Subsidies and Self-Sustainability Lecture 11 Week 6

Structure of this lecture Subsidies: Evidence from the Grameen Bank Costs and benefits of subsidies -The Case of Thailand - The Case of Bangladesh Moving the debate forward Smart Subsidies Subsidizing the very poor Strategic subsidization over the long term Concluding comments

Evidence from the Grameen Bank Two important considerations: - Accounting practices (e.g., Grameen did not earn profits in ) - Diverse sources of profits (e.g., “soft loans”) One should systematically account for subsidies L (1+r*) (1-d) + I = L + C + S r* = [C + S - I +dL] / [L(1-d)] (r* - r) / r = [C + S - I +dL - r(1-d)L] / [r L(1-d)] = (S + K - P) / [rL(1-d)] (SDI)  Grameen Bank needed to increase lending rates by 75% to break-even without subsidies! But lenders like Grameen are driven by a “social mission”

Costs and benefits The case of BAAC Thailand --Townsend and (2001) The costs in terms of subsidies: 4.6 billion baht per year Did such costs yield comparable benefits? Theoretically: A General Equilibrium model with consumption smoothing In practice: estimation of benefits = 13.5 billion from risk reduction

Bangladesh (Khandker (1998) for the case of the Grameen Bank -Focuses on household consumption -It costs 91 cents in subsidies for every dollar of benefit received by borrowers (when lending to women) -While it costs 1.48 if subsidy directed towards male borrowers Estimates reviewed indicate lower subsidies and lower benefits Bangladesh (Khandker) for the case of BRAC: 2.53 for females, and 2.59 for male In reality: very difficult to assess, among other things, the lack of counterfactual

Moving the debate forward Clear sense of objectives and social weights The impact of subsidy on credit demand and supply Impact on average returns to borrowers Impact on other (nonsubsidized) lenders

Smart subsidies

Subsidization of very poor clients

Concluding Remarks Subsidies in modern microfinance can be well-designed Some institutions have already achieved financial self-sufficiency and social missions (e.g., ASA) Some parts of the world are inherently more costly (e.g., Africa and Latin America) Concerns about subsidies having a negative impact on efficiency might be justified in some cases The objective in principle is to maintain “hard budget constraints” Scale and innovations are also a concern  Chapter 10 Armendáriz – Morduch on “Managing Microfinance” Enjoy the weekend -