Microfinance institutions as an alternative to the poor savers
Dr. Aslam Mia
The institutional theory of saving — the focal point of this note — postulates that apart from other socio-economic and individual factors; institutional factors may influence savings behavior of low-income families. It means that availability and accessibility to the financial institutions can motivate individual to save.
However, there are several important elements in the institutional saving theory for a financial institution to be considered as a deposit taker. Despite several others, seven are discussed more frequently in the literature; namely, information, incentives, facilitation, expectation, access, restrictions, and security.
Whether microfinance institutions (MFIs) should have all these components to be called an ideal savings institution is quite vital to understand the interaction between individuals and institutions in determining the savings behavior of the poor. This note aims to discuss some of the crucial institutional factors that enable MFIs as a preferred deposit taker for the poor.
Financial education is one of the major components of institutional theory of saving. Once a client formally involves with an MFI, they are presented with some financial education, such as how to use credit and reasons for savings through effective peer monitoring and training. Almost every week (to repay the loan installment or deposit meager savings), the clients of MFIs have a meeting that is chaired/governed by a loan officer or a leader of the respective group and other group members where relevant financial issues are discussed.
It is apparent from the literature that people with financial education, (e.g. how to save) behave differently from those who lack such knowledge. The fact that MFIs have provided such platforms to learn financial education from their peer members - that would not have been possible otherwise - plays a significant role to shape the mindset of the poor.
Although poor people have limited financial resources to save, their hope about the incentives for the hardly earn pennies certainly higher than the wealthy savers. It is observed that deposit rates in microfinance remain competitive and comparable to that of the formal banking sector. In some cases, MFIs even provide slightly higher deposit rates to attract more savers, who may have otherwise deposited in the formal banking sector if the rate was high in the latter. Apart from that, there are additional advantages of savings in MFIs; such as, tax-exemption, rebates and opportunities to take more loans that may motivate poor to save in MFIs rather than on formal financial institutions.
Facilitation - means aiding with participations and savings. This is one of the key features in contractual savings program offered by MFIs. In most cases, savings facilities immediately start when a client register him or herself with an MFI for a loan. This is kind of an automatic system and does not require having a separate account for deposit and credit. However, those who only want to deposit without taking any loans are required to have their savings account and it may vary from one MFIs to another.
Furthermore, MFIs also provide several types of savings schemes including voluntary and compulsory to meet the financial demand of their clients. Another component of the saving theory is expectations, which is also institutionalized in MFIs savings schemes. Clients deposit their saving based on an expectation that they can use their savings to invest in productive assets or apply for larger loans that can generate income for them through investment. This is quite similar with the saying of Benjamin Franklin, the founding father of the United States, that ‘a penny saved is a penny earned’. Nonetheless, the amount of loans that can be taken also depends on the amount of savings deposited to the MFIs in most of the cases. The more the amount of savings of a borrower, higher would be the amount he/she can apply for loans.
The cost of saving is certainly important for the poor. However, it becomes easier for the client to access financial services — particularly the savings - for almost at no monetary cost when depositing in MFIs. MFIs have developed various demand-based and customer-friendly savings products that can be easily accessed by the poor. Unlike commercial banks, where the depositors need to go to the branch/ATM or agents to deposit their savings, the uniqueness of MFIs is that the loan officers come and collect it from their clients, and this is the common practice among all the MFIs in Bangladesh. Hence, the transaction cost of deposits in MFIs is much cheaper than the formal banking sector from the vantage point of a saver.
The rapid growth of the sector and branch expansion throughout the country also provide proximity services to the microfinance clients in Bangladesh. Although distance is one of the major factors in reaching the poor, particularly in rural areas; MFIs managed to absorb the cost through their innovative delivery methods and products. Until June 2014, a total of 697 MFIs with branches amounting to 16,911 were actively providing financial services to the millions of poor. Among 64 districts in Bangladesh; Dhaka and Chittagong, the capital city and commercial capital of Bangladesh respectively accommodate at least 120 registered MFIs and hundreds of branches. The allocation of MFIs and their branches throughout the country makes it easily accessible for the poor to enjoy financial services from the MFIs.
Despite having various types of savings products, MFIs has some inherent limitations and restrictions that received a good deal of attention recently. For example, if a saver (individual saving) wants to withdraw the deposited amount (flexible or fixed savings) before the maturity date, he/ she may not get the full amount with proposed return. The service fees and departure charge may deter savers from early withdrawal. This is quite like the conventional practices. However, for the group or joint savings scheme, different rule may apply as the consent of other group members may also require.
For the compulsory savings against the loan borrowed, it is learned that most of the MFIs do not allow the withdrawal of deposit amount until the final loan installment is made or until a certain period after taking the loan (the duration varies from 8 weeks to 24 or more). That is because the deposited amount work as a collateral, which is partly insured against the loan taken and forced savings for the clients. Unlike the conventional banking system, MFIs clients are not eligible to issue checks against their deposited amount, which is one of the main limitations. This is mainly due to the informality and weak institutional capabilities of the MFIs to provide such service. However, it motivates clients to save since restrictions shape the savings behavior of poor by resisting temptation of spending the deposit.
The last institutional component; security, is one of the main fundamental issues in saving contract. Moreover, regulation in the sector is also a major hurdle in developing savings products and providing these savings services to the poor. The issue was severe before the formation of Microcredit Regulatory Authority (MRA) in Bangladesh, which now controls and supervises the microfinance sector.
After the establishment of the MRA in 2006, every MFI is now required to be registered with them to operate microfinance programs in the country. Hence, depositing in registered MFIs is secured and the MFIs are legally liable for any illegitimate wrongdoing with their client. To support the hassle-free savings and other services, MRA has established a rule that no NGO-MFI can generate deposits more than 80% of their total loans outstanding. This rule has made deposits to MFIs less risky - thanks to the authority, and it is possible to consolidate the assets to repay the savers in case of default or termination of an MFI operational activity.
Those collective initiatives taken by both the authority and MFIs have substantially increased the amount of savings in the sector. However, we should note that those MFIs are not registered with MRA or other respective authorities that allows mobilization of savings are not eligible to take deposits from their clients.
To be a preferred choice for the poor, MFIs should seriously look at their limitations and find out ways on how to overcome those challenges to make deposits more user friendly and accessible.
Dr. Aslam Mia
School of Management
University Sains Malaysia (USM), Malaysia
Email: [email protected]