Interest Rate ethics : an aspect of social performance in microfinance Arvind Ashta Chairholder in Microfinance Burgundy School of Business, CEREN E-MFP conference, Luxembourg, Nov Thanks to the Banque Populaire de Bourgogne –Franche Comté for financing.

2 Ashta European Microfinance Week, Nov Plan Interest rate levels Questions of governance Interest rate transparency

3 Ashta European Microfinance Week, Nov Donations and Equity to Compartamos Public funds Private funds International Development institutions : CGAP, IFC Compartamos AC (NGO) Compartamos (for-profit) US AID 68% 32% Accion

4 Ashta European Microfinance Week, Nov Compartamos IPO in 2007 $ 1.8M $ 38M $ 470M $ 600M 30% $ 6M $ 126M $1550M $2000M 100% Paid up capital 2000 Book Value 2006 IPO Proceeds 2007 Market Value 2007

5 Ashta European Microfinance Week, Nov The problem of governance For-profit or Not-for-profit Those who convert from not-for profit to for-profit: is this ethical Should not-for-profits own for-profits? 2008Legal Status Former status SKSNBFC since 2006Society before SpandanaNBFC since 2005Society before SHARENBFC since 2000Society before BandhanNBFC since 2007Society before AsmithaNBFC since 2002 SKDRDPTrust BASIX NBFC and Bank since 1997 Grama VidiyalNBFC since 2008Trust before BISWASociety since 1994 EquitasNBFC since 2007

6 Ashta European Microfinance Week, Nov Interest rates worldwide (Rosenberg et al. CGAP 2009)

7 Ashta European Microfinance Week, Nov Interest rates in Mexico (based on Rosenberg 2007, CGAP)

8 Ashta European Microfinance Week, Nov Power versus Interest Grid of Compartamos stakeholders (Ashta & Hudon, 2009) StakeholderOverall objectivesExpected interest rate desired Existing BorrowersAvailability, ImpactLow interest rates Potential BorrowersAvailablility, ImpactMixed: High if it enables outreach but Low as future borrower DonorsOutreach, impactMainly low interest rates? (but also sustainability) EmployeesProfit, growth, job stability, (but some may have social objectives) Mainly high interest rates? RegulatorsClient protection (Outreach, impact, employment?)Not related to interest rate (Low interest rates?) ShareholdersProfit, growthHigh interest rates (but 2/3 also have development goals)(some may want lower interest rates)

9 Ashta European Microfinance Week, Nov Ashta & Hudon (2009 a and b) Impact on existing borrowers would be greater if interest rates were lower (donors, existing borrowers) Need to be profitable for sustainability (shareholders) For growth (impact on new borrowers) How to balance these two objectives? Earmark Share capital to borrowers As part of interest payment As free/ bonus shares

10 Ashta European Microfinance Week, Nov The problem of transparency Flat rates APR EAR Other elements to take into account compulsory savings, up front fees Particular problems when period is short

11 Ashta European Microfinance Week, Nov What is the whole truth in lending? Example: you buy a good for 140 $. You pay 20$ cash and 150$ to be repaid in 6 monthly instalments (for a total of 170$) Method Calculation method (GP–RP) / RP [(GP-RP)/ RP] x 2 [(GP- RP)/LA] x 2 [(GP- RP)/AOB] x 2 (GP–RP)² - 1 IRR x 12 IRR Interest rate 21.4%42.8%50%86% (APR) 104% (EAR) 81% (APR) 119%(EAR) GP: global price RP: real price LA: loan amount AOB: average opening balance = (LA+D)/2 D: downpayment APR: annual percentage rate of charge EAR: effective annual rate IRR: Internal rate of return For finance professionals, last method is the whole truth: 119%

12 Ashta European Microfinance Week, Nov Interest rates of the top 10 Indian MFIs, where available (source: websites Oct. 2009) Interest RateEffective annual rate/ declining balance On flat basis SKS 12.5% to 15% flat25.6 – 30.2% Spandana Not discolosed SHARE 23.6% Bandhan 12.50% flat + 1% processing + 10% deposit 23.56% + + Asmitha 12.50% %23.60% % SKDRDP 11% to 11.25% BASIX 15%, 18%, 21% & 24% + a 10% cash deposit Grama Vidiyal Not disclosed BISWA 20% Equitas 27.5% to 28.5%

13 Ashta European Microfinance Week, Nov Conclusion: How to link interest rates with Social performance measures Deviation from average rates International Country Deviation from celings Deviation from usury rates Deviation from money lender rates Governance Is part of intrest going back to borrowers in terms of share capital Are profits lower if there are more NGOs on the board/ more donor funds Transparency in interest rates Flat rates ? APR disclosed ? EAR disclosed ? Other fees/ compulsory deposits disclosed?

14 Ashta European Microfinance Week, Nov Future research questions How should you distribute benefits with the range? How do you feel if your NGO becomes a profitable entity? Former Donors to NGO Former volunteers to NGO If you separate your loan from insurance services –to lower interest rates Will people still take your insurance services Does packaging oblige them to take all?