International Islamic University Malaysia Does Microfinance Approaches Determine the Effectiveness of Its Intervention in Enhancing Microenterprise Performance? Evidence from Bank Rakyat Indonesia Weni Hawariyuni Salina Kassim International Islamic University Malaysia

INTRODUCTION Microfinance has shown to be effective in alleviating poverty and improving microenterprise performance across the globe Better income and employment in Bolivia (Mosley, 1997; Mosley and Hulme, 1998) Better income, saving & loan repayment among youth entrepreneurs in Kenya (Simeyo et al., 2011) Higher assets owned and better performance of microenterprises in Malaysia (Al-Mamun et al., 2012; Saad and Duasa, 2011) Others: women empowerment, better education, economic growth, multigenerational effects

INTRODUCTION Microenterprises (MEs)rely on MFI for financing due to: 1. Demand-side issues: MEs face obstacles borrowing from commercial banks In Indonesia, only 12% of SMEs can get credit from CB Collateral and other administrative requirements Difficult for MEs to start or expand their businesses 2. Supply-side issues: CBs are reluctant to extend credit to MEs due to questionable capabilities of MEs High risk-no proper accounting books, unable to present proper business forecasts Loans required are too small, thus unprofitable for banks Enforcement issues: no collateral and no insurance

OBJECTIVES OF STUDY Investigate the effectiveness of MFI in enhancing performances of MEs in the case of Bank Rakyat Indonesia (BRI) Compare two products of BRI in terms of their effectiveness in enhancing MEs performance Highlight lessons learnt from the success story of BRI

BRI as MFI Launched in 1984 with US$20 million government seed capital + start up capital + 2 years First commercial bank to provide financial services to millions of economically poor (Robinson, 2005); largest and most successful commercial MFI in the world (Maurer, 2004) Demonstrated success in transforming the microfinance section of a government-owned bank to become a highly profitable, self- reliant financial intermediary A major microfinance provider offering micro-savings and micro-credit products to low-income people at market rates of interest (Seibel, 2005)

BRI as MFI Currently, BRI uses savings mobilisation as its source of funds, and no longer depends on the Indonesian Government or World Bank Has covered its costs from the interest margins and financed expansion from its profits By end-December 2003, BRI had: 30 million accounts for savers; US$3.5 billion in savings balances 3.1 million accounts for borrowers; US$1.7 billion in loans outstanding  excess liquidity around US$1.85 billion

BRI as MFI Lessons to be learned from BRI: How to transform from a subsidised government-owned bank to a viable, competitive and self-sufficient financing intermediary? How to remain profitable during economic crisis such as during 1997-1998 Asian economic crisis (while many Indonesian banks collapsed, BRI Units managed to secure 1.3 million new savers during the crisis)? How to be self-sustaining and sustainable?

BRI and its Microproducts Rural General Credit/ Kredit Umum Pedesaan Kredit Usaha Rakyat Kupedes; launched in 1984 Comes with micro-saving product Simpedes in 1984 offering safe, convenient and liquid saving –concept of joint-saving Flat interest rate depends on amount of loan, the bigger (loan) - the smaller (int. rate) Distribution: Rp78.99 trillion in 2011 KUR; launched in 1994 A micro-product subsidized by the government In general, has lower interest rate compared to Kupedes Most clients are given loan tenure up to 2 years with a minimum of 6 months Variable interest rate depends on tenure, the longer-the higher int. rate Rp11.20 trillion in 2011

Comparison: Which is More Successful? Specific analysis is provided in full paper Survey on 400 BRI microfinance clients in Medan area Adopt “before and after approach”: To quantify the impact of intervention on income, assets and household expenditure Results Kupedes gives significant positive impact on all three performance indicators KUR only gives impact on income

Lessons Learned from Good Practices of KUPEDES

Lessons Learned Main reasons for success of Kupedes, BRI in creating a successful commercial micro-lending program that serves the poor which is profitable and self-sustaining: Efficient income side: lend at market rates and use income to finance their operations Stable source of funds: devise appropriate savings instruments to attract depositors. Savings instrument for the poor is as important as providing them with loans. Mobilizing rural savings also provided the banks with a stable source of funds  Simplicity of loan design in order to keep costs down Effective management at the unit level backed by close supervision and monitoring by the center; and appropriate staff training and performance incentives. Presence of existing institutional network of village banks and a thriving economy that had spread to many rural areas were also critical. 

Lessons Learned (1) 1. A focus on objectives and guided by good policies: Non-targeted credit, except for loan size Non-subsidized lending Ensuring profitable operations   2. Simplicity of design programs geared to self-sufficiency, backed by careful attention to organizational detail and staff incentives The program's management instituted a system of quality control that emphasized monitoring, supervision, and accountability backed by significant attention to staff training Management also devised performance incentives, rewarding employees and units for good performance. 

Lessons Learned (2) 3. Widest customer reach Every sub-district town had at least one unit desa. In 1993, BRI ran a vast network of almost 3,300 unit desas (village banks) and 620 village service outposts Together, the units employed 16,000 people, representing the biggest single rural banking network in the country. 4. Developing a savings instrument for the poor is at least as important as providing them with loans Self-sustainability through savings mobilization SIMPEDES, the village savings program, attracted thousands of depositors By mobilizing rural savings, it not only provided the banks with a stable source of funds, it also kept financial savings in rural areas, thus helping continue development in the countryside. 

Lessons Learned (3) 5. Efficient operation practices Staffing of units determined by a ratio (e.g. 1 credit officer per 400 borrowers, 1 teller per 200 daily transactions in automated units, and 1 teller for 150 daily transactions in non-automated units Operational structure of each unit was kept simple. Units were staffed by at least four persons and at most 11. If the business of a unit expanded beyond the maximum staff limit, the unit was split, thus keeping the operation small and focused Village service outposts were manned by 2 people.

Lessons Learned (4) 6. Motivation and competition . Transition from nonmarket to commercial banking required a major change in company culture and work ethics - took place during the 4 years of KUPEDES, and produced clear operational procedures Institutional incentives were used to motivate staff (e.g, performance bonuses allowed 10 percent of the unit desas' profits (up to one-and-a-half months of an employee's salary in a year) to be paid to staff. Various ways to promote competition among the units Recognize top 20 performers of each region, who then competed for becoming the top 20 performers at the national level. This competition was based on several criteria, including savings mobilized, outstanding portfolio, short- and long-term loss ratios, and management. 

Lessons Learned (5) 7. Sound macroeconomic and sector performance KUPEDES was initiated at a time of rapid growth spurred by Indonesia's structural adjustment and sound sector development program The economic expansion fed into the growth of incomes in rural areas, and the strong rural infrastructure and agricultural supporting services programs helped to increase demand for credit, and as important, create the basis for growth of domestic savings in rural and small households.  7. Government commitment and ownership are at the heart of a sound market-based credit program Designed and launched by the government. The program was implemented with a high level of government commitment and guided by carefully chosen technical experts who not only understood the issues but appreciated the need to adapt solutions to Indonesia's unique setting 

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