village banking in pakist - pakistan poverty …village banking in pakist an ppaf microfinance...

VillageBanking inPakist an

PPAF MicrofinanceInnovation and Outreach

Program (MIOP)

Pakistan Poverty Alleviation FundFinancial Services Group

PPAF – MIOP

CONTENTS

1. Overview .................................................................................................................................... 1

2. Financial Inclusion in Pakistan..........................................................................................3

3. Role of Village Banking.......................................................................................................10

4. A PPAF Supported Village Banking Program............................................................15

5. Cost Effective and Sustainable Outreach .....................................................................22

6. Broader Impact on Community Development ..........................................................24

7. Challenges in the Implementation of a Successful VBP.........................................25

8. Key Success Factors for Supporting Village Banks in Pakistan .........................26

9. The Way Forward.................................................................................................................27

Village Banking in Pakistan

OverviewMicrofinance has enjoyed impressivegrowth in Pakistan over the last decade. The Government of Pakistanincorporated microfinance as a centraltool of its poverty reduction strategyand, together with the State Bank ofPakistan, fostered the development ofan enabling policy and regulatoryenvironment that has since receivedglobal recognition.1 Nonetheless, theindustry continues to face a number ofchallenges and significant unmetdemands. Large swathes of the ruralpoor remain beyond the reach of formalfinancial services. In this context, thePakistan Poverty Alleviation Fund(PPAF), with support from theInternational Fund for AgriculturalDevelopment (IFAD), has been testinginnovative products and initiatives tomeet the financial needs of marginalizedpopulation. Village banking is one suchinitiative.

This note examines the current villagebanking program of a PPAF PartnerOrganization (PO) – Farmers’ FriendOrganization (FFO). While FFO is anemerging MFI, its experience with thedevelopment of ten village banks in thedistrict of Sheikhupura in Punjab

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1- Economist Intelligence Unit (EIU) of the Economist magazine ranked Pakistan as a global leaderin microfinance regulations in its 2010 report.

province over the previous two years

allows for the identification of a set of

lessons learned and policy conclusions

for supporting village banking in the

country. The study seeks to inform

donors, policymakers and other

stakeholders about role of the village

banking lending methodology in

expanding access to formal financial

services among the rural poor in

Pakistan. Specifically, it aims to address

whether village banking offers a cost-

effective and financially sustainable

alternative to conventional microcredit

models in rural areas of the country and

identify key success factors for the

implementation of village banking

programs. It suggests that flexibility in

responding to local conditions and a

2- PPAF – MIOP

core emphasis on institutionaldevelopment through socialmobilization and technical assistanceare critical to the social and financialviability of any village bank.

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the sector. Those include theestablishment of PPAF as an apexfunding body, creation of the country’sfirst specialized MFB – Khushhali Bank,issuance of the Microfinance InstitutionsOrdinance 2001 and development of amicro-finance unit within the SBP toregulate the industry. The ordinanceopened the way for the commercializationof the sector. The central bank’s 2007national MF strategy - “ExpandingMicrofinance Outreach (EMO)” – and2011 Strategic Framework providedfurther impetus to the industry.

Young but dynamic, the industry isundergoing a number of importantshifts. First, the quantity of specializedmicrofinance providers (MFPs) hasskyrocketed and today, the sectorconsists of a diverse range of players,including Rural Support Programs,development NGOs, MicrofinanceInstitutions (MFIs), Microfinance Banks(MFBs) and commercial financialinstitutions. Among the approximately60 organizations operating in thecountry, eight MFBs were establishedover the previous decade, includingthrough the transformation of threeleading MFIs.3 To date, credit has

State of Microfinance Sector inPakistanMicrofinance was formally initiated inPakistan in 1980s but did not take offuntil the late 1990s. While the sectorremains small in terms of overallfinancial penetration levels whenanalyzed at the global level, itexperienced rapid expansion over theprevious decade and holds significantpromise. By the end of 2010, there were2 million active borrowers in Pakistan,along with 3.2 million active savers and3 million insurance policy holders.2

A number of policy efforts on the partof the Government of Pakistan (GoP)and State Bank of Pakistan (SBP) helpedimprove the microfinance infrastructureand enabling environment, andaccelerated investment and growth in


FinancialInclusionin Pakistan

PPAF – MIOP

2- PMN, MicroWATCH Issue 18 (January-December 2010)3- State Bank of Pakistan, Strategic Framework for Sustainable Microfinance in Pakistan, January 2011

dominated the microfinance industry inPakistan. However, MFPs areincreasingly offering micro-savings,micro-insurance and remittances inaddition to credit to diversify theirproduct offerings and meet the needsof low-income population. Steps are alsobeing taken to promote the entry ofcommercial players in the sector tomainstream microfinance into theformal banking system and enable therequired expansion and sustainabilityof microfinance services in the long run. Finally, a great deal of technological andinstitutional innovation is underway toexpand cost-efficient financial servicesto the unbanked population. The launchof branchless banking initiatives thatmake use of telcos, postal networks andmobile phone technology is anoteworthy example.

