Measuring The Risks of Microfinance Institutions

May 2013
Vietnam, May, 21 2013 - On May 16, International Finance Corporation (IFC), Swiss State Secretariat for Economic Affairs (SECO) and Vietnam Microfinance Working Group (MFWG) held a conference to set up sustainable interest rate and risk management in microfinance.

The global experiences and best rules in risk management of microfinance institutions were shared.

2012 was recorded a year of so many “black” credit bankruptcies, leading to the miserableness situation for many people and families and the puzzle for society.

Dr Nguyen Tri Hieu, a banking expert said that the main reason is the economic recession. Besides, the lending by legitimate credit institutions has some deadlocks, so some people were forced to come to the loan sharks. The black credit fever is like dominoes, which is broken in a chain.

Nguyen Thi Tuyet Mai, MFWG’s manager said that when approaching the banks is hard and although lending interest rate is over 100 percent a year, borrowing is easy and transaction expense is low, people and businesses still find black credit institutions. Moreover, the transaction is convenient without too many documents, collaterals and with quick disbursement, so private lending has conditions to develop.

“We also need to consider about the majority of poor customers who were not served by the banks, so they caught off guard against seduction tactics of black creditors”, said Eric Duflos, CGAP/IFC. When microfinance’s activity is officially recognised with specific regulations of the State Bank of Vietnam (SBV), possibly black credit may be partly restricted.

Risk management principles

Dr Andrew Pospielovsky, IFC’s senior expert of risk management shared that like any trading activities, microfinance needs to have risk management principles, which are carefully evaluating all of the activities and measuring risks such as estimating potential risk related to each specific risk in case of poor management and accounting risks caused by bad debts. All of these activities aim at mounting and understanding different risks to prevent.

According to Andrew Pospielovsky, the easiest way to reduce risk is not carrying out the trading activity which is full of risk or the organisation does not understand and cannot control.

“The first step to limit risk is that microfinance institutions have to determine which business result they will do. At the same time, they must define the limitation involving in not only products but also customers”, Pospielovsky warned. Management system of microfinance institutions needs to be regularly checked in order to ensure that whether the formed limitations are damaged by any stages in the system.

The risky factors mainly include risks of trading, market, macro economy and staff, which always fluctuate. Thus, risk management system cannot exist rigidly, but needs to continuously flexibly update with the development of the organisation and market volatility. Some factors which threaten financial capability of microfinance institutions such as credit and liquidity risks need to be carefully considered at least once a month by the highest manager and once a quarter or at least once a haft of the year by the board of directors.

Where does risk management culture come from?

Andrew Pospielovsky affirmed that forming risk management culture must to begin from senior-strategic leaders because risk management is the key of business activity, especially for microfinance institutions which have invisible high risks. Each individual of the institution must understand the main resource of their risk and the individual function. To make the whole system deeply understand risk management culture, leader of those institutions must thoroughly grasp to the entire staff the main principles.

Firstly, risk management must be recognised as a foundation to create profit. Trading activity creates revenue, but to have profit from revenue, risk management must be really clear.

Secondly, the importance of risk management must be firstly presented in the trading strategy which the board of directors of each institution aims at. At the same time, it is also illustrated the power decentralisation such as the supervisory board and the board of directors.

Thirdly, it is necessary to measure the risk appetite of staff in each different department. Particularly, it needs to classify clearly between internal audits with internal control. Internal audits’ function is checking whether internal control has been working following standard of risk management as prescribed. It is not a part of internal control.

According to experts at the conference, the gap between a good credit institution and a poor one is not the existence of bad debts but the way they handle them. A good risk management organisation must deeply understand the reason why customers are failed to pay the debts and this issue is permanent or temporary.

“Thus, risk management needs to be suitable for all of trading activities. You should only carry out trading activities when your institution has enough opportunities and risks. At the same time, risk management needs to develop in a continuous progress”, said Dr Andrew Pospielovsky.

Source : Stoxplus

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