Microfinance: an analysis of experiences and

alternative regulations
Miguel Delfiner, Cristina Pailhé y Silvana Perón*

April, 2006

Summary

In recent years, the interest for the study of microfinance has increased, in relation with the growing
development that the activity has experienced in different parts of the world. This brought about the
rise to the birth of a whole branch of literature dedicated to the different aspects of this topic
including the regulatory and supervisory approach that would correspond to apply to the activity.
This work is centered on the analysis of microfinancial institutions (MFIs), at international and local
level, as well the different regulatory approaches that are suggested for microfinance. The ultimate
purpose is to obtain conclusions of regulatory policy. First, we need to clarify what is meant by
microfinance in order to understand what is an MFI and what is not an MFI; second, understand
how MFIs operate and their importance at the international and local levels; third, deepen the
discussion of the regulatory aspects of the MFIs, for finally, and according to the analysis carried
out, obtain relevant policy conclusions for the local scope.

* Miguel Delfiner (mdelfiner@bcra.gov.ar) is Chief Analyst; Cristina Pailhé (cpailhe@bcra.gov.ar) is Manager and
Silvana Perón (speron@bcra.gov.ar) is a Senior Analyst; all members of the Gerencia de Investigacion y
Planificacion Normativa; Subgerencia General de Normas, BCRA. The views expressed in this paper are the
opinions of the authors and do not express the official position of the BCRA. The views expressed in this paper are
the opinions of the authors and in no way express an official position of BCRA. The authors are grateful to Jose
Rutman, particularly for the support provided for this work and the exchange of ideas; and they also appreciate all
the comments received and the valuable discussions in various fields, which contributed significantly to
understanding the topic and the quality of work. The remaining errors are the sole responsibility of the authors.
Index
1. Introduction

2. Conceptual Framework: what is microfinance?

3. International experience of microfinance

3.1. Importance of the MFIs in different countries

3.2. Active institutions in microfinance
3.3. Indicators of the microfinance industry
3.4. The Grameen Bank
3.5. The Bolivian experience

4. Credit methodologies of the MFIs

5. Regulatory aspects of microfinance

5.1. World Bank
5.2. Interamerican Bank of Development
5.3. USAID
5.4. Consultant Group to assist the Poor (CGAP)
5.5. International Monetary Fund

6. Microfinance in the local environment

6.1. Current situation: active institutions in the area of microfinance and microcredits
6.2. Local regulation of financial entities and microfinance

7. Conclusions

Appendix of complementary data

Bibliographical Index
1. Introduction1
In recent years, the discussion about microfinance has grown remarkably at local and
international levels. The declaration of 2005 as the "International Year of Microcredit" by the
United Nations, aimed to promote discussion recognizing “...that microcredit programs have
successfully helped in rescuing people out of poverty in several countries around the world".2

The phenomenon of microfinance and the experience of microfinance institutions (MFIs) are
relatively new. Thus, compared to other fields of study, microfinance can be considered as an
area of analysis still hardly explored. While there is an increasing number of publications and
research on the subject, still there is no unanimous consensus on many aspects of its
functioning. From a macroeconomic point of view, there is agreement that the MFIs
successful experiences have helped reduce poverty in the demographic groups covered. From
a microeconomic perspective, there is a rich discussion about how MFIs operate; its
distinctive characteristics with respect to other financial institutions; regulations that they
should be subject to, among other aspects.

This work focuses on the analysis of the functioning of the MFIs, without studying the
macroeconomic effects. The ultimate goal is to obtain regulatory policy conclusions. This is,
first, to clarify what is meant by microfinance in order to understand what is it an MFI and
what is it not an MFI; second, to understand how MFIs operate and its importance at
international and local level; third, to deepen the discussion of the regulatory aspects of the
MFIs and; finally, according to the analysis, to obtain relevant policy conclusions at the local
level.

Section 2 contains a conceptual discussion on what is meant by microfinance and the

characteristics that differentiate it from traditional finance. Section 3 deals with the MFIs
international experience of undertaking a study by country, by institutions and, at the
aggregate level of the microfinance industry, indicators that illustrate the MFIs performance
are analyzed. In addition, two very well-known experiences are described in detail: the
Grameen Bank in Bangladesh and, the case of Bolivia, especially represented by BancoSol.
Section 4 contains a description of some of the more used credit methodologies by MFIs.

In Section 5, begins the discussion of the regulatory aspects, exposing a compilation of

approaches of various international bodies regarding the regulatory policies applicable to the
MFIs. Section 6 focuses on the analysis of microfinance at local level. First, experiences of
institutions engaged in activities relating to granting microcredit are described. Second, an
analysis of the local laws and regulations and how they envisage the microfinance is carried
out. Section 7 presents the conclusions.

1 This work had an earlier version of the year 2001 developed in the Gerencia de Investigacion y
Planificacion Normativa, in the context of the analysis of a preliminary law design for the creation of the
Banca Solidaria , what gave origin to a first investigation and a documental summary of the international
background.
2 United nations, Resolution 1998/28
2. Conceptual Framework: what is microfinance?
The term microfinance refers to the provision of financial services to people of low income,
especially to the poor. The entities that carry out those activities are denominated
microfinance institutions (MFIs), which can be defined as "… any organization - credit union,
small commercial bank, financial non-government organization, or credit cooperative - that
provides financial services to the poor". 3 Such services include financing, saving and
payment instruments, among others.

On numerous opportunities, the term microfinance is used in a much more limited sense,
referring only to the provision of micro-credit for small informal businesses of micro-
enterprises. However, the MFIs clients are not only micro-entrepreneurs seeking funding for
their business. The range of financial services provided by the MFIs has grown beyond and
covers an extensive menu that includes attracting savings, money transfers and insurance. In
recent years, attracting deposits has been amplified due to a growing demand of the poorest
people and since it is a source of natural funding for MFIs. Micro insurances are still
emerging, being life insurance the segment more developed. Moreover, microcredits are
provided in conjunction with a range of non-financial services, such as technical assistance
for business development and training.4

The microfinance activity started in 1974 with the Bengali economist Muhammad Yunus5,
who began a new experience thus far: lend money for micro-enterprises to poor people, with
his own funds, without requiring any of the usual guarantees. What started as an attempt to
help some families, grew into the current Grameen Bank (Bank of the Poor), a financial
institution that addresses the provision of microfinance services.6

It is important to look at how MFIs have developed in order to clarify the latter discussion.
Most MFIs, that are currently recognized at international level for being pioneers in the field
and have achieved a significant volume and diversification of operations, began as nonprofit
institutions, financially supported by Non-Governmental Organizations (NGOs),
governments, private contributions and charitable organizations with the aim of granting
micro-credit to poor people. As they developed, they enlarged the range of services provided,
financial and non-financial. As a trend, it is observed that once MFIs reach a certain level of
development, they begin to broaden their sources of funding, including the collection of
deposits from the public. When this happens, MFIs are in a new stage, since their role is
much more similar to a traditional financial institution, in the sense that issues payment
instruments and savings. It is at this point, when they usually begin to be under the scope of

3
According to the definition of CGAP (2003), Consultative Group to Assist the Poor, consortium of 28
public and private development agencies that work together to expand the access to the financial services of
the poorest. With headquarters in the offices of the World Bank, it assists charity entities, MFIs and market
participants, providing technical attendance, training, investigation and development, dissemination of
information and funds for innovations.
4
FMI (2005)
5
Yunus, Muhammad “Towards a world without poverty.”
6
Later on, in this work it is presented a detailed description of the history and current operations of the
Grameen Bank.
prudential regulation, given that the mandate of the regulators is based on protecting the
interests of small savers and maintaining of the systemic financial stability.7

On the other hand, having been the provision of microcredit what led to the birth of the MFIs,
much of the discussions concerning microfinance tend to concentrate on this concept, leaving
aside the consideration of other services provided by the MFIs and its features. Microfinance,
as defined in this paper, includes the full range of financial services (and not financial
complementary services) provided by the MFIs. At the same time, at the international level,
there is a broad discussion regarding what is meant by microcredit, without being at present a
single definition of the term. 8 However, it is important to note that while granting
microcredits (whatever the exact definition is used) is an inherent activity of the MFIs and
characterizes them; it is not exclusive of them. In principle, a traditional financial institution
can provide microcredit and devote part of their business to microfinance, in the terms that
regulations permit. In other words, there are no MFIs without microcredits -since they are at
the core of its loan portfolio and what led to their birth- but the reciprocal is not necessarily
valid.

In this discussion, it is fundamental to understand and keep in mind the unique characteristics
of microfinance in comparison to traditional finance. For example, the lack of physical
collaterals or the existence of them, but in an inappropriate manner, is one reason that could
hinder the borrowers to be considered qualified fellows to obtain financing through a
traditional bank. How do MFIs compensate for the absence of such guarantees? Table 1, on
next page, summarizes some of the distinctive features of the credit methodologies used by
the MFIs, in comparison with those of traditional financial companies 9 , as well as
summarized characteristics of loan portfolios, operating costs involved and governance
structure in both entities, among other relevant aspects.

Usually, the credit methodology applied by the MFIs is labor and information intensive and
referral depends on the person's character, on contracts of solidarity responsibility and the
conditional access to long-term loans, rather than physical guarantee and formal
documentation. The use of contracts of solidarity responsibility or combined debt (credits to a
group of people where everyone is affected in the event of non-payment) allows to mitigate
the effects of adverse selection (the debtors in a small community know who is a risky debtor)

7 A complete discussion regarding the justifications to regulate the MFIs is in CGAP (2003) and in MFI
(2005). Those who privilege the argument of the systemic financial stability, sustain that the MFIs that
have very low deposits-intaking should not necessarily be covered by the prudential regulation since they
don't imply a systemic risk for the financial system and it could suffice if they are established non
prudential regulations. However, the argument of the mandate of representing the interests of the small
savers remains valid. Later on in this work the discussion of the regulatory aspects is enlarged.
8 Muhammad Yunus (2005) says: “…The word "microcredit"… has been imputed to mean everything to
everybody. No one now gets shocked if somebody uses the term "microcredit" to mean agricultural credit,
or rural credit, or cooperative credit, or consumer credit, credit from the savings and loan associations, or
from credit unions, or from money lenders…I think this is creating a lot of misunderstanding and confusion
in the discussion about microcredit. We really don't know who is talking about what. I am proposing that
we put labels to various types of microcredit so that we can clarify at the beginning of our discussion which
microcredit we are talking about. This is very important for arriving at clear conclusions, formulating right
policies, designing appropriate institutions and methodologies. Instead of just saying "microcredit" we
should specify which category of microcredit…” .
9 In section 4 of this work, a detailed description of the credit methodologies used by the MFIs is carried
out.
and moral hazard (debtors can easily monitor each other). However, this technique has its
limitations because over time the activities of the members of the group grow at different
rates and, therefore, require different amounts of capital. Members of the group with higher
growth rates will feel constrained by the remaining members and those with slow growth are
forced to ensure sums increasingly important. Additionally, as the members of the group
develop a credit history over time, the need for a collective guarantee disappears.

As for the loans portfolios, the business nature of the MFIs embeds them with particular
characteristics. Since the loans are due usually in a relatively short time, the turnover of the
portfolio is quite high. In addition, the portfolios tend to be less diversified than conventional
portfolios in terms of product, type of customer, industry and geographic area. The
repayment of the loans takes place in a weekly basis because of the economic cycle
underlying the micro-entrepreneur, whose income and expenditures occur in weekly or
fortnightly intervals.