Unmet Demand for FinancialServicesThis growth and dynamismnotwithstanding, the industry faces anumber of funding and institutionalcapacity constraints, among others, thatchallenge its ability to achieve a majorbreakthrough and reach the scale andsustainability necessary for significant

4- See SBP Strategic Framework for detail on these challenges facing the sector5- The SBP Strategic Framework reports that 88% of the population is unbanked, with 56% of theadult population financially excluded and another 32% informally served;6- PMN MicroWatch 18 (December 2010)7- Ibid.

impact.4 Rapid growth leveled off in2008 and 2009 and has stagnated since,resulting in a tightened industryportfolio.

Existing data reveals a substantial unmetdemand for financial services in thecountry and huge potential market forMFPs. Pakistan, in fact, has one of thelowest financial penetration levels in theworld. Among the population of 180 to200 million people, only 12% of adultshave access to basic formal financialservices.5 The cumulative outreach ofMFPs constitutes only 7% of thepotential microfinance market, whichis conservatively estimated at 27.4million.6

Moreover, there is an unequalpenetration of financial services acrossdifferent segments of the population andregions. While some urban areas ofPakistan have achieved significantfinancial coverage, particularly theurban areas of Punjab and Sindh, largesegments of the population remainunderserved or completely untapped.Balochistan, KPK and FATA are largelymarginalized from microfinance activity,with the number of branches actuallydeclining in these provinces in 2010.7

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fewer economic opportunities withinrural areas increases the credit riskmanifold for any institution that wishesto serve poor, especially rural clients inBalochistan, KPK, FATA and other far-flung areas of the country.

As a result, the sector is experiencingan increasing trend among MFPs inPakistan to extend outreach in urbanareas at the expense of rural growth.10

The rural poor of Pakistan in turn relyon informal sources, predominantlyfamily, friends and moneylenders tomeet their credit needs despite the costsand risks that the latter in particular

Remote rural regions of the countryhave been especially excluded, due tothe high transaction costs and risksperceived in serving these areas.8 Abouttwo-third of the nation’s population livesin rural areas and a dominant portionof this population is poor. 9 Nonetheless,rural clients face constraints in accessingcredit due to their inability to complywith conventional loan collateralrequirements, lack of credit history andhigh appraisal costs relative to thegenerally small loan size needed. Acombination of these factors, pluscharacteristics of low population density,high dependence on agriculture and

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8- State of Microfinance in Pakistan, pg 259- World Bank, Pakistan, 200910- PMN MicroWatch 18 (December 2010)

entails. This segment of the population

constitutes the largest underserved

market for MFPs in Pakistan.

A PMN report on Pakistan’s rural

microfinance market speaks volumes

for this urban-rural divide in access to

formal financial services.11 Surveys

show strong demand among the rural

poor for increased availability of credit

and more diversified microfinance

products that respond to their particular

needs, both to cope with during timesof emergency and take advantage ofeconomic opportunities to generatehousehold income. Lack of financing iscited as a major constraint to businessdevelopment and the expansion ofexisting enterprises.

Alternative Channels forReaching the Rural PoorInnovative solutions for microfinanceproduct delivery are required to addressthis supply–demand gap and acceleratesustainable growth in the sector. Despitestrong institutional participation in theindustry, there is little diversity in thelending methodology and products being

offered. Microfinance in Pakistan is

largely limited to the standard brick and

mortar branches for the distribution of

credit services. Approximately, 92% of

the borrowers and 89% of the funds have

been provided through group lending,

with individual lending also utilized to a

lesser extent.12 The conventional model

of microfinance in Pakistan is very

human resource – intensive and entails

high operating expenses.13 There is need

for increasing awareness for MFPs to

consider adopting non-traditional and

more cost-effective ways of improving

outreach of financial services into new

markets and introducing innovative

products that are more suitable for the

poor at the grassroots level.

The SBP has made it a strategic

imperative for stakeholders to

experiment with technological and

methodological innovations that

overcome cost barriers and mitigate

risk. In 2011 Strategic Microfinance

Framework, it calls for the development

of scalable and financially sustainable

alternative delivery channels for

broadening and deepening the reach of

financial services.14 The mainmotivations for exploring alternative

6-

11- PMN Rural Microfinance Report12- State of MF in Pakistan, pg 2013- The SBP reports the sector’s operating cost to loans ratio at 22%.14- State Bank of Pakistan, Strategic Framework for Sustainable Microfinance in Pakistan, Jan 2011

PPAF – MIOP

systems to the traditional model includethe possibility of massive outreach tolow-income population throughpenetration of new markets or servicingof hard-to-reach rural areas anddramatic cost reduction / improvedoperational efficiency. Branchlessbanking technologies and distributionchannels, in particular, have beenprioritized as means to reach theunbanked and underserved marketsegments and have already achievednoteworthy success in doing so.Continued emphasis is needed on thedesign of alternative systems that aremore cost-effective and efficient indelivering financial services on a largescale.

