Innovations in Addressing Rural Finance Challenges in Ethiopia

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• Innovations in Addressing Rural Finance
  Challenges in Ethiopia
• Presentation
• by
• Berhanu Taye
• Addis Ababa
• July 2008

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• Outline
• 1. Background
• 2. Trends of Rural/Microfinance Development
  in Ethiopia
• 3. Factors Contributed to MFIs Rapid Growth
• 4. Challenges of Rural Finance
• 5. Best Practices/Innovations
• 6. Conclusion

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• I.  Background
• 1.1   Overview of the Rural Sector
• Ethiopia
• Population in 2008 about 80 million.
• GDP per Capita USD 180 in 2006.
• One of the poorest countries of the world.
• Poverty is endemic to the country the poor makes
  insufficient money to cover daily meal, health,
  education and other services.
• Poverty reduction is the central element of the
  Governments development agenda and hence, rural
  financial policies, goals and objectives focus on
  targeting primarily the poorest and disadvantaged
  rural households.

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• The Rural Sector
• The rural sector involves all villages and rural
  towns where the
• majority of the population lives.
• About 80 of the country's population lives in
  rural areas and the
• majority of the rural population is engaged in
  agricultural
• production.
• Apart from agriculture, sizeable portion of the
  rural population is
• engaged in non-farm activities that have
  gradually increasing in
• recent years.
• In Ethiopia, the rural sector plays a decisive
  role in the growth
• and development of the national economy.
  Agriculture is the
• dominant economic activity of the economy that
  accounts for
• nearly 50 of the GDP.

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• Characteristics of the Rural Sector
• Agricultural activities are the main stay
• Low level of productivity
• Constitutes an emerging rural non-farm
  activities
• High level of poverty
• Underdeveloped infrastructure
• Poor entrepreneurial development
• Natural resource degradation
• Shortage of capital poor saving habit
  leading to
• seasonal income fluctuations
• Weak local government institutions

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• The level of development of the rural economy in
  most of development countries like Ethiopia has
  got a direct influence on the overall national
  economy.
• Thus, efforts and resources allocated in these
  countries to promote accelerated economic
  development largely focus on the transformation
  and modernization of the rural sector.
• A prominent obstacle to rural development is the
  problem of mobilization of resources, which is
  crucial in achieving rapid economic growth of the
  rural economy.

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• The initial step in resource mobilization for
  development purposes is the mobilization of
  financial resources that leads to capital
  formation
• Since the rural economy represents a substantial
  proportion of the country's human and natural
  resources, large amount of capital is needed to
  help transform and modernize this sector.
• Rural financial institutions, i.e. microfinance
  institutions (MFIs) are, thus, relevant important
  financial institutions which are designed and
  expected to encourage and mobilize savings and
  also channel such savings into income generating
  activities in the rural areas.

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• 1.2 The Financial Sector
• As in the most developing countries , the
  financial system of Ethiopia is characterized by
  the co-existence and operation side by side of a
  formal sector and an informal financial sector.
• The informal financial market, for the most part,
  is outside the framework of national accounts and
  statistics. However, the majority of the rural
  population is considered to be the direct
  beneficiary of the informal credit sources.
• Formal credit sources have got institutional form
  and they are organized based upon the economic
  policy of the country.

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• Formal sources of rural credit in Ethiopia are
• the banking system
• MFIs
• SACCOs/RUSACCOs
• 2.2 Importance of Rural Finance
• Rural finance covers provision of credit, savings
  mobilization, activities and providing other
  essential financial services such as money
  transfer.
• Rural finance is an effective tool of poverty
  reduction and rural development. Its impact is
  fully observed only when conducive policies are
  in place, markets are functional and
  non-financial services are available.

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• Rural credits are considered as very important
  means of increasing investment capacity of
  farmers for increased employment and food
  production thereby alleviating poverty, famine
  and hunger.

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• 2.TRENDS OF Rural/Microfinance Development in
  Ethiopia
• 2.1 Development Role
• In Ethiopia, formal rural credit service has been
  subject to government policy intervention during
  the last two-three decades.
• DBE was the main source of agricultural credits.
• CBE has been providing input credit since the
  1986 NBEs Rural Credit Policy Directive that
  permitted CBE to participate in the rural credit
  market.