The operating costs of the MFIs are influenced by various factors. Since the loans are small,
each loan adviser must manage a large number of accounts. The high frequency of collection
of quotas for the repayment of loans, the technical assistance required by clients and the
intensive credit methodologies in the use of information also contributes to increase costs. As
a result of these and other features, microfinance unitary costs are high; in general they
quadruple the costs of traditional loans. 10 Consequently, the MFIs usually apply higher
interest rates than other financial institutions to cover these costs, but over time, the acquired
practice and the developed technology, allows them to reduce them gradually. BancoSol, the
Bolivian commercial bank that began giving micro-loans in 1992 with initials rates of 65% in
u$s, lends at the moment with rates of the order of 20% in u$s.11

The MFIs are also characterized by a capital structure with high participation of NGOs and
non-profit shareholders, at least in its early stages of development, in which equity is the
primary source loan funding. In subsequent stages, they tend to expand their sources of
funding to attracting deposits from the public. Lastly, the clientele of the MFIs distinguishes
from the one assisted by the rest of the financial institutions, because it is composed mostly
by groups of people with very low income, with little or no experience in the traditional
financial sector and little prospect of submit formal documentation for obtaining financing.

3. International experience of microfinance

At the international level, in its short history, the microfinance industry has undergone
dramatic changes. For one thing, although the activities of the MFIs have spread beyond the
countries in which they originated, yet there is a high concentration of activities in a number
of countries and regions. On the other hand, what started as isolated experiments is becoming
a new industry with its own characteristics and with a growing number of institutions
offering financial services and a number of customers served. However, there is still a great
heterogeneity within what are considered in general terms "MFIs".

10 FMI (2005) estimates that the operative cost for the MFIs are of the order of 15%-20% of the loan value,
in contrast with the traditional entities cost, whose cost is of the order of 5%.
11 Presentation of Lic.Pilar Ramírez, president of the FIE of Bolivia in the “Seminario Nacional de las
Microfinanzas”, Chancellery - Bs.As. 11/23/2005.
Regarding the first point, this section begins to carry out a study about the importance of
microfinance at the country level, with the aim of having a vision of the "roadmap" at the
international level. It then performs an analysis to identify the major microfinance providers
while describing a set of quantitative indicators in order to characterize the activities of the
microfinance industry. Finally, this section describes two well-known cases of experiences in
microfinance: the Grameen Bank and the Bolivian experience.

3.1. Importance of the MFIs in different countries

Though, at the international level, there are no audited statistics of the total number of MFIs,
there are partial data that allow to quantify approximately the importance of their activities.
In this regard, one of the most comprehensive sources of data is compiled by The
Microfinance Information Exchange (MIX). 12 This institution has information from a
voluntary survey conducted among a significant number of MFIs in various parts of the
world.13 While the data may have some selection bias, being a voluntary survey, it is the
broadest and most consistent source that is available. The information corresponds to July
2003.

Of the data compiled by the MIX for the analysis of this section, a representative subset of
countries was selected representing the total sample in terms of the total assets of the MFIs,
the amount of portfolio loans and the amount of debtors.

According to the data analyzed, 14 there is a dissimilar importance of the MFIs between
countries and regions (see Figure 1). Peru and Bolivia, in that order, are the Latin American
countries that have larger assets ($ 776 and $ 505 million, respectively) and higher loans
amount ($ 612 million in Peru and $ 418 in Bolivia). The MIX’s sample did not have details
about the activity in Argentina, probably due to the deficiency of available statistics at the
local level.

Bangladesh, a pioneer in the area of microfinance, has the largest amount of assets, loan
portfolios and debtors of the whole sample, well above the rest of the countries. It also stands
out that the average loan amount, in that country, is the lowest in the whole group analyzed,
about u$s 78. By contrast, the average loan amount is higher in those Latin American
countries surveyed. In this group, the highest amounts are for Bolivia and Ecuador with
approximately u$s 1,300 and Peru with u$s 1,000.

While it might be expected that the amount of the average loans granted have some
relationship with the GDP per capita of the countries analyzed, a uniform pattern is not

12 MIX (www.themix.org). MIX is a private non profit entity that tries to solve one of the main problems
of the microfinanzas: the lack of information. FMI (2005) offers a description of the alternative sources of
data and their inconveniences: one of the most complete databases is Daley-Harris (2003) which embraces
55 countries, but it has the disadvantage of leaving out an important number of institutions that offer
microfinance products. Christen et al. (2004), gathers a great quantity of institutions related with
microfinance, but the content of information is limited.
13 Data for this survey have been contributed voluntarily by 453 entities, of which 253 provide outstanding
information.
14 The appendix of complementary data, at the end of the document, contains the statistics summary.
observed in this regard; at least with simple data observation and without controlling for
other factors. Figure 2 shows both variables with the countries grouped according to their
Human Development Index.15

Mexico is the only country, of the sample, that belongs to the group of those of high
development and that has the biggest GDP per capita, of the order of the u$s 9.100. There,
the average loan is of u$s 338. In countries belonging to the group of low development, the
average loan ranges between values exceeding u$s 1,000, in the case of Benin (with a per
capita GDP of u$s 1,100), and u$s 104 for Ethiopia (with a GDP per capita of U$s 711). On
the other hand, the country with lower amounts of loans by debtor, Bangladesh, is among
those of average development, being its GDP per capita just over u$s 1,700. In the average
development group, are also located all the other Latin American countries that are included
in the sample.

3.2. Active Institutions in microfinance

At the international level, among the major networks involved in microfinance are
Opportunity International, FINCA, ACTION 16 , ProCredit, the Women's World Bank and
Grameen Bank (which has no formal ties with other banks, but a replication program in
various countries). At one end of the spectrum, are those networks and organizations that are
charitable and focus on granting loans, particularly Grameen, FINCA and Opportunity
International. Typically, these entities belong to religious investors or to entities with
philanthropic purposes that usually seek sustainability and often receive donations (of the
order of u$s 1,000 million in 2004)17 plus the contributions of private funds and technical
assistance free of charge to members of the entity.

As a consequence of the uneven development of the microfinance industry, the distribution of

the industry size is highly biased as some studies show, with a few large MFIs assisting the
total customers. As an example, an analysis based on data from 1,500 MFIs operating in 85
countries of Asia, Africa and Latin America found that 3% of the largest institutions account
for more than 80% of the total members of the MFIs. 18 Table 3 presents information
regarding the extent of the activities of the individual MFIs, in terms of the size of its assets,
stock of loans and deposits, and numbers of debtors, also for a subset of representative
entities of the total sample of the MIX.

The Grameen Bank is the most important institution in terms of size, while it stands out that
almost all of its loans (u$s 338 million) are funded with deposits (u$s 328 million).19 Also
note that many of the MFIs that had passed the first stage of development receive them.
BRAC and ASA, two other institutions operating in Bangladesh, are leaders in granting loans
after the Grameen Bank, although they differ in the type of funding since it is based, on a

15 United Nations Program for the Development-UNDP - (2005).

16 Opportunity International is a non profit organization, with Christian roots that began to give loans in
Colombia in 1971, while ACTION International is a net of financial institutions that bases its activity in
Latin America beginning to give microcredits in 1973.
17 According to data of CGAP
18 Lapenu and Zeller (2001), mentioned in MFI (2005)
19 Later in this work, information about the Grameen Bank is presented, updated to October 2005.
smaller proportion, in attracting deposits. Next in importance, there are a number of entities
operating in Latin America, in countries such as Ecuador (Solidario Bank), Peru (My Bank,
CMAC) and Bolivia (BancoSol, Los Andes Bank). As a differential feature, it is observed that
the portfolios of these institutions, in Latin America, are more concentrated in a smaller
number of customers compared with the MFIs in Bangladesh.

3.3. Microfinance industry indicators

This section performs an analysis of the MFIs’ aggregated data with the aim of describing the
characteristics presented at the industry level. In Table 4 are represented some percentiles,
maximum values and assets weighted averages of the main variables analyzed, broken down
by loans, deposits and operational and profitability indicators.20 It should be noted that the
data were voluntarily provided by the MFIs21 and it lack any type of audit which could lead
to distortions.22 A major distortion is caused by the uneven level of subsidies these entities
receive which may not be reflected in the performance indicators; reason why we usually try
to adjust these variables to take into account the external help and to obtain comparable
variables among all MFIs. Another aspect to consider is the divergent form the MFIs deal
with its irregular portfolio (in particular, the accounting rules applied with respect to
provisions, write-off and interests accrual) since this could impact the financial results. It
should also be noted that the information provided could be contaminated by bias survival.23

In the following histograms you can appreciate that most of the entities are small (62.5% has
less than u$s 10 million in assets), although there are 12 very significant entities (with more
than u$s 100 million of assets, mainly located in Bangladesh, Peru and Bolivia). Regarding
the quantity of debtors, a similar distribution is observed with a median of 10.884 debtors.
This is quite reasonable and it is reflected in a high correlation among both variables (77.8%).

However, keep in mind, that the aggregated results are influenced by the particular situation
of Bangladesh, where three entities gather nearly 10.5 million of debtors, almost 58% of the
total debtors at global level. This phenomenon also explains the fact that in Table 4 the
maximums of total assets, the amount of gross loans and the number of active debtors is so
much larger than the 90vo percentile. Another interesting variable to analyze, on the loans
side, is the high proportion of female debtors: in particular, notice that in 50% of the MFIs
the proportion of female debtors is higher than 64.9%, while if we consider the 70vo
percentile, in 30% of the entities this ratio climbs to 85.1%.

Regarding deposits, it is notable that 62% of the entities of the sample do not receive them.
There is also a strong relation between the size of the MFIs (measured by assets) and the
amount of deposits, with a coefficient of correlation of 85%. In those entities that receive

20 For more information about the meaning of the indicators contained in the Chart, see Jansson and
Wenner (2002).
21 This is based on information from MIX
22 It could be suspected that those entities with weak indicators were inclined for not providing the
information requested, which distort the statistics, in the sense that it would be too optimistic.
23 It is the name of the effect of not considering those entities who disappeared from the sample because
they ended its activities, and with them their statistics, which could contribute to worsen the situation.
them, the balances of the deposits as a percentage of per capita gross income are very small
and may indicate, besides a poor development of the MFIs, a customer low savings capacity.

Regarding the operational indicators, it is necessary to keep in mind the distortions

mentioned above, due to the different approaches in the treatment of subsidies and to the
criteria applied to the irregular portfolios. Thus, notice the low percentage of write-off loans,
with an assets weighted average of 1.8%; value that could also be very sensitive to any
systemic factor.

The results over net worth show that 50% of the entities have a ROE above 11.4% while the
assets weighted average of ROE is 21.5%. Still, 20.8% of the entities have a negative ROE
and, 22.5% of the additional MFIs have a ROE between 0% and 10%. Regarding operational
self-sufficiency (defined as operating income divided by the sum of financial costs,
provisions and operating expenses), the sample has a median of 1.17 while 21.6% of the
MFIs have this index lower than a unit, indicating that they are not operatively self-
sustainable, even though many of the entities included in the sample receive the subsidies.