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Microfinance Innovation andOutreach Program throughPPAFA high degree of experimentation withinnovative microfinance outreachinitiatives is currently underway withinthe Pakistan Poverty Alleviation Fund(PPAF). Financial Services Group ofPPAF is spearheading the effort toimprove access to demand-driven andsustainable financial services in remoteareas of Pakistan. In 2006, with supportof the International Fund forAgricultural Development (IFAD), PPAFlaunched a Microfinance Innovation andOutreach Program (MIOP) to improvethe access of poor rural women andmen to a wide range of productive assets,skills, services and new technologies,

PPAF – MIOP

15- PPAF Data

and thereby enhances their livelihoods. The program places a particularemphasis on encouraging microfinanceoperators to implement pilot schemesto develop and test innovative financialproducts and market access initiatives. The partner MFPs in turn work withcommunity organizations and theirparticipating poor rural members whoare the recipients of the newly developedfinancial products.

PPAF supported the development andtesting of many types of microfinanceproducts and approaches includingVillage Banking, Settlement Branches,Women Cooperatives, LivestockFarming and Social Safety Nets.Additionally, it experiments withapproaches aimed at increasingoutreach of existing partners to hithertolow microfinance access areas – remoteand deprived areas of Balochistan, Sindhand KPK. In all, 20 innovative productsand 5 approaches have so far beenintroduced in partnership with 26partner organizations.15

In many respects, PPAF is ideallypositioned to provide the space for thisexperimentation and innovation. PPAF

8- PPAF – MIOP

served as a major catalyst for the growthof microfinance and now has theopportunity to further leverage itsexperience and resources to deepen theoutreach of the sector. As the lead apexinstitution for community-drivendevelopment in the country and fullyautonomous private sector organizationwith support from the GoP and a varietyof donors, PPAF acts as a wholesaler ofpro-poor funds to Pakistani civil society.

Its POs perform the actual retailingfunction of loaning funds andimplementing projects on the ground.Over the last eleven years, PPAF hasestablished itself as one of the mainplayers in the development sector inPakistan, extending lines of credit formicrofinance and enterprisedevelopment services, grants forcommunity infrastructure schemes,social sector development services,emergency response interventions andgrants to strengthen the human andinstitutional capacity of both POs andlocal communities. From the initiationof its activities in 2000 to the end ofDecember 2011, PPAF had successfullydisbursed a cumulative total of Rs. 100.4billion through 112 POs under these

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various funding windows. PPAF’scoverage has included 90,100villages/settlements spanning 120districts across all provinces and regionsin the country.16

This track record, geographic reach andnetwork of POs give PPAF a uniqueability to penetrate microcredit servicesin Pakistan’s least–served districts.

Most importantly, at the core of the PPAFmodel is a commitment to buildinginstitutions and sustainable networksfor service delivery at the meso andmicro levels. The process of social

mobilization provides the institutionalfoundation for the design andimplementation of all PPAF-supportedinterventions. This emphasis oncommunity empowerment and thedevelopment of local and self-helporganizations ensures that projects aredemand-driven, locally managed andsustainable over time. It is the bedrockof the methodology of PPAF-supportedVillage Banking Programs and otherMIOP initiatives, the importance ofwhich will be further explored below.

16- Ibid.

A Brief Sketch of Pakistan’sVillage Banking LandscapeVillage Banking is an initiative that PPAFand several of its POs have tested underMIOP to enhance the outreach ofmicrofinance to the rural poor. Villagebanks are community-based financialservices providers. Under themethodology, neighbors in a poor,usually rural community form aborrowing community or villageorganization to meet their financialneeds on a sustainable basis. Asgrassroot level institutions, the villagebanks are initiated, owned and managedby the communities themselves andfocus on penetration of hard-to-reachrural markets. Microfinance providerslend in bulk to these villageorganizations, which are in turnresponsible for onward lending tomembers of the community using a

system of cross-guarantees and socialcollateral to ensure timely repayment.The communities are independentlyresponsible for all loan disbursementsand recoveries. One of the key rationalesoften given for adopting village bankingis that it reduces transaction costs, bothfor microfinance operators andborrowers, and is a means to extendsavings, remittances and other financialand non-financial services to clients inaddition to small business loans.

Village banking is not new to Pakistan. The product was introduced by AKRSPin 1989 and developed through theorganization’s network of villageorganizations. Despite these roots,however, village banking remains anupcoming methodology that is employedby few organizations and has yet to bedeeply explored in Pakistan. Of the MFPsoperating in Pakistan, only four werefound to offer village banking loans,including three affiliates of the PakistanMicrofinance Network (PMN). TheseMFPs include National Rural SupportProgram (NRSP), Sarhad Rural SupportProgram (SRSP), Thardeep RuralDevelopment Program (TRDP) andFarmers’ Friend Organization (FFO).17

17- PMN Social Performance Report 2009


Role ofVillageBanking

10- PPAF – MIOP

All are PPAF POs and multiproductlenders, offering solidarity group andindividual loans in addition to villagebanking. Being NGOs or Rural SupportPrograms, none are permitted tomobilize deposits and thus areleveraging village banking to extendsavings services and target rural areasof the country that contain highconcentrations of poor clients. All of theorganizations currently offering villagebanking are driven by strong socialagendas, with processes of socialmobilization and communityempowerment at the core of theirstrategy.

