings and postal banks, commercial banks, and non-bank financial intermediaries).

Formal providers may also be any registered legal organizations offering any kind of financial services.

Semiformal MFIs are registered entities subject to general and commercial laws but are not usually under bank regulation and supervision (financial NGOs, credit unions and cooperatives). Informal MFIs are non-registered groups such as rotating savings and credit associations and self-help groups.

Ownership structures

MFIs can be government-owned, like the rural credit cooperatives in China; member-owned, like the credit unions in West Africa; socially minded shareholders, like many transformed NGOs in Latin America; and profit-maximizing shareholders, like the microfinance banks in Eastern Europe. The types of services offered are limited by what is allowed by the legal structure of the provider: non-regulated institutions are not generally allowed to provide savings or insurance.

Role MFIs could play a significant role in facilitating inclusion, as they are uniquely positioned in reaching out to the rural poor. Many of them operate in a limited geographical area, have a greater understanding of the issues specific to the rural poor, enjoy greater acceptability amongst the rural poor and have flexibility in operations providing a level of comfort to their clientele.

Current Issues

Since the latter half of 2010 Micro Finance Institutions (MFIs) have come under the scanner of public and journalistic scrutiny, particularly in Andhra Pradesh, due to a variety of reasons ranging from the issue of corporate governance in one of the leading MFIs to rural suicides purportedly caused by strong arm recovery tactics of MFIs. Following reports of rural distress apparently caused by the ‘avarice’ of MFIs, the Andhra Pradesh govt. sought clarification from the RBI on regulation of MFIs, specially regarding cap on interest rate. The RBI took the stance that it could regulate only the activities of MFIs registered with it as non-banking finance companies. Although these cover over 80% of microfinance business, in terms of numbers they comprise a small percentage of the total numbers of MFIs in the country. Subsequently, RBI constituted s Sub-Committee of the Central Board of Directors of RBI headed by Shri Y. H. Malegam, commonly known as Malegam Committee, to study Issues and Concerns in the MFI Sector in October 2010. The committee has now presented its report..

 Malegam Committee Report

The Sub-committee has made a number of recommendations to mitigate the problems of multiple-lending, over borrowing, ghost borrowers and coercive methods of recovery.

These include :

1. A borrower can be a member of only one Self-Help Group (SHG) or a Joint Liability Group (JLG)

2. Not more than two MFIs can lend to a single borrower

3. There should be a minimum period of moratorium between the disbursement of loan and the commencement of recovery

4. The tenure of the loan must vary with its amount

5. A Credit Information Bureau has to be established

6. The primary responsibility for avoidance of coercive methods of recovery must lie with the MFI and its management

7. RBI must prepare a draft Customer Protection Code to be adopted by all MFIs

8. There must be grievance redressal procedures and establishment of ombudsmen

9. All MFIs must observe a specified Code of Corporate Governance

For monitoring compliance with regulations, the Sub-Committee has proposed a four-pillar

approach with the responsibility being shared by MFIs, industry associations, banks and RBI.