With respect to arrears indicators, the correlation coefficient between the portfolios at risk
over 30 days (defined as the loans due over 30 days compared to the average portfolio loan)
and the write-off (or irrecoverable loans) is 26.4%, initially quite low. This might be
happening because the entities manage to recover many of the debtors in arrears (as indeed
happens in some cases)24 , or alternatively, because the MFIs are quite reluctant to move
irrecoverable loans to loss. In any case, it can be seen in Figure 4 a fairly uniform distribution
of the portfolio at risk over 30 days, except in the range corresponding to "zero write-off",
which presents a greater concentration and could be reflecting any of the above factors
regarding the particular policy applied by the MFIs to recognize loan losses. Also, note that
90% of the entities have a write-off index below 9%.

3.4. Grameen Bank

One of the most important and well-known experiences in microfinance is that of the
Grameen Bank (Bank of the Poor), from Bangladesh, which grants credit through a system
that is not based on collaterals. The founder of Grameen, the economist Muhammad Yunus,
implemented a research project to promote financial services targeted to the poor of the rural
areas of Bangladesh. Among the objectives of the initiative were to generate self-
employment opportunities in a population with high rates of unemployment as well as to
finish with the action of usurers.

Yunus had begun paying money out of his own pocket and then enlarged the credits with
funds that he obtained offering himself as a guarantor. Those first loans were returned
completely. The project was developed successfully in Jobra, between 1976 and 1979 and,
since that time, with the support of the Central Bank of Bangladesh and other national banks,
it extended to several districts. The number of customers grew from less than 15,000, in 1980
to nearly 100,000, by mid-1984.25

24 See in this respect the politics applied by the Grameen Bank, Section 3.4
25 Based on obtained public information of the Grameen Bank
Unlike other microfinance projects, at global level, the Grameen Bank is a non-profit
institution whose main objective is to fight poverty rather than auto-sustainability. This
implies that, periodically, it should receive external resources to maintain its operations in
activity.

The Grameen Bank applies its own methodology starting to concentrate the activities
exclusively on the poorest, through clear criteria for client selection. The credits -without
traditional guarantees, for very small amounts and with an interest rate of approximately 20%
- are granted prioritarily to women and are repayable in weekly installments. The
methodology uses as collateral the collective responsibility of the group. Debtors form
groups of five members of whom initially, only two can obtain a loan. Once these repay the
first six weekly contributions plus interest, two other members get the credit. Canceled the
first six installments of these last ones, it is the fifth candidate's shift. The behavior of each
member turns into, somehow, the collateral of the credit (see the Box, at the end of this
section, for more details regarding the methodology and products currently offered by the
Grameen Bank). 26

The Grameen Bank accounts, in its home country, with a vast system of branches and centers
with bank managers and agents who have been specially selected. These personnel visit the
villages that are in their area of influence to disseminate the bank’s objectives and identify
potential candidates; the customer groups are subject to a rigorous supervision. The Grameen
Bank's experience showed that microcredit is an effective instrument in alleviating poverty.
The later evolution of this type of initiatives has led to using the microcredit instrument
within broader programs, such as local development, community organizing, training and
encouraging poor households to save.

Analyzing the last three years27 of the performance indicators of the Grameen Bank, it is
observed that there are positive operational self-sufficiency levels (operating income in
relation to the costs of financing, operating and provisions) and improvements in the financial
self-sufficiency (identical indicator to the previous one but adjusted by the subsidies received
by the entity) which shows that in the past two years, the Grameen could have been sustained
without the help of the subsidies. The year 2002 shows the weakest indicators, probably as a
result of the internal reorganization which was subject the entity (see the Box at the end of
the section for details).

In the three years under review, it is also observed a noticeable increase of the productivity
per credit officer; in the year 2004 each official assisted almost 500 debtors. At the same time,
there is a reduction of the operating expenses, of debtor costs and an increase in the amount
of loans administered by each officer. It is probably associated with the introduction of
improved computational tools for the administration of loans, which allows each credit
official administer a greater number of customers and a higher volume of the portfolio, with
the resulting cost improvement.

26
The following section provides a more complete description of the credit methodologies used by the IMF,
based on those applied in Bolivia.
27
For more information regarding the meaning of the indicators contained in Table 5, see Janson and
Weener (2002).
Regarding the regulation, the Grameen Bank is regulated since 1983 according to a special
decree (Grameen Bank Ordinance 1983). It is regulated by the government and supervised by
the central bank of Bangladesh. In addition to the Grameen Bank in Bangladesh, there are
over 1,000 semi-formals MFIs constituted as NGOs (being the most important BRAC, ASA
and PROSHICA) and whose objective is purely social. Currently, these entities are not
regulated nor supervised by the central bank, but only registered as NGOs. In 2000, the
government created the Microfinance Research and Reference Unit (MRRU) within the
Central Bank of Bangladesh, with the aim of developing a system of supervision and
appropriate regulation for these MFIs-NGO, in light of the importance that these entities are
having in the country; but the system is not yet operative.28

The Grameen Bank in Argentina

The Grameen Bank, established in 1999, operates in the country through the Foundation
Grameen (Village) Argentina (FGA), implementing experiences of microcredit in more than
20 locations throughout the country. In the early replications experiences, microfinance
assistance is channeled through non-governmental organizations.

Methodology

Micro credits are planned only for the poor people living in areas here other Replication
Projects are already developed. The minimum amount of micro credit in Argentina is $ 500
and it does not require any collateral. The credit methodology is the same used by the
Grameen Bank in the world. While microcredits are to be awarded for individual enterprises,
it is necessary to group five people of the same sex and unrelated, who are jointly liable. This
creates group responsibility and group cooperation that ensures commitment with the loans
repayment. Generally, microcredits are returned in 50 weekly fixed installments, including
capital and a 20% annual fixed interest approximately. Initially, the loan amount is low, but if
the person fully complies with the repayment, it can renew it every year for slightly higher
amounts on each occasion.

Achieved Results29

• 1,250 people have benefited directly, granting them the possibility of sustaining themselves
through self-employment, and 6250 indirectly when considering the family group. Nowadays,
there are about 1,200 active borrowers with a portfolio of $ 540,000 (u$s 180,000
approximately).

• More than 1,800 microcredits have been disbursed with the Grameen methodology,
including renewals. The total amount disbursed was $ 810,000 (u$s 270,000).

• It has been reached an average repayment of loans superior to 92%, reflecting the
borrowers’ success of its micro-enterprises.

28
Central Bank of Bangladesh
29
Based on data of December 2005 from www.grameenarg.org.ar
 Box: The Grameen Bank II*

In 1998, a natural disaster that hit Bangladesh, caused the majority of borrowers of the Grameen Bank lose
much of their possessions and businesses. Soon they began to feel the burden of the accumulated debt till
then and the rate of repayments of loans started to show quick decline. This situation compounded by its
overlap with a crisis that began in 1995, in which a significant number of borrowers stayed away from the
weekly center meetings and stopped paying their loans, encouraged by the local politicians from the
villages that demanded the Grameen Bank to pay the so-called " tax group, "a type of savings account that
the members should open to operate with the bank. These circumstances reinforced some internal
weaknesses of the system, which consisted of a set of well-defined standardized rules where no deviation,
from these rules, was allowed. Many borrowers began to walk away and that created the multiplier effect: if
one borrower stopped the payments, it encouraged others to follow.

Despite the efforts made, no improvements were achieved. The Grameen Bank decided to redesign its
methodology, a process that began in April 2000. The transition to the new system, called "Grameen
Generalized System" (GGS), was launched in March 2001 and, in August of 2002 the process was
completed where the Grameen Bank II kept its operations in all branches, something that Yunus himself
“called the second generation of micro-credit institutions”. Unlike the previous program, ("System
Grameen Classic" -GCS) it does not require a weekly fixed amount installment nor that the debt is for a one
year fixed term, and it does not require the establishment of a fund group. These were, among other
features, left aside in the new design because it caused tensions between borrowers. The new system allows
designing products more tailored to each client needs.

Types of loans

GGS has been built around one product called Basic Loan (BL). In addition, there are two other parallel
loan products: 1) the housing loan, and 2) the higher education loan. All borrowers start with the basic loan.
If the borrower complies with their requirements in the most satisfactory manner, they can continue with
this type of loan, cycle after cycle, and increase the amounts of debt. If the borrower fails in repaying the
BL; then the bank, the group and the borrower have to go through a renegotiation process and sign a new
contract with a new repayments schedule, which is called the Flexible Loan (FL). On the contrary, if the
borrower does not want to go through a renegotiation process then it is considered a "voluntary defaulter".
Unlike the BL, the amount of FL can not be increased. This kind of loans are a way out for those borrowers
who face difficulties and cannot comply with the BL repayment schedule, so that they are not excluded
from the group and do not generate tensions among members, something that happened with the original
methodology. If the borrowers comply with the FL payments, then they can be again subject to a BL. It is
estimated that it takes sometime between 6 months to 2 years. On the contrary, if the borrower is unable to
fulfill its obligations, it can only continue applying for flexi-loans. If the borrower still fails to comply, then
it is considered an "unwilling defaulter”.

The basic loans provision is 0%. If a borrower fails to pay its dues for 10 consecutive weeks, or if it does
not pay the stipulated amount to be paid over a period of 6 months and does not move to a Flexible Loan,
then it defaulted, and a 100% provision is made for that amount (over the capital and the interest). Exactly
one year later, the debt is write-off on a monthly basis (rather than doing it at the end of the accounting
year).

The flexible loans provision is 50%. Failure to pay a flexi-loan within two years following its issuance, it
becomes overdue, and a 100% provision is made for that amount. After the third year of default, the flexi-
loan is written-off entirely. However, all loans in this condition are treated as recoverable loans. Yunus
believes that under the GGS, 90% of the written-off loans and interest will ultimately be recovered, because
the borrowers will pay them back, in their own interest, because they might need to borrow money again
from the bank.

Savings Accounts
In the GCS, borrowers should contribute to a common account. Under the new program, every borrower
has three mandatory savings accounts: a) a personal savings account; B) a special savings account and; C) a
Pension Funds Account (compulsory only for those with loans greater than u$s 138).

Each time a loan is granted, 5% of the amount of the loan is deducted ("mandatory savings"). Half goes to a
personal savings account; the other half goes to a special savings account. The borrower may withdraw the
amount of money she wants from her personal account anytime, which also collects mandatory weekly
savings. During the first three years, withdrawals from special accounts are not allowed. Only once every
three years, withdrawals of these accounts are allowed provided that the deposit exceeds a certain amount
and; only under special circumstances, the total amount of the money of the account can be withdrawn
while a fraction of the money can be used to buy Grameen shares. It also requires all borrowers with loans
over u$s 138 to deposit a minimum of u$s 0.86 every month in their pension funds account. After 10 years,
the borrower will receive a guaranteed amount that is equal to twice the amount deposited in 120 months.

Insurance

The loan insurance program was organized with the GGS and is a program in which the borrowers deposit
an amount equivalent to 2.5% of the outstanding debt in a savings account called "loan insurance saving
account ", on the last day of each year. The income from the interest earned on such accounts goes to an
insurance fund. If the borrower dies any time during the following year, the fund pays the amount of the
outstanding debt, while the borrower’s family receives the amount deposited in the savings account. There
is no requirement for the borrower to make the deposit in the savings account if the loan amount does not
increase from year to year; if that amount grows, then the borrower contributes with a 2.5% increase. If the
loan maturity was increased in one year with respect to the previous one and the borrower dies, the fund
repays the full amount owed.
*Source: Yunus, Muhammad (2002)

3.5. The Bolivian experience

In 1985, Bolivia began a process of restructuring the financial sector which later played a
major role in shaping the regulatory structure of the microfinance services: restoring the
autonomy of the Superintendence of Banks and Financial Institutions (SBEF); the closing of
four state banks; the elimination of controls on the interest rates and the modification of the
regulatory framework of the financial institutions. The closing of the public banks, which
until that time were the main suppliers of resources for small producers, resulted in a
proliferation of private non profit entities offering loans to small-scale producers who were
not able to access the formal financial system.