Overview of Village BankingPrograms of PPAF PartnerOrganizations

• NRSP — Rawalakot, AJK

• SRSP — Abbottabad, Peshawar andKohat, KPK

• TRDP — Tharparkar, Sindh

• FFO — Sheikhupura, Punjab

Text Box 1

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Unique Characteristics of VillageBanking – The Experience of FINCAVillage banking remains an emergingmethodology in the Pakistani contextand faces a number of challenges andconstraints that will be further exploredbelow. It has, however, achieved well-documented success and growth indifferent parts of the world over theprevious two to three decades. TheFoundation for International CommunityAssistance (FINCA) pioneered the villagebanking model of microcredit. Whatstarted off in Latin America in the 1980shas expanded worldwide. FINCA hasproven that it is possible to leverage thevillage banking methodology to deliverfinancial services to the poorestborrowers across geographic contextsat a large scale and free of reliance onsubsidies.

While donor funding was critical toenabling the development of FINCAvillage banking programs in their earlyyears, FINCA affiliates enjoyed steadyprogress towards financial sustainabilitythroughout the 1990s. In Latin America,these organizations “started out as NGOsspecialized in credit delivery and

18- Supporting innovation in the field: The role of IFAD’s support in the sustainability and commercialtransformation of FINCA’s village banking programmes, 200619- The Inter-American Development Bank (IDB)/Consultative Group to Assist the Poor (CGAP)inventory of 176 MFIs, as cited by Glenn Westley in A Tale of Four Village Banking Programs. BestPractices in Latin America (Washington, DC: IDB, 2004).

12- PPAF – MIOP

gradually matured into financially self-sufficient MFIs with the capacity tocover their operational costs and delivera broad range of services to theirclients.” In light of its successful trackrecord, FINCA village banking programs,with the technical assistance of theInternational Fund for AgriculturalDevelopment (IFAD), have beenpursuing commercial funding to enablethem to grow and make financialservices available to more rural poorpeople on a sustainable basis.18

FINCA has shown that with strictadherence to village banking principlesbut flexibility in adapting to localconditions, excellent repayments ratescan be achieved through the model.More generally, the FINCA experiencehas shown that on average, villagebanking has a number of advantageswhen compared to conventional creditlending methodologies. The followingunique characteristics make villagebanking preferred model in certaincircumstances;19

Achieves higher penetration ofrural areas. On average, village

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loan sizes are often based on theprevious loan size plus the amountsaved in previous loan periods,encouraging deposits mobilization.Provides clients valuable non-financial services. Village banksprovide members a forum formutual support, technical assistanceand empowerment as well as fordelivering other formal non-financialservices to meet development needsprioritized by the community (ineducation, health, infrastructure,etc). It fosters a democratic processand community ownership, byinvolving community members inall key decisions regarding themanagement and governance of thevillage bank.

banks are found to have greateroutreach in rural areas whencompared with conventionalmicrocredit lending methodologies.Reaches the poorest. Socialpressure substitutes for collateral inthe case of village banking. Membersmay not get a new loan unless fellowmembers are up to date on theirpayments. Since village banks do notrely on collateral to guarantee loans,they can serve those lacking land orother assets. This higher outreachto poor clientele and micro-entrepreneurs is evidenced by thegenerally small average loan size.Facilitates product diversificationand savings. Village banking allowsclients to access a broader packageof services, including savings. New

14-

20- Ibid.

PPAF – MIOP

Some experts have concluded that thereal advantage of village bankingcompared with conventional solidaritygroup and individual lendingmethodologies are, in fact, the savingsand non-financial services it can providerather than greater cost-efficiency incredit delivery.20

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that has achieved remarkably low loandelinquency rates and a degree ofsuccess with its VBP in a short periodof time that should be highlighted.Finally, FFO confronts a number ofchallenges common to other PPAF POsthat have the potential to constrain thesuccess of its VBP if left unaddressed.The combination of these factors makeFFO a unique case from which lessonslearned may be extracted for diversemicrofinance operators and areas of thecountry.

Farmers’ Friend OrganizationFarmers Friend Organization (FFO) isan emerging MFI that was establishedin 2003 to combat the incidence ofpoverty at the grass roots level in ruraland low profile urban areas ofSheikhupura district in central Punjab. FFO’s partnership with PPAF wasestablished in October 2007. Theorganization is dedicated to fosteringeconomic development throughpromotion of social mobilization andthe provision of financial services in thetargeted market. The goal of the FFOmicrofinance program is to empowerpoor households and micro entrepre-neurs to become economically self-reliant by providing appropriatefinancial services in a sustainablemanner. FFO is operational in 18 unioncouncils of the district.