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• As part of NGO relief and development efforts as
  well as to address the growing demand for
  credits in the rural sector the microfinance
  credit scheme was launched in early 1990s.
• A proclamation for licensing and supervision of
  microfinance business was issued by NBE in
  1996. Currently, more than 27 MFIs are registered
  by NBE.
• One of the most important innovations in
  development finance in recent years has been the
  emergence of microfinance.

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• 2.2 Financial Products
• Microfinance is the provision of financial
  services to the entrepreneurial poor. Most MFIs
  provide limited range of financial services. The
  financial services include
• Micro loans
• Micro savings
• Micro insurance
• Money transfer (payment)
• Pension fund management
• Moreover, they also provide non-financial
  services including
• Training
• Sensitization of clients on mainstream issues
  like HIV/Aids

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• Microfinance activities usually involve
• Small loans, typically for working capital
• Group guarantee or compulsory savings as
  substitute for collateral
• Access to successive larger loans based on
  repayment performance
• Streamlined loan disbursement and monitoring
• Secure voluntary savings products
• Informal appraisal of borrowers investments

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• Lending Methodologies
• Group solidarity loans main method, usually
  small loans, members cross-guarantee each other
• Individual lending larger size, loans to small
  business graduated from MFIs loans to employee
• Members owned managed lending SACCOs/RUSACCOs
• Microfinance in Ethiopia is an infant Industry,
  but the sector is tremendously growing in terms
  of number of MFIs, both geographical and client
  outreach, loan outstanding, saving mobilization,
  capital, assets, etc.

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• 2.2 Growth, Achievements and Lessons
• Achievements
• The Ethiopian MF industry manifested a
  remarkable growth since the early 1990s
• June 2001 March 2008
  growth
• No. of clients 461,326 1,834,007
  4 fold
• O/S Loan Birr 308.6 million Birr
  3,5 billion 11 fold
• Client saving Birr 243.3 million
  Birr 1.2 billion 5 fold
• Moreover, as at March 31,2008 MFIs recorded
• Total assets Birr 4.5 billion
• Total capital Birr 1.2 billion
• Source AMFI Reports 2007 2008.

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• Financial performance- Country Average
• 2003 2006
• 1.Operational sustainability 104 131
• 2.Financial sustainability 77 92
• 3.Return on assets -5 3.6
• 4.Portfolio at risk lt30 days 7.6 5.4
• Source AEMFI 2008.

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• Available evidences from various studies and
  reports show that microfinance services in
  Ethiopia will
• Reduce poverty through increasing income, smooth
  consumption flows, expand asset base, and
  improved living conditions
• Improve health care nutrition
• Womens empowerment
• Improve children's education, etc.
• The ability to borrow, save and earn income
  reduces economic vulnerability particularly for
  women and their household.
• Successful MFIs have manifested that the poor are
  bankable and banking with the poor can be
  profitable and sustainable.
• MFIs have proved that it is possible to achieve
  both objectives of reaching the poor as well as
  be financially sustainable

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• Only sustainable MFIs can reliably provide
  adequate financial
• services and continously increse their
  outreach to the poor.
• The strength of MFIs lies in
• The ability to develop demand driven products
• The ability to reduce transaction costs
• Monitoring mechanisms and to manage
  environmental,
• socioeconomic, cultural and other risks
• Allocate scarce resources efficiently
• Make their resources grow continuously.

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• Lessons
• Poor women and men have shown that they are
  bankable and responsive to MFI financial
  services.
• MFIs need to be cost effective so as to reliably
  provide adequately provide financial services and
  increase their outreach.
• Simplification of loan process and reduction of
  loan disbursement lead time will make clients
  confident of being funded on time.
• Linkage of MFIs with the banking system requires
  timely action.
• Rural households need to be linked to markets as
  well as rural credit and other support systems.
  The interdependence of credit and product/input
  markets is very important and would remain
  critical for rural development.
• Support in areas of capacity building, technical
  assistance, marketing information is critical for
  the rapid growth of the microfinance industry.
• Collection of reliable client information will
  help careful screeninig timely loan
  disbursement.

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• Continued lessons
• Close monitoring of loan performance results in
  high on-time
• collection rates and reduces loan losses.
• Introduction of regulations of new instruments
  like warehouse
• receipt (voucher) system contract
  farming/out grower
• scheme and assurance to clients based on the
  socio-
• economic setting of the country would have
  considerable
• contribution.
• Training of clients need to be strengthened.
• Beneficiaries participation should be pursued
  at design and
• implementation
• There is considerable and sharply growing unmet
  demand for
• credit
• Credit services should be demand driven.
• Provision of repeat loans with a gradual
  increase of the loan size
• following good loan repayment.

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• 3. Factors that Contrbuted to MFIs Rapid Growth
• The Ethiopian MF industry has witnessed a
  remarkable growth in the past years. Both
  external as well as internal factors contributed
  to this growth
• External factors
• Government support
• i. Commitment of the Federal Government
• ii. Regulatory and supervisory framework
• iii. Institutional capacity building support
• iv. Support in linking MFIs commercial banks
• v. Design implementation of donor financed
  special support programs like RUFIP, etc
• Donor support
• Grant fund for capacity building
• Technical assistance

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• Internal Factors
• Most MFIs have vision, mission and explicit
  objective that make poverty reduction part of
  their organizational culture.
• At the same time their operation is geared
  towards cost effective way of reaching the poor.
  Operational self-sufficiency of most MFIs is
  higher indicating that their revenues would
  cover their operating costs, costs of loan losses
  and raising their capital.
• The existence of the MF Network (AEMFI), from
  which they get multi-faceted support like
  training, technical assistance, etc.

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• .continued Internal Factors
• MFIs ability to strictly operate under the
  regulatory framework, which make them
• To be healthy financial institutions
• To stay competitive
• To install and maintain good governance
• Most MFIs undergo continuous transformation
  process, i.e.
• Willing to design and introduce new financial
  products, more
• flexible enough in light of customer needs
• Willing to continuously improve delivery process
• Continuous human resource development

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• 4. Challenges of Rural Finance
• Shortage of loanable fund to address the growing
  demand
• Limited capacity for smaller MFIs in expanding
  outreach to new areas
• Weak linkage between MFIs banks
• Poor saving culture (like depositing in the
  morning and withdrawing in the afternoon)
• Underdeveloped credit culture - belief that
  credit should be donation
• Growing drop out rate due to poor group formation
  and preparation
• High illiteracy lends making training awareness
  very costly
• Lack of adequate information for loan processing
• Absence of bank branch network and hence high
  travel cost
• Involvement in several credit programs by clients
  leading to the case of borrowing from X MFI to
  repay Y MFI.
• HIV/AIDS other related problems

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• Contnued..Challenges of Rural Finance
• The major challenges of rural/microfinance
  institutions can be summed
• to the concept of Critical Microfinance
  Triangle Zeller and
• Mayer(2002), which requires the need for any
  MFI to manage
• simultaneously the problem of outreach,
  financial sustainability and
• impact as shown below

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• Continued Challenges of Rural Finance
• Outreach reaching the poor in terms of both
  number and depth
• Financial sustainability meeting operating and
  financial costs over the long-term
• Impact having observable effect upon clients
  quality of life
• Based on this concept, MFIs should be able to
• Choose their target clients ensure large number
  of target clients are reached using
  cost-effective means
• Develop range of products that could meet
  clients needs
• Set simple and standard loan procedures
• Reduce transaction and supervision costs

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• Best Practices/Innovations
• The following key innovative approaches are
  effective tools for addressing rural finance
  challenges
• Firm vision/mission to reach the poor
  increasing outreach with the ultimate goal of
  reaching large number of clients and poverty
  reduction
• Simple and innovative products, i.e. development
  of demand driven financial products
• Cost effective MFI for attaining operational
  financial sustainability control over
  administrative expenses and effective use of
  resources

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• d. Diversified funding sources
• e. Standardized Simple delivery procedures/
  methodology
• f. Linkage of MFIs banks
• g. Continuous institutional capacity of MFIs so
  as to address
• Good governance
• Human resource development
• Portfolio quality improvement
• MIS strengthening
• Loanable fund/savings mobilization
• Quick information on repayment default
• h. Flexible loan terms conditions, e.g.
  suitable loan repayment schedule tailored to the
  clients cash flow
• i. Close frequent monitoring follow up
• j. Appropriate standard criteria (ratios) for
  measuring MFIs performance

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• 6.Conclusion
• The building cornerstones for achieving MFIs
  financial success
• are
• efficiency effectiveness of processes
• Development of quality services
• Support for innovation in operation and services
• Responsiveness to client needs
• The innovations compliment each other. Using a
• combination/ integration of approaches in
  providing
• financial services to the rural households
  could be a better
• alternative of doing things effectively.

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• Thank You!