The first microcredit program under innovative scheme of guarantees, such as the solidarity
group, was launched at the beginning of the 80s driven by the Confederation of Private
Businessmen of Bolivia, Calmeadow Foundation and ACCION International. These
promoted the creation of the Promotion and Development Foundation for the Microenterpise
(PRODEM), in 1986.

The success of PRODEM was obvious, to such an extent, that it was difficult to assist the
growing unsatisfied demand in a sustainable manner. This, among other factors, was decisive
in undertaking the creation of Banco Solidario. The board of directors of PRODEM argued,
before the SBEF, that they were no longer able to sustain the growth rate with the type and
level of funding available to non-profits. The interest rate was sufficient to cover the
operating costs but not to finance a portfolio expansion. The demand for loans exceeded
substantially PRODEM’s capacity to satisfy it and what any group of donors was willing to
fund. That is why the creation of a commercial bank was seen as the best way to overcome
these limitations. The project began in 1988 and ended in 1992, with the approval of the
creation of BancoSol, as a corporation. After 13 months of operations, the bank had 16
branches (it begun with 7 transferred by PRODEM), 44,000 active clients, a portfolio of u$s
11 million and a default rate of less than 1%.30 Nowadays, it has 66 offices, a staff of more
than 600 people and it is positioned as the undisputed leader of the microfinance business in
Bolivia (see details in the Box).

The "boom" of this emerging financial market also demanded the authorities the development
of both a specialized institutional capacity and appropriate norms to establish and supervise
the activity of the MFIs. This allowed the trust in these institutions to increase while they
develop other financial services demanded by the segments of the market served.

The Supreme Decree 24.000 of May 1995 authorized the creation of the Private Financial
Fund (FFPs), as corporations (they are non-banking financial institutions) focusing in the
brokerage of resources to small borrowers and micro-entrepreneurs, allowing the major
NGOs targeting that segment meet their objectives through the formation of partnerships with
venture capital, authorized to attract deposits and controlled by the SBEF.

Box: Solidario Bank*

During 2004 and the first half of 2005, the BancoSol maintained a high growth in the activity, which
allowed it to continue increasing the income flow, followed by a reduction of the expenditure provisions,
leading to adequate levels of return since 2003. Given the niche that the bank is focused on, the level of
expenses is usually higher, being this compensated with higher spreads and, consequently, higher active
rates to those of traditional banking implying high efficiency ratios even better than that of banking (62.0%
on income in june/05).

During the first half of 2005, the portfolio growth remained as shown in earlier periods, with a substantially
improved quality to that of the financial system (arrears of 4.3% versus 12.3% of the financial system) and
a conservative provisions policy (158.3% of the arrears). The 83.7% of its portfolio is microcredit that is
why there is a great dispersion by debtor. Its main source of income remains being the public obligations
(72%), with a high concentration in depositors, followed by a medium and long term funding (16.4%) with
international agencies and institutions. After the deterioration of their liquidity indicators in the course of
2004 and given its portfolio growth, its liquid assets increased by more than 2.5 times since the end of that
year, improving its mismatches in its short and medium term positions.

The prospect of the ratings assigned to BancoSol is stable in the medium term and given its performance in
the current economic environment, it should not be amended. Stability in the current social and political
environment would favor a rating increase. BancoSol is a small bank (3.5% of the deposits of the financial
system to jun/05), a leader in the market of microcredit in Bolivia. Targeting the micro and small
businesses sector operates through 66 offices, 24 ATM's and with a staff of 664 people. During 2004, its
main shareholder, the group Action International, expanded its participation to 45.8%, followed by the
Foundation Prodem (20.2%).
* Source: Fitch Ratings, Financial Institutions, september 2005. wwww.fitchratings.com.bo

30
Gomez, Tabares y Vogel (2000)
The requirements of initial capital that apply on these non-banks (approximately u$S 920,000
while for banks is u$s 8 million)31 and the recognition of the solidarity guarantees, coupled
with a strict prudential structure that establishes limits to credit granting and to the credit
concentration inferior to those established for the banks; as well as the prohibition of granting
credit to its shareholders and administrators, represents a reasonable combination of asset
backing and credit risks dispersion. The concept of FFP has been the legal figure from which
the private initiative has been able to direct its efforts towards the attention of an unsatisfied
demand for credit, of sectors traditionally excluded from the financial services.

Similarly, the Supreme Decree 24.439 of 1996 had as its main objective the regulation of the
scope of the General Law of Cooperative Societies so that those of financial character can be
incorporated to the national financial system. The rules for its operation, development and
oversight of its activities were established. There was a tendency to strengthen the
cooperative system of savings and existent credit in the country by endowing it with adequate
monitoring, controlling and tracking on behalf of savers and depositors and to guarantee the
solvency of the financial system as a whole.

The regulations developed on the basis of this decree has so far allowed 23 entities, having
strengthened its financial and operational position, received its operating license and thus,
allowed them to access new and varied sources of funding and capture savings.

The Superintendence of Banks and Financial Institutions of Bolivia has specific rules for the
activity of microfinance, covering both the PPF and the Cooperatives of Savings and Credit.
Within the prudential regulations, the constitution of a bad debt provision considers the
specific risk of credit default (a table sets the provisions to make, based on the days in arrears,
taking into account the short repayment cycle of the credits of the MFIs), and an additional
risk of arrears based on the lending technology adopted by the entities. This last component
requires generic provisions, provided that the policies and practices carried out by the MFIs
do not meet the minimum guidelines established by the legislation. The opening of branches
and agencies has been simplified with the aim of promoting the geographical coverage of the
microfinance services.32

For the rest of the banks of Bolivia, the provisions for commercial loans, that are not
microcredit, are not determined on the basis of the days of arrears but to the qualification that
each entity grants the debtor which depends on the estimated capacity of debt repayment. The
entities apply methodologies based on mathematical and statistical foundations to obtain the
probability of default, the loss amount due to the non-payment and exposure at the time of
default. Debtors are classified in 8 categories, including each of them a specific percentage of
provision. The entities also perform generic provisions for their credits.33

It must be noted that microcredit in Bolivia received a great boost from external cooperation.
International agencies have played a very important role in the development of the
microfinance activity, focusing its support mainly on institutional strengthening, management

31
Exchange rate at the end of December 2005 (630.000 and 550.0000 of Special Drawing Rights
respectively). Superintendence of Banks and Financial Institutions in Bolivia.
32
Superintendence of Banks and Financial Institutions of Bolivia. Regulation and Supervision of EMFs.
33
Superintendence of Banks and Financial Institutions of Bolivia. Digest of Rules for Banks and Financial
Institutions. Part V Chapter I.
development and strengthening portfolio, support which was granted to most of the MFIs.
But the support is limited and it has been diminishing as MFIs become financially self-
sustainable. This led to the development of a new institutional structure in the microfinance
market: the financial institutions of "second floor" that provide financing primarily to
financial institutions, banks and non-banks, which assist small and medium enterprises.
4. Credit methodologies of the MFIs
Given the differences with the traditional finance, mainly regarding guarantees, the MFIs
have developed diverse credit methodologies that are suitable to their particular
characteristics. While its implementation differs between institutions and countries, they all
share a set of general characteristics. This section is a description of the credit methodologies
based on the Bolivian experience. 34

4.1. Solidarity Group

This methodology is probably the best known and has been adopted by several other
institutions, although in many cases it is combined with others of individual or associative
nature, or with other non-financial services. The main feature is the use of an intangible
guarantee, called community guarantee which is based on the compromise of all the members
of the group to assume responsibility if one of the members of the group fails to make the
payment. The subject of the credit is the solidarity group as a whole. In some cases, credits
are of free disposal and can be used for any need deemed necessary by the borrower. Finally,
it is a sequential credit in that the group starts with small loan amounts which can grow over
time as the group meets its financial obligations.

When assessing the request for a credit, the assigned advisors visit each member of the group
to verify the existence and operations of each borrower’s business. This process usually takes
a week. If the request is approved, the loan is disbursed to the group. To expedite the follow-
up and repayment of the loan, each group designates a coordinator and a secretary, who
alternates the tasks of distributing the total amount disbursed to the group, collecting the
installments and ultimately repaying the loan to the institution. The rotation of these types of
loans is very rapid, generally six months on average. If the loan is repaid without problems,
the group is able to continue borrowing for larger amounts.

4.2. Individual Credit

The main feature of this methodology is the use of an individual guarantee, which allows the
client create their own business plan in line with the business activity in which they are
involved. Nowadays, it provides an alternative for those micro-entrepreneurs who either do
not want to or cannot participate under the microfinance solidarity group schemes, and whose
only chance of funding is through informal mechanisms. Besides, it is also used by those
entrepreneurs who normally need larger amounts of credit than those granted through
solidarity groups, and are able to provide other collaterals.

In institutions which offer other financial services in addition to individual credit, this
methodology is applicable to those clients, who initially formed part of a solidarity group,
demonstrating their credit worthiness throughout time and due to the growth of their Micro-
enterprise activity require larger credit amounts over longer terms and are in a position to
offer other types of guarantees.

34
FUNDAPRO (1998)
The agent in charge of processing the applications visits each potential client to analyze the
repayment source and prepares a cash flow and then, forwards the application and the credit
proposal to the credit commission of the institution, which ultimately approves or rejects the
loan application.

4.3. Associative Credit

The development of this methodology is based on an established organization (association or

cooperative), whose function is the intermediation of funds given by the financial institution
for its members. In many cases, these funds are used for improvements in the activities by the
organization's members, largely producers, mostly in investment capital.

4.4. Communal Banks

The basis of operation of this methodology is the communal guarantee. A communal bank is
a grouping of persons who are responsible for the management and return of the funds
granted by the institution promoting these services, generally known as the Executing
Institution. This institution organizes the communal association, also known as a communal
bank and, makes the first credit disbursement. Each communal bank appoints a credit
committee for the "external account” management, funded with funds granted by the
Executing Institution and by the “internal account”, with resources from the bank members.

The resource of the internal account is composed of two sources. The first, are the savings of
the members of the communal bank -which is a requirement to have access to credit- and
they are deposited in a bank account in the financial system on behalf of the communal bank.
The second source is the interest generated on the external account throughout the loan cycle
of approximately four months.

Once they receive the funds of the Executing Institution, these circulate continuously among
the borrowers of the communal bank, given that they cancel weekly payments of both capital
and interest; funds that are re-lend to customers. In Bolivia, the application of this
methodology is focused primarily on poor women’s groups, as in the case of Credit with
Rural Education (GROW), PRO WOMEN and Save the Children.

