Feisal Hussain is the Chief Executive Officer of SANMFI and also the UNDP Microstart Regional Adviser for Asia. He has extensively worked throughout Asia, particularly in Bangladesh. A. F. Nasim U. Ahmed is currently working as a Policy Analyst. He received his MBA from the Institute of Business Administration in Dhaka University where he majored in Development Economics. His key research interests are in the role of microfinance in poverty reduction, linkages between microfinance institutions and commercial finance institutions, and savings and insurance for the poor.
Tahia Eaqub is currently working as a Programme Officer. She is a graduate intern from Lincoln University, New Zealand with special research interest in informal financial markets.
This paper is reasonably short for readers who wish to pursue the whole document - cover to cover. For those who wish only to get an overview of the 'numbers', Section 1 would more than suffice. For those who wish to have ideas of why integrating financial markets is important, as well as focus on the potential institutional arrangements that can support integration, you may only want to concentrate on the first part of Section 2. Readers interested in finding out the prospects for market integration may read the second part of Section 2. For busy readers who want simply to get the main message of the document need read no more than Section 3 which outlines the constraints to integration, actions necessary to overcome these constraints, and the recommendations of the Expert Group.
Happy reading.
The idea for this study was born in the Prince of Wales Business Leaders Forum Round Table Meeting on Microfinance in February 1997 on the occasion of the Prince of Wales' visit to Bangladesh. The meeting focused on the declining trend in overseas development assistance, the problems this will create in continuing to provide microfinance services to the poor, and the need to sustainably access other sources of finance to not only maintain present levels of outreach but also to substantially increase it. Bangladeshi bankers, financiers and MFIs present at the Round Table meeting expressed keen interest in looking into the possibilities of commercial banks wholesaling finance to organisations retailing microfinance. Inspiration for this study was also drawn from Stuart Rutherford's work on informal financial inter-mediation. The final influence on this paper has come from the work of UNDP's MicroStart programme, World Bank's Consultative Group on Assisting The Poorest (CGAP) and the World Bank more generally. Their focus on building strong and sustainable financial institutions and systems have helped to highlight the important linkages between the provision of financial services and policy environment in which such services are provided. This report represents a foretaste of one of SANMFI's key areas of work: policy research, designed to provide policy makers and present and future practitioners of microfinance with rigorously researched information as a basis for rethinking policy and practice, and thus contribute to sustainably increasing the depth and outreach of microfinance in South Asia and other regions as well. The objective of this discussion paper is to provide an analytical framework within which to explore how existing institutional arrangements for financial services can be used to increase the outreach of microfinance in Bangladesh. The prime assumptions underpinning the study are that financial services for poor people are profitable and that these groups belong to, what can best be described as, the new emerging markets for financial services. The discussion paper is primarily targeted to the organised financial services sector, although given that the focus of the paper is on the poor, the paper should also be of interest to development agencies and organisations involved in microfinancing. Discussion on this paper is encouraged and comments from readers will be welcome. Given the unavailability of statistics in Bangladesh and the difficulty in acquiring these, SANMFI would be grateful for any comment that may be incorrect or incomplete or inappropriate in anyway.
Feisal Hussain Introduction Section 1: State of the Financial Services Industry 1.1. Introduction 1.2. Market Structure 1.2.1 Structure 1.2.2. Market share 1.2.3. Outreach 1.2.4. Distribution and Market Fragmentation 1.2.5. Formal Banking Sector Institutions 1.2.6. Formal Insurance Sector Institutions 1.2.7. Formal Non-bank Sector Institutions 1.2.8 Semi-formal sector institutions 1.3. Demand for microfinance Services Section 2: Integrating Financial Markets 2.1 The Case for Integrating Financial Markets 2.2. Potential Models for Market Integration 2.2.1. Short-term to medium term solutions 2.2.2 Longer Term Solutions 2.3 Prospects for Integrating Financial Markets Section 3: Strategies and Actions to Integrating Financial Markets 3.1 Key Constraints in realising Secured Transactions among the sectors 3.2 Agenda for Action 3.3 Focal Point For Action APPENDIX I List of Experts Reference
List of cases:
This paper represents a part of the SANMFI's policy research agenda which aims to influence policies by researching and analysing issues constraining the rapid growth of viable microfinance. The objective of this paper is to identify specific institutional arrangements and practical mechanisms that would expand financial services to poor families who have little or no access to such services. The vision is of a system that integrates the formal, semi-formal and informal sectors where intermediaries exploit each others' comparative advantages in cost-effectively delivering financial services. The financial services industry is highly fragmented with little integration and overlap between the formal, semi-formal and informal markets for credit, savings, insurance, and various non-bank financial services. Each of these sectors have their own advantages and disadvantages and their integration will present important synergy that can help the whole system to efficiently intermediate financial services. While there many institutional arrangements that can enable the integration of the formal, semi-formal and informal financial markets there are perhaps 10 core models that can be applied over the short,medium and long term
