In Defense of “High” MFI Interest Rates
14 February 2010 at 05:35 evacwu 23 comments
By Eva Wu, KF9 Philippines
Having read Meg’s excellent blog post “Bad Roads, Interest Rates, and MFI Sustainability” and the ensuing comments from Kiva lenders, I admit that I was rather baffled. Particularly by comments that varied upon the theme of: “In the U.S. you can get loans for ~8%! You can get credit for 18% interest, which we find high and oppressive! So how can MFIs charge 36% interest rates on loans to their poor clients, it is usurious, it can’t be justified…” so on and so forth.
I believe that if you were to plunk a U.S. bank into a developing country with limited infrastructure, where most clients don’t have ready access to the internet that lets them transfer money from one bank account to another with the click of a mouse, where you have to ask employees to constantly risk their personal safety by carrying huge amounts of cash over uncertain roads and territories, those banks would not be charging 8% interest or even 18% interest, but a much, much higher rate.
Still not convinced? Let’s try a quick breakdown of some actual numbers -
HSPFI, my host MFI and Kiva field partner, charges 3% interest a month on loans. So for a first-time borrower with a loan of P5,000 to be repaid over 5 months, in one month the HSPFI borrower would be paying back P1,000 on the capital, and P150 in interest. (The current exchange rate is 46 Philippine pesos to 1 U.S. dollar, so the USD equivalent is $21.74 in capital, and $3.26 in interest.)
The P150 interest collected on that loan covers salaries and benefits of not just the project or loan officers who collect the client repayments on a weekly basis, but also the salaries of admin staff members like the branch cashier, accountant and assistant accountant, as well as the branch manager. Let’s say our first time borrower lives in Camiguin. For HSPFI’s Camiguin Branch (which is HSPFI’s smallest but one of its most efficient branches), total salaries and benefits for their five staff members (three project officers, one admin staff, and one officer-in-charge/branch manager) in January 2010 came to roughly P27,500 (or $598 USD).
Apart from the salaries and wages of the branch staff, the P150 interest will also go towards salaries and benefits of the Head Office staff – HSPFI’s Executive Director, Director of Operations, HR staff, tech staff, community development staff, internal auditors, Kiva Coordinator(!), etc. – as well as Head Office’s administrative costs (for printing, office supplies, utilities, trainings and conferences…). Unlike the branches, HSPFI’s Head Office does not give out loans or collect interest from clients, so the branch offices make monthly contributions to help cover Head Office’s costs. HSPFI Camiguin Branch contributed P53,400 (or $1,161 USD) in management fees to Head Office this past month.
Still with me? Remember that our first time borrower is paying P150, or $3.26 USD in monthly interest on his or her loan of P5,000. But salaries and wages are hardly the only things that a functioning MFI has to pay for. Camiguin project officers spent about P4,500 (or $98 USD) on travel this past month. And to round out the estimated operational costs, total administrative expenses for necessities like utilities, phone, office supplies, rent, taxes/licenses, etc. for the branch came to about P26,150 (or $568 USD).
| Partial Operating Costs for HSPFI’s Camiguin Branch in January 2010 | |
| Branch Staff Wages & Salaries | P27,500 (~$598 USD) |
| Head Office Management Fee | P53,400 (~$1,161 USD) |
| Project Officers’ Travel | P4,500 (~$98 USD) |
| Administrative Expenses | P26,150 (~$568 USD) |
| Total | P111,550 (~$2,425 USD) |
Note that this is PARTIAL operating costs for HSPFI Camiguin. Kiva is not HSPFI’s only (or biggest) funder by any means, and other funders (e.g. Oikocredit, SEAD, PCFC, SBGFC) actually do charge interest on loans to HSPFI. I left that line item out of the above calculations for the sake of argument that Kiva’s funds are interest-free, but if I were to add that line item in Camiguin’s operational costs would increase by about P49,800 (or $1,082 USD).
By now you’re probably tired of me repeating that our first-time HSPFI borrower is paying P150, or $3.26 USD in interest this month on his or her loan of P5,000 – 0.13% of operational costs. Surely you have to account for repeat borrowers who have taken out higher loans and are correspondingly paying higher interest fees. So if we increase the loan amount to P30,000, our now long-time, repeat HSPFI borrower would be paying P3,000 on the loan capital and P900 (or $19.57) on interest this month – 0.8% of operational costs. This P900 definitely goes farther towards contributing towards operational costs, but note that borrowers with P30,000+ loans only make up about 10% of HSPFI’s total portfolio.
