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September 2008

MicrofinanceIndustry Assessment:A Report on Pakistan


CITI NETWORK STRENGTHENING PROGRAM

Published by Pakistan Microfinance Networkin collaboration with the SEEP Network

Funded by the Citi Foundation

ABOUT PMN

Pakistan Microfinance Network is a network of organizations engaged in

microfinance and dedicated to improving the outreach and sustainability of

microfinance services in Pakistan through knowledge management,

capacity building, transparency and advocacy.

ABOUT THE CITI NETWORK STRENGTHENING PROGRAM

The Citi Network Strengthening Program - an initiative of Citi Foundation in

collaboration with the SEEP Network - aims to strengthen national and

regional microfinance networks' ability to positively impact the

microfinance sector. Participating networks will have access to a range of

support instruments including high quality technical assistance, operational

support, local expert advice and peer learning opportunities. As a result of

this support, participating networks will be able to further promote growth

and development of local microfinance industries, to strengthen their

strategic focus on providing value to members, and contribute to

international innovations in the field.

Microfinance Industry Assessment: A Report on Pakistan

First printed in 2008 in Pakistan

Copyright © 2008 Pakistan Microfinance Network (PMN)

38-B, Street 33, F-8/1, Islamabad, Pakistan

Tel: +92 51 2816139-41

Fax: +92 51 2854702

Email: [email protected]

Website: www.pmn.org.pk

Authored by Aban Haq

Edited by Minerva John

Designed and printed at Channel 7 Communications Pvt. Limited.

PMN does not guarantee the accuracy of the data included in this

document and accepts no responsibility for any outcome of their use.

ACRONYMS MICROFINANCE PROVIDERS

AKAM Aga Khan Agency for Microfinance BRAC Bangladesh Rural Advancement CommitteeAKRSP Aga Khan Rural Support Programme

CSC Community Support ConcernCFI Commercial Financial InstitutionCWCD Centre for Women CGAP Consultative Group to Assist the

Cooperative DevelopmentPoorDAMEN Development Action for CIB Credit Information Bureau

Mobilization & EmancipationDFI Development Finance InstitutionFMFB First MicroFinanceBank Ltd.DFID Department for International KB Khushhali BankDevelopmentNMFB Network MicroFinance Bank FIP Financial Inclusion Programme

Ltd.FMiA First Microinsurance AgencyNRSP National Rural Support ProgrammeFY Fiscal Year OPP Orangi Pilot ProjectGDP Gross Domestic ProductP-O MFB Pak-Oman Micro Finance BankGLP Gross Loan PortfolioPRSP Punjab Rural Support ProgrammeGoP Government of PakistanRMFB Rozgar Microfinance Bank Ltd.HDI Human Development IndexSAFWCO Sindh Agricultural & Forestry IFAD International Fund for Agricultural

Workers Coordinating Organization DevelopmentSRSP Sarhad Rural Support ProgrammeMFB Microfinance BankTF Taraqee FoundationMFI Microfinance InstitutionTMFB Tameer Microfinance Bank Ltd.MFP Microfinance ProviderTRDP Thardeep Rural Support ProgrammeMIFF Microfinance Industry Funding

Facility

MoF Ministry of Finance

NBFI Non-Bank Financial Institution

NSO National Savings Organization

OSS Operational Self Sufficiency

PMN Pakistan Microfinance Network

PPAF Pakistan Poverty Alleviation Fund

PPSB Pakistan Post Savings Bank

PRSP Poverty Reduction Strategy Paper

ROA Return on Assets

ROE Return on Equity

Rs. Pakistani Rupees

RSP Rural Support Programme

SBP State Bank of Pakistan

SECP Securities and Exchange Commission of Pakistan

Notes: Exchange rate in June 2008: 1 US Dollar SEEP Small Enterprise Education and (US$ 1) = 67.7 Pakistan Rupees (Rs.)Promotion

SME Small and Medium-sized Enterprise

SPV Special Purpose VehicleSource: www.exchange-rates.orgZTBL Zarai Taraqiati Bank Limited.

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Contents

Foreword

Country Overview

1.1 Macroeconomic Situation

1.2 Demographic Profile

Financial Sector Overview

2.1 Financial Service Providers

2.1.1 Commercial Banks

2.1.2 Non-Bank Financial Institutions

2.1.3 Microfinance Providers

2.1.4 Other Financial Service Providers

2.1.5 The Role of Informal Financial Markets

2.2 Access to Financial Services

2.2.1 Financial Penetration

2.2.2 Barriers to Access for Low-Income Population

2.3 Regulations and Government Initiatives

2.3.1 Financial sector reforms

2.3.2 Key Strategies for Financial Inclusion and Poverty Reduction

2.3.3 Regulatory & Supervisory Framework

Microfinance Sector in Pakistan

3.1 History

3.2 The Retail Level Players

3.2.1 Microfinance Banks

3.2.2 Microfinance Institutions

3.2.3 NGOs and RSPs

3.2.4 Commercial Financial Institutions

3.2.5 MFPs in Pakistan compared across Asia

3.3 Meso-level Organizations

3.3.1 Networks and Associations

3.3.2 Technical Assistance and Training

3.3.3 Rating Services

3.3.4 Credit Bureaus

3.4 Funding

3.5 Impact

3.6 Challenges & Opportunities

References

Further Readings and Resources

List of Tables, Boxes & Figures

Table 1: Key Macroeconomic Indicators

Table 2: Social Development Indicators: Regional Comparison

Table 3: Poverty Profile of Pakistan

Table 4: Financial Penetration – Rural vs. Urban (December 2006)

Table 5: Key Statistics for MFBs in Pakistan

Table 6: Key Statistics for MFIs in Pakistan

Table 7: Key Statistics for some NGOs and RSPs in Pakistan

Box 1: Employment Profile

Box 2: Micro-Insurance in Pakistan

Box 3: Financial Inclusion Programme (FIP)

Box 4: Microfinance Sector Development Programme

Box 5: Pakistan Poverty Alleviation Fund (PPAF)

Figure 1: Differentiating between Access and Use

Figure 2: Average Deposit & Loan Sizes of Different Financial Service Providers – June 2007

Figure 3: Origin of Microfinance Providers in Pakistan

Figure 4: Active Borrowers by Peer Group (March 2008)

Figure 5: Projected Capital Structure of Microfinance Consolidated MFI/MFB Assets

Figure 6: Composition of Debt in 2010 (Rs. billions)

Figure 7: Top 5 MFPs in terms of Outreach and their Sustainability

Foreword

Although a number of reports and publications are available

on the microfinance sector in Pakistan, there is no one

comprehensive document that provides an overview of the

sector with a historical and futuristic approach. This

Industry Assessment is designed to provide such an outlook

while meeting certain other objectives which include, but

are not limited to:

i. Contextualizing the microfinance sector within the

country's financial sector landscape and access to

financial servicesii. Providing a snap-shot of where the industry stands

today, the important trends at the retail and meso level,

and the gaps in the market in the medium term.iii. Identifying the challenges for the sector and providing

an outlook on the expected future developments, at

least in the medium term. iv. Serving as a resource to support strategic planning for

networks, network members and external audiences

such as donors, investors, policymakers, etc.

Given the scope and objectives of the assessment, this

report has been structured into the following sections:

i. Section I gives a brief description of Pakistan's socio-

economic situation, with a focus on the demographics

and social indicators in comparison to other countries,

so as to put the country's development status in context

for the reader. ii. Section II provides an overview of the financial sector in

the country with a focus on issues most relevant to the

development of an inclusive financial sector, along with

taking a look at the regulations and government

initiatives aimed at expanding access to financial

services. This discussion will look at the overall financial

sector reforms, as well as developments with respect to

the microfinance sector.iii. Section III takes an in-depth look at the microfinance

sector: its history, major players (at the retail and meso

levels), funding sources, the impact of the microfinance

activities to-date as well as challenges and

opportunities for the sector.

To facilitate readers interested in more information on the

sector, a reading list has been included at the end of the

report. The report draws heavily upon existing research and

publications along with some primary research based on

interviews with sector stakeholders.

Pakistan Microfinance Network (PMN) is indebted to all who

contributed towards this effort, especially the Small

Enterprise Education and Promotion (SEEP) Network and Citi

Foundation – USA, and hopes this report will prove valuable

for all audiences.

Country Overview

Pakistan's political and economic history has threat to the economy over the past year. Some

been a turbulent one, with periods of stability of the biggest challenges for the policy makers

and growth often followed by instability and today include double-digit food inflation that

economic slowdowns. It is thus important to can push an increasing number of people

understand the economic and social below the poverty line, an energy shortage

environment of the country in order to fully resulting in a slowdown in production and

understand the context of the microfinance investment, increasing international fuel prices

and poverty reduction (see Table 1 for a sector in Pakistan.

snapshot of macroeconomic indicators over the

past five years).

The last few years have been a period of high

growth for Pakistan with an average GDP

Pakistan's socio-economic history reflects the growth rate of 7.0 percent during the last five

country's constant struggle with sustaining years. Increasing investment, wide-ranging

growth and improving the living standards of reforms, macroeconomic stability and

its people. Periods of high growth have not reduction of poverty have been cited as major

always translated into an improvement in the accomplishments for the economic managers

social indicators and even today, Pakistan fares during this period. According to government

poorly in comparison to other developing statistics, per capita incomes rose from US$

countries of the region on various social 586 in 2002-3 to US$ 1,085 by 2007-8.

indicators, particularly those related to gender However, inflationary pressures and an

and literacy (see Table 2 on next page). expanding twin deficit have emerged as a

1.1 Macroeconomic Situation

1.2 Demographic Profile

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FY04 FY05 FY06 FY07 FY08*

Real GDP growth rate (%) 7.5 9.0 5.8 6.8 5.8

Per capita income (US$) 669 733 836 926 1,085

Inflation rate (%) 4.6 9.3 7.9 7.8 10.3

Current Account Balance (% of GDP) 1.9 -1.4 -3.9 -4.9 -6.9

Fiscal Deficit (as % of GDP) 2.4 3.3 4.3 4.3 6.5

Foreign Direct Investment (US$ million) 949 1,524 3,521 5,140 3,482

Average exchange rate (Rs./ 1 US$) 57.6 59.4 59.9 60.6 61.6

Unemployment rate (%) 7.69 - 6.20 5.32 -

Table 1: Key Macroeconomic Indicators

* Data for FY08 pertains to July – April. Source: Pakistan Economic Survey 2007-08, Finance Division, Ministry of Finance and Annual Report 2006-07, State Bank of Pakistan.

According to official statistics, 22.3 percent of employment seekers is thus one of the top

the country's total population (approximately priorities of the government.

160 million) currently lives below the poverty In addition to job creation, poverty alleviation with another 20.5 percent living in and provision of basic services are important vulnerable conditions (see Table 3 for the issues for the policymakers. Education and poverty profile of Pakistan for 2007-08). A large health facilities, sanitation, access to safe proportion – approximately 79 percent – of drinking water and infrastructure development these poor reside in rural areas. One of the in peri-urban and rural locations require challenges for Pakistan has been its rapidly targeted interventions. The lack of such increasing population, which has exerted facilities in these areas and little focus on pressure on domestic resources and labor development of agricultural value chains has markets. These pressures are expected to prompted urban migration, which has created increase, as currently 40 percent of the pressures on urban infrastructure and job population is under the age of 14 years. Job markets. creation to absorb the entry of potential

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Table 2: Social Development Indicators: Regional Comparison

PAKISTAN INDIA SRI LANKA BANGLADESH CHINA

HDI Rank* 136 128 99 140 81

Adult illiteracy rate (%) 50.1 39.0 9.3 52.5 9.1

Infant mortality rate (per 1000 births)

79 56 12 54 23

Life expectancy at birth (years)

64 63 71 62 72

Gender-related development index rank*

125 113 89 121 73

* Out of 177 countries: a higher rank implies a lower level of development. Source: Human Development Report 2007/08, UNDP.