The key constraints to integrating the formal, semi-formal and informal markets for financial services are - an overall lack of confidence among all intermediaries, poor legal and regulatory systems, and problems in institutions that combine to undermine an environment for secured transactions. Lack of confidence remains the overarching constraint to secured transaction among the sectors offering financial services. This can be attributed to environmental, procedural and institutional deficiencies. Procedural
Agenda for Action The experts made numerous recommendations, out of which seven were identified as most critical. These include:
This paper represents a part of the South Asian Network of Microfinance Initiatives' policy research agenda which aims to influence policies by researching and analysing issues constraining the rapid growth of viable microfinance. This particular paper constitutes the first of seven country papers with the following objective. The objective of this paper is to identify specific institutional arrangements and practical mechanisms that would expand financial services to poor families who have little or no access to such services. The aim would be to develop, over time, an efficient and sustainable system of financial intermediation for the poor. The vision is of a system that integrates the formal, semi-formal and informal sectors where intermediaries exploit each others' comparative advantages in cost-effectively delivering financial services. Background Despite Bangladesh's image as the international 'basket case', the country has made important strides forward over the last two decades. On the one hand, poor families have improved their capability to survive and lead healthier lives, and they have also improved their capability to read, write and seek opportunities otherwise denied to the unskilled and illiterate. On the other hand, macro-economic stability, liberalisation of the economy, integration of markets, and the pursuit of a private sector-led growth strategy have all contributed to creating opportunities for poor families to become upwardly income mobile. While much remains to be accomplished, continued commitment to both are likely to significantly improve their prospects to not only live but to live well. Opportunities, however, simply remain as opportunities unless an enabling environment is created to take advantage of emerging markets and investment opportunities. Integral to the enabling environment is access to financial services. The transformation from a subsistence to a more commercially driven economy will require capital formation and increased demand for working capital. Access to financial services can help to meet both of these requirements. Timely and adequate availability of credit and insurance is an important requirement of investors particularly under conditions of scarcity of resources and uncertainty. Convenient and safe savings facilities are perhaps even more important to smooth out peaks and troughs in incomes and expenditures. Lack of savings facilities also force families to rely on inefficient, inconvenient and costly alternatives. The policies and present structure of financial markets limit the industry's capacity to efficiently fulfil its main function - that is to intermediate between savers and investors. The formal banking sector (particularly the public sector institutions) have relied on the idea of providing subsidised capital to poor investors as a solution to poverty and low-output, while almost completely neglecting the substantial opportunities for mobilising deposits. The problems of lack of vision and an ability to create products demanded by the poor have been compounded by poor portfolio management raising serious questions about their sustainability and efficiency. As with the formal banking sectors' inability to see the potential for mobilising savings, the formal sector insurance companies have all but overlooked the potential demand for contractual savings products. Given high levels of uncertainly, particularly for poor and low income families, insurance to safeguard investments as well as the future livelihood capacity of these families could significantly increase the demand for credit and investment. The semi-formal sector has been able to anticipate demand for financial services by the poor, although the products on offer are mostly limited to credit and mandatory savings. On the other hand, while semi-formal and informal financial markets have filled part of the gap, lack of integration between all of these sectors have severely limited the industry's capacity to intermediate efficiently to the detriment of poor families' access to safe, reliable, timely and affordable financial services. This paper addresses the state of the financial markets and identifies specific institutional arrangements and practical mechanisms needed to expand financial services to poor families in Bangladesh. Structure Section 1 attempts to provide an overview of the state of the financial services industry in Bangladesh as they relate to poor families. The objective of this chapter is to provide an appropriate context within which to discuss the key issues related to how best to integrate financial markets to increase poor families' access to appropriate financial services. The chapter is divided into two parts. Part I deals with the structure of the financial services industry. Part II deals with the nature and characteristics of poor families and their demand for financial services. Section 2 provides an analysis of the key issues in addressing the future development of financial markets for poor families. The objective of this chapter is to analyse issues constraining further expansion of financial services to poor families. In an attempt to develop a policy framework for such expansion, the chapter focuses on two key areas (part I & II) of the financial intermediation process where appropriate measures could significantly expand financial services. Part I examines the fragmented nature of financial markets and attempts to give an answer to why integration of these markets could be a 'win-win-win' strategy. It illustrates possible ways to integrate these markets, including cases of such integration wherever they exist. Part II provides an analysis of the barriers to market integration and suggests how these can be overcome. Section 3 provides a policy framework for the expansion of financial services for poor families.