The above is very condensed and much abridged, to keep this post from being three times as long. But by listing out all these figures, I wanted to show that running an MFI is not cheap. It’s easy for us to condemn 3% monthly interest rates are high, but it’s just as easy for us to forget that staff, utilities, rent and a whole range of other operational expenses need to be paid in order for an organization – any organization – to run.
Also, working conditions for MFIs in developing countries are very different from banks in developed countries. This may seem like huge duh point, but it bears pointing out that MFIs’ operational costs are high in part because you need enough project officers to visit hundreds of clients every week and collect cash repayments, and you need enough admin/other staff to support the project officers. U.S. banks don’t need employees to visit every one of their clients on a weekly basis to collect repayments. Furthermore, banks in the U.S. have access the excellent technology/infrastructure in place that allows for automated payments (and greater automation in general) – which helps keep interest rates low. To say that MFIs in developing countries have “high” interest rates in comparison to banks in developed countries with “low” interest rates ignores the fact that banks in developed countries have certain operational advantages that MFIs in developing countries don’t have, and need to compensate for.
At this point maybe some of you are thinking, “I don’t really care about MFIs needing to cover operational costs, I only care about how this 3% monthly interest affects Kiva borrowers!” Leaving aside the fact that there would be no Kiva borrowers without field partner MFIs, I had previously met a Kiva borrower who decided to stop borrowing from HSPFI, and I know she’s not the only person to have ever done so. The interest rate might have been a factor behind her decision to stop borrowing, although there might’ve been other personal factors as well.
But on the other side of the spectrum there are Kiva borrowers like Ms. Mellianita Moron. Since this topic of “high” interest rates had been weighing on my mind, I brought it up during her interview. I explained that businesses in the U.S. can get loans at much lower interest rates, so there are Kiva lenders who are worried that MFIs like HSPFI are charging overly high interest rates to borrowers in the Philippines. I asked what she thought about HSPFI’s interest rate – was it indeed too high?
HSPFI’s 3% monthly interest rate is ok! Mellianita exclaimed. Especially in comparison to other MFIs who she had borrowed from that charged 10% interest a month! And to top it all off the other MFI collects repayments on a DAILY basis, in comparison to HSPFI which collects repayments on a weekly basis. When I then asked if there are any additional services that she would like to see from HSPFI, Mellianita laughed and said that she wished HSPFI could increase loan amounts and release more loans at a faster rate, so she won’t have to borrow from MFIs that charge truly exorbitant interest rates and can just borrow from HSPFI. I looked around at the various center members and extended family who had gathered outside Mellianita’s sari-sari store to watch (and occasionally interject), as they all nodded their heads in agreement.
Eva Wu would like to thank HSPFI for generously allowing her to use figures from their latest financial statement in this blog post. She has lots of thoughts on the (unsexy) topic of MFI interest rates, but hopes for now that people can understand that asking why MFIs in developing countries can’t offer interest rates as low as banks in developed countries is a bit like asking why apples can’t be oranges. Or to use a more Filipino analogy, why lanzones can’t be rambotan.
Entry filed under: All, Hagdan sa Pag-uswag Foundation, Inc. (HSPFI), KF9 (Kiva Fellows 9th Class), Philippines. Tags: Eva Wu, HSPFI, KF9, Kiva, MFI interest rates, operating costs, Philippine microfinance.
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1. In Defense of “High” MFI Interest Rates: Part II | Ndoto ya Kidege | 22 February 2011 at 07:35
[...] the one-year anniversary of Eva Wu’s blog post entitled In Defense of “High” MFI Interest Rates, I was inspired to write a post on this exact topic. The date of this post is a coincidence, as I [...]
2. steam showers | 10 November 2010 at 02:34
It doesn’t matter how the “other lenders” charge in terms of interest rates to the poor women borrowing… KIVA’s lenders don’t charge any interest at all and that fact should be reflected in interest rates then charged by field partners. They charge too much interest and that is called exploitation, period. Ten percent intrest should cover their costs and provide a decent income for those handling money. Greed rules, just like in every sector of every country – and this is an example of how a few exploit the many. I won’t stop lending because at least a little bit gets into the hands of the people profiled.
3. SeanSR | 6 January 2011 at 14:21
I understand that there is a lot of overhead when you make numerous small loans. But as a Kiva lender (so far), I am finding it extremely difficult to believe in this model and continue any further. Let me use some real numbers as well:
I have lent to a borrower in Paraguay. The field partner is Fundación Paraguaya.
The effective interest rate charged by this FP is 39.70%. Average Loans made by the FP per year is USD $1.5Million.
I.e nearly $600,000 in interest and fees collected per year.
