Journal of International Development: Vol. 8, No. 2,145-152 (1996)

SUSTAINABLE BANKING WITH THE POOR

LYNN BENNETT AND CARLOS E. CUEVAS The World Bank

Abstract: This paper serves as an introduction to the collection of selected papers from the Conference on Finance Against Poverty, held at Reading, England, March 1995, sponsored by the University of Reading, the University of Manchester, the UK Overseas Development Administration, the Norwegian International Development Authority, and the World Bank. The papers in this collection represent only a small fraction of the more than 45 papers presented by scholars, practitioners and donor agencies at the Conference. They have been selected in an effort to give a sense of the richness and variety of the conference deliberations-and as expressing some of the key themes and concerns which emerged. In this introduction-as at the confer- ence-the importance of building sustainable financial systems for poor men and women is emphasized. The main themes point to recognizing the heterogeneity of the poor and its implications for program and institutional design, evaluating the limita- tions imposed by the policy and regulatory environment, and solving the challenges posed by institution building.

Building sustainable financial services systems for poor men and women is of criti- cal interest from three perspectives: first, from the point of view of financial sector development, people who have not been integrated into the formal financial sector because of low incomes, gender, ethnic identity or remote location often represent a large and potentially profitable market for institutions that can develop ways to reduce the costs and risks of serving them. Second, from the standpoint of enter- prise formation and growth, the availability of stable sources of funding and deposit services contributes to successful start up and operations of micro and small enterprises. Third, from the perspective of poverty reduction, access to reli- able, monetized savings facilities can help the poor smooth consumption over peri- ods of cyclical or unexpected crises, thus greatly improving their economic security. Once some degree of economic security is attained, access to credit can help them move out of poverty by improving the productivity of their enterprises or creating new sources of livelihood.

All three perspectives are reflected with diverse emphasis and approaches in the papers included in this issue. We review here the main themes these papers address, highlighting the areas of consensus as well as those of controversy, and stressing those in which the discussions at the conference added the most value to the state of the arts in the field. 0954-1748/96/02014548 0 1996 by John Wiley & Sons, Ltd.

146 L. Bennett and C. E. Cuevas

ACCESS AND SUSTAINABILITY

There is growing consensus on the premise that, once the start-up costs have been incurred, financial services can be sold to the working poor without recurrent subsidies under conditions that allow the financial intermediary to become self- sustainable. What conditions favour, or deter, the attainment of self-sustainability and effective outreach is the central question guiding the work of many researchers, policy makers and practitioners in the field. A key question in this regard is how to move from a one-way flow of grant funds to project beneficiaries (finance as charity) to reciprocal contracts between institutions and clients who buy financial services and must agree to pay for them (finance as business).

In addition to the challenge of clearly distinguishing business from welfare, there may be instances where barriers created by remoteness, poor infrastructure, a stagnant economy, illiteracy or social factors like caste and gender render self- sustainability unattainable in a reasonable time frame. The role and rationale of subsidies, recurrent or time-constrained, emerge as central questions demanding response.

FINANCIAL AND SOCIAL INTERMEDIATION

Another subject of current debate is that overcoming the many barriers that have prevented large potentially productive segments of the population from access to formal financial institutions may require more than conventional financial inter- mediation. Integrating under-served groups into the formal financial markets may entail some measure of up-front investment to develop the human resources (con- fidence, knowledge, skills and information) among the clients, and often to build local structures that help them link with financial institutions. It also involves investing in changing the skill mix and operating procedures of the financial insti- tution seeking to expand its outreach. This process of developing new markets among the working poor is thought of as social intermediation.

Social intermediation is distinct from the provision of social welfare services in that social intermediation enables beneficiaries to become clients able to enter into a contract involving reciprocal obligations. The level, nature and time horizon of the investment required for social intermediation varies with the barriers facing a given target group. It is also likely to depend on the level of responsibility in financial intermediation that the client group is required or willing to acquire.

DEFINING THE TARGET GROUP THE POOR AND THE POOREST

Recognizing the heterogeneity of the poor is of crucial importance to properly identify best practice design features for poverty-alleviation programmes. Pro- grammes and institutions that may be judged successful in helping households rapidly climb above the poverty line and increase their incomes from successive loans, may be considered failures if the standards of evaluation are set in terms of raising and protecting the incomes of the poorest (Hulme and Mosley, 1996).