1.1. Introduction This chapter reviews the current state of the financial services industry in Bangladesh. It discusses the size and structure of the financial services industry, the nature and characteristics of poor families and the existence and nature of unmet demand for financial services. 1.2. Market Structure 1.2.1. Structure: The financial services industry consists of three broad fragmented sectors: formal, semi-formal and informal - reflecting the degree to which each are regulated. The formal sector includes all regulated institutions, including banks, non-bank financial institutions and insurance companies. The semi-formal sector includes institutions that are otherwise regulated but which fall outside the formal oversight function of the Central Bank, Insurance Department, and the Securities and Exchange Commission. This sector is mostly occupied by Non Governmental Organisations (NGOs) and discrete government programmes . The informal sector includes private intermediaries who are completely unregulated. These include friends and relatives, shopkeepers, moneylenders, spontaneously formed Rotating Savings and Credit Associations (ROSCAs) and building societies, mutual fund operators, and traders and dealers in agricultural markets. 1.2.2. Market share: In overall terms, it is difficult to accurately determine the market share of all the sectors given restricted information disclosure (formal sector) or simply the absence of reliable information (informal sector and to some extent the semi-formal sector). Despite the difficulties, the following observations are made.
1.2.4. Distribution and Market Fragmentation: A World Bank survey on rural finance found that almost 70% of poor borrowers turned to the informal sector for loans, while the formal banking sector and the semi-formal sector each extended loans to 19% of the poor. Among low-income groups, majority of the loans were from the informal sector - some 57%, while the formal banking sector provided loans to 49% of the borrowers. The semi-formal sector does not lend to low-income families, but concentrates on the poor. While there appears to be some overlap across the sectors, the magnitude is very small. As little as 8% of borrowers simultaneously take loans from the formal banking sector and from informal intermediaries, and 1.7% from informal intermediaries and the semi-formal sector. 1.2.5. Formal Banking Sector Institutions: The formal banking sector consists of 40 organisations registered to provide the nation's banking services. This includes four Nationalised Commercial Banks (NCBs), four Development Finance Institutions (DFIs), 18 Private Commercial Banks (PCBs), and 14 Foreign Commercial Banks (FCBs). Out of a total of 5,896 branches (as on December 31,1996), 3,612 branches are located in the rural areas which comprises 63%, 28%, and 9% of NCBs, DFIs and PCBs respectively. FCBs have no rural branch but have 26 urban branches up to December 31, 1996. Out of Tk. 455,985.5 million of total deposits of all banks, approximately 28% has been accumulated from the rural sector. Total advances in agriculture, fisheries were Tk. 65133.9 million of which 93.29% occupied by the Agricultural sector alone. The Agricultural advances of NCBs, DFIs, FCBs and PCBS were Tk. 25928.4 million, Tk.33494.8 million , Tk 87.6 million and Tk 1254.8 million respectively. The deposit originating in the agricultural and fisheries sector was Tk. 34499.9 million or 7.56% of the total deposits(as on December 31, 1996). Banking services to the poor are primarily provided by NCBs, DFIs, and PCBs though in a limited scale. Data from the rural credit division of Agrani bank shows that Tk.616.8 million and Tk. 8650.3 million have been disbursed in case of long-term loan and short- term loan respectively which is the cumulative figure since its inception. A total of Tk 1148.6 million and Tk.44.1 million was disbursed during July '96-June' 97 period from the rural credit division. Among the different projects (both short-term and long- term ) of rural credit division of Agrani Bank, the data shows that a total of Tk. 2013.95 million has been disbursed to 5,16,929 beneficiaries (excluding the NGOs on lending & NMIDP ) in 19 different Microcredit programs / projects funded by the bank (75%) including some donors (25%) as on June'97. The average recovery rate of all these projects is 78%. However, 100% recovery have been found in case of NGOs (ASA & GKK) on lending, Employment Generation and NMIDP projects. A loan amount of a maximum of Tk.5,00,000 is considered as Microcredit by the Agrani bank authority. A total of Tk. 11420 million has been disbursed by Janata bank up to July '97 in 46 different projects in its rural credit division. It is very difficult to calculate the amount disbursed for Microcredit within rural credit section as no data is maintained separately for Microcredit. However, the poverty alleviation program under this rural credit division, shows that nearly 20% of the projects are associated with microcredit by definition and amount to Tk 1941.458 million. The overall recovery, on an average, is 32%, while some of the projects have recovery rates range from 90-99%. The quarterly MIS report (January-March'97) shows that out of the total sectoral credit of Janata Bank, only 8.6% has been utilised in rural credit. This means that less than 1% of their portfolio has been utilised for micro credit. The microcredit program of BASIC Bank is operated in three different ways. These are: a) Financing through the NGOs, b) Direct financing through BASIC and c) Financing through NGO supervision. These lending programs, according to them, are basically under the poverty alleviation program. A total of Tk. 23.7 million has been disbursed to 4483 beneficiaries up to August '97 which is less than 2% of the bank's total portfolio. The recovery is around 95% in case of microcredit lending. 