Vijay Mahajan of BASIX on risks and results in microfinance

A good article that touches on some of the issues in my last post is a recent interview of Vijay Mahajan on the Credit Suisse website. In the interview Mr. Mahajan points out to some of the prerequisites for microfinance to pull people out of poverty. He also highlights the need to match investment growth in this sector to the available management capacity in order to avoid a bubble in the sector. Here are some extracts from his interview.

So what is the percentage of people who really make it out of poverty?
It’s hard to cite a single number like that but in general, in those areas where there is reasonable presence of a market, anywhere between maybe a quarter to a third of the borrowers of MFIs in about three to five years will overcome poverty. So, 25 to 33 percent. But it takes three to five years because the loans are rather small and the incremental income that you get from those loans is not that great that in one year you can overcome poverty.

Credit Suisse runs a special microfinance initiative, which aims to enhance capabilities and provide staff training for microfinance institutions. Why is such financial training needed?
It is centrally important. MFIs do well because there is a lot of unmet demand among poor people and some whole sale supply of capital is beginning to be available. But as it grows, these institutions can become large and complex and unless the capability of people running those institutions on all levels is enhanced, it can be a very big risk factor. So, it is important that the amount of money in the sector is matched with the amount of capability in the sector.

What are (your) suggested solutions to avert a bubble?
To avert a bubble, lenders and equity investors should be careful not to ask for growth rates which are unrealistically high. Demand is very large. But the supply should be limited to the institutional capability to do it well. You can’t increase that capability by 150 or 200 percent per annum. You can do that in the early years but you can’t do it later. So, investors have a role in saying “okay, cool it. Whatever the locally appropriate growth rates are, just stay with that”. Then regulators have a role. And then the managers in those MFIs have a role in ensuring that the incentive structures for the field staff are designed in such a way that they engage in prudential lending and are not just throwing the money away. They should be incentivized under recovery rate and not just on how much they disburse. Through all these means together, the chances of a bubble can be significantly avoided.

You can read the full interview here on the Credit Suisse website.