Investor Perspective: Sustainable Microfinance

Sep 2009
Hertogenbosch, The Netherlands, September, 07 2009 - Manuel Adamini and Marieke de Leede of SNS Asset Management offer some thoughts on how the impact of microfinance initiatives can be better measured.

Most responsible asset managers, evidently those with microfinance products on offer, are clearly advocating the positive effects of microfinance.

However, there are also many investors voicing critical notes about microfinance.

Some of its proponents believe that there is a need to improve the sustainability and effectiveness of microfinance institutions (MFIs).

Doubts often raised relate to risks regarding consumer credits, micro loans used for (short term) consumption purposes, or attention being driven away from other, allegedly more effective approaches to poverty reduction.

Finally, most investors by now demand clear and unambiguous information about the social return of their investments.

To accommodate for such concerns, a framework based on environmental, social and governance (ESG) criteria should pivotally feature in the selection process of MFIs.

This could increase the impact on poverty alleviation, all the while contributing to a credible and sustainable growth of the microfinance industry.

Impact assessment versus performance measurement

Numerous studies have assessed the social impact of microfinance. On balance, they offer assurance that microfinance is an effective strategy for poverty alleviation in a broader sense.

Besides evidence of a beneficial effect on increased income, there is also – yet often only anecdotal or debatable - support for the notion of positive impacts on, for example, health, nutrition and education.

Concerns are raised about the reliability and validity of these studies and their underlying data: e.g., the social impact is often translated into an estimated percentage of poverty reduction that can be attributed to microfinance, or a spill over effect in communities where MFIs are active is assumed.

Furthermore, the studies are very contextual, highlighted by opposing conclusions and research results. To correctly measure impact, such studies have to take into account external factors, such as national economic developments and natural disasters. They should also include a non-client control group to measure the changes of lives of people not ‘microfinanced’.

Moreover, it is difficult to account for differences in e.g. education, ownership of land, and family needs. This problem of dissimilar comparison groups, known as selection bias, can be resolved by conducting randomised assessments through numerous case studies.

However, why should research be limited to measuring these direct impacts on a case-by-case basis only?

A long term integral ESG-view

Rather than focusing on one-off impact measurement, investors should seek to take a broad basis of ESG-aspects into account in the research and decision making process for investments in MFIs.

Such an integrated assessment should demonstrate an investment target’s, thus MFI’s, value-added from a social impact and sustainable development point of view.

The social indicators currently reported by most MFIs, such as gender division (e.g. the percentage of female clients) and geographical division (e.g. the percentage of rural vs. urban clients), do not cover the growing demand for information on sustainability issues.

Involved stakeholders, including shareholders, want to know whether their investments in microfinance are really paying off.

In response to such rising demand for information and accountability on social performance, several organisations, investors and microfinance networks started to develop tools to encourage MFIs to expand reporting on social indicators.

For example, the Social Performance Task Force - created in 2005 as an international multi-stakeholder group in MFIs – strives to work out standards and indicators on which MFIs can report in an efficient and coherent manner.

The SPTF’s work resulted in a set of 22 indicators, aiming to benchmark MFIs’ social performance.

Although gathering such information will be very interesting, it can be questioned whether the approach will prove effective. MFIs do already express many concerns about impact studies and reporting requirements.

They complain about costs, time, and lack of expertise and supportive reporting systems to collect, evaluate and disseminate the relevant data.

Indeed, investors should abstain from suffocating MFIs with advanced levels of disclosure and accountability according to (Western) transparency standards comparable to those imposed on multinational corporations.

This would unduly distract MFIs from their core objective - providing access to financial services to those excluded from the traditional banking system.

Transparency should not be perceived as an objective in itself. Investors have to be critical in placing only realistic demands on MFIs, where a decent level of insight is achieved with the lowest effort possible.

In an integrated ESG analysis, MFIs should be assessed on a set of – strictly relevant – negative and positive criteria.

Exclusion criteria, covering reprehensible behaviour like corruption and child and forced labour, should be supported by positive sustainability criteria concerning efficiency, transparency, risk management, client protection, and the implementation of social and environmental policies (for example, with respect to equality).

In addition to the organisational sustainability of the MFI itself, an ESG-analysis should also assess whether the MFI, through its loan officers, is raising awareness about sustainability challenges and opportunities with its clients.

These issues include, for example, nutrition, health, sanitation, environmental degradation, education, and the importance of employment and continued learning.

In case of doubt about sustainable performance, such analysis allows for an active dialogue with the MFI in question, potentially paving the way for improvements in MFIs’ strategies and management, supporting a healthy organisation and healthy clients.

Obviously, any such dialogue should be constructive, based on mutual respect, and with due regard for local circumstances.

Discussing indicators not relevant to an MFI’s environment and its clients, or simply being perceived as overly ambitious or paternalistic, will not lead to (desired) outcomes.

“Big is beautiful”? - Be beautiful, grow big, and remain beautiful

Supporting microfinance institutions in becoming optimally efficient and effective in achieving their objectives belongs to a responsible investor’s obligations.

Once these preconditions are in place, sustainable growth of the industry – in order to enlarge its reach and impact on poverty – can be achieved.

The commercialisation of microfinance can provide incentives to realise the preconditions of effectiveness and efficiency, given that fair (i.e. market) rates of interest - cornering loan sharks - remain in place.

Once growth enters the arena, sustainability indicators at MFI organisation and client level become all the more important in selecting MFIs.

They are necessary to avoid the possible negative effects of microfinance cited by critics, and to strengthen its merits and credibility.

Sustainability indicators should accompany financial performance criteria on an equal footing, ensuring that MFIs remain as beautiful as they are while growing big.


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