A PPAFSupportedVillageBankingProgram

The successful track record of village

banking on a global level and the huge

untapped potential of microfinance in

Pakistan justify a deeper examination of

the product and its performance to date

under PPAF/MIOP. The Village Banking

Program (VBP) of Farmers’ Friend

Organization (FFO), a PPAF PO, was

selected for purposes of this study for

several reasons. First, FFO is among the

limited number of organizations

currently offering village banking loans

in Pakistan, but one that is prioritizing

the methodology within its microfinance

program moving forward, making it an

ideal target. Second, it is carrying out

its VBP in the rural areas of Sheikhupura

district in central Punjab, one of the most

promising areas for microfinance. Third,

FFO is a relatively young organization

PPAF – MIOP

16-

In addition to implementing retail levelmicrocredit operations, FFO developeda village banking program incollaboration with PPAF to achievegreater rural penetration and growth.As described below, the characteristicsof Sheikhupura’s rural financial marketmade it a particularly hospitable

Demand for Financial Services in Rural Markets of Sheikhupura

Sheikhupura is a promising market for the expansion of microfinance. The district ischaracterized by a substantial informal sector and rich cottage industry. Despite thepresence of numerous microfinance providers in the district, some since 2000-01, thecumulative outreach of all MFPs is 35,741 active borrowers with a gross loan portfolioof PKR 580,052,811: the district’s potential market for microfinance services is estimatedat 831,522 clients. 21 There is particularly low penetration in the rural areas of Sheikhupura. Recent market research conducted by FFO in rural areas targeted for village banking toassess the level of demand for financial services revealed the following;22

Strong demand for credit to grow businesses and increase household income: Thenumber of potential clients is estimated at least 22,000 and the estimated potentialmarket size for microcredit services amounts to PKR 440 million. The cumulativemarket penetration of microfinance providers is as low as 4% of the total demand,with 96% of the surveyed micro-entrepreneurs having no access to formal financialservices. Moreover, 87% of the interviewed micro-entrepreneurs are in need forcredit, mainly for expanding their businesses (41%), purchasing business assets (22%),working capital (29%) and starting up new businesses (8%). The majority of businessesare in trading activities, as well as agriculture and livestock, with a lesser number inmanufacturing, handicrafts and servicesPotential for significant savings mobilization: The demand for savings services,insurance, and other financial and non-financial services is also noteworthy. Themajority of those surveyed expressed agreement with the concept of compulsorysavings to access credit products

Text Box 2

environment for the introduction of thevillage banking methodology and offersubstantial potential for FFO to expandits outreach in the target areas over thecoming years.

21- MicroWatch, Issue 18 December 2010 (PMN)22- Farmers’ Friend Organization, Microfinance Market Research Report

PPAF – MIOP

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FFO started its village banking programin October 2009 with the financial andtechnical support of PPAF under theIFAD-MIOP. During a pilot phase, FFOestablished seven village banks (VB) inseven union councils of Sheikhupuradistrict following a process of socialmobilization and capacity building. Afterthe successful completion of the pilotphase and keeping in view theabsorption capacity of the PO, in October2010 FFO launched a second phase ofthe VBP to establish three new villagebanks as well as support thedevelopment of the seven existinginstitutions. In addition to lines of credit,PPAF has provided capacity buildinggrants to FFO in support of capital costs,operational costs and training of theoffice bearers of VBs. The aim is tostrengthen and sustain the VBsestablished under the pilot phase toenable them to operate as local financialinstitutions capable of fulfilling thefinancial needs of the rural poor, as wellas to extend village banking services tothousands of new households.

Current PerformanceWhile the number of clients servedthrough village banking does not yetexceed the number served throughconventional microcredit lending, FFOhas adopted village banking as the

preferred model for rural areas movingforward based on the successexperienced to date.

As of Sep 2011, FFO had disbursed Rs.157.3 million to 9,724 clients in 18 unioncouncils through the overallmicrofinance program. Through the tenvillage banks, FFO has disbursed acumulative amount of Rs. 50.4 millionto 3,125 clients. Of the totaldisbursements made under the auspicesof the village bank program,approximately 93% of the clients arewomen, thus supporting PPAF’scrosscutting strategic objective of genderempowerment. The village banks havecollected a cumulative total of Rs. 5.2million in community savings, with acurrent active balance of Rs. 4.32 million.

PPAF – MIOP

18-

Table 1

Village Bank/CO Location No.of No. of No. of No. of SavingsVillages Groups Clients Female Balance

Households Clients (Rs.)

Easy Approach Village Kujjar 5 70 301 291 1,246,617CommunityOrganizationDosti Welfare Society Basra Colony 8 115 482 445 553,739

MuridkeSocial Development Kharianwala 9 122 516 465 512,875OrganizationRoshnee Foundation Islampura 16 77 329 321 289,579FarooqbadAl-Mustafa Wandala 4 84 362 357 412,081FoundationInsani Khidmat Khanpur 8 98 419 390 478,525Welfare SocietyAl Quaid Dera Shareenwala 5 31 147 147 186,400DevelopmentFoundationAman Welfare Buraj Attari 4 37 170 150 149,754SocietySawera Development Chikhuke Malian 11 52 237 237 224,661SocietyCreative Foundation Village Kaloke 3 35 162 94 269,400

Total 73 721 3,125 2,897 4,323,631

Outreach of Village Banks in FFO Project Areas (as on Sep 30, 2011)

During the last two years, FFO hassucceeded in maintaining a 100% rateof recovery with 0% portfolio at riskunder its village banking program. Inall of the VBs, the total disbursementsmade thus far have been duly recoveredalong with the associated markup, asper the stipulated time frame. As of Sep2011, the total outstanding portfolio ofthe VBs under FFO amounts to Rs. 25.96

million in the form of 3,125 loans. Ofthese outstanding loans, 93% have beendisbursed to women. The detailed outlayand distribution of the active portfoliois summarized in the table below.

PPAF – MIOP

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Table 2

Village Bank/CO Loan Principal Loan Service

Charges

Easy Approach Community Organization 2,556,095 461,321

Dosti Welfare Society 4,297,364 774,819

Social Development Organization 3,795,154 691,890

Roshnee Foundation 2,056,641 374,057

Al-Mustafa Foundation 3,599,006 649,224

Insani Khidmat Welfare Society 3,697,140 667,323

Al Quaid Development Foundation 1,425,726 256,638

Aman Welfare Society 1,217,304 219,106

Sawera Development Society 2,118,712 382,027

Creative Foundation 1,193,521 217,520

TOTAL 25,956,663 4,693,925

Active Portfolio of FFO Village Banks (as on Sep 30, 2011)

FFO’s Village Banking ModelFFO follows a basic methodology forimplementing its village bankingprogram. Social mobilization andorganization, capacity development,provision of lines of credit andmonitoring and evaluation representthe core program strategies. Under theprogram, FFO uses the forum of theCommunity Organization (CO) fordisbursing small loans to individualmembers for productive purposes.While FFO cannot collect savings as aregistered NGO, COs do not face thesame legal bindings and can mobilizesavings. Thus, through the VB, FFO is

able to provide rural clients with apackage of financial services beyondcredit, including savings andremittances.

The following provides a description ofthe typical process and requirementsfor setting up and managing an FFOvillage bank;

PPAF – MIOP

20- PPAF – MIOP

Text Box 3

FFO generally utilizes the following methodology for developing a village bank;

Stage 1 - Selection of a VillageAfter an initial assessment, FFO selects a village for the establishment of a village bank, in the formof a Community Organization (CO).

Stage 2 – Social Mobilization and Establishment of a COThrough a process of social mobilization, a CO is established to work as a village bank, as well ascarry out other development initiatives prioritized by the community.

Stage 3 – CO Capacity DevelopmentFFO provides the CO technical support to develop the technical and managerial capabilities of theorganization. A variety of capacity development interventions are carried out to evolve the structureof the VB, develop by-laws, acquire legal status through registration, and design procedures to workas a financial intermediary.

Each VB has a General Body (GB), composed of members of the VB. Each VB is generally comprisedof between 15-25 members, each representing a village household. The GB elects officers of anExecutive Council, usually a chairperson, vice-chairperson, treasurer and secretary. After electingofficer bearers and establishing by-laws, the VB is required to get registered under any of the relevantlaws. All new VB must get registered before signing an agreement with FFO for the operation ofthe VB.

As per the by-laws, the GB also elects a Credit Management Committee (CMC), which consists ofat least 4 members and is responsible for client appraisals and management of the day-to-dayoperations of the VB. Each VB has one paid staff member, called the Village Bank Officer. FFOprovides training and on-the-job capacity building to the members of the CMC and other officebearers, particularly in the area of loan and savings administration.

Stage 4 - Agreement between FFO and VBAfter gaining maturity against different indicators, the CO works as a village bank to fulfill thefinancial needs of the poor and FFO enters into agreement with the VB to support its microfinanceoperations. The VB is evaluated on the basis of how vibrant and self-reliant it is in terms of communitymanagement. Indicators measure factors such as degree of internal democracy and active participationof members, inclusion, state of recordkeeping, regularity in savings, and capacity of VB office bearers.

Stage 5 - Accumulation of Funds from Community SavingsThe VB first accumulates its own financial resources through membership fees, members’ savings,and grants.

Stage 6 – FFO Provides VB Line of Credit for On-LendingAfter a VB accumulates the required level of internally generated funds/savings as per the agreement,FFO provides the VB a one-year line of credit for onward disbursement as sub-loans to communitymembers. This loan is utilized by the VB to finance its village-level credit operations. FFO makes

An Outline of FFO’s Village Banking Methodology

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quarterly disbursements to the VB, conditional upon satisfactory performance of the previousdisbursed funds. The rate of markup charged by FFO on the line of credit to the VB is 14% (flat) perannum; on every loan disbursed by VB.

Stage 7 - Selection of Borrowers by VB membersThe VB selects its borrowers. The prime responsibility for identifying borrowers and appraising thecharacter of the borrowers’ lies with the village bank members; FFO does not conduct loan analysis. Before applying for a loan, community members form a group of 2-5 borrowers. The group relieson a system of cross-guarantees and social collateral to ensure clients remain up-to-date onrepayments. FFO ensures that in each VB at least 40% of clients are women.