Those interested in the services promoted by the Executing Institution, form a communal
association, which in turn appoints a board of directors to formally request and secure the
credit to the Executing Institution. Once the communal bank is organized, a training course is
given before the disbursement of funds, where in addition to supplying information
concerning the credit mechanism and the implications of a group guarantee, each borrower
explains the activity in which the loan will be invested. A special feature of this program is
that finance small business initiatives and previous experience is not required when applying
for a credit. In the case of PRO WOMEN, the purpose of this training course is to develop a
business plan that would ensure a better standard of income to future borrowers. Afterwards
small solidarity groups are composed of 4 to 6 individuals. In some cases, these groups are
already organized prior to their presentation to the communal bank, but this is not a
prerequisite. The credit mechanism is sequential and during the first cycle only small
amounts of funds per individual can be requested.
5. Regulatory aspects of microfinance
Just as it was mentioned in previous sections, experience demonstrates that the MFIs have
originated as non profit organizations of financial services, anchored mainly by ONGs,
government entities and international organisms. It is also observed that to be sustainable and
to be able to assist a growing demand of financial services, the MFIs should reach an
important scale. For this, except public funds are allocated (which, in some cases, can attempt
against the incentives to increase the scale and the efficiency of the services), and given
certain level of activities, there is a need to attract private capital and to mobilize those
savings coming from the same class of individuals that are being financed. The possibility
that the MFIs capture the public's deposits; it is the key factor that opens up the opportunity
to those entities to be reached by prudential regulations.

This poses challenges to regulators in that MFIs often lack a clear ownership structure and
abundant capital; initially they have low earnings perspective and they work with specific
methodologies that supervisors are not familiar. The Superintendences of financial
institutions face a regional trend of increased formalization of microfinance, which will
probably not diminish. In view of these circumstances, the challenge now lies in the design
and implementation of an adequate and profitable regulation for microfinance institutions
that do not compromise the long-term goals of capital accumulation, allocation of resources
and stability of the financial system as a whole.

For the purpose of analyzing the specific regulatory aspects associated with microfinance,
below are presented different views belonging to various investigations of various
international organizations (World Bank, Inter-American Development Bank, USAID, the
Consultative Group to Assist the Poor and International Monetary Fund), which have groups
specifically dedicated to this subject.

5.1. World Bank35

The MFIs regulation should depend on its specific characteristics and, in particular, should
take into account its ability to attract deposits. It is suggested, therefore, a "tiered banking
approach" to classify the type of regulatory requirement, namely the establishment of a
classification of institutions according to the profile of its liabilities. The spectrum ranges
from the absence of regulation (or self-regulation), to external regulation by the competent
authority.

Table 6 suggests a classification with seven types of institutions, specifying the

distinguishing activities that determine the type of regulation that will be needed. Basically,
the regulatory issue arises as to whether the potential of the institution to attract massively
deposits from the public to fund its assets could involve a risk to the system as a whole; in
such a case it should be subject to appropriate prudential norms.36 According to this analysis,
both the MFIs established as NGOs engaged in financing with its own capital (Type 1) as the
ones that capture a limited amount of deposits among its members (Type 2) should not be
35
Greuning, Gallardo and Randhawa (1998)
36 That is, conceptually this approach favors the argument of systemic financial stability rather than the
protection of small depositors. See Footnote Number. 7.
subject to any regulation. For both, it is suggested the "self-regulation", understood as
internal fixation of prudential standards by the entity to ensure an appropriate operative.
When the MFIs capture a small amount of deposits (Types 3 and 4) it is suggested the
imposition of not prudential regulations, as the inscription in a record agency and the
calification by an external agency in the Type 4. Only after that MFIs capture deposits from
the general public (Type 5 onwards) the implementation of prudential regulations is
suggested.

5.2. Inter-American Development Bank (IDB)

A BID study37 declares that it is not obvious that the traditional regulation is adequate to
regulate the MFIs, taking into account the differences with traditional financial institutions.
An inadequate regulation may tend to raise the cost of financial intermediation, without
offering in return a risk reduction for the MFIs. As the total value of its assets is relatively
low compared to the financial system as a whole, a problem that arises in any of these entities
probably does not have systemic effects, although it should be considered potential reputation
effects that could damage the consumer confidence in the system.

Although regulatory policies are appropriate for the financial system as a whole, there are
some areas that may conceal a differential policy biased against microfinance. The areas
where it is more likely to happen are related to prudential controls (loans documentation,
provisions and capital adequacy), controls on consumer protection (interest rates ceilings),
and structural controls (entry requirements and limits on the activities of financial
institutions). Although there are other regulations that also impact on microfinance, it is not
always easy to recognize if their effect is different or particularly severe in MFIs, in contrast
with other entities of the system. Below are the problems that could arise in some of these
areas.

• Entry Requirements

High minimum capital requirements constitute barriers to entry for potential competitors and will tend to
create a system based on relatively few large institutions. They can make it difficult for MFIs to be
transformed into regulated institutions by making it more difficult to gather the funds and, even if they
achieved to raise it, few MFIs might be able to attain a large enough customer base to fully leverage its
capital within a reasonable period of time.

Most countries require that financial institutions are capitalized by cash contributions. For MFIs, this could
be an obstacle as they are usually formed by NGOs with existing loan portfolios and lack of capital in
excess. Allowing the net present value of the loan portfolios to capitalize new financial institutions can be
an option to be considered in those countries that do not wish to diminish the existing capitalization
requirements or create a new type of financial institution. However, this could result in uncertainty about
the quality of the loans portfolio of the NGO. If this happen, the new institution would not only begin its
operations in a weak position by possibly having a portfolio of poor quality, but it would also find it
difficult to obtain the support of other investors.

• Establishing Provisions

37
Jansson y Wenner (1997)
The basic logic behind establishing advances in loan-loss provision stipulates they should be equivalent to
the value at risk of a loan portfolio. However, the special characteristics of micro-enterprise loans that
typically repay in weekly installments, in correspondence with the borrower's business cycle, suggest the
advantages of a provision system based on estimates of unpaid assessments, rather than on a generic a
number of days or months of late payments. While for microlending is not possible to require physical
collateral, and since the regime of establishing provisions in the majority of countries have been designed
to ignore this factor, it is often required a provisioning program stricter than those intended for normal
loans consumption.

In order to ensure that institutions maintain adequate provisions, the superintendencies of banks need to
evaluate a certain number of loans in their portfolio and subsequently infer whether or not the provisions
made by the institutions are adequate. It seems appropriate to make this assessment through a statistical
stratified sample representative of the portfolio of loans from the bank. This is because loans are small and
it is not possible to cover a large percentage of the bank's assets, through the analysis of the more important
loans, as is the case of most commercial banks.

• Capital Adequacy

The loans provided to micro entrepreneurs should be classified in the most risky asset category; this is
mainly due to lack of collateral and diversification, which in conjunction with the limited flexibility of
capital contribution involves a significant vulnerability to a negative shock. This vulnerability could spread
to the rest of the financial system if the regulations of these institutions were not strict enough to control
this happening. While it is crucial to consider the institutional solvency, excessively strict capital adequacy
for MFIs could result in less than optimal quantity of financial intermediation as well as from the point of
view of the MFIs, such standards will lower expected returns to equity and thereby reduce private investor
interest.

• Guarantee of payment and joint liability groups

The lack of traditional physical collateral (assets-backed, mortgages) is one of the defining characteristics
of microfinance, that’s why MFIs have developed other means to assure repayment of loans. However, the
use of joint liability groups is one of the instruments used by MFIs38. However, sometimes the MFIs avoid
using collateral because they are not considered acceptable due to problems with the property registries and
the high cost to verify the existence, ownership and the status of collateral. Movable collaterals, which may
be more relevant to microfinance, are affected by the deficiencies in the property registries and judicial
systems.

• Usury laws and restrictions on interest rate

Usury laws are usually implemented to protect the consumer, by establishing interest rate ceilings.
Regulators and law makers try to protect unsophisticated clients from being exploited by unscrupulous
lenders; however, usury laws often have negative effects on both the financial viability of the MFIs and the
supply of credit to the micro enterprise sector. Not only do these laws prevent MFIs from charging market
clearing interest rates that cover the relatively high per unit costs of microfinance,39 but they also induce
MFIs to screen out clients with the highest credit risk. In fact, many times more risky borrowers are
microentrepreneurs with no assets to back up their loans. It is also possible that MFIs find other ways to
compensate for their inability to charge market clearing interest rates; closing fees, servicing fees, and
discounts from face value of the debt instruments are common methods to circumvent a restrictive interest
rate ceiling. Although microentrepreneurs may in this case have access to credit, it is more difficult for

38
In Bolivia the law recognizes the concept of the guarantees offered by groups of solidarity (I Decree
supreme 24.000 Art. 8).
39
The information coming from Bolivia, that possibly has the microfinance market more developed in the
region, it demonstrates that the interest rates of the microfinance institutions are usually of twice as much
that the interest rates of the traditional financial institutions (~4% vs. ~2 monthly%).
them to calculate the real cost of the loan. When restrictions on the interest rate are enforced, this is one of
the most important obstacles facing microfinance.

• Loan documentation requirements

In traditional regulatory and supervisory practices, loan documentation requested to borrowers is designed
to ensure the reliability of collateral and the financial stability of the borrower. Documentation is, therefore,
an important component of prudent banking practice.

In microfinance, however, the viability of the activities to be undertaken with the loan naturally becomes
the principal basis for credit decisions since microentrepreneurs usually lack collateral. To the extent that
MFIs try to establish some sort of guarantee of repayment, they usually rely heavily on personal references,
guarantee structures such as joint liability groups, and information about the borrower’s character (rather
than on collateral). Consequently, not only are microentrepreneurs unable to provide many of the
aforementioned documents, but these documents are also many times of secondary importance.

• Operational restrictions

Since low-income people have limitations to travel long distances or perform their transactions
electronically, MFIs need to have branch offices within close distance of the communities they serve. At
the same, it is possible that the client base in the community may not economically justify the presence of a
branch office that is every day of the week full-time, and offer a whole range of sophisticated services. An
extensive branch system implies considerable fixed costs and MFIs need flexibility in adapting operations
and services to a level that is appropriate for the communities they serve. In order to lower administrative
costs and reach their target population, it is important for MFIs to use innovative methods of extending
credit (“platforms") that are less costly than those of conventional branches. These platforms could include,
for example, mobile banks or offices that are restricted to providing only limited services.

5.3. USAID

A study of the regulatory aspects of microfinance40 based on the experience of microfinance

in Bolivia, highlights as in the World Bank approach, that the transformation of the MFIs into
regulated financial institutions will be required when the entity needs to mobilize public
funds (attract deposits). That transformation does not necessarily avoid the need for NGOs
engaged in microfinance, as these can continue playing an important role as providers of
credit to customers not served by the formal boundaries. The MFIs’ transformation should be
restricted to those with a proven technical, managerial and financial capability. The inclusion
in the regulation has to be a way through which unregulated entities can expand their services
and their sources of funding. The solid financial practices should be a requirement to perform
the transformation and not an expected result of the regulation. Involving charitable agencies
in the board of directors would not necessarily enhance the ability of management.

It is noteworthy that the NGOs were pioneers in the development of microfinance lending,
which have then been adopted by private entities. Regarding receiving deposits, they had
never been authorized to do so and thus servicing deposits, in microfinance, is
underdeveloped.

An adequate regulatory framework for microfinance activity is necessary but not sufficient to
attract the participation of commercial banks. In Bolivia, it was basically the level of

40
Gomez, Tabares, Vogel (2000)
profitability of Sun Bank that attracted other banks to the sector. The authorities have tried to
create a regulatory framework for micro-finance activities and not for the entities involved in
this activity, in particular. From this point of view, microfinance has been treated as another
niche market with some distinctive features, but sharing a number of different risk factors
with other branches of the more traditional finance. From that standpoint, the supervision and
regulation of the activity of microfinance should be applied to all types of entities, whatever
that is exclusively devoted to microfinance or not.

