MICROFINANCE PAPER WRAP-UP: “A Study Analyzing the Effects of Fuel and Food Inflation on Microfinance Institutions and Borrowers,” by MF Analytics

Written by MF Analytics Ltd. (MFA) and published by the United States Agency for International Development (USAID), data is based on three case studies conducted by MFA in Nicaragua, Haiti and Bangladesh, released January 2009, 38 pages, full text available at: http://www.cgap.org/gm/document-1.9.7450/Impact_and_Implications_of_Food_Crisis.pdf

MFA was commissioned by USAID to test the impact that food and fuel inflation has on the sustainability of microfinance institutions (MFIs) and the general well-being of MFI customers. According to the World Bank, global prices of staple foods have increased by over 100 percent (p.4) since 2005. The price of oil jumped 133 percent (p.5) from 2007 to 2008. MFA notes (p.5) that the consequences of inflation are amplified among low- and middle-income economies, as individuals allocate more of their income towards food and fuel. Whereas prior to the current inflation crisis, individuals in low- and middle-income countries allocated on average 35 percent of their income towards food, average food expenses have risen to 50 percent (p.5) of income.

Unlike previous inflation crises, which were caused by loose monetary policy, the current crisis is characterized by the global increase in demand for food and oil. Whereas monetary inflation tends to raise both prices and wages, food and fuel inflation is generally localized on the cost side. The authors hypothesize (p.3) that without comparable increases inflation will force borrowers to allocate higher proportions of income to essential expenses, impeding their ability to service MFI loans: “The risk of inflation has the potential of unraveling years of progress that MFIs have made in developing countries” (p.6).

Methodology

MFA conducted a research on eight MFIs in three countries: Prestanic, Fundacion Para el Apoyo a la Microempresa (FAMA), and Fondo del Desarrollo Local (FDL) in Nicaragua; Société Générale Haitïenne de Solidarité (SOGESOL), Fonkoze, and Association pour la Coopération avec la Micro Entreprise (ACME) in Haiti; and the Bangladesh Rural Advancement Committee (BRAC) and Shakti in Bangladesh. Combined the eight MFIs served 6.7 million borrowers and had a gross loan portfolio of USD 787 million (p.3) (note that BRAC alone served 6.4 million borrowers with a loan portfolio of USD 631 million)(p.8). Researchers interviewed 96 individuals (p.7) from the MFIs comprising of senior managers, loan officers, and borrowers.

Case Study I: Nicaragua

Nicaragua’s economy has grown an average of 3.2 percent annually since 2001. However it remains the second poorest (p.9) country in the Western hemisphere. According to the Nicaraguan Central Bank, the average cost of food increased 16.2 percent in the first half of 2008 and the annualized increase for all fuel products was 53.3 percent (p.10). Borrowers observed a 40.1 percent average increase in the cost of their top five food purchases: rice, cooking oil, sugar, beans, and meat (p.11).

Senior managers noted (p.10) an increase in the number of delinquencies resulting from inflation, and a shift towards individual loans from group loans. Loan officers cited rising food costs as the number one reason behind the defaults, and rising energy expenses as the second. MFIs responded (p.10) by adjusting payment schedules to meet the capacity of borrowers, and by allocating more loans towards the agricultural sector and less towards consumer products.

Discussed coping mechanisms of borrowers include reducing consumption of basic products, diversifying sources of income, demanding larger loan sizes (p.10), selling productive assets (p.12), delaying or forgoing health care, and pulling children out of school (p.16). Loan officers noted an increase in migration to Costa Rica (p.15).

Case Study II: Haiti

Haiti is the poorest country in the Western Hemisphere with over 70 percent of its population living on less than USD 2 per day (p.18). Only Somolia and Afghanistan surpass Haiti in per capital daily deficit in calorie intake. Because Haiti imports 75 percent (p.18) of the rice its population consumes, global inflation of food prices has hit the nation very hard. From 2006 to 2008, the price of Haitian staples – rice, corn, and beans – rose 106.7 percent (p.18). Meat typically disappeared from interviewed borrowers diets. The average increase for fuel products was 55.3 percent (p.20).

In April, protests over high food costs led to riots, which caused the deaths of six people and overturned the government. Senior managers noted (p.19) that the subsequent destruction of private property increased delinquency rates among borrowers.

MFIs experienced increased levels of Portfolio at Risk (PAR), which in June 2008 ranged from 5.6 percent (ACME) to 13.8 percent (Fonkoze) (p.17). Loan officers observed (p.24) that delinquencies went up slightly across the board, and indentified rising food and oil prices as the number one reason for increased defaults.

In response to food and fuel inflation, coping mechanisms of borrowers included diversifying (p.19) economic activity, restructuring of debt (changing the duration, interest rate, or frequency or amount of installments), selling of assets (p.21), and migrating (p.25) from rural to urban areas.

Case Study III: Bangladesh

In Bangladesh, food and fuel inflation exacerbated a problem already made dire by two floods and a devastating cyclone over the last three years. According to government statistics, the prices of Bangladesh staples – rice, lentils, and vegetables – had almost doubled since January 2007, transforming the consumption habits of over 60 million people who spend more than 40 percent (p.27) of their income on rice. Government subsidies served to mitigate the global spike in the price of petroleum products, keeping the increase to 34 percent (p.27) in 2007.

MFIs experienced an increase of operation and administrative costs, as the cost of trips to the field became expensive. Senior managers expressed concern over self-sustainability and net worth. One manager noted (p.27) that food prices could have a beneficial effect on customers in agricultural sector.

In response to rising food and fuel prices, borrowers took out larger loan sizes (p.32), restructured loans, reallocated funds (p.28) to other oil- and food-related uses, sold off assets and tapped into savings (p.29-30). Loan officers observed (p.32) that the most frequent coping mechanisms were to pull children out of school and put them to work, and delay or forgo health care.

Recommendations

MFA recommends (p.35) that further research be conducted to develop a list of best practices that could help MFIs mitigate inflationary pressure. Research should explore which elements of a loan portfolio bear the brunt of inflation in order to determine the optimal structure of a portfolio to withstand inflationary pressure. In high inflationary environments, MFA argues (p.35-36) that international aid organizations, private investors, and international and domestic banks should provision MFIs with cheaper loans. MFIs should seek hedge strategies involving long-term borrowing against short-term lending, develop improved tools to analyze portfolio quality, and provide inflation adjusted loan products with interest rates indexed to inflation. MFIs should also assist borrowers by helping them diversify businesses, create brainstorming forums, increase business training, and offer more flexible loan products and consumption loans. Through a multipronged approach and proactively managing their assets and liabilities, MFA argues (p.36) that MFIs can achieve a large measure of protection from food and fuel inflation.

By Ryan Hogarth, Research Assistant

Additional Resources:

“A Study Analyzing the Effects of Fuel and Food Inflation on Microfinance Institutions and Borrowers,” by MF Analytics, published by the United States Agency for International Development: January 2009

Bangladesh Rural Advancement Committee (BRAC): Home

Fonkoze: Home

MF Analytics: Home

Mix Market: “Profile for ACME”

Mix Market: “Profile for FAMA”

Mix Market: “Profile for FDL”

Mix Market: “Profile for Prestanic”

Mix Market: “Profile for SOGESOL”

Shakti: Home