MICROCAPITAL.ORG STORY: Controversial Reuters Blog On Microfinance Investments Generates Comments And Criticisms

In a blog by Felix Salmon controversially entitled ‘Don’t invest in microfinance’ [1], Mr Salmon carries on the recent debate about the viability of investing in the microfinance sector. The blog was initiated soon after a series of provocative articles on the Wall Street Journal [2] that likened the increasing valuations of MFIs in by participants in the private equity sector to a ‘bubble’ that was not sustainable. Mr Salmon notes in his blog that it is ‘much better that microfinance organizations grow a little more slowly, and much more organically, either by getting grants rather than loans, or by funding themselves locally’ rather than to grow rapidly using private-equity backed microfinance dollars. He stated that whilst private equity funding was ‘the only way to scale up quickly’, he added that ‘speed is the enemy of quality’. Mr Salmon further noted that a lot of institutional investors reap their profits from taking on board the significant foreign currency risks that are inherent in most microfinance investment transactions. He added that these significant profits will mean that the new organizations that have started to offer hedging services to MFIs are unlikely to be hugely successful. Foreign currency hedging in microfinance is an issue that has been covered in previous Microcapital.Org stories [3], [4]. He ended the blog with a blanket statement that ‘western do-gooders’ should provide funds to grassroots organizations and added that ‘if [investors] want to make a profit, they should stick to more conventional investments’. He also noted that the participation of institutional investors in the microfinance sector has at times exacerbated the problem of over-indebtedness

The blog has generated significant commentary, given its provocative title. A number of commentators responded that institutional investors were aware of the problem of over-indebtedness and are in fact signatories to the Campaign for Consumer Protection initiatied by the Centre for Financial Inclusion and covered in previous Microcapital.Org stories [5], [6]. Others responded that social investors should ‘trade in financial returns for social returns’ and should not just participate in the sector for the ‘growth story’ alone. Another commentator noted that the title of the blog was misleading and suggested that it was naive to encourage investment in grassroots organizations alone. Often, private equity funds shy away from funding grassroots MFIs as these organizations are seldom commercially and operationally sustainable. In addition, these organizations tend to have governance issues that private equity investors are not comfortable with. Another commentator noted that the issues raised in the blog by Mr Salmon had been over-simplified and that some of the arguments raised were circular. In particular, a commentator raised the pertinent question of how the massive funding requirements in the global microfinance sector could be met by donor funds alone.

The blog also generated much comment on foreign currency hedging. One commentator noted that equity can be more expensive than loans due to the significant dividends that are measured in hard currency (sometimes against a devaluing local currency) which are disseminated to investors. The blog also encouraged some comments on how organizations such as Kiva dealt with the issue of foreign currency risk. The Kiva model has been covered in previous Microcapital.Org stories [7], [8].

Mr Salmon is a Reutors Blogger [9] who writes about issues relating to finance and banking, among other topics. He does not appear to be a specialist in the field of microfinance.

By Chinq Yee Chong, Research Assistant

Bibliography

[1] Reuters Blog entitled ‘Don’t invest in microfinance’: http://blogs.reuters.com/felix-salmon/2009/08/13/dont-invest-in-microfinance/

[2] MICROCAPITAL.ORG STORY: Wall Street Journal Reports That While Microfinance Funds Have Previously Paid Off Some Investors Are Concerned About Future Prospects of Microfinance Industry In The Current Economic Downturn

[3] MICROCAPITAL STORY: Reducing Foreign Currency Risk In Microfinance Transactions – Observations by MFX Solutions At A Hanson Wade Conference On Microfinance Investments

[4] MICROCAPITAL STORY: MFX Solutions Inc. (MFX) in Washington D.C., USA Launches Hedging Operations Dedicated to Microfinance Institutions (MFIs)

[5] MICROCAPITAL STORY: Thirty-Five Organizations Sign Client Protection Principles to Ensure Fair Treatment and Financial Protection of Low-Income Microfinance Clients

[6] MICROCAPITAL STORY: Client Protection In Microfinance – Observations by ACCION and Prizma Mikro From A Hanson Wade Conference On Microfinance Investments

[7] MICROCAPITAL STORY: Tori Hogan’s Ninth Episode (Entitled “Micro-lending”) of the Ten-Part Film Series “Beyond Good Intentions” Takes a Critical Look at the Realities of Micro-Lending by Questioning the Impact of the Kiva Model

[8] MICROCAPITAL PAPER WRAP-UP: Microfinance Managers Consider Online Funding: Is it Finance, Marketing, or Something Else Entirely? by Deborah Burand

[9] Blogs of Mr Felix Salmon: http://blogs.reuters.com/felix-salmon/