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Monthly Archives: November 2009

Helping the poor just got popular

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Helping the poor just got popular

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By Sophia Grene,  Published: November 8 2009, Financial Times

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Since Muhammad Yunus won the Nobel prize in 2006 along with the Grameen Bank he founded for the poverty-bound entrepreneurs of Bangladesh, microfinance has entered the consciousness of the investment community.

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The concept of lending small amounts to very poor women, each borrower part of a group that is jointly responsible for repayment, has been extended and modified as it moved to different economies with other requirements. The common thread is providing relatively small loans to people who would otherwise not have banking facilities.

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While the original concept was all about lending a helping hand to lift people out of poverty, the inevitable result of the structure was that investors would see it as an opportunity.

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Grameen Bank itself cannot look for investment from outside Bangladesh for legal reasons, but a myriad of other microfinance institutions are not so bound and globally some $7bn (£4.2bn, €4.7bn) is invested in MFIs. An equivalent amount is committed by donation, but the invested money is expected to be repaid with interest.

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More than half of this money is from development finance institutions – state-led banks with a mandate to focus on poverty alleviation – but the rest comes from the private sector, institutional and retail investors hoping to get a return on their money.

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Triodos Investment Management has a retail fund with a track record going back six years, giving investors an annual return between 6 and 9 per cent. Last year, with the global financial system collapsing round our ears, the fund returned 7.5 per cent.

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This lack of correlation with the rest of the financial world is one reason for investors to put their money into microfinance, but it seems not to be the main one.

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“For retail investors, it’s the social aspect – in general they are not looking for the highest financial return,” says Marilou van Golstein Brouwers, managing director of Triodos Investment Management.

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“Institutional investors have to care more about return because of their fiduciary duties, but they are increasingly looking to invest some or all of their portfolios responsibly.”

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Asad Mahmood, who runs a social investment unit at Deutsche Bank, agrees. “You have to understand the duality of purpose. It is not a philanthropic effort, but nor is it wholly commercial. It is a new hybrid,” he says. Institutional investors, he suggests, come to the asset class with an enthusiasm for doing good, enabled to do so while fulfilling their fiduciary duty by the potential returns.

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Those returns are not all as straightforward as those of the Triodos fund. Mr Mahmood says he is just about to close a fund with several layers of debt- holders. The interest on senior debt – which gets paid out first – is 7 per cent, not to be sniffed at in the prevailing low interest rate environment. Investors prepared to take more risk can opt for a tranche of the investment paying 16 per cent, provided the underlying loan portfolio has a sufficient yield. This seems like a substantial profit to make out of lending to the poor, and Mr Mahmood is conscious of the dangers.

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“If you are providing financing to the poor and your only motivation is maximising profit, pretty soon there will be abuse.” He cites examples like the subprime mortgage brokers who foisted unaffordable mortgages on house buyers to generate commission for themselves.

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“As the industry grows, you will have differently motivated investors coming in. Some people will be interested in the low correlation, which is fine, but I don’t want people who are solely concerned with profit maximising to come in.”

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Nevertheless, pension funds have committed about $3bn to the asset class, according to a recent report from the World Microfinance Forum. Dutch pension funds PGGM and ABP have led the way with allocations of €200m and €180m respectively.

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The global financial crisis has not had a huge impact on the levels of investment in microfinance, according to research from Intellecap that appeared in specialist magazine Microfinance Insight earlier this year. What has changed is the form of the investment.

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Private equity microfinance investment is a growing sector. When global liquidity dried up, “the spread for debt financing was incredible”, says Mr Mahmood. “Equity financing was easier to raise.” According to further research from Intellecap, private equity investors have seen recent developments as much in the light of an opportunity in microfinance as a problem. Low valuations of the existing institutions and the low correlation of returns on microfinance with the global economic system make it an attractive proposition.

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Triodos’s fund is one-third equity, with the rest in debt.

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Microfinance is not immune to criticism. For many, it has strayed too far from Mr Yunus’s original idea of social lending; many microfinance institutions in eastern Europe and Latin America lend to established businesses, becoming essentially indistinguishable from traditional banks in the small and medium-sized enterprise sector.

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Others are uncomfortable with the idea of charging what can seem like punitively high interest rates to poor borrowers – microfinance is resource-intensive as lending has to be informed by detailed understanding of borrowers’ ability to pay in relatively informal economies.

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Still others see it as simply too small to make a difference – less than $15bn of capital globally is not going to change the world. But for investors who want to do something socially useful with their money, it looks set to remain an attractive option.

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Copyright The Financial Times Limited 2009.

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The Berlin Wall of Aid: When Will It Fall?