See the excellent discussion on this subject in Hulme and Mosley (19%).

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The distinction between the working poor and the very poor in Robinsons terminology.* or the poor versus the core poor in Hulme and Mosleys, is found explicitly or implicitly in several of the papers included in this selection. Kimanthi Mutua refers to this distinction when analysing the evolution of K-REP (Chung, 1996), recognizing the difficulties of lending to, and collecting from, households that would be more appropriately served as welfare recipients of transfer payments, instead of as bankable-poor clients. Likewise, Ghate et al., (1996) discuss the dif- ferences in behaviour and response between subsistence (livelihood) enterprises and the more commercial microenterprises they studied in the Philippines.

The implications of adequately defining the target clientele are not only a matter of using the correct standards of performance for programmes and institutions, but obviously affect the selection of appropriate instruments and mechanisms in poverty alleviation and income enhancement efforts. While there are now many examples of programmes and institutions serving the working poor with financial services in a self-sustainable manner, the very poor, the destitute and the dis- abled ought to be beneficiaries of transfer programmes that do not entail creating an additional liability for the recipient (Robinson, 1996; Hulme and Mosley, 1996). A first question that emerges from this target-group definition is where to draw the line between the viable and the non-viable. The answer offered by Robinson (1996) is the ability to repay, i.e., a practical response based on the ability of clients to reveal their viability by meeting their contractual obligations. The target- group definition becomes, for the institution, a matter of anticipating or, predict- ing that ability, and adjusting or diversifying its portfolio as more is learned about the client population in the course of its operations.

The findings presented by Hulme and Mosley (1996) suggest that successful institutions contributing to poverty reduction are particularly effective in improving the status of middle and upper income poor. Furthermore, their impact on the clients income seems to be directly related to the level of income, which would reinforce the tendency for these programmes to concentrate in that segment of the poor in order to preserve their viability. A related consequence is that refinements and improvements in finance-for-the-poor technologies remain focused on the middle and upper segment of the poor, leaving the poorest behind.

The recognition of the heterogeneity of the poor should lead to a further phase of institutional innovation and experimentation, as Hulme and Mosley advocate, to possibly deepen the downward reach of financial services. On the other hand, there is still a large unsatisfied demand for financial services among the bankable poor which could be met through mainstreaming the known successful approaches. There is much to be accomplished in properly understanding, and then replicating, adapting and adjusting, models of sustainable provision of financial services to poor clients.

OVERCOMING AND REFORMING THE POLICY ENVIRONMENT

A range of macro-policy issues including depoliticization, ownership and govern- ance, in addition to regulatory issues ought to be addressed, Ramola and Mahajan

Robinson (1996).

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argue, before workable and sustainable approaches can be developed to improve the access of the rural poor to financial services? Indeed, whether there are absolute preconditions for successful financial intermediation with the poor may still be a matter of debate. There is little doubt, however, that a conducive policy and regu- latory environment will greatly facilitate the emergence and improve the effective- ness of programmes and institutions servicing low-income clients.

While it has been found that microfinance institutions are able to operate suc- cessfully under a wide range of circumstances (Christen et al. 1994), this finding cannot be interpreted to mean that successful performance is environment- neutral. As Pederson (1996) correctly points out, the performance of the same institutions in a less (or more) favourable scenario is unobservable, hence a judge- ment as to the relevance of the policy and regulatory environment is not possible based solely on the presence of seemingly effective institutions in a variety of situations.

The policy reforms, especially interest-rate liberalization, that preceded the emergence of the BRI Unit Desas in Indonesia have been well documented. Likewise, for microfinance institutions entering the regulated financial sector, there seems to be a set of necessary conditions encompassing interest-rate liberalization, the elimination of barriers to entry, and the establishment of adequate supervisory and regulatory agencies and rules for these specialized institutions?

The remaining questions on this subject refer to the degree to which the policy and regulatory environment impinge upon the performance of microfinance insti- tutions not necessarily operating as regulated financial institutions. The ability to function in a negative environment may come at considerable costs for clients, institutions and sponsors. Circumventing regulations and substituting for non-exis- tent markets, institutions and contracts involve substantial transaction costs, and often result in rationing out sectors of the client population which the institutions and programmes want to serve. Consensus seems to exist on the need for careful identification and analysis of the environmental features which impact the most on the outreach and sustainability of institutions and programmes working with the poor.

