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Annual Report 2004 : Special Theme: The Changing Face of the Microfinance Industry: Building Financial Systems for the Poor
The ChallengeDespite significant progress in poverty reduction in the last decade, Asia is still home to a majority of the world's poor. If the $1-a-day poverty yardstick is used, it is estimated that over 690 million poor people live in the region. This constitutes approximately 138 million households. If the yardstick of $2 a day is used, about 1.9 billion in some 380 million households are poor according to the Asian Development Bank's (ADB) recent estimates.1 The tsunami disaster in South and Southeast Asia in December 2004 may have increased the number of poor by at least another 2 million. Microfinance is an effective development tool for poverty reduction for the simple reason that financial services enable poor and low-income households to take advantage of economic opportunities, to build assets, and to reduce their vulnerability to external shocks that adversely affect their living standards. It is now recognized that precisely because they do not have much money, poor and low-income households need financial services even more than other households do. The stark reality is, however, that over 200 million poor and lowincome households in Asia may not have access to services as country studies by ADB and others indicate that the microfinance outreach of formal and semiformal institutions is very limited. ADB's vision is a region free of poverty; excluding the majority of the population from access to financial services is not at all consistent with this vision. Expanding access to financial services is critical for eliminating poverty and for realizing the Millennium Development Goals. Recent estimates by the Consultative Group to Assist the Poor (CGAP) indicate that microfinance institutions in Asia have about 41 million loan accounts and 98 million deposit accounts.2 In addition, alternative financial institutions (AFIs) with a social mission such as postal savings banks, rural development banks, and cooperatives also provide microfinance services although it is difficult to estimate the number of poor households they serve. Most of these providers do not, however, offer the broader range of services such as money transfers, insurance, and payment services that poor people demand. Financial services cannot function in isolation as a magic bullet to lift people out of poverty, but the close relationship between financial services and poverty reduction provides strong justification for putting financial systems for the poor at the center of the development agenda. It is for this reason that CGAP is working to build such systems. The microfinance industry has been evolving over the last 3 decades. In the early 1980s, it was dominated by nongovernment organizations (NGOs) that experimented with innovative programs and attempted to address what they perceived as the failure of markets and governments to provide financial services for the poor. They were heavily dependent on external grant funding. In fact, ADB's first microfinance project supported NGO microfinance institutions in the Philippines. Some of these NGO operations became flagship programs. Grameen Bank in Bangladesh is perhaps the best known, and BRAC has become a giant in the industry not only in Bangladesh but also globally.3 Their impressive results generated a great deal of interest in microfinance in the broader development community. Despite the successes of these and similar institutions, the majority of the poor is still compelled to rely on informal sources of finance or on self-finance neither of which allows them to take full advantage of economic opportunities. High rates of interest on credit in informal markets—often in excess of 120% per annum—cripple incentives to invest in productive activities, and self-finance does not allow poor households to take advantage of new technology. Closing this wide gap between the massive potential demand for and the supply of institutional financial services for the poor on a sustainable basis is the central challenge of developing financial services. Like most other funding agencies, ADB has supported microfinance for many years. From 1988 to 1999, ADB approved 14 microfinance projects totaling $260.10 million, 13 projects with microfinance components valued at about $106.79 million, and 45 technical assistance projects for about $24.42 million. Recognizing that the industry landscape has changed over the years, ADB began to formulate a microfinance development strategy in 1999 that was approved in May 2000. The strategy provides a consistent and comprehensive framework and guides ADB's microfinance operations including policy dialogue with developing member countries. It also articulates to stakeholders ADB's firm determination to support sustainable microfinance in the region. After the strategy was adopted, ADB's assistance shifted from providing support for narrowly defined microcredit projects to building financial systems for the poor. From 2000 to 2004, 10 microfinance loan projects totaling $350.80 million and 16 projects with microfinance components of about $131.02 million were approved. ADB also provided financial assistance to 7 governments to prepare microfinance projects and for 21 advisory technical assistance projects for capacity building at various levels in 12 countries. The tsunami disaster further reinforced the need for an inclusive financial system that responds to the demands of the low-income segments of the population. In addition to its heavy death toll, the tsunami destroyed the livelihoods of over 300,000 households, and poor households were the hardest hit. Restoring these livelihoods will necessitate an innovative combination of grant assistance and special financial service schemes tailor-made to meet the needs of the survivors. Global perspectives on microfinance are changing. Even the meaning of the term “microfinance" has altered. According to CGAP,4 as recently as a few years ago, it meant, “… a credit methodology that employs effective collateral substitutes to deliver and recover short-term, working capital loans to microentrepreneurs." Today, the term encompasses a broad spectrum of financial services that includes not only microcredit but also savings, insurance, and money transfers. Perspectives on the target group for microfinance have also expanded in recent years to include low-income men, women, and children and the poorest of the poor. The inclusion of the last group seems to have been influenced by the increasing recognition of the link between microfinance and achieving the Millennium Development Goals. Another significant change is that microfinance services are no longer considered a niche market activity that should be confined largely to the development community and carried out solely by specialized microfinance institutions. Today, it is believed that if microfinance is to achieve its full potential, it must be fully integrated into a developing country's financial system with access to vast amounts of human, physical, and financial resources and management know-how.
A paradigm shift toward market-based approaches to poverty reduction is also taking place. In the larger business world, a growing number of established companies including some multinational corporations has achieved impressive results in reaching the poor in innovative ways with their products and services.5 This reaffirms the feasibility of large-scale commercial microfinance and strengthens private sector interest. Today's microfinance industry reflects the efforts of stakeholders to address the issue of financial services for the poor as effectively as possible. Macro changes in the policy environment and in financial infrastructure include legal, regulatory, and supervisory frameworks. Micro changes include industry composition, products and services, delivery mechanisms, the potential market, and how the market is served. The region's microfinance industry has seen at least five important changes in recent years: (i) central banks have more actively promoted microfinance in many countries, (ii) the diversity of service providers has increased significantly, (iii) operations have become more diverse, (iv) target markets have become broader, and (v) the level of commercialization has increased. ADB has played a key role in reinforcing some of these changes through its direct assistance for microfinance operations, its policy dialogue with stakeholders, its sector work, and its knowledge generation and sharing.
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