Poverty Band Percentage of

Population

Estimated Head Count

(million)

Estimated Adult

Population (million)

Extremely poor [<50% of poverty line]

0.5 0.81 0.4

Ultra poor [>50% and <75% of poverty line]

5.4 8.69 3.8

Poor [>75% and <100% of poverty line]

16.4 26.39 12.3

Vulnerable [>100% and <125% of poverty line]

20.5 32.99 16.9

Quasi Non-poor [>125% and <200% of poverty line]

36.3 58.41 33.1

Non-poor [> 200% of poverty line]

20.9 33.63 21.9

Total Population 100 160.9 88.4

Source: Pakistan Economic Survey 2007-08, Finance Division, Ministry of Finance and PMN estimates.

Table 3: Poverty Profile of Pakistan

1 The national poverty line, according to the Government of Pakistan stands at Rs. 944.47 per month (for the year 2005-06), which is based on the conversion of a calorie intake of 2350 (adult equivalent) per person per day into Rupee terms.

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Box 1: Employment Profile

Approximately 73 million people are part of Pakistan's labor force, of which 72 percent are male.

The official unemployment rate in 2007 was estimated to be 6.2 percent, although youth

unemployment (between 15-19 years) was higher at 7.6 percent and urban unemployment at

10.1 percent.

Trends in the labor market show that employment indicators have changed in line with the

economy's performance and structure in recent years. Agriculture is the largest sector with 43

percent of total employed people being related to this sector, although its share has been

declining. This is followed by services (35.9 percent) of which wholesale and retail is the largest

sub-sector, and then industry, of which manufacturing and construction are the largest sub-

sectors.

The country's informal economy has also grown in recent years. The highest proportion of

informal employment is estimated to be in the agriculture sector, followed by wholesale and

retail, and industry. The majority of these informal workers are female.

Source: Pakistan Employment Report 2007, Government of Pakistan

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Financial Sector Overview

This section provides an overview of the Bank of Pakistan, remained in public hands,

financial sector of the country, beginning with leaving only 20 percent of the banking system's

a description of the financial service providers assets in the public sector.

including banks and non-bank financial By the end of September 2007, there were 36 institutions. Given the detailed discussion on commercial banks operating in the country, microfinance providers (MFPs) that follows in which included four public sector commercial the subsequent section, this sector is only banks, 26 domestic private banks (including discussed briefly here. A short discussion on the five Islamic banks), and six foreign banks. In role of informal financial markets is also addition to these institutions, there are four included. In addition, we also take a look at the specialized providing financial services regulations and government initiatives aimed at to the public. Together, these banks have over expanding access to financial services, including 7,500 branches across Pakistan. the financial sector reforms as well as the

developments with respect to the microfinance All commercial banks are full-fledged financial sector.service providers, offering products and services

including credit, savings, investment and

corporate banking, payment transfers, etc. One

of the important trends in the banking sector in Pakistan's financial sector has undergone recent years has been the banks' aggressive significant reforms in the past decade, which movement into consumer finance including has resulted in the transfer of a large share of credit cards, financing of cars and consumer the sector from public to private hands. durables, and personal loans. Given the low Although there are other players in the interest rate scenario that existed until a couple financial system of the country, including Non-of years ago, this led to fast expansion in the Bank Financial Institutions (NBFIs), Insurance proportion of bank's credit portfolios tied up in Companies and MFPs, commercial consumer finance (increased from 2.2 percent dominate in terms of institutional composition in 2002 to 14.6 percent by 2007). On the with a share of over 70 percent in the financial liability side, high liquidity and stagnant low sector's assets. deposit rates meant banks earned huge profits,

with the overall banking sector posting some of 2.1.1 Commercial Banks the highest returns in its history (2.1 percent

return on assets (ROA) and 24.2 percent return The structure of the banking system in Pakistan

on equity (ROE) for the year 2006). Although has changed considerably in the last 17 years.

competition has increased in the wake of While in 1990 five state-owned commercial

privatization, such high profitability means that banks dominated the system, by the end of

there is little incentive for banks to move down 2004 only one of these large banks, National

2.1 Financial Service Providers

3banks

2banks

2 Namely National Bank of Pakistan (NBP), Habib Bank Limited (HBL), United Bank Limited (UBL), Muslim Commercial Bank Limited (MCB) and Allied Bank Limited (ABL).3 These are Zarai Taraqiati Bank Ltd. (ZTBL), Industrial Development Bank of Pakistan (IDBP), Punjab Provincial Co-operative Bank Ltd. (PPCBL), and SME Bank Ltd.

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market or into the rural areas. Currently, only 2.1.2 Non-Bank Financial Institutions 33 percent of the banking sector's branches are (NBFIs)in the rural areas where 67 percent of the

population lives. This number itself should be There are a number of NBFIs in the country carefully interpreted since nearly all of the rural providing a range of financial services to the branches belong either to the five large banks public. These include investment banks, leasing or specialized banks, and are a legacy of the companies, mutual funds, housing finance pre-reform period rather than a post-reform companies and Islamic financial institutions development. such as . Some of these are

discussed below.Another major development in the banking

sector in recent years has been the introduction Mutual Funds is a growing industry in the of the parallel Islamic banking system. The country, with a number of new entrants in current regulatory structure allows for banks to recent years and holding the largest asset base offer Islamic banking services through a) within the non-bank financial sector. By June setting up a full-fledged Islamic bank, b) 2007, there were 67 such funds in operation of establishing a subsidiary that provides Islamic which 21 were and the rest banking services, or c) setting up a separate

, with combined assets of Rs.310 Islamic banking branch. Giving people the

billion. Half of these were either equity funds or option of Islamic banking has important

income funds.implication for access since there are a number

of people who are hesitant to avail traditional Of the 23 licensed leasing companies, only 13 banking services on account of religious beliefs. were classified as active by end June 2007 with Although assets of the Islamic banks still make total assets of Rs. 65.8 billion. Nearly 80 up a small part of the banking system, growth percent of the sector's disbursements are in has been rapid (increased from 0.5 percent in plant and machinery, and vehicle leases. 2003 to 3.8 percent in 2007). Unfortunately,

like traditional banks, Islamic banks have also The insurance sector in Pakistan is relatively

restricted themselves to urban areas and do not small with insurance of only 0.7

really target the low-income population. percent. Of the 54 companies in the sector, 47

are engaged in non-life insurance business with Currently, the State Bank of Pakistan (SBP), the only five in the life insurance business and two country's central bank, is encouraging offering Islamic insurance (called Takaful). consolidation in the banking sector and has Micro-insurance has also begun to take root in imposed a moratorium on issuance of new Pakistan, although on the back of credit commercial banking licences [except for setting services within the microfinance sector. Box 2 up an Islamic bank or a Microfinance Bank on next page summarizes the developments in (MFB)]. All commercial banks are expected to micro-insurance in Pakistan. raise their minimum paid-up capital to Rs. 6

billion by the end of the year 2009 under the Like commercial banks, these institutions do

new Basel II regime that SBP plans to launch in not target the lower end of the market and

the coming year. This is expected to drive their operations are concentrated in the larger

smaller banks into mergers with larger urban centres of the country.

institutions, leaving a few strong players in the

market.

4Modarabas

5close-ended6open–ended

7penetration

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4 The Modaraba Companies and Modarabas (Floatation and Control) Ordinance, 1980 defines a Modaraba as “a business in which a person participates with his money and

another with his efforts or skill or both his efforts and skill shall include Unit Trust and Mutual Funds by whatever name called” and a Modaraba Company as “a company engaged in the business of floating and managing modaraba”5 A collective investment scheme with a limited number of shares.6 A fund that raises money by selling shares of the fund to the public.

7 Defined as 'gross premium as percentage of GDP'. This can be compared to India: 3.1 percent, Malaysia; 5.3 percent and the U.S.: 9.4 percent. Source: Financial Sector

Assessment 2005. SBP.

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also provide financial services to the public. 2.1.3 Microfinance Providers Amongst these are the National Savings

Organization (NSO) and Pakistan Post Savings A variety of institution types make up the retail Bank (PPSB). landscape of the microfinance sector: MFBs,

which are regulated by the central bank and The NSO acts as an agent for the Ministry of

are relatively new entrants into the market with Finance (MoF) and mobilizes savings through

an average age of 2-3 years; specialized various types of deposits and savings

microfinance institutions (MFIs), which are instruments. Its products are available through

NGOs providing microfinance services only; and its own network of 368 centers, as well as in

multi-dimensional NGOs and rural support post offices and branches of commercial banks

programmes (RSPs), which provide across the country. Some of the products

microfinance as a part of integrated offered by the organization are of interest to

programmes. Of these, only MFBs can small depositors, as the minimum deposit is

intermediate deposits, although many non-low (Rs. 100 for a savings account, Rs. 500 for

bank MFPs mobilize deposits from their credit some savings certificates and the special

clients. Some also offer insurance services savings account). Prize Bonds sold by the NSO

bundled with credit. also come in small denominations and are

relatively popular with the urban poor. In March 2008, the sector's outreach stood at

approximately 1.6 million active borrowers and Besides its core function of handling mail,

1.7 million active savers, with a gross loan Pakistan Post performs various agency

portfolio of Rs. 16.5 billion and Rs. 4.2 billion in functions for the government, including

savings respectively. Pakistan's microfinance providing deposit services to the general public

sector was amongst one of the fastest growing through half of the 13,000 PPSB branches.

globally, with an expansion of nearly 47 According to estimates, the PPSB holds

percent during 2007. Most of this growth was deposits worth Rs. 56.6 billion in approximately

driven by a few institutions belonging to 3.8 million accounts, of which an estimated 70

different peer groups (section 3 provides percent are below Rs. 10,000. In October

details on the microfinance sector in Pakistan). 2007, Pakistan Post entered into a public-

private partnership with FMFB which will allow 2.1.4 Other Financial Service FMFB to use 4000 of the Post's sub-offices for

Providersexpanding its own microfinance operations.

FMFB expects to serve a million clients and Although not considered mainstream

disburse Rs. 15 billion over the next three to institutions, some public sector organizations

five years through this wide network.

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Box 2: Micro-Insurance in Pakistan

Given the sector's credit focus in the past, developments in micro-insurance have been limited

and slow in terms of product development and diversification. By end March 2008, there were

approximately 1.4 million policy holders in the microfinance sector, of which 70 percent are

covered by life insurance (or more precisely, credit-life) and the rest by health. Kashf Foundation

has the largest number of clients with insurance (approximately 600,000), followed by National

Rural Support Programme (NRSP), which offers both life and health insurance.

Establishment of the First Microinsurance Agency (FMiA), as an affiliate of the Aga Khan Agency

for Microfinance (AKAM), is the first concerted effort to promote micro-insurance in the sector.

FMiA is currently working with a number of MFPs such as First MicroFinanceBank (FMFB), Tameer

MFB, Khushhali Bank (KB) and Kashf to develop and offer credit-life and health insurance

products. It also plans to extend its product range to livestock and crop insurance in the future.

At the moment, the target market for FMiA and its partners are their credit clients. The extension

of stand-alone insurance products will take a few years. FMiA's back office functions are handled

by New Jubliee Life Insurance Company Limited.