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The Berlin Wall of Aid: When Will It Fall?

Top-down economic development in Africa hasn’t worked. Here’s an alternative.

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By GLENN HUBBARD, Wall Street Journal – November 9, 2009

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On November 9, Germany and the world will celebrate the 20th anniversary of the fall of the Berlin Wall. The fall marked the end of Eastern Europe’s failed system of state-run economic development. But systems of top-down economic development continue in most of the poor countries of the world, where aid donors continue to fund government development projects despite their decades of failure. Why is this so? Why has the “Berlin Wall of Aid” not fallen despite its record of failure?

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The answer is simple: the Soviet Union controlled the system throughout Eastern Europe. Once Mikhail Gorbachev decided to stop supporting the system by force, it crumbled. In poor countries today, the system is fragmented among dozens of unconnected national governments and dozens of unconnected aid donors. There is no Gorbachev to pull the plug. So the failing aid system continues, and unfortunately, there is no obvious remedy on the horizon.

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The failure is not hard to diagnose. Prosperous countries developed their wealth through the growth of a domestic business sector. India and China are only the most recent examples. A thriving local business sector is the only path to prosperity and business the world has ever known.

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Let’s look at the World Bank’s Doing Business report, which ranks countries by how easy it is for local citizens to start and run businesses. Among 183 countries, the former Soviet Union make up 20 in the top half and only eight in the bottom half. Georgia is highest at 11 and Tajikistan is lowest at 152. From sub-Saharan Africa, only six countries are in the top half while 38 are in the bottom half. Mauritius is highest at 17, and the Central African Republic is lowest at 183. The former Soviet bloc has come a long way in its shift from government economic development to the local business sector. But Africa has much, much further to go.

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There have been three recent calls to tear down Africa’s aid wall: George Ayittey’s Africa Unchained, William Easterly’s White Man’s Burden, and Dambisa Moyo’s Dead Aid. Many observers agree with them, but these calls fall mostly on deaf ears among the people in power: the heads of aid agencies and the leaders of poor countries. It is in the interest of many of them for aid to continue. In our recent book “The Aid Trap: Hard Truths About Ending Poverty,” my colleague William Duggan and I suggest an alternative. Instead of halting aid, we can shift much of it from government-directed projects to the local business sector. And we have a compelling precedent — the Marshall Plan of post-war Europe. It made loans to local businesses, which paid them back to their local governments, who then used the money for commercial infrastructure to help those same businesses.

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The world recognizes the Marshall Plan as the most successful aid program in history. We find smaller versions in post-war Japan, South Korea and Taiwan, and in Eastern Europe – as Enterprise Funds – after the fall of the Wall. But the central mechanism of the Marshall Plan can adapt to any kind of economy. Post-war Greece was small, war-torn and very poor–in some respects like most of Africa today–and the Marshall Plan in Greece was a great success.

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Can the aid system shift, or is it too inflexible – like the Soviet system was – to adapt to a new Marshall Plan? We can find some encouragement in two changes in the aid system over the past two decades: it has accommodated NGO projects and microfinance alongside government programs. Humanitarian aid especially works best through NGOs, and microfinance has helped millions of poor people start and run micro-businesses across the world. These major shifts over the past two decades show that the aid system has some ability to adapt beyond its traditional form of government development projects.

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But NGOs can’t raise people out of poverty — only local business can do that. And microfinance operates in most poor countries below the radar with unregistered companies that can’t get formal loans or join the normal business sector. Small and medium-sized businesses, not microfinance, generate the jobs and demand that lift poor countries out of poverty. That’s how it happened in Western Europe, the United States, East Asia and now China and Eastern Europe.

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A Marshall Plan would continue aid to poor countries, but directs it in a way that can actually lead to prosperity. The growth of NGOs and microfinance show that the aid system can adapt. But the shift to local business will be harder, because it is a more fundamental change of the economic system. NGOs and microfinance can operate alongside government development projects while local businesses are a direct alternative to them.

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The Marshall Plan might not be the only way to shift large amounts of aid to the local business sector in poor countries. If there is an easier or faster way, all the better. But the time has come for the Berlin Wall of aid to fall. Sub-Saharan Africa is as poor today as it was 50 years ago despite increases in foreign aid.

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The Berlin Wall lasted only 28 years, from 1961 to 1989. How long will the aid wall last? Who will tear it down?

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Mr. Hubbard, dean of Columbia Business School, was chairman of the U.S. Council of Economic Advisers from 2001 to 2003. He and William Duggan are co-authors of “The Aid Trap: Hard Truths About Ending Poverty” (Columbia, 2009).

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Microfinance Mission Drift?