Stage 8 - Day-to-day Operations of the VBThe village bank’s CMC is responsible for overall performance of banking activities, includingguaranteeing loan repayment and keeping track of transactions, and carrying out all recordkeepingof disbursement and repayment. The VB ensures that lending to the ultimate beneficiaries is notbelow the commercial banks’ prevailing lending rates for prime customers, using rates that, in thelong run, fully cover its costs of operation. The following are some of the most importantimplementation modalities and aspects of FFO’s VB policy:

The rate of mark-up charged by the VB is no less than 18% (flat) per annum (FFO VBs recentlyreduced their markup from 20%).The VB provides small business loans of between Rs. 10,000 - 20,000, for a period of 12 months.Borrowers repay the disbursed loan on a monthly basis through the group leader.The minimum amount of compulsory savings is 10%-20% of the loan disbursed, which theborrower is required to deposit at the time of disbursement.Voluntary savings can be made and withdrawn at any time during the loan period.The VB Officer is responsible for the timely deposit of all savings and loan recoveries in a bankaccount opened in the name of the VB.

Stage 9 – Continued Technical Assistance and Monitoring by FFOFFO’s role in the whole process is of a supporting arm, not a service delivery organization. Therefore,in addition to providing lines of credit and capacity building grants, FFO acts as a facilitator on acontinuous basis. FFO monitors the day-to-day work and performance of each VB through weeklyfield visits, and provides regular technical assistance and on-the-job coaching to build the capacityof VB office bearers. By the end of the second year of operation, FFO aims for the VB managementto have a strong grip on both the basics of microfinance delivery, as well as the importance ofsavings and its internal mobilization.

Stage 10 – Role of PPAFAs wholesale lender and sector developer PPAF guarantees that the relationship between the VBand FFO is working effectively and any dispute arising is resolved amicably. Additionally, it frequentlymonitors the performance of the VBs selected randomly. Besides on-lending funds, PPAF is alsoproviding financial support for technical assistance, exposure visits and training programs for theVBs.

Stage 11 – Registration of Village BanksBoth PPAF and FFO encourage VB to get registered with appropriate regulatory authorities andmost of the VBs are register under various laws.

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CostEffectiveandSustainableOutreach

Instead of supporting the developmentof new VBs, FFO is currently placing anemphasis on building the capacity of theten existing institutions and supportingthem in expanding their client base.

FFO’s experience shows that villagebanking can offer a remarkably cost-effective model for extending outreachin rural areas of the country wherepopulation density is low and transactioncosts run high. Through a single villagebank, FFO can reach hundreds of ruralclients at significantly lower cost whencompared with the standard process ofoperating through a brick and mortarbranch. As described above, villagebanking has the advantage that itprovides a single loan to manyborrowers at once through the forumof a CO and relies on the VB membersto screen out bad credit risks, setreasonable loan sizes, guarantee loanrepayment, and keep track of alltransactions. It relieves the MFI, in thiscase FFO, of the costly responsibility ofcollecting information on prospectiveclients and conducting appraisals.

Village banking does require the loanofficer to conduct regular travel andmonitoring activities, and considerabletime is required to organize and buildthe capacity of the VBs. However, even

The sustainability of FFO as an MFI is

primarily linked to its outreach. To

become a financially sustainable MFI,

FFO is prioritizing the deepening of the

existing VBs outreach during the course

of its 2011-2014 business plan. Village

banking has gained considerable success

and acknowledgement within FFO due

to its low cost involvement both for FFO

and communities and 100% recovery

of disbursed loans. Moreover, global

best practices show that reaching tens

of thousands of clients through village

banking is entirely possible. FFO aims

to extend financial services to 10,000

rural households in Sheikhupura

through village banking over the coming

years and build strong VBs capable of

operating as local financial institutions

and fulfilling the financial needs of the

rural poor on a sustainable basis.

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when taking into account operating costsand costs of training and capacitybuilding, village banking reduces thefinancial and human resources required.It costs FFO approximately Rs. 50,000/month to set up a new microcreditbranch (office rent, supplies, travel,salary, etc), whereas it costs only Rs.16,000/month for a village bank,including salaries and operational costs. The VB officer is on the payroll, but thataside, all VB office bearers provide theirservices on a voluntary basis.

Through accumulated earnings andother incomes, FFO aims to make everyvillage bank operationally andfinancially sustainable in a period of 2-3 years. The Operational Self-Sufficiency(OSS) ratio of a typical FFO VB at theend of the first year is projected at 64%,and 94% at the end of the second year. This calculation is based on the expectedratio of operating revenue to expensesof a VB. Having strong command of themethodology of microfinance deliveryand with the availability of adequatefunds for credit, VBs should enter theirthird year of operation with a stronglevel of self-sufficiency.

