Should big MFIs be prudentially supervised even if they don’t take deposits? Are they “too nice to fail”?
by Xavier Reille : Wednesday, April 14, 2010
In a recent post David Roodman questions the role of funders and particularly lenders in the microcredit delinquency crises in Bosnia, Morocco, Pakistan, and Nicaragua. The exuberant growth seen in these four countries was indeed fuelled by lenders eager to place capital. A Bosnian MFI manager was blunt: “Some funders started lending to second and even third tier MFIs. They just dumped the money; they did not look at the market at all.” Why did these lenders take such risks?
Microfinance investors, asset managers, and maybe rating agencies have tended to underestimate MFI risk for a long time. But maybe regulatory issues form part of the problem?
I can’t help but notice that the fastest growing MFIs tend to be non-banks that aren’t subject to prudential supervision. For a striking example look at India’s star SKS in India — preparing for an IPO after four years of average annual growth of 300% compounded. Many other non-regulated MFIs have been growing at over 100% a year. Savings based MFIs (banks and cooperatives) have been growing at more reasonable and sustainable rates.
One of the rationales for prudential regulation (regulation aimed at monitoring and protecting the financial health of banks) has been the risk that deposit runs on a weak bank may spread to healthy banks. The CGAP mantra has always been that non-depositing-taking MFIs should not be subject to prudential regulation, because they don’t put savers’ money or the banking system at risk. I’m wondering if policy makers from Morocco would agree at this point.
Zakoura, a leading Moroccan MFI, was rescued with taxpayer money out of fear that delinquency by its borrowers would spread to other MFIs and push them to the brink. It was taxpayers, not the lenders (mainly local banks), that had to absorb most of Zakoura’s losses.
Microfinance institutions usually do not threaten the stability of the financial system. They are almost never “too big to fail,” but some governments may regard them as “too nice to fail,” in view of the services they provide to the poor. I wonder whether prudential regulation would have prevented the Moroccan crisis, and if so at what cost.
April 16th, 2010 at 3:49 pm, Fehmeen ()
To think that non-deposit-taking MFIs are too nice to fail is a paradox in itself. The fact that they do not take deposits does not imply they have a strong social conscience because other hidden fees may still exist (taxes, transaction costs, and deceptive interest rates), and even if it does imply so, ‘being nice’ isn’t sustainable for MFIs because, as Professor Yunus put it, ‘credit without discipline is charity’
4 Comments
April 15th, 2010 at 3:12 pm, Richard Rosenberg ()
Xavier, I suppose at the end of the day it all comes down to the question you pose at the end: how likely is it that prudential supervision would really have prevented the Moroccan problem, and how does this benefit measure up against the various costs involved. Because that’s a a practical what-if question , not a conceptual one, it’s very difficult to answer it.
Of course, the bigger question is not what should be done in Morocco, but rather what should be done more generally around the world. In one sense, the Moroccan case might not be a “fair” representative of the more general question, because we know ex post that a disaster happened there. If I know that there has been an auto crash at a particular intersection, it’s normal to think “I wish there had been a traffic light there,” even though putting traffic lights at all similar intersections might not be a good idea from a cost/benefit perspective.