In addition to this, NRSP has also partnered with Adamjee Insurance Company Ltd. to provide

health insurance to its clients.

Source: PMN and interview with Marketing Manager, FMiA Pakistan.

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strong incentives for their .2.1.5 The Role of Informal Financial

Any discussion of the country's financial sector There is mounting empirical evidence that

must also take into account the large role financial development contributes towards

played by the informal financial markets, which economic growth and thus, an increase in the

have a history predating formal markets and incomes of the people. It is also widely

where contracts and agreements are accepted that financial services not only matter

undertaken without any official regulation or in the context of overall economic growth, but

monitoring. Pakistan's urban, and particularly also for the general well-being of the people,

rural, areas are served by a wide variety of by helping smoothen consumption and

informal agents, including moneylenders and mitigate risks. However, more often than not,

aartis, or commission agents, who favor and especially in the developing/emerging

interlinked transactions providing, for example, economies, financial systems tend to be

inputs to farmers and undertaking to sell their skewed towards the relatively better-off

. Suppliers' credit is common in segments of the society.

established markets such as textile, and

informal finance is common in the transport 2.2.1 Financial Penetration

sector as well as in the shoemaking, dairy and

livestock industries among others. Generally, The financial sector has grown considerably

these credit markets are stand-alone markets, over the last few years but this expansion has

not interlinked or linked to formal systems, not reached all segments of the population or

although one study (Irfan et. al. 1999) found all regions of the country. Estimations and

that as much as one-third of the credit choice of indicators to measure financial

distributed through these systems originated in penetration vary due to data limitations and

formal sources. lack of international consensus on how best to

quantify access, or lack thereof. World Bank Informal financial systems provide services

(2007) uses a composite measure of access where formal financial markets are not

based on the percentage of adult population available, and may also provide services

with access to an account with a financial unavailable in the formal markets or a cost

intermediary. In case of Pakistan, this is advantage or convenience unmatched by

estimated to be 12 percent, compared to 48 formal . They are very common in

percent in India, 59 percent in Sri Lanka and 32 Pakistan's Small and Medium-sized Enterprise

percent in Bangladesh. On the other hand, SBP (SME) sector. To a degree, their popularity may

estimates that 37 percent of adults have bank also be linked to the underground economy

accounts. Given the realistic assumption that and to a desire to avoid taxation. Carried on as

one individual may have more than one they are without formal contracts, these

account, the actual percentage is likely to be systems are characterized by speed, ease and

lower. flexibility, as well as the dense network of

personal relationships and dependencies in Other widely used indicators of financial

which they are embedded. Thus, it is not only a penetration include population per bank

lack of access to formal systems which allows branch and borrowers as a percentage of

them to flourish; they are also used because population. In Pakistan's case, per bank branch

they are quick, simple, and simultaneously population is one of the highest in the region

provide a way of expressing social debts, with 20,450 persons per branch whereas the

loyalties and responsibilities, thereby providing number of borrowers (including the 1.5 million

non-financial as well as financial value. While borrowers in the microfinance sector) stood at

the formal financial sector may face some 6.7 million, or 4.2 percent of the population in

difficulty competing with the non-financial 2007.

aspect of such economic relationships, the

transparency, efficiency, customer Financial exclusion is also estimated to be more confidentiality and security, as well as the severe in rural areas compared to urban as competitive financial terms which can be shown in Table 4 on next page. Although 67 offered by formal institutions, do provide

11use8Markets

9harvests

10counterparts

2.2 Access to financial services

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8 This section comes from PMN's publication “Country-Level Savings Assessment – Pakistan”, April 2008.

9 Under such financing agreements, farmers are obliged to sell at a substantial discount. See Qadir (2005) for a discussion of informal credit markets.

10 As indicated in a study by the Punjab Economic Research Institute (2005), informal financial systems are often equated with unscrupulous moneylenders but are extremely complex, involving a number of different actors providing different sets of products and services at varying rates, and the characteristics of such systems are attuned to the sectors they serve. Costs to the user vary substantially depending on the sector and whether, for example, farmers borrow in cash or in kind. In one study, carried out in the Liaqatpur tehsil of the Raheem Yar Khan district, there was no difference in costs to farmers when borrowing from formal or informal sources (Hussain and Demaine 1992). It is also pointed out by Qadir (2005) that sometimes illegal practices by banks can make formal credit at least as expensive as informal sources.11

For an overview of informal finance in Pakistan including case studies of a number of sectors, see Qadir (2005).

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percent of the population lives in rural areas, Oxford Policy Management (2006) estimates,

only 33 percent of the bank branches are based on the Pakistan Socio-Economic Survey

located in rural regions. Only 14 percent of 2001-02, show that approximately 41 percent

rural adults have bank accounts compared to of total households were receiving credit but

75 percent of urban adults. only 3.3 percent of these loans were received Estimates suggest that a large proportion of from formal or semi-formal financial the low-income population of the country does institutions (these included the Agricultural not use formal financial services. According to Development Bank of Pakistan, commercial Nimal A. Fernando's 2007 report for the Asian banks, cooperatives and NGOs). Development Bank on low-income households'

access to financial services, formal and semi- 2.2.2 Barriers to Access for Low-formal financial institutions reach no more than Income Population 10 percent of the potential market at the low

end in Pakistan. The paper goes on to say that The discussion on access must take into the financial access problem is a bigger account the difference between 'access' and challenge in large countries such as China, 'use of financial services': whereas the former India and Pakistan and “[a]s a result, vast refers to the supply of financial services, the numbers of poor and low-income people in the latter refers to the result of the interaction region are unable to take advantage of between demand and supply of these services. economic opportunities and gainfully employ Stijn Classens's paper “Access to Financial themselves and their family members, and Services: A Review of the Issues and Public create employment opportunities for others; Policy Objectives” for the World Bank in 2006 unable to build assets that increase their offers an interesting discussion on the income-earning capacity and quality of life; difference between the two: availability of unable to ensure that their children get basic services is a necessary, but not sufficient, primary and secondary education; and unable condition for use. Even in the presence of to manage the risks of vulnerabilities resulting service providers, barriers such as high costs, from various types of external shocks that information asymmetries, regulatory adversely affect their already low living requirements or low financial literacy may standards”. result in low access.

Other studies have also indicated that the use Institutional (or supply) barriers to access may of formal institutions to meet financial needs is be classified into two categories: those related quite low, especially amongst the low-income to individual financial institutions and those groups. For example, in his study on informal related to the institutional environment. In finance markets in Pakistan in 2005, Adnan terms of problems related to individual Qadir cites that the percentage of farmers institutions, these could range from high using institutional agricultural credit is only 15 minimum deposit requirements or high service percent, but that this number may also be charges, inappropriate products or collateral inflated due to the common practice of large requirements to simply attitudes of the bank land owners borrowing in the name of their staff or financial literacy requirements. At the

, servants and family members. The environment level, it has been seen that the 12haris

09

12 In the Sindhi language, hari refers to the landless peasant hired by landlords to work on their land.

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Table 4: Financial Penetration – Rural vs. Urban (December 2006)

Rural Urban Total

% of Population Poverty Incidence

67.0 28.1

33.0 14.9

100.0 23.9

% of Bank Branches 33.0 67.0 100.0

% of total population having bank accounts % of adult population (+19 years) having bank accounts

6.0 14.0

37.0 75.0

17.0 37.0

% of deposits (number) % of deposits (amount)

25.0 9.9

75.0 90.1

100.0 100.0

% of advances (number) % of advances (amount)

17.0 7.1

83.0 92.9

100.0 100.0

Source: SBP Governor's speech, Financial Inclusion Conference, London, 19 June 2007

quality of legal systems, property rights, credit requirements such as money laundering

information availability, technological guidelines require proof of identification

development and regulatory requirements – all that the poor may not have.

influence access.There is reluctance on part of commercial banks

The SBP also recognizes barriers to access and to enter into new markets and they do not

classifies : have the appetite to gauge market demand.

Inadequate information about clients in the 1. Geographical constraints: a large absence of a comprehensive credit

proportion of population lives in rural bureau/credit history records, lack of alternative areas and there are pockets of areas with delivery channels and financial innovation are low population density and difficult all hurdles in the goal of financial inclusion. remote terrain. Figure 2 below uses the average deposit and

2. Provincial-level environment weaknesses: loan balances to proxy current markets for lack of an enabling environment at the different financial service providers. The provincial level due to poor land records average deposit size clearly shows nearly all and weak law enforcement. commercial banks are targeting larger

3. Banking practices: banking sector's depositors whereas the MFBs, NSO and PPSB stagnation in terms of target market, are currently reaching smaller depositors. The traditional modes and products, and high average loan size of the banking sector also transaction costs. shows the same trend except that, unlike in

4. Illiteracy and/or poverty of clients: low deposits, average loan sizes for foreign banks

financial literacy of clients or cultural and are relatively small compared to other banks.

linguistic barriers due to which the This is largely because these banks hold a large

awareness and understanding of financial portion of consumer finance and credit card

services is low. portfolios of the sector.

5. Regulatory barriers: regulatory

13them as

10

Figure 1: Differentiating between Access and Use

Source: Claessens (2006)

With Access Without Access

Current Consumers of Financial

Services

Voluntary Exclusion Involuntary Exclusion

No need No awareness?

Assumed rejection Inability to use due to income/ price

Rejected: high risk/bad credit = No access

Rejected: Discrimination = No access

Excluded due to price, product, income or respondent feature = No access

13 Source: SBP Governor's speech, Financial Inclusion Conference, London, 19th June 2007

Figure 2: Average Deposit & Loan Sizes of Different Financial Service Providers – June 2007

Source: Statistical Bulletin, State Bank of Pakistan

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Average Deposit Size

134

71

163

584

22 12 15

0

100

200

300

400

500

600

700

All B

an

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Pu

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Sect

or

Ban

ks

Do

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Pri

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Ban

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Fore

ign

Ban

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ks N

SO

Pak P

ost

Ban

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Average Loan Size

412

280

11

628

460

0

100

200

300

400

500

600

700

All B

an

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Pu

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Sect

or

Ban

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Fore

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(Rs.

‘0

00

)

(Rs.

‘0

00

)

2.3 Regulations and Government

Initiatives

based lending practices improved their

profitability as the sector's ROA and ROE rose

from -0.5 percent and -12.6 percent in 2001 to

2.1 percent and 23.8 percent respectively by 2.3.1 Financial sector reforms

2006. The sector's stability indicators have

shown considerable improvement. Aggregate Financial sector reforms were initiated in the

number of borrowers has increased as banks 1990s in Pakistan with the objective to:

have diversified into consumer finance and SME

lending. 'create a level playing field for financial

institutions and markets for instilling Despite the success of the reform process, its

competition, strengthening their governance impact on access to financial services for low-

and supervision, and adopting a market-based income people remains questionable. As the

indirect system of monetary, exchange and privatized banks rationalized their operations,

credit management for better allocation of they closed down a number of branches in the

financial resources.' (SBP Annual Report, 2002).rural areas (over 700 branches were closed

between 1997 and 2000, of which over 330 Given this objective, a number of reforms were were located in unbanked areas). Although initiated within the banking sector. Private competition has increased, it has not resulted ownership of financial institutions was in the down-market movement of commercial encouraged and four of the five large state-banks to target the low-income segments nor is owned commercial banks were privatized. there any apparent interest to do so in the near Credit ceilings were abolished and banks were future. The policy makers thus feel that there is free to establish market-based rates. Higher a need to have focused strategies to increase minimum capital requirements, use of access. These are summarized in Section 2.3.2. technological platforms and standards of

corporate governance were institutionalized 2.3.2 Key Strategies for Financial and external ratings were made compulsory.

The central bank also underwent a number of Inclusion and Poverty changes in order to develop its capacity to Reduction effectively supervise and regulate the changing

banking environment in accordance with I. STATE BANK’S POLICY FOR international standards. Not only was SBP given FINANCIAL greater autonomy but extensive capacity

building of its staff and technological base was SBP believes that financial inclusion should undertaken. Banking laws (including the SBP focus on:Act, 1956; the Banking Companies Ordinance,

1962; the Banks (Nationalization) Act, 1974; §Provision of full range of financial services the Banking Companies (Recovery of Loans)

i.e. going beyond credit to deposit and Ordinance, 1979 and the Banking Tribunals payment servicesOrdinance, 1984) were also amended in order

§Meeting requirements of individuals to allow the reform process to move ahead

smoothly. ranging from consumption to basic

education, health and other servicesIn addition to the above, reforms were brought §Catering to the requirements of small and about in the debt management process by new firms, anddeveloping a primary market for treasury bills §Markets excluded by gender or to replace the on-tap system. The foreign

[geographical] remoteness exchange regime was liberalized and indirect

mechanisms for monetary policy management One of the key objectives of the financial were put in place. inclusion strategy of SBP is 'to support the

government's target of halving the income The reform process had very positive

poverty headcount by 2015, and to eventually consequences not only for the health and

reduce poverty to a single digit'. Major stability of the banking sector, but also the

elements of the strategy include:whole economy. The cost of borrowing for the

government decreased, with positive 1. The national level microfinance strategy implications for the fiscal deficit. Cleaning up (see section below for more).the banks' balance sheets along with market- 2. The Annual Branch Licensing policy: all

14INCLUSION

11

14 Source: SBP Governor Speech, 28th March 2008, Islamabad.

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commercial banks with 100 branches or 6. The SME financing strategy: to encourage

more are required to open at least 20 lending to small businesses. 7. Promotion of Islamic banking: availability percent of their branches outside big cities

of Shariah compliant products would allow and set up branches in the financial sector to serve those who do headquarters where no branch of any bank not currently avail its services due to exists. Sub-branches, booths and service religious reasons.centers may be established in places where

8. Development of commercially viable credit it is unfeasible to open a full-fledged enhancement mechanismsbranch.

9. Promotion of insurance products to 3. The Basic Accounts policy: Since November support micro and small lending: 2005, all commercial banks are required to proactively help develop Islamic insurance offer a 'Basic Banking Account (BBA),' products and work with private sector which can be opened with a minimum companies to develop non-collateralized deposit of Rs. 1000 and carries no fee, no lending and crop insurance products.minimum balance requirement and full

10. Promotion of electronic banking and use ATM facility. This account is targeted at the of technology.low-income people.

4. Promotion of the Post Office network: Some of these initiatives are already underway. explore possible collaboration between SBP has also partnered with Department for Pakistan Post and MFPs.International Development (DFID) for the 5. The prudential regulatory framework: implementation of a Financial Inclusion development of dedicated prudential Programme to enhance access of financial requirements for the different sectors such services to the poor in the microfinance, SME, as the Microfinance Ordinance 2001 and rural and the low income housing sectors. its supporting prudential regulations, Please refer to Box 3 for more on this prudential regulations for Agricultural partnership. Financing and Livestock Financing, etc.

15tehsil

12

15 A 'tehsil' (called a 'taluka' in Sindh) is the second-lowest tier of local government in Pakistan. Each tehsil is part of a larger 'district' and each tehsil is sub-divided into a number of

'union councils'.

Box 3: Financial Inclusion Programme (FIP)

State Bank of Pakistan, with support from DFID, launched the Financial Inclusion Programme (FIP)

in January 2008. With an estimated cost of £50 million over five years, the programme's purpose

is to transform the level and quality of access to formal financial services in Pakistan, with a focus

on increasing access for the poor and marginalized groups. FIP will focus on microfinance and

small and medium enterprise finance in the first two years of the programme, whereas strategies

for low income housing finance and rural finance will come into focus over the subsequent years,

with Islamic banking and formalizing remittances being cross-cutting themes. Programme

components include:

§Development and management of a cohesive financial inclusion policy based on research and

review.

§Encouragement of financial innovation through funds to meet start-up and scaling costs.

§Improving delivery mechanisms through capacity building of human resources and

Institutional Strengthening Fund.

§Development of a financial literacy strategy.

§Management, monitoring and evaluation of FIP

Source: IP Programme Office, State Bank of Pakistan.

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II NATIONAL MICROFINANCE unsustainable model will hinder the growth

STRATEGY prospects of the microfinance sector.

Sustainability comes through effective cost The national level strategy for the microfinance recovery that calls for pricing loans in line with sector was prepared by the SBP in consultation the transaction costs, which could vary from with PMN, Consultative Group to Assist the client to client and from one region to another. Poor (CGAP) and other international agencies, Thus, subsidies should be restricted only for and was approved by the Prime Minister of poorer and resource deficit regions, capacity Pakistan in February 2007. The strategy focuses enhancement, innovation and growth rather on expanding the outreach of the sector and than regular operational costs.sets a target of three million active borrowers

by the year 2010. The strategy proposes that Pakistan Poverty

Alleviation Fund (PPAF) should thus, define The goals and objectives of the strategy thus specific eligibility criteria for concessional are: financing to MFIs, and restrict such funding to

the following:I. Commercialization of microfinance is

critical to enhancing the outreach and §MFIs willing to enter into contractual scale of the microfinance industry, and to obligations to eventually graduate to blending effectively both financial and adopting financially sustainable models.social sustainability in the operations. This §Poorer/resource deficit regions where requires:

exceptionally high transactional costs

render it difficult to operate in a socially §Treating microfinance as a viable

sustainable manner.business that requires the market to

§Other recommendations for PPAF include:determine its pricing, aligning it to the

cost of delivery and risk perceptions. Develop capacities and expertise to

This, in turn, underscores the need for issue bonds and guarantees with

an eventual phasing out of across-the-supportive government credit

board reliance on subsidized lending, enhancement to raise the required

which creates distortions and serves as domestic liquidity for

a deterrent to growth and the MFBs/MFIs/NGOs.

graduation of MFIs, and also renders úSet up a center of excellence for commercially viable institutions

training microfinance providers and unprofitable.

clients with the support of PMN.§Multiple players to infuse competition,

úOffer rating services that gauges MFIs' which will be the principle element of

default risk with regard to its overall as offering clients competitive interest

well as client obligations.rates and service delivery.

úFocus on product innovation and best

practices.ii. Notwithstanding the above, geographical

complexities make it difficult to deliver Other recommendations of the strategy to commercially viable programmes to start with promote sustainable institutions include the in the poorer and resource deficit transformation of NRSP into a nationwide MFB regions/districts so: recommend confining to facilitate its development on a financially subsidized lending to these poorer and and socially sustainable basis, as well as to resource deficit regions/districts.bring KB under MFI Ordinance 2001 in order to

offer a level playing field to all MFBs and sell The strategy stresses that the three things off the government's share in the bank to a which are essential for the sector to achieve its strategic partner.target include:

b. Private Domestic Capital: Achieving the a. Sustainable Operations: At the time of the three million active borrowers mark by 2010 preparation of the strategy, average lending implies that additional funds amounting to US$ rates in Pakistan's microfinance sector were 700 million would be required. It is impossible around 18 percent, well below regional levels, for donor or public resources to meet this gap, and leading to financial unsustainability (on and thus the sector will have to mobilize average, the sector's financial self-sufficiency private domestic capital. Sources for these stood at 62 . This financially funds are forecast as:

16percent)13

16 Currently the sector's financial self sufficiency stands at 74 percent and the average lending rate is approximately 26.1 percent. Source: Pakistan Microfinance Review 2007, PMN.

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this defined segment of population that §tend to be in local communities within total. SBP recommends facilitation of well-defined, geographical areas.private investors and allowance of

§Technology: Adopt innovative and subordinated debt as Tier II capital for appropriate technologies that are designed MFBs. for helping upscale microfinance §Savings – banks should increase savings operations.from five percent to 25 percent of their

§Introduction of Credit Bureau for assets. MFBs and the meso level players Microfinance Borrowers: SBP, in like PMN should thus undertake market collaboration with international experts, is research for designing the saving products developing an appropriate model for a for their customers, and the government Credit Information Bureau (CIB) in would assist their capacity building partnership with PMN, MFBs, MFIs and through the PPAF. Procedures to access NGOs in order to pool information on wholesale deposit windows of the borrowers and to facilitate prudent lending commercial banks should be developed. decisions about micro borrowers. However, mobilizing savings would require

sustainable institutions. §Effective and synergistic use of Pakistan

Post Office (PPO) resources: The §Debt – raise debt from domestic private

government, SBP and PPO to reach sources such as commercial banks and consensus on their capacity to facilitate bond markets. The strategy recommends access to financial services. encouraging credit enhancement

mechanisms and guarantee funds. §Other policy and regulatory initiatives:

These include recommendations such as c. Building the Human Resource Base: the incorporation of the requirement of Expanding outreach would create great public disclosure of social performance pressure on existing human resources in the (e.g. outreach to women, rural areas) by sector and the strategy forecasts that trained MFIs and NGOs, disclosure requirements to manpower of 20,000 (composition of which ensure transparent lending practices and will be: one percent senior management, 15 formulation of consumer protection laws, percent middle management and 84 percent removal of tax disincentives for MFBs, field staff) would be required by 2010. Of encourage Islamic microfinance, and these, training and capacity building needs are setting up of criterion for membership of minimal at the senior level. Most of the field clearing house for MFBs, etc. staff will be trained in-house and on-the-job.

III. NATIONAL POVERTY REDUCTION For this, organizations would need to build

stronger internal recruitment, training and STRATEGIES

retention plans. The real challenge lies at the Poverty reduction remains a challenge for the middle management level, which typically is the Government of Pakistan. Recognizing the need bottleneck for growth. This level needs for a strategy that ensures pro-poor growth generalized management training. and coordinated efforts to tackle this Recommendations include: ensuring challenge, the government began a organizations build strong in-house training, consultative process in 1999 to develop a and developing a management training track at comprehensive poverty reduction strategy. This recognized centers such as academic and process resulted in an Interim Poverty professional training institutions. Reduction Strategy Paper (I-PRSP) in November

Accelerating growth beyond the 3 million 2001 and a full-fledged Poverty Reduction

mark - Strategy Paper (PRSP) in December 2003.

The four pillars of the strategy as highlighted in Efforts in six additional areas could yield large

the PRSP included:scale dividends past 2010:

i. Achieving high and broad-based economic §New Players: Government to facilitate entry growth focusing particularly on the rural of international MFPs with proven track economy, while maintaining record in achieving large scale outreach. macroeconomic stability. This pillar set the §Credit Union Models: Explore potential for agenda for macroeconomic management, setting up of credit unions (CUs) in Pakistan building supportive infrastructure, that are not-for-profit cooperative finance developing a rural development strategy institutions, owned and controlled by its and supporting housing finance.members catering to the requirements of

Equity – will make up 15 percent of the

14

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ii. Improving governance and consolidating strategy paper, there are several pillars built

devolution, both as a means of delivering into the framework including i) acceleration of

better development results and ensuring growth and macroeconomic stability, ii)

social and economic justice. This pillar crafting a competitive edge in global markets,

summarized the way forward for reforms iii) harnessing the potential of the people, iv)

in core government services such as the financial sector deepening, v) developing world

police and civil service, increasing access to class infrastructure, vi) effective governance

justice, devolution of power to local and management, and vii) targeting the poor

governments, freedom of information and and vulnerable. Once again, microfinance

media etc. figures prominently in the government's iii. Investing in human capital with a renewed poverty reduction strategy.

emphasis on effective delivery of basic

social services: This pillar put forth the 2.3.3 Regulatory & Supervisory framework for development of education, Frameworkspecial education, health, provision of

drinking water and sanitation facilities, and The financial sector is largely regulated by the population welfare. central bank i.e. SBP and the Securities and

iv. Bringing the poor and vulnerable and Exchange Commission of Pakistan (SECP). backward regions into mainstream Although all banks are required to register with development, and to make marked the SECP, the sector is regulated and supervised progress in reducing existing inequalities: by SBP. NBFIs including Development Finance This pillar focused on targeted Institutions (DFIs), leasing companies and interventions for the poor and vulnerable housing finance companies fall under the including specific programmes (such as the supervision of SECP, as do the country's capital Khushhal Pakistan Program), social safety markets. nets and provision of microfinance

facilities. With respect to the microfinance sector, MFBs

are licensed, supervised and regulated by SBP The GoP sees microfinance as a viable tool for under the Microfinance Institutions Ordinance poverty reduction and thus supported the 2001, whereas non-bank MFPs, which are creation of the Microfinance Sector mostly registered under the Companies Development Program with the assistance of Ordinance 1984 as non-profit companies, or the ADB (see Box 4 for more on the MSDP). under legislation for societies or cooperatives,

fall under the domain of SECP. Given the changing economic environment and

global context, the government is currently The Microfinance Institutions Ordinance 2001 working on PRSP-II. A summary draft of the largely provides the regulatory framework for paper has been recently shared with the microfinance sector in . The stakeholders for feedback. Like the previous Ordinance defines the scope of business for a

17 Pakistan

15

Box 4: Microfinance Sector Development Programme

As part of its poverty alleviation strategy, the Government of Pakistan in collaboration with Asian

Development Bank (ADB), launched its Microfinance Sector Development Program (MSDP) in

2000. The objective of the programme was development of the microfinance sector in order to

provide sustainable and affordable financial services to the low-income groups through formal

financial institutions. Two loans were approved by ADB under the program: a policy loan of US$

70 million to support the reform program and an investment loan of US$ 80 million to provide

microfinance services and institutional strengthening. The first initiative under the program was

the establishment of KB in August 2000. Other initiatives included the setting up of endowment

funds with the SBP such as the Microfinance Social Development Fund for providing credit, the

Community Investment Fund (CIF) to provide credit for small infrastructure projects, the Risk

Mitigation Fund (RMF) to protect borrowers against natural calamities and the Depositors'

Protection Fund (DPF) to protect borrowers in case of liquidation of KB.

Source: ADB. Finance for the Poor. Vol 2. No. 4. December 2001 http://microfinancegateway.com/files/3308_file_03308.pdf

17 The full text of the Ordinance can be viewed on SBP's website http://www.sbp.org.pk/l_frame/index2.asp

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16

18 Khushhali Bank was originally established under the Micro Finance Bank Ordinance 2000 but was recently converted into a public limited company and brought under the MFI

Ordinance 2001. This had been one of the proposals made under the national MF strategy 2007 to provide a level playing field.

microfinance institution, the paid-up capital

and liquidity requirements, licensing policies for

such institutions, the basic structure of its

management and administration, and SBP's

powers for supervision purposes, etc. A number

of amendments have been made to the

Ordinance since 2001 in consultation with the

sector stakeholders to make the framework

more conducive and rational.

The enactment of the MFI Ordinance has had

positive effects on the microfinance sector in

the country. It has helped re-define

microfinance as a core financial sector activity

with not only social implications but also

commercial opportunities. To date, six

have been established in the private sector

under this Ordinance with their collective

outreach accounting for approximately 32

percent of the sector's active borrowers in

December 2007.

Since the promulgation of the MFI Ordinance, a

number of supportive regulations have also

been issued by the central bank including:

1. Prudential Regulations for Micro Finance

Banks (2003)2. Guidelines for Mobile Banking Operations

(2003)3. Guidelines for NGOs Transformation (2005)4. Fit and Proper Criterion for CEOs/member

of Boards of MFBs (2005)5. Prudential Regulations for Commercial

Banks to undertake Micro Finance Business

(2006)6. Guidelines for Commercial Banks to

undertake Micro Finance Business (2006)7. Branchless Banking Regulations (2008)

The non-bank MFPs largely remain unregulated

and for this reason are prohibited from

providing a full range of financial services. The

central bank has encouraged these institutions

to transform into MFBs if they wish to offer

services such as savings to their clients and

other market segments. Currently, two of the

largest MFPs are in the process of setting up

their microfinance banks.

18MFBs

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17

Microfinance Sector in Pakistan

This section takes an in-depth look at the Poverty Alleviation Programme (UPAP) were

microfinance sector in Pakistan, starting from a some of the highlights of the year. Another

historical perspective. The sector's landscape at milestone for the sector was the establishment

the micro/retail and meso level is also discussed of a national association for microfinance

in terms of the various players, their roles and providers in Pakistan in 1998, called the

the important trends. A discussion on the Microfinance Group-Pakistan, which later

documented impact and the various evolved into a formal organization in 2001 in

opportunities and challenges that lie ahead for the form of the PMN. The establishment of

microfinance in Pakistan are also discussed. PMN spurred a focus on transparency,

performance reporting, capacity building and

tracking progress in the microfinance sector.

At the government level, concerted efforts for The presence of microfinance in Pakistan dates the promotion of the sector began in the year back to the 1960s when initiatives such as Dr. 2000 when an apex funding body, the Pakistan Akhtar Hameed Khan's Comilla Project Poverty Alleviation Fund (PPAF), started experimented with microcredit. Although there extending funds to partner organizations for were a number of initiatives during the microfinance, and the SBP set up a separate following decades including the Orangi Pilot microfinance division (which evolved into a full Project in Karachi, the Aga Khan Rural Support fledged microfinance department in 2007). Programme (AKRSP) rural credit and savings Legislation for setting up MFBs soon followed projects in the country's Northern Areas and in 2001 in the form of the Microfinance Chitral, and the Agricultural Development Bank Institutions Ordinance 2001, considered to be of Pakistan (now ZTBL) set up by the another turning point for the sector. This government to lend to poor farmers, it was not heralded the beginning of the 'commercial' era until the late 1990s that the sector gained for microfinance when microfinance was not momentum. viewed as just a 'social' service but rather a

The year 1996 is viewed as a turning point in sustainable financial enterprise as well.

the history of the microfinance sector of Although an MFB, Khushhali Bank, had already

Pakistan. This was the year that, for the first been established in 2000 by the government

time, microfinance was recognized as a under a separate ordinance, the first private

specialized activity and not just a part of multi- sector MFB, the First MicroFinanceBank Ltd.,

dimensional poverty alleviation programmes. was established in 2002 through the

Establishment of the first specialized transformation of AKRSP's microfinance

microfinance NGO (Kashf Foundation), the operations. To date, six MFBs have been

spin-off of AKRSP's microfinance operations established in Pakistan (with two more

into a separate unit to track financial expected as NRSP and Kashf are in the process

performance, and the establishment of the first of setting up their affiliated banks), and several

urban microfinance programme the Urban specialized microfinance NGOs are operating in

3.1 History

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the country (see Figure 3 for a timeline of government support (such as the tax

origin of microfinance providers in Pakistan). exemption given to MFBs for five years, starting

from 2007) have been crucial in catalyzing the Thus, despite having a historical presence that growth of the sector in Pakistan. dates back to the 1960s, Pakistan's

microfinance sector did not have a significant

presence until recently. Previously, the sector

was characterized by small players that relied The evolution of microfinance in Pakistan has on donor and government funding; pricing that led to different 'types' of organizations passed on subsidies to the clients and resulted providing microfinance services across the in unsustainability of institutions, and was country (see Figure 4 below for their respective entirely socially driven. The creation of a share in the sector). They can largely be network of institutions engaged in separated into institutions that are regulated

microfinance in Pakistan, PMN, proved and those that are unregulated. MFBs would undeniably useful in promoting international fall in the former whereas NGOs and RSPs, etc. best practices and policies, emphasizing the would fall in the latter category. As discussed importance of transparency and moving above, all microfinance providers are required microfinance towards sustainability. In addition to be registered either with the SECP, SBP or to this, macro-level initiatives like separate their respective provincial authority. However, legislation and regulatory framework for the the only significant regulatory oversight in the sector, development of a national level sector is provided by the SBP. microfinance strategy and other forms of

3.2 The Retail Level Players

18

CFIs: 18,290

MFBs: 489,499

MFIs: 386,351RSPs: 621,054

NGOs: 75,932

Figure 4: Active Borrowers by Peer Group (March 2008)

Source: Pakistan Microfinance Network

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Figure 3: Origin of Microfinance Providers in Pakistan

SAFWCO

OPP

SRSP

NRSP

DAMEN

SUNGI

TF

1990 2000 1995 2005

Kashf

PRSP

TRDP

KB

Asasah

Rozgar MFB

Akhuwat

Network MFB

MULTI -DIMENSIONAL SPECIALIZED

FMFB

Tameer MFB

19

Although the range of financial services that an minimum paid-up capital required to set

institution can offer is dependent on its legal up such a bank is Rs. 250 million.d. A national level MFB, licensed to operate status, most MFPs are currently providing

anywhere in the country. The minimum similar products and targeting similar markets. paid-up capital required to set up such a As in most countries, the sector is dominated bank is Rs. 500 million.by a few players in terms of market share and

growth, and these big players belong to various Other than the difference in capital peer groups/types of MFPs. These peer groups requirement, all types of banks face the same are discussed below. prudential regulations and can offer the same

range of services to their clients. To date, six 3.2.1 Microfinance BanksMFBs - four national level and two district level

(in Karachi district) - are operating in the Microfinance banks are relatively new players in country. The largest, in terms of market share the microfinance market in Pakistan, but have and geographic network, being KB (see Table 5 gained importance relatively quickly. All MFBs for key statistics of MFBs). are established under the Microfinance

Institutions Ordinance 2001 and are regulated Although banks can offer their clients services by the central bank. The Ordinance allows for other than credit, these products remain under setting up of four types of MFBs: developed, and with the exception of one or

two institutions, not a lot of focus is placed on a. A district level MFB, licensed to operate developing deposit or insurance services. Most only within the prescribed district. The of the banks are currently using the same minimum paid-up capital requirement to group-based lending methodology as non-bank set up such a bank is Rs. 100 million.

b. A regional level MFB, licensed to operate MFPs, except for Tameer MFB, which deals with

within five adjacent districts within the individual clients and offers larger loans

same province. The minimum paid-up compared to the market average. However,

capital requirement to set up such a bank MFBs such as First MicroFinanceBank Ltd. are

also diversifying into individual loans. is Rs. 150 .c. A provincial level MFB, licensed to operate

only within the prescribed province. The

19million

19 There was no provision to set up a regional level MFB in the original MFI Ordinance 2001. This regulatory change was introduced through the Finance Bill 2006, Section 18,

Amendment 4 Clause (aa) and Amendment 5, Clause (a). For a look at other changes in the MFI Ordinance 2001, please refer to Ahmed and Shah (2007).