FFO aims for the VBs to generate enoughincome to be able to meet all of theiroperating costs and expand their

operations to provide services to moreborrowers through three predominantsources;

Interest earned on loans tocommunity members: Village bankloans are issued to borrowers atmarket rates, leaving a 4% marginin markup (FFO charges 14% flat,the VBs charge 18% flat)Loan processing fee of 3%Interest earned on savings, which isdisbursed to borrowers – 10%

FFO projects that the VBs will reachtheir break-even point at an averageactive clientele of 500 borrowers, withan average loan size of Rs. 20,000, afterwhich the VB would gradually build upits own pool of financing for on-lendingto borrowers (over an estimated periodof 5-7 yrs).

PPAF – MIOP

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BroaderImpact onCommunityDevelopment

LAC VB best practices because theyhave ownership of the VB and feel itbelongs to them / provide tangiblebenefit, communities are encouragedto look after the development of the COand promote its sustainability as aninstitution following the process of socialmobilization.

Social mobilization means little if localcommunities lack the capacity andincentives to give permanence to theinstitutions created. The SM process,on the other hand, has tremendouspotential to advance local developmentpriorities over the long term if combinedwith the appropriate follow-oninterventions. The VB is just oneinitiative of the COs. In addition tocarrying out VB functions and dependingon local need in each village, the CO mayoperate as a skill center or supportprojects in the areas of education, health,gender empowerment, or communityinfrastructure, for example. Whethervillage banking is the best way topromote the sustainability of communityorganizations requires furtherexamination. However, the experienceof FFO and other PPAF POs suggeststhat the linkage between a wellmanaged VB and continuity of the CO,with its positive implications forparticipatory development at the locallevel in Pakistan appears powerful.

Beyond considerations of cost andaccess to needed financial services, whatdistinguishes FFO’s village bankingprogram from its conventionalmicrocredit lending model are thecontributions it makes to theempowerment of grassrootsorganizations and social developmentof these communities over the long term.

The formation of a VB through the forumof a CO ensures the democratic electionof a management committee,decentralized governance, managementand problem-solving and groupguarantee mechanisms to substitute forcollateral. VB members participate in thedecision-making process, create theirown bylaws and are given choices abouttheir services. International experienceshows that these factors fostercommunity solidarity and builds theconfidence and sense of ownership ofcommunity members over the long-term.

PPAF – MIOP

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Challenges inImplementation of aSuccessful VBPAchieving the desired levels of outreach and impact requires a well-managed village banking program. PPAF partner organizationsoffering village banking face challenges and constraints in thisrespect;

Capacity and Sustainability of the VBs: Importance of havingclear ownership and governance structures and the adequatecapacity to perform the core functions of the VB independentlyof the PO. Vibrant COs have transformed into successful VBs,whereas less developed COs are faltering in their capacity andoperational self-sufficiency

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Key SuccessFactors forSupportingVillageBanks inPakistan

local requirements in every aspect.Since the VBs are governed at locallevel, it is safe to assume that theprogram has inherent flexibility tosuit local needsThe primacy of social mobilizationand institutional development:Quality institutional developmentgoes hand in hand with sustainablegrowth. Importance of the strengthof the institution (at apex, PO andVB levels) and the role that a robustsocial mobilization process andcontinued technical assistance playin generating this outcome. At theVB level, the core focus should be onbuilding socially and financiallyviable institutions. If a stronginstitution is in place, then anyproject or initiative of thecommunity organization, such as aVB, can be implemented successfullyand be sustainable over time. Criticalto link the scale of microfinanceoperations with the human andinstitutional capacity of theorganization and expand outreachin a gradual manner

Taking into account these challengesand experience of FFO and other PPAFPOs, we can identify a number of broadfactors critical to the success of anyvillage banking program in Pakistan. Inthe absence of these factors, the abilityof village banks to achieve desired levelsof outreach and sustainability will belimited;

Flexibility in tailoring the VBP todiverse geographic areas and localneeds: In order to achieve successany of the programs/ productsrequires flexibility to suit the localneeds hence, the same applies forthe VB program. A VB program mustnot be replicated on the same modelas the typical microfinance branchstructure. Rather, the program musthave inherent flexibility to suit the

PPAF – MIOP

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The Way ForwardGovernments and donors looking to strengthen the outreach of

microfinance in Pakistan should consider the role that village banking

can play. This note sought to examine whether a rationale exists for

advancing the village banking methodology in comparison with the

conventional microcredit model in rural areas of the country where

high operating costs constitute a barrier to entry for many MFPs.

The experience of FFO and other PPAF POs testing the product under

MIOP show that VB can facilitate cost-effective microcredit outreach

into unbanked rural areas and a means of strengthening access to

savings and non-financial services, if undertaken in an appropriate

manner.

PPAF – MIOP

Pakistan Poverty Alleviation Fund1 - Hill View Road, Banigala, Islamabad, Pakistan

Tel: +92-51-261 3934-50, Fax: +92-51-261 3931-33, UAN: +92-51-111 000 102Website: www.ppaf.org.pk

village banking in pakist - pakistan poverty …village banking in pakist an ppaf microfinance...

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