How microfinance institutions are funded in Bangladesh?
Dr. Aslam Mia
Almost all of us know that microfinance institutions (MFIs) provide small scale loan services to the poor and commercially excluded people in most of the developing countries. But we often do not know from where MFIs are getting their financial capital to fund these loans. Surprise not, in comparison with other countries, the microfinance sector in Bangladesh has the most diverse capital structure portfolio and sources of funds.
Secondly, the donations may be provided to enhance the operational capacity of the MFIs, such as through training and professional development. Thirdly, donations can also be used for infrastructural development, for instance, subsidizing the cost of operations and supplying the initial cost of establishing an MFI. When donations are used for giving loans to the poor, it is likely to secure the ownership of the donors in that particular MFI; the other two types of donations may not result in donor ownership.
Figure 1: Funding Evolution in the Microfinance Sector (1998-2001).
Source: Haque and Rashid (2002).
Note: RLF: Revolving Loan Fund, S. Charge: Service Charge.
In Bangladesh, the dramatic drop in donations has been counterbalanced by the clientsâ€™ savings â€“ currently the largest source of funds for MFIs â€“ which contributed around 35% in 2017 (Figure 2.). This may reflect that the overall wellbeing of people in Bangladesh has improved, particularly for the lower income group and they also deposit instead of taking loans only. Usage of savings as a source of funds was further promoted to enhance the financial sustainability of MFIs as it is less costly, more flexible and more secure. However, MFIs are obliged to set aside a portion of their savings as a required reserve â€“ currently, it is roughly 15% in Bangladeshâ€™s microfinance sector.
Although a significant number of MFIs worldwide are non-deposits-taken, the uniqueness of the microfinance sector in Bangladesh is that the lion share of funding comes from clientsâ€™ savings. There are several benefits when MFIs take deposits from their clients. First, the amount of deposits or number of savers can be considered an outreach output and a value-added financial product of MFIs. Due to these value-added services by the MFIs, the poor can now invest their savings with a competitive return. From an intermediation point of view, MFIs which take deposits have better outreach compared to those which do not take deposits. By taking deposits, MFIs enhance their outreach, particularly the breadth of outreach. Moreover, using these deposits, they create loans to serve the poor, which enhances the depth of outreach. Furthermore, a deposit can also be viewed as a financial collateral or pre-requisite to secure loans and reinforce contracts. It creates a win-win situation for the institutions and clients.
Figure 2: Funding landscape in the microfinance sector in Bangladesh (2008-2017).
Source: Authorâ€™s calculation from various MRA annual reports.
The second largest source of funds is the cumulative surplus of MFIs. Generally speaking, the portion represented by this source has gradually increased over the years and almost catching up with the deposit portion. Meaning, some MFIs are making remarkable profit from giving small scale loan facilities to the poor. Nonetheless, other sources of funds, such as loans from PKSF and commercial banks contribute significantly to the capital structure of MFIs in Bangladesh. It must be noted that using commercial bank loans to finance microfinance activities is relatively expensive for MFIs due to high-interest rates and inflation; nevertheless, some MFIs still rely on commercial bank loans, perhaps as a last resort, after exhausting other sources of funds.
Concessionary and subsidized loans from the government and PKSF are less costly; however, not all MFIs are eligible to receive such support. There are certain institutional requirements that need to be fulfilled before an MFI can request access to such funds. For example, the PKSF loans are only available to its partner organizations, whereas in Bangladesh, only approximately 20% of MFIs are partnered with PKSF. The same scenario applies to government subsidized funds as well. Hence, strong connections and bargaining capability with the government authorities and relevant departments could be an important factor in securing funds from these two sources.
Finally, inter-borrowing among MFIs has emerged as one of the sources of funds promoted by the MRA. In particular, small and medium MFIs may choose to borrow from large NGO-MFIs. Additionally, the MRA is exploring other sources of funds such as funds from the capital markets to secure a long-term solution that meets the credit constraints of MFIs. However, to avail capital market as a source of funds for MFIs, the sector requires further adjustment and institutional backup from the respective authorities.
A comprehensive analysis and investigation of the countries that use the capital market to fund microfinance operations is needed before potential implementation in Bangladesh. For example, â€˜Banco Compartamosâ€™ in Mexico initiated their path-breaking IPO in 2007; however, this was heavily criticized by the founding father of microfinance, Professor Muhammad Yunus due to their exorbitant interest rates which only secure financial benefits for the shareholders. Hence, using sources of funds that can ensure to fulfil the objectives of microfinance remain an important issue among the policymakers and managers in the industry.
Dr. Aslam Mia is a Senior Lecturer at the School of Management, Universiti Sains Malaysia.