KB FMFB TMFB P-O MFB NMFB RMFB

Type of license National National National National District

(Karachi) District

(Karachi)

Year Founded 2000 2002 2005 2006 2004 2005

Outreach Indicators (December 2007)

Active Borrowers 330,952 102,604 26,029 15,008 2,305 2,316

Active Savers 0 81,158 44,560 15,762 2,891 4,565

Gross Loan Portfolio (Rs. Million)

2,911 1,234 427 97 60 34

Value of Savings (Rs. Million)

0 2,048 649 23 90 32

Financial Performance Indicators (December 2007)

Operational Self Sufficiency (%)

80.1 89.7 47.3 60.4 46.0 49.0

Advances to Deposit ratio (%)

- 79.2 63.1 403.2 55.0 103.9

Portfolio at Risk - at 90 days (%)

0.7 0.8 4.6 5.9 8.2 13.9

Return on Assets (%)

-9.3 -4.3 -21.4 -15.2 -17.4 -21.4

Yield on GLP - nominal (%)

21.7 27.4 28.8 24.2 28.4 27.0


Table 5: Key Statistics for MFBs in Pakistan

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(RSPs) are multi-dimensional organizations, 3.2.2 Microfinance Institutionswhich provide microfinance services along with

Microfinance Institutions (MFIs) are non-bank other interventions such as education, health or

microfinance providers that specialize in infrastructure development to the poor.

provision of microfinance services. Currently, Institutions such as Development Action for five MFIs are operating in Pakistan and Mobilization and Emancipation (DAMEN), collectively, they reach 386,000 active Sungi Development Foundation and Centre for borrowers. These organizations are registered Women Cooperative Development (CWCD) fall with the SECP under the Companies Ordinance in the NGO category. This peer group 1984 as non-profit associations or under the collectively accounts for a small percentage of Societies Registration Act 1860, or as trusts the microfinance outreach with a five percent under the Trusts Act 1882, which fall under share of active borrowers in December 2007. provincial governments' jurisdiction. Given their Their services, usually limited to one or two non-bank status, they cannot 'intermediate' basic products, include credit and some basic deposits, although some do 'mobilize' savings insurance. International NGOs have also from their clients. Table 6 provides a snapshot entered the sector, with Bangladesh Rural of MFIs in terms of their outreach and financial Advancement Committee (BRAC) beginning performance. operations in 2007, and ASA expected to start

this year.Currently, five major MFIs are operating in the

country. With the exception of one (SAFWCO), Rural Support Programmes originated in all others originated in Punjab and most of Pakistan during the 1980s when the first RSP - their operations are concentrated in this the AKRSP - was established in the Northern province. The flagship service of these Areas of Pakistan. In subsequent years, the RSP institutions is microcredit but some basic model based on community-organization and insurance services (mostly credit-life) are also mobilization was replicated across the country, provided to the credit clients. Group lending and currently there are over 10 RSPs operating remains the dominant lending methodology across Pakistan. These programmes are but some of the MFIs, such as Kashf and registered similar to microfinance institutions Asasah who are diversifying into larger loan and NGOs. The RSP mandate is primarily to sizes, are beginning to deal with individual work in rural areas and their services include clients as well.

not only microfinance but also infrastructure 3.2.3 NGOs and RSPsdevelopment, education and health. With

respect to microfinance, they are the largest Both NGOs and Rural Support Programme

20


Table 6: Key Statistics for MFIs in Pakistan

Asasah Kashf SAFWCO Akhuwat OPP

Year Founded 2003 1996 1986 2001 1987


Active Borrowers 24,692 295,275 16,742 10,194 22,129

Active Savers 24,692 - - - -


192 3,046 103 58 153


4 - - -

Financial Performance Indicators (2007)

Operational Self Sufficiency (%)

64.7 164.0 90.4 64.8 224.7

Advances to Deposit ratio (%)

-12.8 9.3 -7.0 -11.9 12.6

Portfolio at Risk - at 90 days (%)

0.0 0.1 3.6 0.4 0.3

Return on Assets (%) 37.0 36.2 15.7 11.1 19.7

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Microfinance Institutions, released by the Asian peer group, accounting for 36 percent of active

Development Bank in April 2008, ranks borrowers in December 2007. However, this

individual MFPs across Asia along nine large share can mostly be attributed to the

performance parameters including outreach National Rural Support Programme (NRSP),

(borrowers and depositors), scale, market which accounts for 80 percent of this peer

penetration, growth, profitability, efficiency, group's outreach. Again, due to their

productivity and portfolio quality. Of the 392 multidimensional nature, the microfinance

institutions included in the analysis, the only services offered by most RSPs are limited to one

microfinance provider who managed to be or two basic credit products. RSPs also mobilize

ranked in eight of the nine categories was from savings from their members but these are

Pakistan – Kashf. Institutions that figured deposited in commercial banks in the name of

amongst the top 20 within different categories the community organizations. Health, along

included Khushhali Bank in terms of outreach, with life (or more precisely credit-life)

FMFB in terms of growth, and Thardeep Rural insurance, has also been recently introduced for

Development Programme (TRDP) and Orangi members.

Pilot Project (OPP) in terms of . See Table 7 for some headline statistics for

these two types of MFPs.

3.2.4 Commercial Financial

Institutions The meso level players have an important role

within the financial sector. They make up the To date, there has been limited interest of financial sector infrastructure, providing commercial financial institutions in the support services such as technical assistance, microfinance sector, especially as far as direct training and access to information. Within the provision of these services is concerned. At the microfinance sector in Pakistan, a number of moment, only two CFIs, namely Bank of Khyber organizations make up the meso level. (BOK) and Orix Leasing Pakistan Ltd. are

involved in this business and their share in 3.3.1 Networks and Associationsoutreach is only a small one percent.

Pakistan Microfinance Network (PMN) is the

3.2.5 MFPs in Pakistan compared only national level network for microfinance

practitioners in the country. It emerged after across Asiathe first Microcredit Summit held in 1997 as an

informal effort by some practitioners, and was The 2007 MIX Asia 100 Ranking of

20productivity

3.3 Meso-level Organizations

21


Table 7: Key Statistics for some NGOs and RSPs in Pakistan

NRSP PRSP DAMEN CSC

Year Founded 1991 1998 1992 1989


Active Borrowers 407,641 69,361 32,627 15,525

Active Savers 760,425 333,714 - -


4,711 552 250 114


969 82 - -

Financial Performance Indicators (2007)

Operational Self Sufficiency (%) 101.2 65.8 108.7 85.1

Advances to Deposit ratio (%) -1.8 -12.0 0.6 -8.3

Portfolio at Risk - at 90 days (%) 0.5 19.1 1.7 1.0

Return on Assets (%) 21.7 13.6 34.8 12.1

20 To see the complete rankings, please refer to the ADB's 2007 MIX Asia 100 Ranking of Microfinance Institutions

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formally registered with the SECP as a non- how gap through the services of international

profit company in 2001. Its membership microfinance consultancy organizations (like

currently includes 20 organizations from the Women's World Banking, ACCION, Mennonite

various MFP peer groups who collectively Economic Development Associates and

account for over 95 percent of the sector. The Development Innovations Group), these

network's vision and mission revolve around organizations lack a local presence. ShoreBank

expanding access of formal financial services International (SBI) is currently the primary

and supporting retail institutions in achieving microfinance advisory and capacity building

this objective through its services including service provider with a long-term local

research, capacity building, promotion of best presence, offering a combination of

practices and transparency, networking with international expertise and an understanding of

policymakers and stakeholders, and knowledge the local context through a team of

management. Its efforts towards promoting international and country-based consultants.

transparency and creating an enabling Usually, SBI provides technical assistance to

environment for microfinance in Pakistan have individual institutions but it has also

been widely recognized. undertaken sector-wide initiatives. For example,

in 2007, SBI launched a Human Resource A few provincial level networks are also Development Initiative with the objective of operating in the country but except for the improving the quality of human resources Sindh Microfinance Network that was available to the microfinance sector in Pakistan. established through the efforts of the local The initiative targets the middle management NGOs, others have failed to move forward. through generic, sector-wide trainings;

customized training delivery to individual MFPs; Microfinance banks are also members of the and development/advice on institutional human Pakistan Bankers' Association (PBA), which was resource strategy and policies.established in 1953 to coordinate the efforts of

the banking industry in Pakistan. 3.3.3

3.3.2 Technical Assistance and The JCR-VIS Credit Rating Company is one of

two local providing ratings for

financial institutions in Pakistan. It is also the Training needs of MFPs vary for each level of only company that provides ratings for MFBs management. It is widely accepted that most and MFIs. MFBs are required to be rated organizations prefer to set up in-house training annually as per SBP's requirements, but some facilities that can provide customized trainings MFIs have also had themselves rated in order to to their field staff tailored to their own product ascertain 'where they stand,' or as part of their features, procedures and policies. The middle strategies to access commercial funding in the and senior management, on the other hand, future. require more generic tools and these can be

provided through sector-wide training 3.3.4 Credit Bureausprograms.

Currently, there is no credit bureau in Pakistan One of the major roles for PMN in its initial that covers the entire microfinance sector. The years was to provide training services to the largest credit bureau is the CIB, housed in and microfinance sector. However, its major run by the central bank, and all banks are functions have evolved away from training over required to submit information on all recent years, and its strategy is to promote the outstanding loans to the CIB. Microfinance private sector to step in and fill this gap. banks are also required to report to the CIB. In Currently, PMN provides only two trainings per addition to SBP's CIB, a few private sector credit year, mostly aimed at middle management and bureaus also exist but they mainly serve the open for both members and non-members. banking sector. Along with this, it offers a number of

international training courses to the senior However, efforts are underway to establish a

management of its members. credit bureau for the microfinance sector. Due

to the strong interest of its members, PMN has Although Pakistan's microfinance sector has begun working on setting up a pilot credit bridged the experience and technical know- bureau in Lahore, covering all MFPs working in

22Rating Services

21 23companiesTraining

2221

Parts of this section come from PMN's publication “Country-Level Savings Assessment – Pakistan”, April 200822

This section comes from PMN's publication “Country-Level Savings Assessment – Pakistan”, April 2008.23 The other company is the Pakistan Credit Rating Agency Limited (PACRA). Foreign banks are rated by international rating agencies such as Moody's and Standard & Poor's.

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the district. Initially, this will house negative take the lead and the sector moves along a fast

information only and is mostly intended to be a growth trajectory, these sources will prove

test run for a full fledged, country-wide CIB for insufficient.

the sector. In addition to the PMN, the ADB has PMN projections show that by 2010, the sector also undertaken a feasibility study for the will experience a seven-fold increase in gross establishment of a CIB for the sector and their outstanding loans and a six-fold increase in its report is expected soon. asset base. In 2007, assets available in the

sector stood at roughly Rs. 30 billion (23 billion

already on the balance sheets of MFIs/MFBs,

and another additional Rs. 7 billion of available The changing landscape of the microfinance

funds with PPAF), which implies that there will sector in Pakistan also translates into changes

be an incremental additional requirement of Rs. in the sources of funds for the sector. Given

40 billion by 2010. The expansion is projected that NGOs have dominated the sector in the

to proceed as per Figure 5 below, which breaks past, donor money and apex lending (see Box 5

funding sources into four broad categories. for an overview of the apex funding body in

Pakistan) have played an important role in

funding the microcredit market. However, as

more commercially oriented players begin to

243.4 Funding

This raises some important issues related to

factors driving capital structures:

23

Box 5: Pakistan Poverty Alleviation Fund (PPAF)

Currently, the only significant wholesale funding agency for microfinance is the PPAF, which was

established in 2000 as a not-for-profit private company sponsored by the GoP and funded by the

GoP and the World Bank. It was inspired by the success of Palli Karma-Sahayak Foundation (PKSF)

in Bangladesh, which has a more narrow focus on microfinance. The PPAF was established to help

the poor by enabling them to gain access to resources for their productive self-employment, to

encourage them to undertake activities of income generation and poverty alleviation, and for

enhancing their quality of life. As an Apex fund, PPAF disburses soft loans to a myriad of

microfinance institutions in Pakistan. It cannot provide loans to MFBs since PPAF requires

MFI/MFBs to give a charge on their loan book, and as per the prudential regulations for MFBs,

they cannot give such a charge unless approved by the central bank. It also provides grants on a

cost-sharing basis for development of small-scale community infrastructure, and strengthens

development and MFIs by supporting their capacity building activities. The resource base of PPAF

consists of an endowment from the GoP of Rs. 500 million and a World Bank credit of US$ 180

million.

