A microfinance tool for an entire society

Published: May 7, 2012

MPE enterprises are supposed to be much larger compared to the individual businesses that recipients of microfinance may set up.

LONDON: 

Microfinance in general involves providing credit to the poor, mostly located in rural areas amid focus on women. The objective is to bring them into the financial net to allow them to develop sustainable sources of livelihood, with an ultimate objective of lifting their standard of living. While perceived as a successful model of development, it has attracted its share of criticism in recent past.

In Pakistan, microfinance has in the recent past received a lot of attention from both the market players as well as the government. State Bank of Pakistan has, therefore, developed a dedicated financial inclusion directorate, which is involved in promoting microfinance in the country. Following are some of the criticism of the popularly adopted microfinance models:

Microfinance is all about providing capital to those who are otherwise excluded from banking and financial services. Although some capacity building programmes have been built in the microfinance provision, most of the microfinance models tend to ignore developing management and other skills required for running business successfully.

The basic assumption that everyone is a born entrepreneur is questionable, as most of the recipients of microfinance lack basic entrepreneurial skills. This may result in the loss of capital by the recipients of microcredit, making them indebted without fully achieving the desired goals.

From a pure economic viewpoint, microfinance is inefficient because the small businesses created through it are rather small and in many cases the same activity in a village or locality is undertaken by many, independent of each other and in an unorganised way. Hence, the micro businesses do not benefit from the economies of scale on the production side.

It is, therefore, important that microfinance is developed with a lot of caution. Although there already is a tendency towards reforming microfinance models and practices, there still is a need being felt that a new model for the provision of microfinance be developed. Micro Private Equity (MPE) represents a new trend in the markets where financial exclusion is a concern.

MPE involves creating new businesses or acquiring existing businesses to manage them for the benefit of the underprivileged families and communities, who should be employed in such enterprises on a for-profit basis, with an ultimate objective to empower them through Employee Share Ownership Programmes (ESOPs). Being an equity-based structure, it does not involve providing credit to the poor, rather it allows the MPE provider to set up businesses in which the poor are offered employment. The more productive and efficient of such employees are additionally rewarded by way of giving equity stake in the business through an ESOP.

As MPE enterprises are supposed to be of significantly larger size as compared to the size of individual businesses that the recipients of microfinance may set up, this alternative form of business organisation benefits from economies of scale. Also, the produce of such enterprise could be sold by negotiating better terms of trade as compared to the small businesses set up by the recipients of microfinance.

Another advantage of using MPE is that it offers stable income to the targeted individuals, as compared to the recipients of microfinance who still face uncertainty of income despite becoming indebted in the process. Furthermore, such people benefit from ownership rights through an ESOP. Hence, they are not worse off vis-à-vis recipients of traditional microfinance.

An additional benefit of MPE is that it by its very nature is a commercially viable business, as opposed to many microfinance programmes that are donor-centric and, hence, lack the required sustainability. It is hoped that an MPE-based microfinance model will attract many more players in the market, especially Islamic banks in Pakistan, if the banking regulator adopts a right approach.

The writer is an economist and PHD from Cambridge University.

Published in The Express Tribune, May 7th, 2012.

Reader Comments (4)

  • Raza
    May 7, 2012 - 2:50PM

    I dont see how MPE and microfinance can be bracketed in the same category. Microfinance clients are rarely able to set up even small ‘businesses’; very often, its something as simple as buying sewing machines or a cart, and becoming a seamstress of vendor, and that alone brings about relative prosperity. Needless to say, there is very little scope for terms of trade or economies of scale there. I like how the MPE makes it a more collective effort, and indeed can help the clients on a slightly larger scale, but most microfinance clients do not possess the required expertise or literacy to be doing joint investment in any significant business venture where production comes into question. I agree though that microfinance entities can do more to contribute towards their clients’ economic awareness, but as far as the two models go, I believe they’re catering to different markets.

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  • May 7, 2012 - 8:11PM

    In my eyes there is nothing wrong with a new model for business and development, but did we take a good look at the real situation of the poor? They may have only their labor to put into power and so the use of a MPE is limited to situations where there is some capital available. The cooperative system used to be the answer to the crowd with no public power other than their own hands. It is true that the cooperatives have a lot of weaknesses, but I think that their use is far more in existance than the use of MPE structures. No way you reach the masses of people if you ask capital in advance. In the case of earning capital during work, you create a double dependency from your employer, who could also decide to pay you only wages and enough to live on.
    Charles Ruys
    Microfinance consultant and retail banker

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  • Sajida
    May 7, 2012 - 10:42PM

    Can microfinance create small and medium enterprises?
    if not maybe better look at China’s tonwship and village enterprises as a source of inspiration instead.

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  • Zakria khan
    Jun 7, 2012 - 11:13AM

    Microfinance is best toll for empowement of poors as they lacks finance, even a single rupee is useful for poor. Poverty cycle is breakable with such finnace.

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