This brief considers the scope for policy action in seven areas: (1) regulation of microfinance institutions, (2) provision of saving services, (3) product innovation, (4) organizational issues in microfinance, (5) poverty impact of microfinance, (6) agricultural finance, and (7) subsidy and sustainability issues.Microfinance Evaluation. ,Agriculture Finance. ,Subsidies. ,Sustainability. ,Poverty alleviation. ,Financial institutions Management. ,Financial institutions Regulation. ,New products Finance. ,Savings and investment Developing countries. ,

Sharma, Manohar

English

Research Papers in Economics

R R U U R R A A L L     F F I I N N A A N N C C I I A A L L     P P O O L L I I C C I I E E S S    
f f o o r r     F F O O O O D D     S S E E C C U U R R I I T T Y Y     o o f f     t t h h e e     P P O O O O R R  
 
 
IFPRI 
 
 
 
 
 
 
 
RESEARCH 
PROGRAM 
MISSION 
The research 
program titled Rural 
Financial Policies 
for Food Security of 
the Poor seeks to 
identify policies and 
institutional 
arrangements that 
help the poor 
integrate themselves 
into sustainable 
savings and credit 
systems in order to 
increase capacity to 
invest, bear risk, and 
preserve livelihoods.
 
FOCUS 
COUNTRIES 
• Bangladesh 
• Cameroon 
• China 
• Egypt 
• Ghana 
• Madagascar 
• Malawi 
• Nepal 
• Pakistan 
 
ABOUT THE 
AUTHORS 
Manohar Sharma is 
a postdoctoral 
fellow of the Food 
Consumption and 
Nutrition Division at 
IFPRI. 
POLICY BRIEF No 14   •   JULY 2000 
This brief considers the scope for policy action in seven 
areas: (1) regulation of microfinance institutions, 
(2) provision of saving services, (3) product innovation, 
(4) organizational issues in microfinance, (5) poverty 
impact of microfinance, (6) agricultural finance, and (7) 
subsidy and sustainability issues. 
 
 
 
 The principal objective of regulation should be to 
create a policy and legal framework that makes it feasible 
and attractive for microfinance institutions (MFIs) to 
operate in rural areas and serve the poor on a sustainable 
basis. To the clients, especially the savers, prudential 
regulation increases the level of confidence in banking 
transactions.  
 Three priority areas are noted: (1) prudential regulation 
enabling secure and sustainable internal financial 
management, (2) specific regulation governing trans-
actions between financial agents and institutions, and (3) 
regulation ensuring competitive conditions. 
 
 
 
 It is recognized that (1) the poor place great value on 
saving services when such services match their saving 
patterns and (2) mobilization of local saving provides 
MFIs a reliable, inexpensive, and sustainable source of 
funds for on-lending. Well-designed saving services 
therefore are indispensable characteristics of a successful 
microfinance institution. 
 
________________ 
*This is a summary of the conclusions and recommendations 
resulting from the international workshop on Innovations in 
Microfinance for the Rural Poor: Exchange of Knowledge 
and Implications for Policy, 8-13 November, 1998, in Accra, 
Ghana. The workshop was jointly organized by Deutsche 
Stiftung für Internationale Entwicklung (DSE), the Inter-
national Food Policy Research Institute (IFPRI), and the 
International Fund for Agricultural Development (IFAD). 
 
 In order to be successful, saving services have to 
respond to the level and patterns of saving by the poor. 
Liquidity and safety of deposits are of primary concern to 
poor households. Hence, flexibility in deposits and 
withdrawals as well as assurance of safe, prompt, and 
reliable service become important factors in designing 
successful saving products. 
 
 
 
 As with savings, innovations in financial products need 
to be primarily demand-oriented. It is only when products 
match clients' preferences that a market niche for MFIs is 
established and pricing at full cost—a requirement for 
financial sustainability—becomes at all feasible. Supply-
side considerations are important too, for there needs to 
be a conducive policy environment that nurtures and pro-
vides incentives for MFIs to innovate and improve. For 
this reason, regulatory conditions as well as the organiza-
tion and management structure of MFIs become 
important determinants of the pace and quality of product 
innovations. 
 Demand-Oriented Innovation. A closer understand-
ing of demand patterns and preference structure of poor 
rural households is essential for demand-induced innova-
tion. This requires continuous action-oriented interaction 
between practitioners/program managers and their clients. 
Decentralization in decision-making and adequate repre-
sentation of the clients in the governance and manage-
ment structure are powerful catalysts for innovations. 
 Collateral Substitutes. Developing collateral substi-
tutes represents one important line of innovations that can 
greatly improve access of the poor who generally lack 
traditional collateral-suitable assets. Making use of local 
information to trigger positive group dynamics as well as 
bringing down costs of group-based participation is likely 
to have beneficial effects. There also remains scope for 
finding new collateral substitutes in individual-based 
lending. In general, not just physical assets, but many 
other things that are regarded to have some intrinsic 
value in a particular society—general reputation, threat of  
INTERNATIONAL FOOD POLICY RESEARCH INSTITUTE 
2033 K STREET, NW, WASHINGTON, DC 20006-1002 USA 
Web: www.ifpri.org   •   Phone: 1-202-862-5600   •   Fax: 1-202-467-4439   •   Email: ifpri@cgiar.org 
The Scope for Policy Reforms in Rural Microfinance* 
MANOHAR SHARMA 
Provision of Savings Services 
Regulation of Microfinance Institutions  
Product Innovation   
ABOUT IFPRI 
 
IFPRI’s mission is 
to identify and 
analyze strategies 
for meeting food 
needs of the 
developing world, 
with particular 
emphasis on low-
income countries 
and the poor. 
 
IFPRI is a member 
of the Consultative 
Group on 
International 
Agricultural 
Research (CGIAR). 
 
- - - - - - - - - - - - - - 
 
Any opinions 
expressed herein are 
those of the 
author(s) and do not 
necessarily reflect 
those of IFPRI. 
 
- - - - - - - - - - - - - - 
 
CONTACT 
Bonnie McClafferty 
Communications 
Specialist 
B.McClafferty@ 
   CGIAR.ORG  
 
public citation of default, sanction by village or society 
elders—can potentially be used as a collateral subsitute. 
Better training of MFI staff in loan appraisal methods can 
assist them in recognizing good borrowers. Further, 
introducing incentive systems for MFI staff based on loan 
performance can also lead to better monitoring and 
enforcement of loan contracts. 
 Insurance Products. Income variability and unex-
pected expenditures arising from illness and other 
emergencies put considerable stress on the food security 
and livelihood of the poor. Hence insurance products are 
highly valued. Though credit and saving products 
themselves act as good insurance substitutes, innovations 
that reduce the cost of providing health, accident, and life 
insurance will have considerable impact on the poor. It is 
admitted that introducing innovations in this area is 
highly challenging. A first step for MFIs could be to 
consider retailing insurance products provided by formal 
financial institutions and make further assessments based 
on this experience. 
 
 
 
 Organization principles adopted have to be strictly 
aligned with organizational objectives. A widely endorsed 
objective is that MFIs develop a high level of competence 
in providing a core set of financial services in a sustain-
able manner. 
 Strategic Organization and Management. Whether 
member-based or not, organization and management 
should be based on the adoption of an entrepreneurial 
culture that gives due attention to market realities and 
potentials. A strong management information system that 
lets managers make decisions in the light of best possible 
information is also required. Hence, market analysis, 
product design, and incentive compatibility should be 
treated as key management concerns. This includes devel-
oping long-term relations with financial institutions in the 
private sector and negotiating a portfolio of investments 
and commercial loans that best suits the interest of the 
MFI. 
 Monitoring and Evaluation System. MFIs should 
establish and operationalize, on an ongoing basis, a moni-
toring and evaluation (M&E) system of their perfor-
mance. The system adopted should provide for meaning-
ful participation of MFI clients. 
 
 
 
 It is widely presumed that microfinance is an effective 
tool for poverty alleviation. In fact, it is this presumption 
that has fueled much of the support for allocating in-
creasing amounts of public resources to the microfinance 
sector. Hence, assessing and monitoring the impact of 
MFIs on the livelihood of the poor as well as examining 
its cost-effectiveness vis-à-vis other poverty-alleviation 
measures is of interest not only to policy analysts, but 
also to concerned investors and managers of microfi-
nance. Empirical research so far points out—albeit not 
universally—to significant and sizable improvements in 
income and food expenditures, but documents little im-
pact on other welfare indicators such as nutrition, educa-
tion, and empowerment of women. Clarifying the rela-
tionship between poverty alleviation and microfinance 
services has implications not only on a more meaningful 
discussion of subsidies and sustainability of institutions, 
but also on operational matters such as service targeting 
and product innovation. For this reason, more research is 
needed that leads to better impact assessment and also 
one that helps microfinance practitioners to operationalize 
poverty targeting and monitoring. 
 
 
 
 Most of the world's poor consist of microentrepreneurs 
who are engaged in agricultural production on small 
farms. But providing financial services to this diverse 
group has been challenging for several reasons: they are 
vastly spread geographically, making service delivery and 
information collection very costly; many of the farmers 
are illiterate; production is not only weather dependent 
and risky, but also rigidly cyclical. Yet MFIs risk bypass-
ing the poorest if this group is not serviced adequately. 
Hence, efforts to develop effective and sustainable micro-
finance services for small agricultural producers deserve 
priority. 
 
 
 
 The issue of sustainability of institutions and the role of 
subsidies is a complex one. On the one hand, setting up 
institutions that are financially unsustainable distorts in-
centives, makes institutions hostage to uncertain donor or 
government financing, and, in some cases, leads to mis-
targeting as richer and powerful groups preempt services 
available at considerably below market prices. Further, as 
a number of empirical studies have shown, what is most 
valuable to the poor is access to services, as they are often 
willing to pay for services at full cost. The case for sub-
sidies, on the other hand, can also be quite compelling. 
Simply put, if microfinance services are, dollar for dollar, 
more effective in achieving some objectives compared to 
alternative poverty alleviation programs (e.g., other trans-
fer programs), then there is clearly a case for diverting 
public resources away from the latter into the micro-
finance sector.  
 Decisions on subsidies, ideally, have to be made on a 
case-by-case basis and with full accounting of all costs 
and benefits. But this is more easily said than done, since 
benefits and costs are notoriously difficult to pinpoint and 
measure. 
 Best use of subsidies is found in helping build 
institutions that are likely to attain sustainability in a clear 
time frame. Contributions to finance initial investments in 
physical infrastructure and human capital development 
have high sustainable returns in the future. 
 There also exists substantial scope for additional 
research in clarifying the nature of cost and benefits of 
microfinance services and using this knowledge to 
develop sustainable institutional formats. Researchers 
need to work closely with both practitioners and policy-
makers for this effort to be successful.￿ 
 
 
 
 
 
 
Organizational Issues in Microfinance 
Poverty Impact of Microfinance 
Agricultural Finance 
Sustainability and Subsidy Issues 

The scope for policy reforms in rural microfinance

http://www.ifpri.org/sites/default/files/publications/mp05_brief14.pdf

The scope for policy reforms in rural microfinance

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