1.2.6. Formal Insurance Sector Institutions: At present, there are 32 insurance companies operating in Bangladesh of which two are public (one General & one Life) and the rest are private (6 Life & 24 General).According to the Department of Insurance under the Ministry of Commerce, 80 applications (59 General and 21 life) from private entrepreneurs await for approval to start the business in near future. Data from 25 private (6 life and 19 General) insurance companies compiled by the Bangladesh Insurance Association for 1996 shows that there are about 976 branches operating in Bangladesh. Total premium earned by the 6 life insurance companies has been nearly Tk.2020 million from 1,28,824 the policy holders. The total value of all policy is nearly 19400 million. Total life fund for these 6 Insurance Companies are nearly 3390 million. In case of 19 General Insurance Companies, the net premium is Tk. 1370 million and income from investment is Tk. 295 million. In case of public sector Insurance companies, the total income earned during 1995 by Jiban Bima Corporation was Tk. 912.4 million and income from investment was Tk. 2166.8 million. 1.2.7. Formal Non-bank Sector Institutions: At present there are 14 non- bank Financial Institutions in Bangladesh with a total authorised capital of Tk. 7295 million and paid up capital of Tk. 2880 million plus share capital of Tk. 37.55 million. The interest rate for direct financing is 16.6%, on an average, while the interest rate for lease financing is as high as 19% and as low as 2.4%.The service charge is, on an average, 0.15% throughout the industry. There are nearly 40 private sector non- bank Financial Institutions are waiting for licence from the Bangladesh Bank. 1.2.8. Semi-formal sector institutions: More than 1,100 NGOs have so far registered with the NGO Affairs Bureau, excluding nearly 15,000 non-registered PVDOs working in Bangladesh. Most of these NGOs along with Service Clubs, Credit Unions (18 nos.) implement poverty alleviation programs. These efforts cover around 8 million people, which is only 10% of the target population. Credit and Development Forum data show that 351 major NGOs have cumulatively disbursed Tk. 35279 million to 3.9 million borrowers up to December 1997 hile Grameen bank disbursed Tk. 76826.8 million to 22,12740 borrowers up to Sep. 97. Groups own fund (savings) was Tk.2391 million for the same period. 1.3. Demand for microfinance Services The usual idea of the needs and wants of the poor or low-income families is one where the members simply survive one day at a time, concerned only about how best live rather than about how best to live well. While there are certainly many poor families who are concerned with just living, the overwhelming majority have different designs on their life plans. To be sure, this majority are concerned about the present, about how to survive and about coping with the present day and the immediate future. But they are also concerned with the long-term future, with a view to incrementally improve their standard of living and to brighten the prospects for their next generation. How do they go about achieving these wants. Some engage in activities that are neither socially nor legally acceptable such as prostitution, or extortion, or theft or rent-seeking activities. These are their way of life and are for them, in the absence of other opportunities, the only acceptable ways to fulfil their legitimate dreams and aspirations. Others try to fulfil their dreams and life plans by making best use of whatever little resource they have, including their ingenuity, and social, family and community network. In a capitalist society, whatever strategies poor families adopt, a central concern for them is amassing money to satisfy a whole range of perceived needs and real wants. At the most basic level, all would like to amass money to exchange it for goods and services for sheer survival on a daily basis. At a slightly higher level, amassing money becomes useful not only to meet day-to-day expenses but to meet anticipated future expenses such as old age, death, schooling and marriage costs of children; and unanticipated future expenses such as illness, sudden loss of regular income, early death and so on. These expenses - basic day-to-day expenses and cost of future provisions - are those that cannot be avoided. Basic financial services for the poor, as perhaps with other groups, consist mainly of services which enable poor people to get hold of usefully large sums of cash to fulfil a range of needs and wants - to smooth out peaks and troughs in expenditure, to invest in an enterprise or an income generating activity, to improve homes and pay for children's education, marriage and dowry, to make provisions for old age and for the family in case of death. All of these are not too different from the needs and wants of the not-so-poor. The differences are that poor families rarely have easy and regular access to financial services and that they are prepared to pay very high prices to gain access to such services. Examples of the range of financial services used and valued by the poor
Case 1: Neighbourhood reciprocity, not time-bound, involving more than two parties, for a specific use
Case 2: Rickshaw ROSCAs in Bangladesh
Case 3: A large workplace-based annual savings club
Case 4 : Marriage funds
Case 5 : Funeral cost funds
Case 6 : An insurance scheme for small shopkeepers
2.1. The Case for Integrating Financial Markets The financial services industry is highly fragmented with little integration and overlap between the formal, semi-formal and informal markets for credit, savings, insurance, and various non-bank financial services such as lease-financing, mutual funds and mortgages. The core elements determining strengths (or weaknesses) of each of these sectors relate to the problems of screening and risk management, monitoring, enforcement, and transaction costs. The current structure of the formal banking sector and outreach of the formal sector insurance and non-bank financial institutions suffer from most if not all of the four problems described above. Efficient financial intermediation is constrained by two critical barriers: (i) institutional and (ii) policy environment. On the one hand, institutional rigidities are constraining the formal sector's ability to develop a suitable implementation and delivery mechanism or products to deal with