5.4. Consulting Group to Assist the Poor (CGAP)

This group has developed a series of principles41 related to the microfinance regulation and
supervision. The discussion starts recalling the generally accepted objectives that the
prudential regulation have: 1) to protect the financial systemic stability preventing that the
collapse of an institution might entail other falling and; 2) to protect small depositors who are
not well positioned to monitor the financial position of the entities. If the prudential
regulation is not centralized in these objectives, it is likely to be wasting scarce monitoring
resources; financial institutions could be fill with unnecessary requirements while, at the
same time, could affect the development of its financial system.

With these goals in mind, the Group is developing a series of policy recommendations in
terms of answering the question of when to implement prudential regulations to MFIs. Some
of those recommendations are:

• The issues that don't require the supervisor to control the financial solidity of the regulated
institutions should not be treated through the prudential regulation. Other regulation forms tend
to be easier and less more expensive.
• Proponents of microfinance regulation need to careful about steps that might bring the topic of
microcredit interest rates into public and political discussion. Microcredit needs high interest
rates. In many countries, it may be impossible to get explicit political acceptance of a rate that is
high enough to allow viable microfinance. In other contexts, concerted education of relevant
policymakers may succeed in establishing the necessary political acceptance.
• Before the regulator decides the design of the prudential regulation, he/she should obtain a
financial and institutional analysis of the existent MFIs, at least if those MFIs are the candidates
to request licenses. In many countries a paradoxical situation is given: it is supposed that, of
opening up a “new window” in the regulation, it will be used by the existent MFIs that act as
ONG and they want to change their status to that of entities attracting deposits. But at the same
time, any or few of the existent MFIs have demonstrated to be able to administer their portfolio of
loans in a profitable way, so that they can pay and protect the deposits they capture. In that
scenario, the government should consider the option of waiting, monitor its performance and “to
open the window” only after there is more and better experience. To develop a new régime for the
MFI takes a great time of analysis, consultations and negotiation; the costs of the process can
overcome the benefits unless it is expected that a critical mass of institutions that qualify exists. In
that context, the performance of the existent MFIs is an element that many times one doesn't keep
in mind in the discussions referred to a regulatory reformation.
• Prudential regulation should not be imposed on “credit only” MFIs that merely lend out their own
capital, or whose only borrowing is from foreign commercial or non-commercial sources or from
prudentially regulated local commercial banks. Depending on practical costs and benefits,
prudential regulation may not be necessary for MFIs taking cash collateral (compulsory savings)
only, especially if the MFI is not lending out these funds.

41
Christen, Lyman, Rosenberg (2003)
• As much as possible, prudential regulation should be focused on the type of transaction being
conducted rather than the type of institution conducting it.
• Regulatory reform should include adjusting any regulations that would preclude existing financial
institutions from offering microfinance services, or that would make it unreasonably difficult for
such institutions to lend to MFIs.
• Where cost-effective prudential supervision is impractical, consideration should be given to
allowing very small community- based intermediaries to continue taking deposits from members
without being prudentially supervised, especially in cases where most members do not have access
to safer deposit vehicles.
• Minimum capital needs to be set high enough so that the supervisory authority is not overwhelmed
by more new institutions than it can supervise effectively.
• Most microlending is for all practical purposes unsecured. Limits on unsecured lending, or high
provisioning of unsecured portfolio that has not fallen delinquent, are not practical for MFIs.
Instead, risk control needs to be based the MFI’s historical collection performance, and analysis
of its lending systems and practices.
• Loan documentation and reporting requirements need to be simpler for microfinance institutions
and operations than for normal commercial bank operations.
• Limitations on foreign ownership or maximum shareholder percentages may be inappropriate, or
need flexible application, if local microfinance is at a stage where much of the investment will
have to come from transforming NGOs and other socially-motivated investors.
• Supervision of MFIs —especially portfolio testing— requires some techniques and skills that are
different from those used to supervise commercial banks. Supervisory staff will need to be trained
and to some extent specialized in order to deal effectively with MFIs.
• Financial cooperatives —at least large ones—should be prudentially supervised by a specialized
financial authority, rather than by an agency that is responsible for all cooperatives.
• In developing countries, “self-supervision” is unlikely to be effective in protecting the soundness
of the supervised financial institutions.
• External auditors cannot reliably appraise the financial condition of MFIs unless they test
portfolio with microfinance specific procedures that go well beyond normal practice.
 5.5. International Monetary Fund

The MFI claims that the reasons that would justify a prudential regulation for MFIs are, first,
the possibility that they might pose a threat to financial stability, and second, whether they
accept deposits to secure their lending operations. In the first case, prudential regulation
would be designed to protect the integrity of the system and, in the second case, to protect
small depositors who are not sufficiently prepared to assess the reliability of the financial
institution where they make their deposits.

If the two conditions mentioned in the previous paragraph are absent, it would be more
appropriate to consider a non prudential regulatory approach, since the cost of prudential
regulation is higher and the risk of generating supervision structures, not entirely efficient,
would be created or created at the expense of reducing the monitoring of others with higher
systemic risks. It should also be kept in mind that to fulfill a prudential regulation is
expensive for the MFIs, which would be added to their high operating costs.

Under current circumstances, the cost of bringing the MFIs under the orbit of prudential
regulation appears to exceed the associated benefits in most cases. This is due to several
reasons:
• Despite the large number of clients served by the MFIs, the sector as a whole does
not constitute a systemic threat in most countries;
• Many MFIs get their funding from donors, private sector loans or multilateral
agencies;
• MFIs taking deposits are pretty small, so that the cost of monitoring them would
surpass the benefits, even if they offer explicit or implicit guarantees to its depositors.

An alternative would be to implement a non prudential regulation, which involves fixing a set
of requirements for MFIs, as registration procedures and the compliance of a specific
regulation carried out by the same MFIs or an associated entity.

The existence of a regulatory environment can sometimes stimulate the formation of MFIs or
broaden the base of existing ones. Favorable conditions for the MFIs could arise from a
beneficial legislation for their creation, or NGOs could be allowed to evolve to the status of
an entity acquiring deposits. In these cases, the critical factors to be analyzed are: (i) if the
interaction between the new and the existing regulations do not provide opportunities for
regulatory arbitrage; (ii) if the regulations hinder the integration of the MFIs to the rest of the
financial system; (iii ) if the regulations inhibit financial innovation on the MFIs part.

One way to minimize these potential undesirable effects would be to focus regulation to the
microfinance activities, regardless of which entity develops them, in such a way that they
would receive equal treatment even if they are offered by a large commercial bank that
decides to enter this segment or a small regional entity.

In addition to the regulatory activity, basic principles that guide the specific activities of
microfinance could be disseminated, facilitating good practices and including auditing
protocols and accounting rules.
6. The situation in Argentina

6.1. Current conditions: active institutions in the area of microfinance and microcredit

In Argentina, there are no cases of formal financial institutions 42 devoted exclusively to

microfinance. There are, however, financing programs for poor people implemented mainly
by the government and NGOs channeled, in many cases, through institutions such as mutuals,
credit cooperatives and other NGOs. There are also experiences of programs at the regional
level, of micro-credit granting for micro-enterprises implemented through some of the
municipalities or parishes. Micro-finance, micro-business and micro-enterprises for
subsistence constitute a rising phenomenon in Argentina, driven among other factors, by the
recent economic and social crisis.

The microenterprise financing programs in Argentina are highly heterogeneous: there are a
lot of programs, implemented mainly by the public sector, which provide subsidies or some
form of financial assistance that does not require refund while other programs contemplate
the refund of the loan, in the form of goods or services; in the private sector, there exist from
individual and precarious enterprises up to complex units with legal structure. Since the
credit support generally is not enough by itself, it is often supplemented with training,
consulting and performance tracking.

A field study43 conducted between August and September 2005 estimated that 110 entities
exist in the country dedicated to microfinance 44 which includes the public programs of
national reach that do not meet the definition of MFI but are included because of its relevance.
Regarding their legal form, they are mostly NGOs, especially Civil Associations and a few
foundations. According to the survey answered by 43 institutions 45 , the average active
portfolio by institution is 340 loans, while the historical quantity of granted loans is 55,462
(14,931 considering only the active portfolio) with a total value of almost $ 38 million. The
above figures give an idea of the poor development of the activity in our country compared
with other nations of the world and Latin America.

Among the programs carried out at the state level, the Social Capital Fund (FONCAP), is an
initiative of the Ministry of Social Development, created in 1997 with the objective to boost
the credit assistance to more than one million small enterprises in the country. This is a
corporation that administers the Trust Fund Social Capital (FFCP), originally established

42
“Formal” in the sense that they carry out operations of intermediation of funds and therefore they are
regulated by the BCRA.
43
Microfinance in Argentina" (PNUD 2005) has been developed by a team from the Economics University
of UBA coordinated by Marta Bekerman together with Santiago Rodriguez, Sabina Ozomek and Florencia
Iglesias.
44 According to the cited work , the figure corresponds to their own estimation. It includes three public
programs of national reach. The state program NETWORKS, which on the date of calculation had 498
funds allocated to NGOs and municipalities, was considered as a unique program because all funds belong
to the same program. FOMICRO of Banco de la Nacion Argentina was in the same situation. Within the
institutions of the private sector, the figure individually considers the 22 replicas of Grameen in Argentina,
as these institutions are usually managed independently.
45 Including the most important institutions within the governmental and non-governmental organization
(the latter nation-wide).
with a contribution from the National State of u$s 40 million. The board of directors is
integrated with representatives of ministries and associations of entrepreneurs and
organizations linked to the microenterprise sector. Its mission is to spend this amount of
money in the funding of institutions engaged in microfinance, so that it belongs to the
organizational "second floor". As a novel aspect, even though at first it provides funds, the
state has only 49% of the shares of the securitizing company, while 51% belong to non profit
organizations.46

The National Decree 675/97, which established the FONCAP, considers microbusiness to all
economic activity that is characterized by "... informality, small-scale, family character,
employment self-generation, intensive use of manpower, poor organization and division of
labor , low productivity, scarce use of technology, shortage of fixed assets and lack of regular
credit…". According to this decree, the microenterprise of smaller resources sells around $
50,000 a year and it employs no more than 5 people, including the entrepreneur.

According to a document published in 200247, activities of twelve microcredit institutions

were financed: five NGOs, three corporations, three cooperatives and mutuals and a bank of
the formal financial sector. Each institution that decided to launch a micro-credit program
was requested a three-year business plan that allowed establishing parameters of
sustainability and targeting population reach. In order to be approved, each project had to
self-sufficient by the end of the period. The type of credit technology and the organizational
design were the sole responsibility of the recipient institutions, resulting in a wide
heterogeneity. The institutions had to submit a projected cash flow that would allow
establishing the portfolio financing needs, the active portfolio objectives and the number of
active customers for each year, and the average parameters of the credit product. In return,
FONCAP gave credit support equivalent to 20% of the funding needs arising from the flow
of funds, which would be forgiven if the proposed goals of credit placement and number of
customers were achieved.

