Lecture 10 - Challenge 4: Building the industry. A flourishing inclusive finance sector requires supporting conditions and cooperation among players. Direct providers-banks, finance companies, insurance companies-prefer to enter markets that have a certain amount of industry “infrastructure.”
FOUR CRITICAL CHALLENGES IN THE BOP MARKET Summary of Last Lecture • • Challenge 2: Reducing the Cost of Small, Dispersed Transactions Challenge 3: Managing Informality Risk Managing Informality Risk • Nothing will suspend motivation faster than interrupted access I recently learned of an African bank that began a small pilot microloan program Managing Informality Risk • As loans were repaid, they were not renewed, on the grounds that the loan capital set aside for the poor should be spread to as many people as possible— a typical charity-based intuition Managing Informality Risk • Clients got wind that the first loan would be the only loan Repayments plummeted, and the bank dropped the pilot The second insight is about cost-effective risk management Managing Informality Risk • Because loans are small, one default does not matter This concept allows loans to be made with very simple assessment and documentation procedures, reducing underwriting costs Managing Informality Risk • What does matter is a pattern of default Unlike the relaxed approach of consumer lenders to the middle class, who believe they will be paid eventually (and may profit from delinquency through late fees), Managing Informality Risk • Microfinance lenders to the informal sector keep a tight rein on delinquency They know that default risk can spread virally through a client population if clients believe delinquency is tolerated Managing Informality Risk • Microlenders manage this risk energetically with capable information systems and immediate follow-up of every late payment Managing Informality Risk • Another troublesome aspect of informality for bankers is lack of documentation and record keeping Bankers want clear proof that a client is who he says he is, lives in a certain place, owns a plot of land, etc Challenge 4: Building the Industry • It is difficult to capture relevant information about informal clients to use in building credit scores It is not even clear which information might be most relevant Challenge 4: Building the Industry • Mainstream credit scoring and credit bureau companies like Licim and Experian have sought joint ventures with microfinance providers Challenge 4: Building the Industry • In many countries where credit bureaus have not yet developed, financial institutions remain locked in uncooperative and self-defeating behavior, withholding customer information from one another that could make it easier and safer for everyone to extend loans Challenge 4: Building the Industry • In some cases, regulatory hurdles stand in the way of information sharing In later lectures, we examine the prospects for credit scoring to be applied to the BOP market, capturing the wisdom of thousands of past loans to make judging risk faster and more accurate Challenge 4: Building the Industry • Successful scoring models could help solve both the cost and the informality risk challenges discussed here Challenge 4: Building the Industry • The importance of regulations for shaping the emerging industry points to the need for cooperation among financial institutions to advocate for legal and regulatory changes Challenge 4: Building the Industry • In a survey of industry participants’ views of risks, the “Microfinance Banana Skins” study identified inappropriate regulation and political interference among the top and fastest rising risks Challenge 4: Building the Industry • Regulatory action is needed urgently to keep pace with rapidly evolving technologies and branchless banking Challenge 4: Building the Industry • The Brazilian banking correspondent experiment has attracted government attention throughout Latin America, in India, and in parts of Africa, creating an opportunity for the private sector to help successful applications in many countries, if regulators revise regulations to accommodate technological possibilities Challenge 4: Building the Industry • Where the private sector can speak with a clear, unified voice, governments will probably make better policy decisions Challenge 4: Building the Industry • The four challenges we have just surveyed represent barriers to entry into inclusive finance that have prevented a competitive marketplace from developing at the base of the pyramid Challenge 4: Building the Industry • The barriers are no longer as high as they once were, and opportunities are open for companies willing to adapt their business models to find solutions Challenge 4: Building the Industry • We will meet these four challenges throughout this course, each time looking more closely at how companies are overcoming them Challenge 4: Building the Industry • The next lecture focuses on a key portion of the first challenge: how to turn an understanding of the BOP client into successful product design Summary • Managing Informality Risk • Building the Industry ... clients and transactions efficiently The microfinance world has begun to attract core banking system providers—such as Temenos—as microfinance institutions mature sufficiently to need and value... recently learned of an African bank that began a small pilot microloan program Managing Informality Risk • As loans were repaid, they were not renewed, on the grounds that the loan capital set aside... Mainstream credit scoring and credit bureau companies like Licim and Experian have sought joint ventures with microfinance providers Challenge 4: Building the Industry • In many countries where credit