poor people's preferences. On the other hand, an archaic legal and regulatory framework is maintaining an environment inimical for secured transactions and thus market integration. Despite these drawbacks, the formal sector is still technically and legally placed to mobilise deposits, pool risks by intermediating over larger areas and individuals, and finance larger and longer term investments. The areas of disadvantage in the formal sector are precisely those in which the semi-formal sector claims advantage. These include broad outreach and deep outreach ; effective screening and enforcement in the absence of formal collateral; and lower transaction costs. Similar to retailing credit, the same advantages can also be potentially used to provide insurance, extend lease financing, and offer a whole array of voluntary savings products. The semi-formal sector is constrained from taking advantage of these potential new areas of business due to a lack of experience in issuing and managing diversified financial instruments and lack of an adequate prudential oversight structure to accept voluntary deposits and contractual savings. The informal sector shares similar advantages with the semi-formal sector. the informal sector is able to keep transaction costs and risk (both subjective and objective) at lower levels than either the formal or semi-formal sectors. Knowledge of local needs and circumstances also mean that it is in a much better position to identify new markets, products and processes - innovations from which the formal and semi-formal sectors can learn and thus continuously expand into newer and more lucrative markets. The main disadvantage of this sector is its limited ability to increase scale of its operation. To do so would be to undermine the very nature of their key factors for success - trust, personalised knowledge of individuals and their wants, and a sensitive understanding of the local environment. There is, therefore, a strong case to exploit the comparative advantages in each of these sectors through market integration. In the short term, the role of the informal sector should be seen as identifying new opportunities for financial transactions and in introducing innovations for creating markets. The role of the semi-formal sector should be seen as formalising innovations, and nurturing and expanding new markets using their organised networks. Finally, once certain markets have grown to a particular size, the role of the formal sector should be seen as institutionalising these markets and using their scale-economies to introduce new products and thus compete effectively with semi-formal markets. This should enable the whole system to intermediate financial services in a more cost-effective and cost-efficient manner, as well as reduce the overall cost of accessing financial services to the ultimate consumers of microfinance. Overtime, a more active engagement among all the markets, coupled with a policy environment that supports secured transactions, should lead all the sectors progressively becoming formal and self-sustaining. 2.2. Potential Models for Market Integration Most formal sector institutions have established markets and products, and developed technologies that are needed to securely drive these markets. The market for microfinance is not one of the established markets for formal banking sector institutions and formal insurance sector institutions. However, the former, particularly in the public sector, are increasingly showing interest in tapping into this market - less for what it has to offer for increasing equity but more for fulfilling social responsibilities that are written in the mandates of these institutions. The case of formal insurance sector institutions is somewhat different in that the move towards offering insurance services to poor people is a genuine attempt to expand their markets - although to date there is only one formal insurance sector institution in this market. Given that microfinance is not one of the established markets for the formal sector, the question is how can formal sector institutions gain entry? There are perhaps two approaches. These require the adoption of either a competitive or a co-operative strategy. The formal sector may wish to directly compete with the semi-formal sector for the micro-finance market which would require it to replicate and adopt products and technological innovations from the semi-formal sector to better cater to the microfinance market. Alternatively, the formal sector may wish to co-operate with the semi-formal sector without requiring substantial changes to its structure, human resource and process technology. 2.2.1. Short-term to medium term solutions Given that the cost of direct competition may be grater than that of co-operation, a more effective short-term to medium term solution would be to establish formal working arrangements between the formal and semi-formal sector institutions to allow each to benefit through exploiting each others' comparative advantages. A: Formal sector banking institutions and semi-formal sector institutions
Many such experimentation either explicitly or implicitly hope that at some point in the future such programmes can 'graduate' clients from semi-formal sector institutions to the formal sector. In other words, the argument is that concern over viability of the semi-formal sector institutions is misplaced. Subsidies, as the argument goes, is only a short-run phenomena. Over time, banks could adopt innovations produced by semi-formal sector institutions and take-over their functions. In spite of the problem of paying for the cost of organising the poor and enforcing loan contracts such hopes are theoretically true. However, practical considerations may yet dash such hopes. Given the state of the formal banking sector and the immense task ahead in strengthening their rather poor performance, it is unrealistic, and perhaps unwise, to expect significant reforms that would enable and encourage them to lend directly to the poor. Beyond these, the litmus test for this model is whether banks voluntarily adopt this model without any inducements from donors.