THE CHALLENGES OF INSTITUTION BUILDING

The emphasis on sustainability has brought in its train a much greater attention to the importance of institution building and this is evident in the papers assembled here. It is now well recognized that it is not sufficient just to reach the poor with one or two doses of credit-to provide them with an asset that can generate suf- ficient income to move them out of poverty. This was the logic of Indias massive Integrated Rural Development Programme (IRDP), an effort critiqued by several of the presenters at the conference: and one widely recognized as having greatly weakened Indias commercial banking system by mixing charity (and political patronage) with business, undermining client repayment discipline and completely

Ramola and Mahajan (19%). 4Cuevas (1996). Copestake (1995); Ramola and Mahajan (1996).

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neglecting the institution building dimension. As the paper by Ramola and Mahajan (1996) documents, after more than 15 years of IRDP, the poor in India still have no reliable access to formal financial services that meet their demands (for savings and consumption-smoothing loans rather than just loans for productive assets). They still face high transaction costs and rationed access, and most of the commer- cial banks are no closer to understanding the poor as customers or having appro- priate products and processes available than they were when IRDP began-though with collection performance for IRDP loans at between 20 and 30 per cent, many of them are much closer to insolvency.

The shift from transferring resources to the poor to an emphasis on building sus- tainable institutions that will be there to serve the poor long after donor fashions have changed or government exchequers have run dry is certainly a healthy one. However, as the paper by Montgomery6 points out, the emphasis on sustainability can produce many different institutional outcomes-and not all of them are posi- tive. His comparison of the SANASA Thrift and Credit Co-operative Societies in Sri Lanka with BRACs Rural Development Programme in Bangladesh reveals two contrasting approaches to group-based lending and the use of peer pressure that grow out of two very different institutional structures. Both institutions have good repayment performance. But SANASA is highly decentralized with most of the power and responsibility for financial management vested in the groups them- selves, while the BRAC Village Organizations (VO) are controlled by the NGOs staff-whose performance is evaluated on the basis of the VO repayment performance.

In addition, SANASA is structured in such a way as to allow the local societies to develop financial products which suit their needs-which often include access to short-term loans to tide them over the sometimes sharp fluctuations in income faced by the poor. Hence, a wide range of options are available to SANASA members who can avail of various types of savings instruments in addition to credit for both production and consumption purposes and instant loans (approved overnight) for household emergencies. This is in sharp contrast to BRAC where the main focus is on credit for productive purposes, where members have no immediate access to savings and where even loans from the Group Trust Fund (built up from member savings) are controlled by BRAC staff and can only be accessed after lengthy procedures. BRAC also allows only weekly repayments while SANASA offers a variety of term structures and repayment plans. The absence of flexibility or what the author calls protective mechanisms for the poor in BRACs approach has led to a situation of institutionalized suspicion and strong incentives for the staff to exclude the poor whose vulnerability to income shocks make them more likely to miss weekly repayments. This contrasts with SANASA where the range of financial options available actually reduces the risk of admitting poor members and permits an atmosphere of mutual trust and support.

As an institutional form, group-based approaches received much attention at the conference and the variety of these approaches reveals that practitioners have

6Montgomry (1996). Chung (1996). See in this issue Chung; Schmidt and Zeitinger: Bennett er nl.. Also the 1995 conference papers by Mosley; Jazayeri; Armendariz de Aghion; Harper; Blowfield and Kimila; Ryan: Dave1 and Wilson.

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moved beyond simply replicating a few well known models to experiment with a range of institutional arrangements involving groups. Almost all of these arrange- ments include a major role for some type of an NGO as social intermediary to identify existing affinity groups or help communities to form their own self selected groups. However, as the Montgomery paper shows, there are important differences in the way NGOs see this role and these differences appear to have significant effects on group financial-and social-performance.