The evaluation of operations showed a negative balance. The reason would have been an
excessively slow growth of the portfolio and customer incorporation48. The major deviation
found was high levels of non-collectability: the portfolio at risk with arrears longer than 30
days was on average of 14.3%. The main causes that might explain the problems found
include the recession that hit the country since the fourth quarter of 1998 with a high impact
on regional economies that raised sharply the level of arrears. For operations that were
already under way, that meant more prudence in the granting of credit, slowing the portfolio
growth and high losses by bad loans, affecting its already diminished economic solvency.
The existence of informal financial service providers, defined as those who provide loans but
are not embraced by legislation, regulation and supervision of the Central Bank, was another
destabilizing factor.49

46
Cambio Cultural (2005)
47
Bulat, Tomás (2002), who was Director of FONCAP
48
Bulat, Tomás (2002)
49
By that time (year 2002), there were 8.000 informal entities that assisted the sectors of medium to smaller
resources whose financing reached the order of the $37.000 millions
The existence of an informal credit market so vast was a major challenge for microfinance in
terms of competition. Other factors were institutional inexperience and lack of facilities to
extend credit and a passive attitude in selecting the profile of the institutions.

Since 2003, under the National Plan for Local Development and Social Economy "Manos a
la obra" implemented by the Ministry of Social Development of the Nation, FONCAP has
dedicated itself to the implementation of a unified platform of technical support and financial
services for the microenterprise. Access to the program is accomplished by introducing new
or ongoing projects in the organizations of the civil society and municipalities that promote
such ventures. Projects may be for agroindustrial production, manufacturing and the service
and trade sectors financing the purchase of inputs, tools and machinery. Many of the
financing facilities contemplate a non-monetary loan repayment, and in some cases for
amounts equivalent to only a percentage of what it was received in cash.

Moreover, from the financial sector, the Banco de la Nacion Argentina (BNA) has launched,
since the year 2004, the National Fund for Development and Consolidation of
Microenterprises (FOMICRO). The fund is coordinated by the BNA and the SMEs Under-
secretary of the Ministry of Economy and Production of the Nation. The project execution is
led by the Social and Popular Organizations50, which carried out promotion tasks, support for
the formulation and project approval, training, technical assistance and support plans. The
Social and Popular Organizations participants receive a percentage of loans granted with the
purpose of affording the costs that demanded the above tasks. Loans of up to $ 30,000 are
granted for new productive enterprises or existing ones subsidized at a rate of 7%. 51

As for the universe of private institutions, civil and civil-mixed providing microfinance
services in our country, we can say that is very heterogeneous; not only in terms of the size of
these entities, but also with respect to its legal form. Among them, it is the Grameen Bank
that, through the Grameen Foundation (Villages) Argentina (FGA), implements experiences
of microcredit in more than 20 locations throughout the country, in whose first replicas, the
microfinance assistance is channeled through NGOs; the program FIE Grand Power has been
operating since 2001 in the area of Liniers offering input from the experience of microfinance
in Bolivia; Quilmes Caritas; Social Housing Foundation; SEDECA (Secretariat of Self-
managed Communities Linkage); FUNDECCH (Foundation for Development Chaqueño
Center); Bank Social Moreno; Assoc. Civil Forward; Foundation Women's World Banking;
Undertake Foundation, among others.

Most entities engaged in microfinance in the country offer exclusively financing services to
micro entrepreneurs 52 , which marks the weak development that still have other financial
services such as savings and insurance (it is worth noting that some financial institutions
expressed the need to attract savings from its partners based mainly on the demand for these
same services that their customers require). A high percentage of institutions offering

50
There are 290 Social and Popular Organizations that receive fundS from the FOMICRO
51
Source BNA
52
According to UNDP (2005) and information gathered in those “Jornadas de Intercambio para un
Proyecto de Ley de Promocion del Microcredito ”, jointly organized by the Honorable Camara de
Senadores de la Nacion , the Honorable Camara de Diputados de la Nacion and the Ministerio de
Desarrollo Social de la Nacion, which had the presence of representatives of entities dedicated to the
microfinance of the whole country. March of 2006.
together with microcredit services, training, technical assistance and support to get to the
sales channels of the products they design. In many cases, the need to use such services to
ensure the project's success is highlighted. With regard to the types of guarantees they use,
although they are diverse, primarily points out the use of the solidarity guarantees.

Concerning the difficulties faced by local MFIs to do their daily operations and to develop,
note fundamentally the absence of a legal structure in which to frame the activity of
microfinance, the tax treatment MFIs receive and the difficulty for borrowers to meet the
statutory requirements that govern their commercial activity53. For some MFIs, the lack of
stable funding to finance projects is a difficulty that must be constantly overcome. The
operating costs faced by all MFIs are very high mainly because of the typical characteristics
of the business of microfinance reviewed previously. Also, the MFIs demanded, as part of a
policy to support activity, the granting of subsidies by the State to cover those costs with the
objective that its effect on the interest rates that the micro entrepreneurs pay is minimal.

6.2. The local regulation of financial institutions and microfinance

In this section, the purpose it to analyze the treatment given to microfinance by the law and
the local prudential regulation, on two levels: the activity of microfinance in itself, regardless
of the type of regulated institution that develops it and the treatment given to MFIs, i.e., to
the entities that are only engaged in the business of microfinance.

Then two questions arise: 1) Does local prudential regulation prevent financial regulated
institutions –whatever is the type- devote a portion of its business to microfinance? This
question is aimed at establishing whether there are regulations considering the business of
microfinance as such; 2) Do the prudential regulation and legislation provide for a category
of institutions that can be devoted exclusively to microfinance? In other words, are there
regulations for microfinance institutions?

As to the first question, the prudential regulation has established differential requirements for
certain micro credit products that can offer financial institutions. One is the so-called "low-
value loans”. Those so are considered when the monthly installment –with French system-
does not exceed $ 200 for a maximum period of 24 installments and a total amount of $
15,000 for longer maturities54. Moreover, the need for having the client’s classification and
its information to the Central Debtors settles down. The upper limit on loans that the entities
can grant under this procedure is 10% of its Computable Patrimonial Responsibility (PRC)55.

One of the advantages of this type of loan is that, to be granted, they require a smaller volume
of the documentation needed for the rest of the credits. The local regulations establish, as
general case, that when a financial institution grants a loan it must prepare a customer dossier
where all the information concerning it would be recorded. Such information includes -if

53
The difficulty of fulfilling the microbiology, immunology and parasitology strict quality controls of the
products elaborated by the microentrepreneurs is the most mentioned.
54
54 BCRA, Orderly Text of Credit Administration, Point 1.1.3.3. The loans with a longer term than to 24
months should be guaranteed with a mortgage in first grade based on housing properties.
55
The local regulation defines as RPC the regulatory capital of the financial institutions.
applicable- proof of compliance of the pension liabilities, the inscription in the Industrial
Registration of the Nation, the affidavit on linkage to the financial institution in addition; to
all the elements that facilitate making correct wealth assessments, flow of incoming and
expenditures and profitability and profitability of the project to be financed56. The making of
this record has a cost in terms of gathering and processing information. As a result, lower
reporting requirements for loans of low value are established. In this case, it is only required
that the credit file has the data that allows the identification of the client. 57 The same
treatment is required for loans granted to individuals using statistical methods of evaluation
(“Credit Scoring"). The amount of these loans granted with "Credit Scoring" can not exceed
$ 15,000, being required also the clients’ classification and settling down as limit for the bank
15% of the RPC or $30 millions, of both the largest without overcoming the 50% of the PRC.

So far, the use of low-value loans by banks and financial institutions was low at the aggregate
level, with a balance of about $ 19 million throughout the system58. The low use of these
loans could be responding to problems of both supply and demand. On the one hand,
financial institutions might consider that the information required by the regulation is not
sufficient to assess the claims; consequently, additional requirements, of those based
exclusively on the norm, would be needed. On the other hand, it may be happening that the
demand for credits of low amount by poor people is not addressing the traditional banking
sector. Perhaps, this is due to lack of information on the type of loans it can offer the formal
sector or because, in anticipation to adverse situations, many people turn to the informal
sector in search of financing.

A more favorable treatment exists in the normative for commercial loans that does not exceed
$ 500,000, regarding the treatment granted to the rest of the commercial credits of higher
amount.59 The regulation gives the entity the option to classify them as consumer or housing
portfolio, with or without preferred warranty, in which case they receive the treatment
prescribed in the rules for the consumer 60 . This option contributes to simplify the
classification of the debtor because, for the consumer loans, the classification is done on a
monthly basis and solely with objective standards of compliance with its obligations or its
legal status61. By contrast, commercial credits are classified based on the updated financial
information (financial statements and supplementary information, investment projects, etc.)
that provides the customer, considering as a basic assessment, the ability of repayment
according to the estimated cash flow. The norm enumerates for each category of
classification, the situation that should be observed in the analysis of the flow of funds as
well as the minimum frequency of classification62. However, it must be pointed out that the
commercial portfolio originated with the pattern of "assimilable to consumption”, is not
exempted of the constitution of guarantees or does not take any credit assessment
methodology that might resemble those used in microfinance.

56
BCRA, Texto Ordenado de Gestión Crediticia.
57
Texto Ordenado de Gestión Crediticia.
58
August, 2005 data
59
BCRA, Texto Ordenado de las Normas sobre Clasificación de Deudores
60
BCRA, Texto Ordenado de las Normas sobre Clasificación de Deudores , Section 5
61
BCRA, Texto Ordenado de las Normas sobre Clasificación de Deudores , Section 7. The classification
will depend on the information arising from the Central de Deudores of the financial system when
reflecting lower quality scores assigned by the entity.
62
BCRA, Texto Ordenado de las Normas sobre Clasificación de Deudores , Sectin 6
As for the second question, outlined at the beginning of this section, it can be affirmed that
there are neither a legal figure nor regulations, at the present time, in which can be framed the
MFIs like such. Many times, in the discussions, it is sustained that the Credit Cooperatives
Banks created in the year 2003 by Act 25.78263- would be the most similar legal figure to an
MFI since, according to the Financial Institutions Act, they have the capacity to grant loans
"... to small and medium urban and rural enterprises, including sole proprietorship,
professionals, artisans, clerks, manual workers, individuals and entities of public good"64.
Although this is the legal category that because of its object more closely would resemble an
MFI, they can neither perform all the activities usually handled by a typical MFI nor fully
implement the credit methodologies used by them. In order to clarify the existence
differences, in Table 7, are compared the typical features of the MFIs with those that
correspond to a Credit Cooperative Bank.

The Credit Cooperatives Banks carry out active and passive operations only with their
associates and within certain limits imposed by the normative. Besides, given the nature and
volume of operations they perform, they receive special treatment regarding the regulation
imposed to other financial entities65. The objective of the last legal reforms pointed exactly to
the reduction of the costs associated with their activity.

Given the operations they can undertake and the proximity they have with their customers,
we could assume that the credit cooperatives have adequate tools to get closer to
microfinance. However, the limitation they have to function only in certain geographic areas,
beyond allowing them to achieve a better understanding of their customers (key factor in
microfinance) could result in an inconvenience for the development of microfinance, so
much in what concerns to the performance scale they can reach as to the diversification of its
portfolio. The restrictions on the interest rates charged, as the fact that they could not lend
100% of its portfolio without guarantees, are among other factors, an according to the
comparison, what could hold back the credit cooperatives from engaging completely in the
microfinance business.

Today there are two Credit Cooperatives Banks possessing $ 64 million in loans, mostly in
personal loans, which should not necessarily be associated with microcredit. It is expected
that thanks to the new legal framework more entities emerge.