A recent workshop organised by Credit and Development Forum found several problems associated with this model. The most important constrain to this form of collaboration is the banks' demand for collateral from semi-formal sector institutions. Even where collateral in the form of movable property is offered, it often takes endless rounds of meetings and negotiations, and up to two years before a loan is sanctioned. Where collateral requirements are somewhat more lenient and thus more favourable to semi-formal sector institutions such as for example BASIC Bank which requires personal guarantee as opposed to immovable property, there are key questions over the ability of BASIC Bank to significantly increase the scale of lending to the semi-formal sector without affecting the performance of their portfolio (see the following section). While this model is attractive, it is perhaps best suited to collaboration between banks and large semi-formal sector institutions that are likely to have the capacity and systems to manage commercial debt of this type. For institutions with small to medium outreach (up to 5,000 clients) and without such attributes, a more appropriate model would be for their larger counterparts to intermediate between them and the formal banking sector.
The Grameen Trust and ASA, amongst others, also provide either grants or loans or both to smaller semi-formal sector institutions, although the source of these are rarely from formal financial sector institutions. This is the other variant to Model 3. Some of these larger semi-formal sector institutions often sell loans together with their proven technology, while others simply sell loans without too much insistence on the type of methodology and design their clients should adopt. While these variants are useful, there is potential for a commercially driven organisation to access commercial loans and wholesale these to semi-formal sector institutions - a sort of PKSF but only commercially driven. B: Formal sector insurance companies and semi-formal sector institutions
Recognising the potential benefits, increasing number of semi-formal sector institutions like BRAC, ASA, ACTIONAID, and SHAKTI are beginning to develop and sell their own insurance products - mostly related to death and/or illness coverage. The motivation for these schemes have been at least three fold. First, the need of the semi-formal sector to mobilise resources for their lending operation. Second, the need of the semi-formal sector to diversify their financial services as a vehicle for attracting new clients and retaining existing ones in an increasingly competitive microfinance market. Third, the broader need to provide clients and their investments greater security and thus encourage greater demand for loans. While these motivations are understandable, there is no clear indication of whether semi-formal sector institutions are best able to directly sell insurance services to the poor. There is no study as yet that show how such services are being provided and how semi-formal institutions and their insurance portfolios are performing vis-a-vis the formal sector. On principle, the major problem is prudential concern over unsustainable, grant dependant and unregulated agencies providing insurance services to the poor. This is less important for large semi-formal sector institutions such as, for example, BRAC which has a very secure funding base, strong organisational and management capacity, and excellent MIS. Of greater concern are smaller organisations with few, if any, of BRAC's attributes and whose scale alone limits their ability to spread risks. However, given that semi-formal sector institutions - big or small - already have an established delivery infrastructure and have a 'captured' market for insurance products, there is all the likelihood that unless formal sector insurance companies are able to independently market their products to the poor, they will. However, in the context of prudential concerns over semi-formal sector institutions selling insurance on a large scale, a case may be made to reduce the overall risk involved by encouraging formal sector insurers to reinsure the insurance portfolio of semi-formal sector institutions.
Once insurance companies are convinced of the value and safety of micro lending to the poor as an investment, further opportunities will arise in the form of semi-formal sector institutions attracting investments directly from insurance companies.
C: Formal non-bank (non) financial institutions and semi-formal sector institutions The leasing and hire-purchase market has shown steady growth over the last decade, and increasing number of institutions - banks, non-bank financial institutions, and non-financial creditors have attempted to develop this side of their business.
D: Semi-formal sector institutions and the informal sector There is increasing recognition of the importance and value of informal sector financial intermediaries in Bangladesh. These intermediaries have a long history of providing financial services to the poor, although in a somewhat disorganised and perhaps usurious manner. In spite of availability of cheaper finance through semi-formal sector institutions, these intermediaries continue to survive - an indication of how flexible and timely financial services are valued by poor people. In the semi-formal sector, increasing pressure is there to reduce costs and increase operational efficiency. This is necessitating a move towards standardisation of products and processes and a focus on locations that can reduce operational costs as well as increase operational efficiency and productivity. All these mean that semi-formal sector institutions are unlikely to be able to provide financial services to the poor who require such services. For them, informal intermediaries will continue to be one of the most important and accessible sources of loans. There is, therefore, a case to be made for semi-formal sector institutions to indirectly increase the scale of their operations through informal intermediaries.
One conceptual extension of this model may be that formal sector makes advances to these informal intermediaries so that they can directly retail credit to the poor. The objective of such program shall be the same as the above. The direct credit to the intermediaries might reduce one tire of intermediation and thus reduce the cost of finance to the final clients. 2.2.2. Longer Term Solutions Long term solutions to sustainably providing financial services to the poor is in the development of a strong and efficient financial system with sustainable institutions. For this, to happen effectively, the system needs to be opened to competition and thus there needs to be, on the one hand, a promotion of a range of financial intermediaries, and on the other, the gradual formalisation (in terms of internal systems and acceptable performance standards) and integration of semi-formal sector intermediaries within the formal commercial sector.