Total staff listed for this FP is 18.
Per Capita for this nation is abount $2600
Prime Interest rate for 2008 rate in Paraguary is 25.2%. (Kiva’s Field Partner rate is 39.70%)
Now, considering that each of the staff make $5000 per year (twice per capita), that still leaves about half a million dollars for non-staff expenses.
Well, assuming that there is a legitimate reason for this exorbitant interest – I still cannot imagine anyone borrowing at 40% is being pulled out of poverty. In any country.
I am going back to direct aid and am really sad to be getting out of Kiva and microfinancing – I had high hopes for both.
I would really appreciate if someone could help convince me that this is still the way to go and that somehow a 40% interest charged to some poor person brings them out of poverty.
4. Top 10 things to know about microfinance « Kiva Stories from the Field | 19 August 2010 at 00:01
[...] these costs. There have been a lot of excellent discussions by Kiva Fellows on this topic: see this post by KF9 Eva Wu, another by KF9 Meg Gray, or simply search “interest rates” on the Kiva Fellows [...]
5. victoriamabel | 24 July 2010 at 20:11
I read your article about One interest rate to rule them all.Its really very nice article to read.I have visited lot of blogs but yours is damn interesting.Thank you for giving such a wonderful article..
taxation
6. An Interest Rate Example « Kiva Stories from the Field | 18 May 2010 at 08:38
[...] Lets add another conservative 5% to cover these costs given Kiva fellows’ stories on the topic here and here. The minimum interest rate MFIs must charge on average has suddenly become 16% + 2% + 5% [...]
7. Should you lend via Kiva’s for-profit Field Partners? « Kiva Stories from the Field | 21 April 2010 at 01:35
[...] the interest rates charged in microfinance, I looked back at recent blogs by Kiva Fellows about interest rates and sustainability. In comments on those blogs and on Kiva’s lender team sites, a lot of people [...]
8. More on the “guy behind the guy” « Kiva Stories from the Field | 3 March 2010 at 16:53
[...] in a town loaded with microfinance banks. For a fuller treatment, see recent blog posts by Peter, Eva, and Meg. Possibly related posts: (automatically generated)Is a Kiva loan really interest [...]
9. Ruby Love | 20 February 2010 at 12:13
It doesn’t matter how the “other lenders” charge in terms of interest rates to the poor women borrowing… KIVA’s lenders don’t charge any interest at all and that fact should be reflected in interest rates then charged by field partners. They charge too much interest and that is called exploitation, period. Ten percent intrest should cover their costs and provide a decent income for those handling money. Greed rules, just like in every sector of every country – and this is an example of how a few exploit the many. I won’t stop lending because at least a little bit gets into the hands of the people profiled.
10. Dr. Dolittle Keeps Those Kiva Pigs Healthy « Kiva Stories from the Field | 18 February 2010 at 00:09
[...] had posted entries on MFI interest rates (Bad Roads, Interest Rates, and MFI Sustainability and In Defense of “High” MFI Interest Rates respectively) that incited a number of readers to comment on how surprised they were about the [...]
11. Adam Kemmis Betty | 17 February 2010 at 06:34
Eva, great post, on the whole I agree. However, I do think that for many MFIs there are not particularly strong pressures to bring down costs, because there isn´t a great deal of competitive pressure on pricing. What we don´t know from your cost breakdon is whether HSPFI is an efficiently run MFI (what´s going on in head office?? Those indirect cost numbers look very high!!)…
12. evacwu | 18 February 2010 at 01:02
I agree and disagree with you on competitive pressure
The HSPFI staff constantly tells me there is a lot of competition for clients from numerous other MFIs. I’ve seen this too – there’s another MFI that sits about 500 feet from HSPFI’s Head Office in Cagayan. But from various conversations I’ve never gotten the feeling that all this competition amongst MFIs is driving down costs. I think technology (e.g. mobile banking) might have more potential for helping MFIs lower costs, but I guess only time will tell on this point.
I definitely still don’t have enough local context to be able to gauge if costs are reasonable
But a little more details on Head Office: there are currently 22 employees in total (including the Executive Director and other senior employees), which is more than four times the size of the Camiguin branch. So wages and benefits take up a significant portion of Head Office’s costs. Head Office also pays quite a bit for meetings and conferences, in addition to utilities/office supplies/etc. mentioned in the post; the management fee from branches helps Head Office cover all of these expenses.