63
And regulated by means of Communication “TO” 4.183 and “TO” 4.421 of the BCRA.
64
Chapter VII Art. 26 Law of Financial Entities
65
They also have the possibility of requiring just the client's simplified file for the loans with installments
of up to $3.000 without guarantee or up to $12.000 and $20.000 with a mortgage-backed or other assets-
backed securities respectively
7. Conclusions
The International experience shows that the vast majority of MFIs originate in the form of
NGOs or government entities financed with state contributions that do not pursue profit goals.
As the volume of services increases and its portfolio of customers extends, more advanced
work technologies are incorporated. That growth is often limited by the need of increased
funding. Consequently, many NGOs are transformed into private entities that are funded by
contributions from its owners or they start to capture deposits66, in some cases only from their
borrowers and in others, from the public in general. In most cases, it is the deposit-taking
which determines that MFIs enter the field of prudential regulation.

Microfinance has its own characteristics that differ significantly from the traditional finance.
The use of information-intensive credit methodologies, which do not depend on the existence
of tangible collateral, is perhaps the outstanding feature around which the whole logic of the
microfinance business revolves, and defines its remaining particular attributes. High
information needs, monitoring and borrowers’ counseling often result in high operating costs
in relation to the standards of the traditional financial industry. Then, to be sustainable, MFIs
need to charge high interest rates.

As for Argentina, according to the experience relieved, we might conclude that the
microfinance industry is still going through its first phase of development. One hypothesis is
that this could be due to the fact that Argentina has a higher level of development relative to
countries where microfinance reached a broad dissemination (e.g. Bangladesh, Bolivia, Peru,
and Ecuador, among others) and consequently attracted less attention of international NGOs
and investors wishing to address this market. The demand for financial resources for the poor
people would be partly covered by state plans, the work of some NGOs and other informal
sources.

At least some of the loans demanded by people with very low income could be assisted by
regulated financial institutions. Currently, formal financial institutions have such regulations
that do not prevent them from devoting part of its business to the realization of microfinance
operations: the loans of low value allowed by the Central Bank do not require the application
of guarantees; only the verification of the borrower’s identity. The same applies to some lines
of loans of the credit cooperatives banks. The fact that these loans do not require the
existence of guarantees neither a high volume of formal information constitutes a
fundamental advantage to skip one of the main obstacles of the microfinance industry.
However, the operatives described are limited in size, generally up to a percentage of the
capital of the financial institutions. With these elements we can answer affirmatively to the
question of whether there are regulations that could frame the microfinance business. From
the regulation perspective, there are no regulatory barriers for the entities to devote part of
their business to those operations without inhibiting that some regulatory aspects could be
reviewed in the future for a better adjustment to the particular characteristics of microfinance
business.

66
Without the preconception that also the deposits-intake can be frequently explained by the need to
provide a complementary saving service to the microfinancial customers and not necessarily for the need of
funding the IMFs.
Then there is a second issue in the workplace, regarding whether there are regulations and a
legal framework for microfinance institutions, i.e. those which are engaged solely in the
business of microfinance as the term is defined in this work. The answer is negative in this
case, since there is no legal figure nor derived regulations allowing to frame this institutions
as financial entities in the case they conduct brokerage with third-party funding. It is often
declared that cooperative credit banks are now the closer legal figure to an MFI, but given
some of the restrictions imposed on its operations (single house, limits on active interest rates,
restrictions to capital participation, limits on unsecured loans, among others), these entities
like the rest of the regulated financial institutions, could devote a part of its business to
microfinance.

The empirical evidence of the experiences in other countries shows that the prudential
regulation came after the market (or at least some individual institution, as happened with the
BancoSol in Bolivia) reached a significant volume of transactions. In particular, the need for
prudential regulations arose in a concrete manner at the time that the MFIs decided to capture
deposits from the public, given that the regulators commands are based on the protection of
the interests of small savers and the maintenance of a systemic financial stability. Some
authors, as is the case with some practical experience in some countries, favor the argument
of financial stability in order to determine the need for prudential regulations. According to
this view, if the MFI captures a very low volume of deposits or if they only come from the
customers that are concentrated in small towns, then there would be no need for prudential
regulations, as it was considered that the MFIs do not impose a contagion risk on the
financial system as a whole. According to this approach, the best thing would be to
implement non-prudential regulations.

Still, the argument of representing the interests of small savers remains being valid. This is
the case of Argentina, in which all the entities that capture deposits from the public are
subject to the regulations and supervision of the Central Bank. It follows that the MFIs that
not to act as intermediaries between supply and demand of lendable funds but rather offer
loans with their own money (their own capital) would have no reason to be subject of
prudential regulations. Of course, it could be set a number of non-prudential regulations in
order to ensure the proper functioning of the markets, improve the transparency and the
quality of management operations, among other things.

There is consensus at the international level that the prudential regulation should improve
those aspects that might inhibit financial institutions from developing existing microfinance
services or make it very difficult for those entities to lend to an MFI. In this regard, the local
prudential regulation has "windows" that allow entities intrude in this business if they so
choose, such as low-value loans and others allowed by the credit co-operatives, for which
formal guarantees are not required. In addition, the incursion of formal financial institutions
in microfinance is an additional avenue to promote their development. In this case, the
establishment, in such entities, of platforms that assist the microfinance ( "downscaling"),it is
a path that is gained at the global level, through which banks can directly implement
microfinance programs, either through the formation of a department specializing in the
subject or as autonomous subsidiaries. The ability to outsource the process of origination of
microcredit institutions specializing in the field, and the existence of special platforms, such
as mobile banking, are two tools that help to facilitate the move into the microfinance
business of the banks and other formal financial institutions.
Finally, it should be noted that the supervision of the MFIs, particularly the portfolio testing,
requires the use of different techniques and skills from those used to monitor the rest of the
entities, requiring appropriate knowledge specific to the activity in order to exercise effective
supervision of the MFIs.
Appendix of complementary data
Bibliographical Index

Acción International: www.accion.org

Banco Central de Bolivia: Disposiciones normativas (Título tercero: crédito popular y

servicios financieros en municipios) www.bcb.gov.bo

Banco Central de Bangladesh: www.bangladesh-bank.org

BCRA: Comunicación “A” 4.183 y “A” 4.421. www.bcra.gov.ar

BCRA: Texto Ordenado de Gestión Crediticia. www.bcra.gov.ar

BCRA: Texto Ordenado de las Normas sobre Clasificación de Deudores. www.bcra.gov.ar

BCRA: Texto Ordenado sobre Caja de Crédito Cooperativas. www.bcra.gov.ar

Banco de la Nación Argentina: www.bna.com.ar/institucional/fomicro.asp

Banco Mundial de las Mujeres: www.swwb.org

Banco Supervielle and Planet Finance: “Banco Supervielle and PlaNet Finance signed an
agreement to develop a microfinance platform (downscaling) in Argentina”. Press Release,
París, 1 de febrero de 2006.

Beck, Demirguc-Kunt, Levine (2004): “Finance, inequality and Poverty: cross-country

evidence”. World Bank Policy Research, WP 3338.

Bulat, Tomás (2002): “La experiencia argentina de un fondo de segundo piso para las
operaciones de microfinanzas”. www.iadb.org

Cambio Cultural (2005): “Las microempresas y el microcrédito en Argentina”.

www.cambiocultural.com.ar

Christen, Robert Peck, Richard Rosenberg, Veena Jayadeva. (2004). “Financial Institutions
with a Double Bottom Line: Implications for Microfinance”. Consultative Group to Assist
the Poor. Occasional Paper 8. Washington DC.

Christen R. and R. Rosenberg (2002): “The rush to regulate: legal framework for
microfinance”. Consultative Group to Assist the Poor. Occasional Paper 4. Washington DC.

Christen, Lyman and Rosenberg (2003): “Microfinance Consensus Guidelines: Guiding

Principles on regulation and supervision of microfinance”. Consultative Group to Assist the
Poor / The World Bank Group.
Daley-Harris, Sam (2003): “State of the Microcredit Summit Campaign Report 2003”.
http://www.microcreditsummit.org

FINCA - Fundación Internacional para la Asistencia Comunitaria: www.asomif.org

Fitch Ratings (2005): “Instituciones Financieras. Bolivia, Banco Solidario”. Septiembre.

www.fitchratings.com.bo

FMI - Fondo Monetario Internacional (2005): “Microfinance: A View from the Fund”.
Prepared by the Monetary and Financial Systems Department. www.imf.org

FUNDAPRO (1998): “The development of microfinance in Bolivia”.

Fundación Calmeadow: www.calmeadow.com

Grameen Bank: www.grameenarg.org.ar ; www.grameen-info.org

Greuning, Gallardo and Randhawa (1998): “A framework for regulating microfinance

institutions”. World Bank.

Gomez, Tabares, Vogel (2000): “Microenterprise best practices, Regulation and Supervision
of Microfinance Activities: The Bolivian Case Study”. USAID funded project.

Guzmán, Tatiana (1997): “El desarrollo de las microfinanzas en Bolivia”. Foro de

Microfinanzas, FUNDA- PRO. La Paz, Bolivia, Diciembre.

Hardy, Holden and Prokopenko (2002): “Microfinance institutions and public policy”.
International Monetary Fund, Working Paper 159.

Infoleg: Decreto Nacional 675/97

Jansson y Wenner (1997): “La regulación financiera y su importancia para la Microfinanza

en América Latina y el Caribe”. Banco Interamericano de Desarrollo.

Jansson and Wenner (2002): “Definition of selected financial items ratios and adjustments
for microfinance”. Banco Interamericano de Desarrollo.

Lapenu, Cécile, and Manfred Zeller (2001): “Distribution, Growth and Performance of
Microfinance Institutions in Africa, Asia and Latin America”. FCDN Discussion Paper No.
114, IFPRI.

Ley de Entidades Financieras Nª 21.526 (Argentina).

Ministerio de Desarrollo Social de Argentina: documentos varios referidos al FONCAP y al

programa “Manos a la obra”.

MIX- The Microfinance Information Exchange: Series Estadísticas. www.themix.org

Navajas, Schreiner, Meyer, Gonzalez-Vega and Rodriguez-Meza (2000): “Microcredit and
the Poorest of the Poor: Theory and Evidence From Bolivia”. World Development, Volume
28, No.2, 333-346.

Opportunity International: www.opportunity.org

PlaNet Finance: www.planetfinance.org

Programa de las Naciones Unidas para el Desarrollo –PNUD- (2005). “Informe sobre
desarrollo humano”.

Programa de las Naciones Unidas para el Desarrollo –PNUD- (2005). “Microfinanzas en la

Argentina”. Equipo de la Facultad de Ciencias Económicas de la UBA coordinado por Marta
Bekerman junto a Santiago Rodríguez, Sabina Ozomek y Florencia Iglesias.

Rhyne (2001): “An introduction to key issues in microfinance”. USAID

Rock R. and Otero M. (1996): “From margin to mainstream: the regulation and supervision
of microfinance institutions”. Acción Monograph Series No. 11

Superintendencia de Bancos y Entidades Financieras de Bolivia: “La regulación y

supervisión de las entidades microfinancieras en Bolivia”. www.sbef.gov.bo

Superintendencia de Bancos y Entidades Financieras de Bolivia: Recopilación de Normas

para Bancos y Entidades Financieras. www.sbef.gov.bo

The Economist (11/2005): “Microfinance survey”

Yunus, Muhammad (1999) “Hacia un mundo sin pobreza”. Editorial Andrés Bello, Santiago
de Chile.

Yunus, Muhammad (2005): “What is microcredit?” www.grameen-info.org