2.3. Prospects for Integrating Financial Markets The key constraints to integrating the formal, semi-formal and informal markets for financial services are - an overall lack of confidence among all intermediaries, poor legal and regulatory systems, and problems in institutions that combine to undermine an environment for secured transactions. Problems of confidence: In the absence of information, market players simply do not have confidence and trust to transact. The fundamental basis for the success of Models 1- 7 is information on the ability and willingness of the semi-formal sector institutions to meet their liabilities. In essence, formal sector institutions and non-bank non-financial creditors need information on performance of semi-formal sector institutions and the soundness of their financial position. This is extremely difficult under the present regulatory framework which does not require semi-formal sector institutions to have standardised accounting procedures and reporting. Most semi-formal sector institutions, therefore, have different accounting systems and apply different treatments to same or similar problems intentionally or unintentionally. As a result indicators of performance and financial position such as costs, revenues, assets, liabilities, and portfolio risk are all either over or under-estimated when measured against best international accounting standards and principles. Nor are semi-formal sector institutions required to meet any acceptable and agreed standards of performance. In their absence, investors have no system of distinguishing sound from unsound institutions, limiting the possibilities of ultimate granting of loans by the formal sector. In the context of inconsistent and often non-transparent accounting procedures, as well as poor understanding of standards that indicate how well or poorly an agency is doing, formal sector institutions either shy away from collaborating due to the high cost of screening, or take time much longer than necessary to come to a working agreement, or worse still, adopt other non-financial methods of screening in finally choosing semi-formal sector institutions for collaboration. The first step to creating trust and confidence among formal and semi-formal sector institutions are the following:
The last of the three steps - the development of an independent credit rating/information bureau - is perhaps the most critical of the three steps, particularly if it is able to provide reliable and authentic information on semi-formal sector institutions, their performance, financial position, and their credit history. This will greatly facilitate the process of engendering confidence in the microfinance market by creating an institutionalised system for basing investment decisions, as well as reducing the cost of screening semi-formal sector institutions. Presently, there are no such bureau operating in Bangladesh, although the national network - Credit and Development Forum - does collect information from NGOs on a very limited set of performance indicators. However, given that most NGOs use different accounting procedures and principles, reliability of the information is questionable. However, the foundation exists. Problems with Laws and Regulations The lack of confidence among market players generally forces formal sector institutions to seek to ensure the safety of their investments through demanding collateral or security. The problem is not one of collateral per se but the nature of collateral that is demanded. Most formal sector institutions require immovable property as collateral for loans. Given that most semi-formal sector institutions have little in the way of immovable property, their access to loans are seriously curtailed. Even where collateral is offered, loan approvals can take up to 2-3 years. This is primarily because of difficulties in registration systems that make mortgages riskier than they should be; involvement of multiple agencies make it difficult to establish whether the title is good or if there exist prior charges against the property, and slow court procedures make it expensive to repossess and sell mortgaged property. In the absence of information on semi-formal sector institution's ability and willingness to repay and technical inadequacies of registries and courts, formal sector institutions are naturally hesitant to make investments in semi-formal sector institutions. Despite the ability of a small number of semi-formal sector institutions to provide immovable property as collateral, the vast majority have no such ability. The only available option is to accept other forms of collateral in the form of movable property - chattel paper, accounts receivable, and inventories. Unfortunately the formal sector does not accept moveable properties as primary collateral, although these are often accepted as secondary collateral after obtaining a mortgage or a personal guarantee of a borrower. According to the banks, the reluctance of the formal sector to accept movable property is due to incompleteness and weaknesses in laws, which often fail to cover important financial transactions; from problems in enforcing laws, that arise from long delays in the courts and difficulties in obtaining official assistance in enforcing court judgements; and finally from problems in institutions, such as registries, which work slowly and expensively and, therefore, discourage many types of lending that require registration.
