More transparency, please!

by Christoph Kneiding: Tuesday, September 29, 2009

The graph above visualizes this for a showcase institution in Bosnia. The blue triangle stands for the portfolio yield reported on MIXMarket, while the red squares indicate the individual APRs for each individual product. What we already knew on an industry level can now be confirmed for the institution level: as loan sizes increase, interest rates are dropping.

Advocates of consumer protection have long been arguing in favor of transparent pricing for microlending products. In the United States, the Truth in Lending Act of 1968 obliges lenders to disclose the annual percentage rate (APR) to prospective borrowers for all products.

Similar provisions exist in most Western economies, and some developing countries. However, in many countries – especially those with a strong presence of microfinance institutions – transparent pricing has not been enforced.

CGAP therefore decided to support the development of MFTransparency, a global initiative for fair and transparent pricing in the microfinance industry. By collecting original loan contracts from MFIs actual total costs of loan products can be calculated, rather than nominal prices often quoted to clients. This allows for a meaningful comparison between different offers.

What do we gain from this? First and foremost, a better understanding of how individual products are priced. So far, researchers have had to rely on the “average portfolio yield” per institution as a proxy for interest rates. This indicator summed up all income generated from the portfolio, and divided it by the institution’s gross loan portfolio. That process yielded only one weighted average interest rate per institution, but with MFTransparency’s approach, we now have interest rates for each individual product. The graph above visualizes this for a showcase institution in Bosnia. The blue triangle stands for the portfolio yield reported on MIXMarket, while the red squares indicate the individual APRs for each individual product. What we already knew on an industry level can now be confirmed for the institution level: as loan sizes increase, interest rates are dropping.

So far, MFTransparency has been used in three countries, and the data is being analyzed as you read this post. Soon, we will be able to explain differences in APRs based on criteria like loan size, client characteristics, and location of the MFI. Stay tuned for further updates.

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5 Comments

October 1st, 2009 at 12:04 am, MICROCAPITAL.ORG STORY: CGAP Microfinance Blog Supports Efforts Of MFTransparency To Promote Transparent Pricing And Enhance Consumer Protection In The Microfinance Industry ()

[...] [1] CGAP Microfinance Blog entitled ‘More transparency, please!’: http://microfinance.cgap.org/2009/09/29/more-transparency-please/ [...]
October 3rd, 2009 at 11:51 am, S Santhanam ()

Dear Christoph
I agree with you. In India, Know Your Customer (KYC) norm demands transparency by the financial institutions to their clients. However, those MFIs not set up under the Indian Companies Act, 1956 are not governed by this regulation and hence most of them do not provide such critical information as interest rates on the loans issued by them. Clients’ education on an on-going basis is a must for this to succeed in developing countries like India.
Dr S Santhanam
Development Consultant
October 5th, 2009 at 4:29 pm, Christoph Kneiding ()

Thanks a lot for this comment! I fully agree that financially literate clients will most likely be better able to distinguish “good” products from “bad” ones. At the same time, I see MFTransparency’s effort primarily aimed at policymakers, funders - and of course MFIs themselves. It will be their job to make this pricing information accessible to microfinance clients and provide them with the necessary tools to turn this data into prudent financial decisions.
October 26th, 2009 at 12:30 am, MICROCAPITAL.ORG STORY: MicroFinance Transparency Launches First Publicly Available True-Cost Pricing Data for Microfinance Loan Products ()

[...] as opposed to a single weighted average. The Consultative Group to Assist the Poor (CGAP) predicts that by using MFTransparency’s data, analysts will soon “be able to explain the differences in [...]
November 16th, 2009 at 1:51 pm, Yves Mathieu ()

Dear Christoph,
I fully agree on the fact that it’s the job of “policymakers, funders and of course MFIs” to make information accessible, but do you think that an interest rate is really something accessible to MF clients as the right information ?
As I’m a newcomer in this area of thinking, maybe it’s already discussed on other forums, but I think to be efficient with transparency to MFI clients, we need to have a lateral thinking to make information intellectually accessible (to avoid any discussion about “intellectually”, I mean of course that they are not stupid, but just they have another reference framework than us). How ? It’s probably also a question of ethical behavior of MF providers. Even in our “developed” countries, information about interest rates does not prevent really (surely ?) over-indebtedness, because it’s probably (surely ?) at the origin an issue of product commercialization. We need definitively this starting point to start the discussion, but I come back again with “lateral thinking” to see the problem not with our eyes but with the eyes of the poor people in the middle of nowhere to get access to a MF service.
Transparency, yes of course, but the right transparency please.
Kind regards,
Yves