When it was created in the mid-1970s, microfinance was thought of as an innovation allowing individuals excluded from the banking systems (poor, women, etc.) to access financial services at a reasonable cost. Its development is based on a double observation: firstly, the poorest are able to use credits for productive activities and can therefore repay them. Second, even in the absence of physical capital to pledge, they have “social capital” that they can use to make their repayment promise credible.
By developing innovative techniques, microfinance institutions (MFIs) have been able to use social capital (such as reputation) as collateral, thus offering the poorest means of accessing credit. The best-known innovation is group lending, which implies that all members of a group are jointly and severally liable in the event of default by one of them. Microfinance has developed other technical innovations such as the use of frequent repayments or the logic of increasing loans. These financial innovations have enabled many individuals in developing countries to obtain credit while offering MFIs very high repayment rates (higher than those of banks) and sufficiently high levels of profitability to enable them to develop. and attract new investors.
However, despite its social (access to financial services) and economic (financial viability) success, the sector began to come under increasingly harsh criticism from the early 2000s. , combined with the consequences of a deteriorated reputation and situations of over-indebtedness, could have had unfortunate social consequences on the borrowers (going as far as suicide in some cases). Beyond these tragic events, scientific studies have called into question the idea that microfinance has made it possible to reduce poverty in the world. The effects of microfinance, while not zero, are weak and allow only a very limited number of borrowers to improve their long-term living conditions and to get out of poverty. In addition, microfinance remains ineffective in the face of the situation of the poorest (poorest people, rural areas, landlocked, etc.).
Another more recent criticism relates to the orientation taken by the sector, which, for certain observers, places more and more the objectives of profitability above those of the fight against poverty, displayed initially. The good financial health of the microfinance sector has attracted the interest of new investors who are more, or just as much, interested in the financial return than in the economic and social impact generated. These new players have induced stronger competition on existing players and forced them to adapt so as not to disappear. At the same time, commercial banks, noting the profitability of the very small business (VSE) segment, have begun to develop new products in order to target these informal or semi-formal players.
The case of Madagascar
This double evolution, of commercialization of MFIs and downgrading of banks, raises the question of competition between these two categories of players who are supposed to operate in very distinct market segments. In a recent work, we study this question in the Malagasy case. Madagascar is indeed an excellent field for investigation because three out of twelve banks, including the country’s main bank, have developed products dedicated to VSEs. At the same time, the most important MFIs began to offer medium-term individual loans with relatively high amounts (theoretically being able to go up to several thousand euros).
In order to analyze the possible competition between MFIs and banks, we look at whether the loan officers of one of the main MFIs in Madagascar adapt the conditions of the loans they grant after the opening of a bank near their clients. The intuition being that loan officers will be more accommodating in granting credit if the client has the possibility of migrating to a bank (which we assume is more likely following the opening of a bank in the surroundings). Our statistical analysis confirms this hypothesis. We observe that loan officers offer higher loans and ask for less collateral following the opening of a bank. This effect is especially valid for customers whose amount of credit is already relatively high, that is to say those who are most likely to turn to the bank.
Interconnection between MFIs and banks
The first results of this study therefore suggest growing competition between banks and MFIs, contrary to a commonly accepted view. It is therefore a question of understanding, in a second stage, the more global implications of this change.
This evolution can favor the transition from MFIs to banks. Better access to MFIs could allow clients to familiarize themselves with financial tools and to create a credit history, useful to banks. Recent research has shown that following the expansion of a microfinance network in Rwanda, 10% of new clients migrated from microfinance to banks for their second loan. This result is explained by the sharing of information between banks and MFIs set up locally.
However, in many countries, such mechanisms for sharing information between banks and MFIs do not exist. Therefore, if MFIs are able to offer attractive loans (larger amounts and with longer maturities) for their best customers, the latter could turn away from bank loans (although less expensive and offering longer maturities) . There is therefore a risk of locking these borrowers into an exclusive relationship with the MFI (“hold-up” effect), while these small businesses could benefit from debt conditions more suited to their development from the banks. Further studies should analyze to what extent these two markets (banks and MFIs) overlap and whether borrowers migrate from one to the other.
Finally, if this interconnection is accentuated, the authorities will have to strengthen the regulation of MFIs (in particular at the level of the communication of interest rates and the requirement of formalization of the financial statements of borrowers). The challenge will then be to find the right balance between better customer protection and sufficiently flexible regulation so as not to penalize the development of the sector.