The key message is that the delivery of financial services to the poor can be significantly increased on a viable basis only if there is a commitment to integrating financial markets. The models outlined in section 2 are breaking new ground, experts agreed that these will only work if there are significant policy reform to create confidence. The current fragmented structure of the industry where the formal, semi-formal and informal sectors operate almost independent of each other is inimical to growth of a strong and sustainable financial system (or the process and institutions to deliver capital to end users). Integration can improve the efficiency of financial markets by exploiting the comparative advantages of each sector - formal sector's access to capital, the semi-formal sector's access to large emerging markets, and the informal sectors access to information and local knowledge. The key constrain to the integration of financial markets is the lack of an effective framework for secured transactions. Following are (a) the major elements that undermine the environment for secured transactions and (b) the strategies and actions necessary to create a framework where financial transactions can thrive. 3.1 Key Constraints in realising Secured Transactions among the sectorsLack of confidence remains the key constraint to secured transaction among the sectors offering financial services. Lack of confidence can be attributed to environmental and procedural deficiencies. Procedural
The experts made numerous recommendations, out of which seven were identified as most critical. These include:
List of Experts 1. Mr. Ravi Narayanan, Asia Regional Director, ACTION AID. 2. Mr. S.K. Sarkar, Director, Monitoring and Audit, BRAC 3. Mr. Feisal Hussain , Chief Executive Officer, SANMFI 4. Mr. Syed Nurul Alam, Executive Director,South Asia Partnership 5. Mr. Ton Van Zutphen, Country Director, ACTION AID 6. Mr. Kh. Zakir Hossain, E. Director, Credit and Development Forum 7. Mr. Stuart Rutherford, Free lance consultant of microfinance 8. Mr. Abdul Karim, Managing Director, MIDAS 9. Mr. Abdur Raquib, Executive Director, Bangladesh Bank 10. Mr. Alauddin A. Majid, Managing Director, BASIC Bank 11. Mr. Mosaddequr Rahman, Deputy General Manager, BASIC Bank 12. Mr. Md. Hafizur Rahman, Senior Principal Officer, Agrani Bank 13. Mr. Towfic A. Chowdhury, Faculty Member, BIBM 14. Mr. ABM. Khairul A. Khan, Jt.A.VP, Delta Life Insurance Co. Ltd. 15. Mr. Abdul Karim, Managing Director, MIDAS 16. Mr. Moshraff Hossain Khan, General Manager,PKSF 17. Mr. Javed Sakhawt, Managing Director, ADI 18. Mr. Willems, Advisor, GTZ REFERENCES Bangladesh Financial Sector Reform Project; 1996 Bear, Marshall A; 1997 NGO / Business Partnership for Sustainable Development in Bangladesh: A Review of Options Enterprise Development consultant Choudhury, Toufic A.; 1996. A Report on Investment Banking Opportunities in Bangladesh Bangladesh Institute of Bank Management Choudhury, Toufic A.; Roy, Mihir K.; Rafiquddin, Quazi; 1994. A study on anatomy of Rural Bank Branches Chowdhury, A., Farouk; Rahman, Atiq; 1989. Urban informal financial market in Bangladesh, Research Report no. 103, Dhaka, Bangladesh Institute of Development Studies Choudhuri, A. H. M., Nurul, Islam; Choudhury, Toufic, Ahmed; Roy, Mihir, Kumar; Interlinkage Between Banks, NGOs and Informal credit Sectors for Rural Development in Bangladesh Bank Parikrama Volume xxi, Nos.1 &2, March and June 1996, Choudhuri, A. H. M. Nurul, Islam; Choudhury Toufic A; Moral, Liakat H; Banerjee, Prashanta K; An Evaluation of the Impact of Reform in the Financial Sector Volume xx, Nos. 3 & 4, September & December, 1995 Cull, Robert J; 1997; Financial Sector Adjustment Lending: a Mid-Course Analysis Policy Research Working Paper 1804, The World Bank Girardin, Eric; 1997; Banking Sector Reform and Credit Control in China Development Centre Studies, OECD Jackelen, Henry R; Banking on the Informal Sector Kropp, Erhard; Jesus, R. B. Clar de; 1996 Linkage Banking in Asia APRACA - GTZ Saha, Sujit R; Rahman, Saidur; Banerjee, Prashanta K; 1994 Cost Efficiency in Banking A study-based paper prepared for presentation in the Seminar on "cost efficiency in Banking" held at Bangladesh Institute of Bank Management Seibel; Hans D; Linking Informal and Formal Financial Institutions in Africa and Asia Sobhan, Rehman; Fatmi, N. Ehsan; 1990; Role and Problems of Public Financial Institutions in the Recovery of Loans; Case Studies of Nationalised Commercial Banks Research Report No. 111, Bangladesh Institute of Development Studies Sobhan, Rehman; Ahsan, Ahmad; 1990; Problems of Repayment to the DFIs in Bangladesh: Results of a Field Survey of Selected Enterprises Research Report No: 112 Bangladesh Institute of Development Studies Sen, Binayak; 1989; Moneylenders and informal financial markets: insights from Haor areas of rural Bangladesh Research Report No. 100, Bangladesh Institute of Development Studies Sheng, Andrew; 1996; Bank Restructuring Lessons from the 1980s The World Bank The Insurance Act, 1938; Ministry of Law and Justice, Government of the People's Republic of Bangladesh The World Bank ; 1996 Bangladesh Rural Finance Agriculture and Natural Resources Division, Report No. 15484-BD, The World Bank  Return to the Documents Section
Hari Srinivas - hsrinivas@gdrc.org |
