In a new article out from the Economics Observatory, FAI’s Tim Ogden and Jonathan Morduch, along with their co-authors Muhammad Meki, Simon Quinn, and Farah Said explain the global and local forces that combine to make the crisis brought on by the coronavirus pandemic different from past disruptions. The authors write:
Historically, there has been little connection between global capital markets and the economic lives of microfinance borrowers. When there were disruptions at the local level (for example, because of natural disasters) global capital markets were obviously unaffected – if an MFI had to forgive loans or forgo repayments, they could easily find investors to recapitalise. And when there were disruptions in global capital markets, the day-to-day economic lives of poor borrowers were similarly unaffected – the regular flow of repayments meant that the sector could just carry on until the crisis passed.
The Covid-19 pandemic has, for the first time, affected both global capital markets and local economies down to the poorest neighbourhoods. What that means is that in contrast to prior crises, the industry cannot count on one side or the other of the equation (global capital markets or local repayment) to cover shortfalls.
Because of disruptions happening simultaneously in global markets and local economies, effects of this crisis will be both more lasting and more structural:
So while it seems that many MFIs can survive the short-term crisis, the long term is more concerning. Provided that lockdown ends and economies begin functioning again, MFIs may find it difficult to recapitalise. The capital structure of the industry relies to a significant extent on social investors who have been ‘crowded-in’ to the industry via explicit or implicit guarantees from development finance institutions (DFIs), such as the International Monetary Fund and the World Bank, and bilateral aid agencies. Those social investors in turn are crowding-in more profit-oriented investors.
While the modern microfinance industry on the whole has been remarkably durable and resilient, the current crisis—in its bidirectionality—seems almost perfectly designed to debilitate the capital structure that underlies it:
The DFIs and aid agencies are themselves going to be stretched (because of much higher demand for capital, plus uncertain inflows from the governments that fund them). That will put the social investors at risk, which will in turn cause for-profit investors to reassess the risk-return trade-off that the industry offers – particularly in the context of uncertainty about future repayment rates. While social investors have been pushing for coordinated action to address the issues, they cannot do it on their own and the DFIs have been slow to engage (Rhyne, 2020).
The full article covers the impact of the coronavirus on the global microfinance industry more broadly, including why microfinance matters to low-income households, the pandemic’s effect on both MFI customers and providers, the potential and challenges of a digital model, and how regulators should respond to the crisis. Read it in the Economics Observatory here.