Source: Oxford Policy Management (2006) 'Poverty & Social Impact Assessment: Pakistan Microfinance Policy'. Pp 37.

24 This section draws heavily upon PMN's concept note on Microfinance Industry Funding Facility 2007.

Figure 5: Projected Capital Structure of Microfinance Consolidated MFI/MFB Assets

0 1 1 3 6 915

1 1 33

58

10

3 5 610

17

25

34

34

5

5

7

8

10

0

10

20

30

40

50

60

70

80

2004 2005 2006 2007 2008 2009 2010

PK

R b

illio

ns

Savings PPAF Debt Debt Equity


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§ §The need for more equity capital will

volumes are likely to lag: become more pressing by 2009-10

onwards in the projections.Most MFBs prioritize savings as a more stable,

The likely expansion scenario shows early low cost source of funds but savings deposits

reliance on debt but later, the leverage will will take some time to accumulate, even with

begin to push against available equity and the major investments in market research and

priority will shift to equity capital, particularly product development. MFBs are still relatively

to meet capital requirements in the later years new to their markets (on the whole). Clients

of these projections. The capital adequacy are becoming more aware gradually and the

requirement for MFBs is 15 percent, and internal systems for savings product delivery

projections show that this will be a constraint are being refined. Therefore, the near term

as early as 2009. Similarly, for NGO MFIs, the pressure will be on alternative forms of

capital constraint is much higher since they are funding.

considered as manufacturing concerns by the

banks and not as financial institutions, and §Debt will be the major initial source for

hence cannot leverage their balance sheet more growth funding:

than four times. There will be the need for By 2007, the overall industry remained under- more equity capital by this point, which could leveraged against its equity base, with just partly be met by retained earnings (if under one quarter of assets financed by equity. MFIs/MFBs sustantially improve their financial There is room to grow by leveraging liabilities performance over this time period), and would in the near term. The deployment of additional be further enhanced through share capital or available funds of PPAF would be an important possibly mezzanine financing (such as contribution to the growth projections but subordinated debt), and may be through even this would not be sufficient. Additional unrestricted funds from donors or social debt would need to be raised from a investors/foundations. combination of sources:

Different options and efforts are being

considered, both at the public and private level, §Commercial Bank Loans

to meet these funding needs of the industry. §Debt from Capital MarketThese include:§Funds from specialized microfinance

investment vehicles (MIVs)úProgram for Increasing Sustainable

Microfinance (PRISM): This is a five-year Figure 6 projects the breakdown of new debt program managed by the PPAF and sources by 2010, though this scenario is subject financed through a long-term to certain contextual factors, particularly with concessionary loan to the GoP of respect to pledging of assets by microfinance approximately US$ 35 million from IFAD, banks and the restrictions on borrowing in and supplemented by US$ 11.6 million foreign currency. These various sources of from local sources (commercial financial additional debt financing are easy substitutes institutions, PPAF and PPAF partner for one another and therefore, the important organizations). The program will have five figure is the total projected debt funding components: credit enhancement, equity requirement of Rs. 34 billion.fund, technical assistance, knowledge

Savings are a priority for most MFBs, but

24 Commercial Bank Loans Other Concessional Funding Capital Markets MIVs


21.14.74

6.2

2.04

Figure 6: Composition of Debt in 2010 (PKR billions)

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management and policy dialogue, and the program? Or, alternatively, how would non-

program management, and will largely participants have fared in the presence of a

focus on Tier II institutions in the sector. program?” Nevertheless, given the amount of

PRISM was launched in early July 2008. funding flowing into the sector and the

government's focus on microfinance, it is

important to look at evidence of its impact. úSetting up a Funding Window at SBP:

This impact has often been looked at in terms The central bank has set up a task force to

of poverty alleviation alone, whereas impact look at possible options to meet the short

can also be seen in the context of access to term liquidity requirements of the sector

financial services, decreasing vulnerabilities (both MFBs and MFIs). Based on the

and/or empowerment of the marginalized. In recommendations, some initiative is

this section, we summarize the findings of a expected to be launched during this year.

few major impact assessments that have been SBP is also looking at options for setting up

a refinancing window that can provide conducted within the sector in .

commercial finance through risk

§Poverty & Social Impact Assessment: participation, and can also help in lowering

Pakistan Microfinance Policy, May 2006 the cost of borrowing for the MFI/MFBs.

This assessment, carried out by Oxford Policy úFund Structure with Credit Enhancement Management for DFID in 2006, aimed at through Subordination: This is a more understanding how access to microfinance long term option being explored by PMN services has changed, and how financial and KfW, which would ideally synergize services may have impacted the poor and other with SBP. It would be similar to the KfW-socioeconomic groups (e.g. the rural sponsored European Fund for Southeast population, . To achieve this objective, Europe (EFSE), using differently priced risk the paper employed a two-pronged analysis:tranches for credit enhancement, and

would include an equity tier to absorb first i. Analysis of the national datasets (Pakistan losses.

Integrated Household Survey and Pakistan

Socio-Economic Survey) undertaken prior PMN's Capital Markets Initiative: to the reforms in microfinance policy to Realizing the importance of long term get a baseline scenario and changes over financing for growth capital, PMN is time.following a three-pronged strategy: a)

ii. Small mixed-methods method survey of Hiring a Manager who can run its Capital approximately 100 households to get Markets Initiative with an aim of insights into changes in access and their developing a road map for PMN's role, b) impact.Being actively involved with KfW in setting

up an apex fund (as discussed above) The first component of analysis showed that

through an effort that synergizes with the the poor had very limited access to formal and

SBP initiative, and c) Continuing to raise semi-formal financial services in 2000, and that

this issue and be directly involved in most of the loans were directed towards

discussions with the relevant stakeholders consumption. Large loans were generally

to develop policy instruments and improve provided by formal and semi-formal credit

the regulatory framework that helps in providers. In terms of impact on the poor,

providing commercial finance to the evidence suggested that availability of credit

industry.had significantly cushioned the poverty impact

of the drought in the NWFP and Punjab.

The second component, although limited in its Determining the impact of microfinance is a

scope and methodology, produced some difficult and challenging task. As Heather

interesting results. MFP loans emerged as the Montgomery explains in her 2005 impact

only source of funding available for investment assessment of KB: “a perfect impact evaluation

purposes, although there was some evidence of really needs to answer a counterfactual

loan misuse. The study concludes that given the question: how does the status of participants in

level of reported profits from MFP financed the program compare with how those same

businesses, the impact on income was positive individuals would have fared in the absence of

and substantial. Another finding was that MFPs

3.5 Impact

25Pakistan

26women)

2525

For references to other studies, please see the reading list in the annexure.26 The other objectives of the study included looking at the evolution of microfinance services and financial sustainability of the sector, as well as discussing the issues that need to

be addressed through policy developments in the future. Since this section relates to impact, our discussion on the report does not cover these aspects of the study.

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tend to target the relatively better off in a Based on these conclusions, the authors

community due to their lower risk of default recommended that institutions should develop

and thus, were not reaching the poorest. longer term relationships with clients and raise

However, benefit to the extreme poor could the loan sizes sooner. MFPs also need to clarify

trickle through the informal support their definition of poverty if they claim to be

mechanisms –the relatively better off are often targeting the poor. Given that not much impact

seen lending to the needy in times of on health and education was observed, these

emergency and thus, an increase in their require specific interventions and microfinance

incomes would indirectly benefit the relatively alone cannot create the change.

worse off. Another issue highlighted is that

there is immense potential for improvement: §Assessments by MFPs: Khushhali Bank

many clients of MFPs expressed the need for and Kashf Foundation

savings schemes and other financial products. Although a number of institutions have carried

out impact assessments for their programs, it is §not feasible to discuss all (some are referred to Microfinance Programs, April 2007in the reading list in the annexure). Two

This study was commissioned by the European studies, the first of KB and the second of Kashf

Union-Pakistan Financial Services Sector Reform Foundation, are discussed here.

Program and undertaken by an independent Khushhali Bank: This assessment was carried consultant. The objective of the study was an out by the ADB in 2005 to empirically evaluate assessment of the social impact of microfinance whether KB was meetings its dual objectives: programs (group and individual lending) of financial and social. The study, using Microfinance Institutions/NGOs/Microfinance prospective clients who had not yet accessed Banks on borrowers, communities and on the loans as the control group, drew conclusions institutions themselves, and whether these related to the impact of the overall program of MFIs are achieving their social missions. Six the bank, as well as the impact of the different MFPs were selected for the study on the basis lending methodologies i.e. lending in urban of work experience, number of borrowers, areas, to women, and to groups formed by ownership pattern, funding sources, partner NGOs. It was found that access to and methodology and area of operation, etc. to participation in KB’s microcredit program has ensure that a diverse range of institutions were positive impacts on both economic and social covered. The study was designed to establish a indicators of welfare, as well as employment connection between change and participation and income generating activities. in a microfinance program, and employed the

difference-in-difference approach. The use of Kashf Foundation: This assessment in 2005 Mixed Methodology allowed the researchers to compared mature Kashf clients (who had been capture not only quantitative data but also with the program for more than three years) to qualitative findings based on focus group new clients (who were in their first loan cycle) discussions. through using focus groups as well as personal

surveys. Conclusions were drawn on various Major conclusions of the paper were:aspects of the MFI’s operations: i) targeting

effectiveness - it was found that 90 percent of i. The social and economic impact on the

clients lived on less than $1 a day, ii) poverty lives of those who take credit, for the most

alleviation - it was found that income of part, is limited. Although improvements

mature clients was 51 percent higher than that were observed, they were not significant.ii. Both the timing (duration and frequency) of new clients on average, and iii)

and size of loan affect impact – a longer empowerment - over 75 percent of clients in relationship with microfinance and/or both groups were involved in household higher amounts of credit have greater decisions and had some control on the impact. household income.

iii. Very few – only 23 percent – of the urban

borrowers were below the poverty line

(using the Pakistan Official Poverty Line of

Rs.1000 per capita), whereas 50 percent of Collectively, Pakistan's microfinance sector has

non-agricultural and 61 percent of shown impressive growth over the past two

agricultural borrowers were below the years. Supported by a favorable policy

poverty line. environment, practitioners have focused on iv. There was no significant positive impact on expanding outreach and have begun

the aspects of women's empowerment. experimentation with new products and

Social Impact Assessment of

3.6 Challenges & Opportunities

26

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services such as savings and insurance. microfinance banks that have the regulatory