These differences in NGO self-concepts and the way they play out in the alloca- tion of risk and responsibility between the group and the NGO are the subject of the paper by Bennett et al. (1996). This paper explores another important variable: the source of lending capital. Does it come from group member deposits (at least in a substantial proportion)? From a bank (on commercial terms)? From a donor? From the government? The answer to this question helps to define the role of the NGO vis d vis the group- and also appears to have a significant impact on the financial performance of the group. When the donor and government sources pre- dominate, the primary locus of risk in the intermediation system is with the donors or the government. Despite the ideology of group liability, in most cases it is either the donor agency or the government which loses money in cases of default. Hence, the NGO which plays the role of social (but not financial) intermediary for these funds tends to feel accountable to either the donors or the government. As Von Pischke (1996) points out, the NGOs reporting system in such cases tends to report on what the funders care about (the smiling faces of poor women borrowers) rather than what a genuine financial intermediary would need to know (liquidity, solvency, profitability and efficiency) to maintain and improve its performance.

In contrast, when the primary source of lending capital comes from either mem- ber savings or formal financial institutions (at market rates) or some mix of the two, then the locus of risk is proportionately shared by the group members and/or the banks. The NGO in this case may play the role of financial intermediary between the banks and the groups or it may simply facilitate the linkage and allow the groups to function as the intermediary between their members and the banks. But in all of these cases, the role of the NGO and its sense of accountability is likely to be very different and much more oriented to the bottom line. Of the five group-based systems covered by the Bennett et al. (1996) study, the three that relied primarily on donor/ government funds for lending capital showed extremely poor financial performance with default rates of over 50 per cent and high lending costs. The two systems that performed well (with repayment over 95 per cent and much lower lending costs) were the two systems that relied on member savings for loan capital and where the NGO supported the groups sense of ownership and accountability for their own financial performance.

The increasing demand on NGOs to be more concerned about achieving finan- cial sustainability-and some of the resultant paradoxes surrounding the role of NGOs in banking with the poor-was the subject of a number of presentations. Schmidt and Zeitinger based on their empirical study of 15 NGOs involved in microfinance in Latin America, conclude that NGOs have no long-term role as providers of microfinance and that their goal should be to transform themselves into banks-on the model of the successful metamorphosis of Prodem into

Robinson (1996); Schmidt and Zeitinger (1996); Von Pishke (1996); Dichter (1996).

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Bancosol in Bolivia. Von Pischke is less rigid in his judgment on NGOs, seeing room in the microfinance field for a variety of players besides banks-as long as all institutions offering financial services make the effort to live up to the stan- dards of transparency and accountability in reporting which he outlines.

At the other end of the continuum is Dichter, who questions the current donor fascination with sustainability as a primary goal for microfinance NGOs. He argues that, if the ultimate goal is sustainability, then the commercial institutions are far better placed to achieve this goal than the NGO, because it is compatible with their corporate mission and world view. NGOs should not be forced to for- sake their basic goal of assisting the poor when it is not compatible with the full, level 4 financial sustainability. Even more important, they should not be led into deluding themselves and their donors that they can, in all cases, in all settings and with even the poorest clients, achieve the brass ring of sustainability without fun- damental compromises to their social outreach goals. More than any of the other authors in this volume, Dichter unveils the tensions and contradictions which cur- rently confront the microfinance field and exposes the conflicting paradigms (com- passion versus capitalism) with which NGOs working in this field are struggling to come to honorable terms.

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Christen, R., Rhyne, E. and Vogel, R. (1994) Maximizing the outreach of microenterprise finance: the emerging lessons of successful programs. (draft) Washington, D.C.: USAID.

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Hulme, D. and Mosley, P. (1996). Finance Against Poverty. London: Routledge. Jazayeri, A. (1995). Village banks, Conference on Finance Against Poverty, Reading, England,

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Montgomery, R. (1996). Disciplining or protecting the poor?, Journal of International Development (this issue).

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Ryan, P. W. (1995). Barriers to introducing effective group based financial services; the case of small farmers in the accelerated mahaweli development program, Sri Lanka. Conference on Finance Against Poverty, Reading, England, March 1995.

Schmidt, R. H. and Zeitinger, C. P. (1996). Creating viable financial services for poor tar- get in LDCs: the experience of NGOs, Journal of International Development (this issue).

Von Pischke, J. D. (1996). Measuring the trade-off between outreach and sustainability by measuring the performance of microlenders, Journal of International Development (this issue).

Wilson, F. A. (1995). The difficulty of avoiding the old mistakes: in search of sustainable rural and small business financial market structures in Eritrea. Conference on Finance Against Poverty, Reading, England, March 1995.