STP, Service Road North, I-9/3, Islamabad, Pakistan
+92 51 4102171-2
+92 51 41021713

Efficiency of MFIs Key to Reducing Borrowing Costs

increased quality - speed - efficiency

The greatest challenge to microfinance business model is to lower its operating costs in order to lower the cost of service that is borne by its customers. Microfinance Information Exchange, Inc. (MIX) study highlights the cost structure of profitable microfinance institutions. The paper suggests that operating expenses represented 62% of charges to the borrowers, 23% as financial expense, profits 10% and losses from defaults 5%. It is clearly evident that operating expenses form the bulk of the interest rate for the borrowers. In order to lower the borrowing cost the microfinance institutions would first have to identify the drivers of operating cost and subsequently reduce them in order to improve efficiency of the institution.

The cost can be classified into two broad categories; one represents the MFI characteristics and the other represents the country characteristics where the MFI operates. MFI characteristics help to capture cost differences between different MFIs in the same country. As a larger MFI having more borrowers is going to be far more efficient than a smaller MFI operating in the same country. Some of the MFI characteristics are as follows:

  • Lending Methodology (Individual, Village Banks, Solidarity Groups)
  • Legal Status (Licensed, NGOs, Rural Banks, Credit Unions/Coops)
  • Average Loan size per borrower/GNIPC (Gross National Income Per Capita)
  • Number of borrowers
  • Number of Offices

Whereas, the country characteristics highlights the differences in financial infrastructure (institutional), price and availability of doing business and the macroeconomic environment of the respective countries in which each MFI is operating. Some of the country characteristics are:

  • Physical Infrastructure and density of target population (Electricity Production per capita, Electricity Outages, Roads Paved (percent), and Total Density of Population)
  • Financial Infrastructure (institutional): Credit Bureau (both public and private)
  • Price and availability of inputs: Internet Bundle/GNIPC, Residential Phone Line/GNIPC, Literacy rates (percent total population)
  • Doing Business (time and cost): Insolvency resolution (years), Payment of Taxes (hours), Enforcement of Contracts (days), Business Startup/ GNIPC
  • Macroeconomic Environment (GNIPC, Growth Rate of GNIPC, Lag Growth Rate, Inflation, Lag Inflation, Financial Depth)
  • Financial Infrastructure (physical): ATMS/population, ATMS/surface, Branches/population, Branches/surface.

What these characteristics clearly highlight is that the MFIs enjoying scale do enjoy reduction in costs, suggesting scale as a strategy to improve efficiency. But the industry still lacks viable technology solutions that can help fully leverage the advantages from scale and mold the institute into a more efficient one. Secondly, there could also be a possibility that MFIs have not fully understood how to implement them appropriately in order to reap the most benefit from scale of services offered.

Hence, it is extremely important in order to provide borrowers with a reduction in cost of borrowing one has to improve the efficiency of the MFIs. This can only be possible once the relevant characteristics have been kept in mind and appropriate solutions to take advantage of scale have been developed, deployed and implemented by MFIs.

Related Posts

Share Your Thoughts

%d bloggers like this: