Where is it taking us and where are we taking it?

May 21 - 27, 2007


Microfinance can be defined as the financial services for the poor households and their micro enterprises; these needs may vary, but are not limited to, credit, savings, insurance and payment transfers. For catering to these needs, there are the Microfinance Institutions (/Banks) that are specialized in meeting these needs and wants. This sector can be considered as high cost and high risk ventures, and thus, financial institutions apart from the specialized ones tend to stay away from them. The NGO-MFIs and the specialized poor focused programs therefore, have been the major providers of microfinance both domestically and internationally. The NGOs alone however, given their resource constraints- financial and managerial- are not likely to substantially increase the outreach of MF services to the poor in the foreseeable future. The concept of formal microfinance banks, having capacity to provide a range of financial services to the poor on self sustainable and commercial basis has, therefore, emerged since mid 90s and gaining increased acceptance in most parts of the world, including Pakistan.


In Pakistan, the concept of microfinance is relatively newer than in other countries of the same region. The NGOs and Rural Support Programs has been the major player in the sector since early 1980s covering about 5% of more than 6.5 million poor households in the country. Recognizing microfinance as an important poverty alleviation tool, the Federal Government has adopted a microfinance policy that mainstreams the concept of sustainable microfinance, recognizes the private sector's role in poverty reduction and encourages its entry into banking with the poor. It has enacted a legal framework, the MFIs Ordinance 2001, for establishing Microfinance Banks in private sector and also facilitated establishment of Khushhali Bank, a public private partnership, with twin objective of substantially increasing outreach of microfinance services in the medium term and giving a model institution to the private sector to follow. The MFIs Ordinance 2001 inter alia stipulates the functions, capital requirements, ownership structure, terms and conditions for establishing Microfinance Banks/Institutions in the country, audit and disclosure requirements and winding up procedures. The provisions of the ordinance are applicable on microfinance institutions mobilizing savings from public to finance their operations.


The end of the year at December 2006 embarks the increment in microfinance sector close to the 1 million mark in terms of active borrowers and savers. There has been a drastic turnaround in terms of active savers as well as borrowers compared to the first three quarters of the same year, and also in comparison to the past trends.









As on Dec-31-2006





The data and their analyses reveal that the pact of development and growth in the urban areas has outpaced the expansion of the rural areas.


Over the last few years, Pakistan has invested in the early growth and development of a microfinance industry capable of providing financial services to the poor and unbanked. Various public and private organizations such as the Pakistan Poverty Alleviation Fund, Khushhali Bank and a range of other Microfinance Banks and NGOs have also invested at least $400 million into the provision of these services. Statistics show that this investment has initiated growth from 60,000 active borrowers in 1999 to more than 600,000 in 2005. However, the analysis of the microfinance performance in Pakistan reveals that the industry is constrained in its current capacity to move towards sustainability which risks the future growth and expansion of services. Growth is considered critical since only an estimated 6% of the potential 10 million micro-credit borrowers have access to credit services.


Over the past 8 years i.e. from 1999-2007, Pakistan has made notable progress towards fulfillment of the promise of building financial systems that reach out to the poor and provide them with services to better manage their precarious lives, by generating growth, minimizing costs, and ensuring repayment. While progress has been made in these essential areas, the performance data reveals a persistent structural flow ñ a reluctance to increase the revenue earned from lending to fully cover costs. In other words, the interest rates, service charges, and other fees charged to borrowers are too low for growth to continue. Pakistan is fortunate to be able to see this flaw clearly. Since 1999 Pakistan has been a leader and trendsetter in comprehensively, accurately, and transparently measuring the performance of a large majority of the microfinance market in Pakistan. There has been tremendous amount of research that has been conducted and can be deduced into 5 statements as mentioned below:

1. A Massive Upfront Investment: Funders have directed at least $400 million in loan capital, share capital, and other investments into the microfinance sector on largely concessional terms.

2. Investment has Initiated Growth: Outreach to active borrowers has expanded from 60,000 to over 1,000,000.

3. Credit Delivery Costs are Globally Competitive: Innovations, attention to efficiency, economies of scale have reduced costs to a level that is competitive with the best in the world.

4. Loan Repayment is Solid for Most Institutions: Most providers have maintained solid repayment performance by professionalizing their micro-credit staff and systems.

5. But a Structural Flow Persists: The revenue generated by providing micro-credit services is grossly insufficient to cover costs and, as a result, the industry has not been moving towards sustainability.

The progress from investment, growth, lower delivery costs, and better repayment masks a fundamental structural problem: revenues from interest rates, service charges, and loan fees are too low to cover costs. A gap remains between what it costs to deliver the services (readily low) and what is earned from providing these services. This gap is currently being bridged through the use of funds from upfront investment in microfinance. Pakistan has been slow to address this gap. The average revenue (yield) earned from loan capital has remained under 20% since 2000. This remains well under Asian standards and other regions. This means the microfinance remains well below financial self-sufficiency. In fact, microfinance industry in Pakistan has not improved its financial self-sufficiency since 2002, remaining consistently at or below 70% sustainability.


The persistent shortfall of revenue against costs has serious implications for the present and future of microfinance.

1. The upfront investment in the sector shall be mainly utilized to bridge this gap, eventually causing a huge opportunity cost and weakening of long-term growth prospects.

2. Slow flow of funds may eventually cause shrinkage in the size of the pie i.e. the current market.

3. In a hypothetical scenario, reaching the market potential of 10 million would only be possible sometime between 2014 and 2015.


With this being a true sign of concern, and the target market for the State Bank to achieve this level of penetration being the year 2010, the government should be considering the increase in interest rates and other charges to make this sector self-sustainable and profitable. It is about time that the government reduces or eliminates subsidies and the cost savings should be well utilized to bring about more investment and more innovation in this field rather than sticking to the traditional odds.