However, several challenges still remain: cover to offer services other than credit to their

clients. Efforts on the savings and insurance Funding Gap: All estimates suggest that one of side have been limited to the MFPs' credit the factors that may stall the growth clients and need to be extended beyond this momentum this sector has achieved over the market. Most service providers offer similar last few years could be non-availability of debt products (in terms of loan size and terms of the fund now and equity investment by the middle loan), although some have experimented with of 2009. It is estimated that in order to achieve different market segments through individual the 3 million target as set out by the industry loans (e.g. Kashf and Tameer MFB). It is under the leadership of the SBP an incremental anticipated that going forward, microfinance US$600-700M is required in debt, deposit and banks will focus on enterprise lending and equity to achieve the set target. This also clearly smaller NGOs will find a niche with the indicates the fact that though we do need a relatively poorer groups.credit enhancement facility in the short to

medium term the real strength of the sector Human Resources: The sector's expansion and

will rest on the fact that we need MFBs to start an increase in competition have brought forth

mobilizing deposits as that will lead to both the challenge of training and retaining the

availability of a permanent and stable source of human resource base. As institutions diversify

financing which is also cost effective given the into different markets and services, the need

current volatile interest rate market for staff trained in these business lines will

increase. According to SBP and PMN estimates, Need for Strong Retail Institutions: A look at nearly 20,000 personnel (84 percent at field the micro level shows significant gaps within level, 15 percent at middle management and the microfinance service providers in terms of one percent as senior management) will be internal systems and controls, institutional employed by the sector by 2010. In addition to capacity, financial sustainability and risk this, qualified trainers and technical assistance management. Amongst market leaders, most providers will also be required to meet this remain unsustainable (see Figure 7). If growth demand. is driven by financially weak institutions, it may

become unsustainable in the long run. Other Regulatory Challenges: Although the

issues that arise from weak institutions include regulatory framework for microfinance in

limited ability to tap into commercial sources Pakistan is regarded as highly favorable, some

for funds, staff retention and even the ability to challenges and issues remain. These include:

attract deposits, especially from institutional

úCaps on loan size.depositors.

úScheduled bank status for MFBs. Product Diversification & Market úMFIs treated as manufacturing concern by Segmentation: The sector remains heavily

CBs, limiting their ability to leverage debt focused on credit despite the entry of

27

0

100

200

300

400

500

600

NRSP KB KASHF FMFB PRSP

Act

ive B

orr

ow

ers

('0

00

)

0

20

40

60

80

100

120

140

160

180

OSS (

%)

Outreach Sustainability


Figure 7: Top 5 MFPs in terms of Outreach and their Sustainability

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Social Transparency: There is an increasing up to four times vs six time leverage if

recognition at an international level that treated as a financial concern.

microfinance practitioners need to start úBar on accessing foreign funds.thinking about transparency in terms of the úMFBs cannot access commercial debt by 'double bottom line' – not only report on their pledging their assets or loan book without financial performance but also their social prior permission of the central bank. On performance. In this context, PMN has begun the other hand, commercial banks cannot focusing on social transparency and plans to do clean lending beyond Rs. 2 million. This actively work with its members to has resulted in a regulatory paradox that institutionalize reporting of social indicators, as reduces the ability of MFBs to raise debt.they currently do on financial indicators. This

again would be an opportunity for MFPs to not Notwithstanding these challenges, there are a

only review their management and internal number of opportunities that can positively

systems to better achieve their social mission affect the sector's growth and performance in

but also to attract social investors and social the future.

funds.Scale and Sustainability: The size of Pakistan's

population and number of poor imply that

there is a large potential market for

microfinance in Pakistan. According to PMN

estimates, this is close to 27 million

. This can allow retail organizations

to achieve scale and sustainability. Naturally,

some areas and regions will be penetrated first

(low-hanging fruit principle), and it can be

anticipated that competition would increase

here. Some evidence of this has already been

seen in districts like Lahore. Such an

environment has its own challenges but the

sector can covert these challenges into

opportunities to behave responsibly and adhere

to standards of consumer protection to

maintain healthy competition.

Using Technology: There are currently an

estimated 80 million mobile telephone

subscribers in Pakistan. The fact that use of

mobile phones and branchless banking in

expanding microfinance outreach is being

tested internationally, coupled with the

regulators' interest in this area, can be a great

opportunity for the microfinance sector in the

country.

27individuals

28

27 PMN's quarterly publication 'MicroWATCH' provides estimates of potential microfinance clients at the district level.

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References

Ahmed, S. Mohsin and Mehr Shah. 2007. Amendments to the Microfinance Institutions Ordinance,

2001: Implications for the Sector. Essays on Regulation and Supervision. CGAP.

http://microfinancegateway.com/content/article/detail/44639

Akhtar, Shamshad. 2007. Expanding Microfinance Outreach in Pakistan: Presentation to Prime

Minister. State Bank of Pakistan.

http://www.sbp.org.pk/about/speech/governors/dr.shamshad/2007/MF-PM-17-Apr-07.pdf

Asian Development Bank. 2008. 2007 MIX Asia Ranking 100 Microfinance Institutions.

Asian Development Bank. 2007. List of On-going Microfinance Loans, Equity Investments and

Grants. http://www.adb.org/Documents/Microfinance/Ongoing-Microfinance-Projects.pdf

Asian Development Bank. 2007. Asian Development Outlook 2007 Update.

Classens, Stijn. 2006. Access to Financial Services: A Review of the Issues and Public Policy

Objectives. The World Bank.

Duflos, Eric, Alexia Latortue, and Rochus Mommartz, et. al. 2007. Country-Level Effectiveness and

Accountability Review (CLEAR) with a Policy Diagnostic, CGAP.

Fernando, A. Nimal. 2007. Low Income Households' Access to Financial Services – International

Experience, Measures for Improvement, and the Future. Asian Development Bank.

Finance Division. 2008. Pakistan Economic Survey 2007-08. Government of Pakistan.

Finance Division. 2007. Pakistan Economic Survey 2006-07. Government of Pakistan.

Finance Division and Planning Commission. 2001. Interim Poverty Reduction Strategy Paper.

Government of Pakistan.

Government of Pakistan. 2003. Accelerating Economic Growth and Reducing Poverty: The Road

Ahead (Poverty Reduction Strategy Paper).

Hussain, I. and H. Demaine. 1992. How Informal Credit offers Greater Benefit to Farmers: An

Inquiry into Rural Credit Markets in Pakistan. Bangkok, Thailand: Division of Human Settlements

Development, Asian Institute of Technology

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Ministry of Finance. 2007. Ensuring a Demographic Dividend: Unleashing Human Potential in a

Globalized World - Draft Summary of the Poverty Reduction Strategy Paper-II. Government of

Pakistan

Ministry of Labor, Manpower and Overseas Pakistanis. 2007. Pakistan Employment Trends.

Government of Pakistan.

Montgomery, Heather. 2005. Meeting the Double Bottom Line - The Impact of Khushhali Bank's

Microfinance Program in Pakistan. Asian Development Bank Institute.

Nielson Company. 2007. Unearthing Consumer Insights about Access to Financial Services in

Pakistan Presentation. http://www.pmn.org.pk/link.php?goto=a2fs

Pakistan Microfinance Network. 2007. Microfinance Industry Funding Facility Concept Note.

Qadir, Adnan. 2005. A Study of Informal Finance Markets in Pakistan. Pakistan Microfinance

Network. http://www.pmn.org.pk/link.php?goto=res

Securities and Exchange Commission of Pakistan. 2007. Annual Report 2006-07.

State Bank of Pakistan. 2007. Annual Report 2006-07.

State Bank of Pakistan. 2008. Statistical Bulletin. Various issues.

http://www.sbp.org.pk/reports/stat_reviews/Bulletin/2008/index.htm

United Nations Development Fund. 2008. Human Development Report 2007/08.

http://hdr.undp.org/en/reports/global/hdr2007-2008/

World Bank. 2007a. Finance for All? Policies and Pitfalls in Expanding Access. A World Bank Policy

Research Report.

http://econ.worldbank.org/WBSITE/EXTERNAL/EXTDEC/EXTRESEARCH/EXTPRRS/EXTFINFORALL/0,,me

nuPK:4099731~pagePK:64168092~piPK:64168088~theSitePK:4099598,00

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Further Readings and Resources

I. The Economy & Financial Sector of Pakistan

II. Microfinance Sector

§State Bank of Pakistan:

- Banking System Review. Various Issues

http://www.sbp.org.pk/publications/index2.asp

- Financial Sector Assessments. Various Issues

http://www.sbp.org.pk/publications/index2.asp

- SBP Annual and Quarterly Reports (The State of Pakistan's Economy)

§Finance Division, Ministry of Finance:

- Pakistan Economic Survey 2007-08

http://www.finance.gov.pk/finance_economic_survey.aspx

§Others:

- Husain, I. 2000. Pakistan: The Economy of an Elitist State. Oxford University Pressnd - Zaidi, S. Akbar. 2006. Issues in Pakistan's Economy. 2 Edition. Oxford University Press

§Websites:

- State Bank of Pakistan: www.sbp.org.pk

- Finance Division, Ministry of Finance: www.finance.gov.pk

- Securities & Exchange Commission of Pakistan: www.secp.gov.pk

§Regulations:

- Microfinance Institutions Ordinance 2001

- Prudential Regulations for Microfinance Banks/Institutions

These and other policy documents for the sector can be accessed through:

http://www.sbp.org.pk/l_frame/index2.asp

http://www.sbp.org.pk/about/micro/index.htm

§Market Demand and Supply:

- Access to Finance Study - Presentation on Focus Group Discussions

http://www.pmn.org.pk/link.php?goto=a2fs

- Burki, H. and Mehr Shah. 2007. The Dynamics of Microfinance Expansion in Lahore.

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Pakistan Microfinance Network.

- Burki, H. and Shama Mohammed. 2008. Mobilizing Savings from the Urban Poor in

Pakistan - An Initial Inquiry. ShoreBank International.

- Montoya, M. and Aban Haq. 2008. Pakistan - Country Level Savings Assessment. Pakistan

Microfinance Network

- McGuinness, E. and Volodymyr Tounytsky. 2006. The Demand for Micro Insurance in

Pakistan. Pakistan Microfinance Network.

§Sector Performance:

- Pakistan Microfinance Network. 2007. Pakistan Microfinance Review 2006.

http://www.pmn.org.pk/link.php?goto=pir

- Pakistan Microfinance Network. MicroWATCH. Various Issues

http://www.pmn.org.pk/link.php?goto=mv

- Rehman, N. 2000. Social Impacts and Constraints of Micro-Credit in the Alleviation of

Poverty. A qualitative Study of the Micro-credit Program OPP Orangi Charitable Trust.

- Hussain, A. et.al. 2003. National Human Development Report. PIDE

- Khan, S.A. 2001. The Impact Assessment Study: Analysis of Kashf’s Micro-finance and

Dastkaari Program on Clients' Socio-Economic Lives. Kashf Foundation.

- Gallup Pakistan. 2002. The PPAF Micro-Credit Financing: Assessment of Outcomes Study.

PPAF

- Aga Khan Foundation. 2002. Reaching the Poor through Social Intermediation: Micro-

finance and the Building of Social Capital. Aga Khan Foundation, Canada.

- Zaidi, S.A. 2003. Orangi Charitable Trust (OCT)

III. Impact Assessments

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Pakistan Microfinance Network Secretariat

38-B, Street 33, F-8/1

Islamabad, Pakistan

Tel: +92-51-2816139-41

Fax: +92-51-2854702

E-mail: [email protected]

Website: www.pmn.org.pk