13. Israrul Haque | 16 February 2010 at 22:40
Interest can neve be justified whether high or low it is a price of exploiting the poor, in my earlier comment i have suggested how the whole operation can be process, it is simple, provide the fund to the poor and after assessing the operational result share the profit which will definitely be fluctuating and not fix. How can you fix a return without assessing what is his return on the investment. In case of his loses from where are you going to get the returns that means by providing funds you have got him into a debt trap and if he is not able to pay which he will not he will be in the death trap.
14. Alex | 18 April 2010 at 09:54
Interest can always be justified. You simply don’t understand what interest IS. Like most bumper-sticker-thinkers, you haven’t bothered to actually consider the issue.
15. Dave | 15 February 2010 at 12:50
Ive just been to Nepal and I can appreciate these rates as everything is so expensive and time consuming when working in low density areas.
16. Sharwari | 15 February 2010 at 02:37
I’m a student at an MBA institute in India and I’m currently working on an assignment for which I require to really understand how microlending works. This article is precisely the kind of information required for us to gain insight into the model. The importance of local partners in a venture like this cannot be emphasized more. I live in one of the major cities in India, but in the villages, where microfinancing is required, access to internet, banking facilities and other technological aspects is very hard. The people are not all equipped with the knowledge to log onto the internet and be able to help themselves gather more information even if they are searching for help. Suicides because of failure and high money lending rates is not uncommon… When I say high rates, i mean almost upto 300% of the loan amount, and if they are unable to pay off the debt in time, the family as a whole is supressed by these local moneylenders. An interest rate of 30% on the other hand when justified the way it has in this article, seems completely reasonable. Thank you for the information..
17. E.J. | 14 February 2010 at 23:23
I think its also important to note the difference between for-profit banks/ institutions (wityh alot more overhead), who charge high interest rates for micro-finance in the third world, and no-profit/ NGO administered micro-finance, in which the overhead and operating costs can be subsidized through outside funding/ a foundation. For example, here in Armenia, Oxfam Int’l started microfinance years ago. The foundation it established is now incorporated as a non-profit Foundation. They are able to lend at lower rates than the for-profit banks.
18. marydear | 14 February 2010 at 22:42
As always Eva you rock, I could feel your frustration in that post! Thanks for the detailed breakdown – it’s good to remember that MFI’s provide a lot of jobs to the local economy and that loan officer need to be compensated for risking their lives everyday. They do get ambushed.
I also liked the statement that went something like…, “if a US bank was plunked in the middle of Mindanao – they would most likely change their rates” it’s so true – thank you
19. Antoine Stépane Terjanian | 14 February 2010 at 14:34
Thank you Ms Wu for a very well written and detailed explanation.
I agree with you: Ms Moron would much rather pay 3% than what other lenders (usurers) are charging (10%).
Despite this, I am surprised to hear that the people like Ms. Moron, who borrow at 3% per month can make enough profit with their small business to pay back the principal and interest.
If you really wanted to convince me “in defense of higher interest rates” perhaps this is the part of your exposé you could concentrate on and show us in what kind of business (other than prostitution and illegal drug dealing) one can have enough profits to repay principal and interest at 3% per month!!!
Thank you again for taking the time to explain.
AT
20. evacwu | 14 February 2010 at 16:27
Thanks for the comment Antoine!
Actually Mellianita isn’t perhaps the best borrower to feature in this context
Since I did the extended interview with her for her “success story.” I’d imagine most people would want to hear more about the business financials of clients who haven’t found microfinance to be as helpful or even damaging to their financials. In Mellianita’s case, she estimated that she spends about P2,000 a week purchasing goods for her sari-sari store, and she makes between P800 to P1,000 a day from her business. I’m not sure if this is net income or total revenue – will try to check if possible, but I’m guessing the latter.
I’m planning to write up a longer blog post about Mellianita’s story, but from what she shared in the interview I don’t think she’s finding the principal + interest repayments to HSPFI burdensome.
21. Sheethal Shobowale | 14 February 2010 at 13:16
Great post Eva!
I also have tried to explain MFI operational costs and interest rates to many people as a Kiva Fellow in Peru and Bolivia.
Thanks for breaking it for us using real numbers.
22. Sheethal Shobowale | 14 February 2010 at 13:15
Great post Eva!
23. Greg | 14 February 2010 at 08:50
Thanks for the real numbers an MFI deals with.
For those who compare MFI rates to those in the US, I would say that most small businesses in this country today are NOT likely to get rate friendly loans from their local bank, if they can get a loan at all.
In addition, most credit card companies have recently jacked interest rates in order to front run pending credit card reforms. Many card holders in the US are now paying 22-28% on existing credit balances.
So, I have difficulty with those who pontificate on high MFI rates.
Greg