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Microfinance Mission Drift?

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By Roy Mersland and R. Øystein Strøm, published by Elsevier Ltd, July 2009

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This paper studies the tendency of microfinance institutions (MFIs), as they grow, to cater to groups that are different from those normally considered to fall under the “mission” of microfinance. Generally, this mission includes serving low-income people who have less access to credit – often poor, rural women. To investigate this possible mission drift, loan size, lending methodology and gender bias were studied in 379 MFIs in 74 countries using data taken over 4 to 6 years. Average loan size did not increase from 1999 to 2007.

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There has not been a move from group-liability to individual-liability loans. Nor has there been an increased proportion of urban loans compared to rural loans. However, there is less gender bias now, meaning that the tendency to lend to females more than to males has decreased. Overall, the authors feel that there has not been a mission drift in microfinance.

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The average loan size from 1999 to 2007 was USD 747, adjusted for purchasing power parity (PPP). The authors consider this to be a relatively small loan size. Furthermore, the average loan size has decreased by 2.2 percent from 1999 to 2007. This is seen by the authors as evidence that low-income borrowers are still being targeted by MFIs. Lending methodology was measured to compare group and individual lending. The authors found that most loans are made to individuals.

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However, group lending increased by 3.3 percent during this period compared to individual lending. The authors view this as a sign that microfinance continues to meet its mission. It has also been tradition that MFIs would target rural regions more than cities as the former are generally thought to have less access to mainstream credit. The authors found that rural lending grew by 9.5 percent from 1999 to 2007 compared to urban lending.

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Lastly, the authors find that there has been a decrease of 35 percent from 1999 to 2007 in terms of preference for female clients. Though this may seem inconsistent with the microfinance “mission,” it does indicate less gender bias. Therefore, the authors do not see this result as particularly harmful and claim that it does not necessarily indicate mission drift.

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Microlending in India Continues Macro Growth

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OCTOBER 26, 2009
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Microlending in India Continues Macro Growth

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By KETAKI GOKHALE

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NEW DELHI — Despite last year’s global financial meltdown, the microfinance industry has continued to boom in India because of an influx of private equity and bank funding, according to a new study.

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India Microlending

AFP/Getty Images.

An Indian fisherman throws his net as he tries to catch fish in northeastern Tripura state capital Agartala.

Microlenders recorded a 60% increase in clients in India, to 22.6 million in the year ended March 31, 2009, from 14.1 million the previous year, according to a report from Access Development Services, a New Delhi-based nonprofit serving the microfinance industry. Microlenders lend small amounts of money to groups of poor people, mainly to help foster entrepreneurship and trade.

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In contrast, the formal banking system in India recorded 15% growth over the same period in the number of poor and underserved clients it serves, expanding its reach to 54 million clients from 47.1 million clients, according to the study. For the last 15 years, the formal banking system has been partnering with nongovernmental organizations to deliver loans to people living below the poverty line (around 20,000 rupees a year, or $430) and people who live in remote areas.

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At the current growth rate and with larger loan sizes, microlenders might outstrip the formal banking sector in lending volumes within a few years, said N. Srinivasan, the author of the study.

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The surge in microloans has been fueled by a brisk flow of funds in the third quarter of this year, with about $130 million in global private-equity funds funneled into Indian microfinance institutions, according to the Center for Microfinance in Chennai.

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“In the middle of last year, we thought for a while the meltdown would strike this sector, but we’ve seen that it’s been largely unscathed,” said Vipin Sharma, chief executive of Access Development Services. “Growth is as frenetic as it was before.”

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Mainstream banks, in both the private and public sectors, are increasingly considering channeling funds into microfinance banks rather than directly to India’s poor. Four public-sector banks and three private-sector banks entered microfinance this year, making for a total of roughly 30 banks invested in Indian microfinance. Total bank funding for microlenders nearly doubled to $2.526 billion from $1.281 billion in the year ended March 31 from the previous year.

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Some foreign banks have reduced their exposure to microfinance in response to the global economic downturn and less liquidity, and smaller regional microlenders are having a hard time accessing bank funds because of a recent loan repayment revolt in the southern state of Karnataka, Mr. Srinivasan said. Borrowers in two rural districts stopped repaying their loans en masse at the urging of local religious authorities who felt that microfinance had taken too strong of a hold in their community.

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But several state banks and major Indian lenders stepped in to fill the gaps. At the same time, a number of major microlenders have pooled 28 million rupees to form Alpha Microfinance Consultants, which will set up a credit bureau to reassure investors and to prevent future repayment crises like the one seen in Karnataka.

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Printed in The Wall Street Journal, page C6