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Transaction Costs of Lending To the Poor: A Case Study of Two Philippine Non-Governmental Organisations

Focused on the credit programs of two NGOs which target the poor using SHGs as delivery channels: Kabalikat para sa Maunlad na Buhay Inc. (KMBI), and Alalay sa Kaunlaran sa Gitnang Luzon Inc.(ASKI). These two NGOs are part of the Bank of the Philippine Islands bank NGO/SHG linkage program.The comparison of the different types of financial intermediaries highlighted several key factors that affect transaction costs Based on cost comparisons, the authors noted an inverse relationship between an organisation's transaction costs and its number of years in existence. This results from an organisation's capacity to learn and develop. As the NGO programs were relatively new compared with those of the banks and cooperatives, there is much room for the NGOs involved in lending to the poor to improve their transaction costs over time In lending to the poor, the credit requirements and situation of this segment define some of the critical lending policies, terms and conditions. Specifically, it is necessary to lend out in very small loans, at relatively short-term maturities, and with a higher frequency of loan repayment (that is, daily or weekly as against monthly or quarterly), and without requiring traditionally accepted forms of collateral (for example, land or chattels). Furthermore, to reach the poor effectively and minimise borrower transaction costs, the lender has to go to where the borrowers are rather than the other way around. These conditions combine to make lending to the poor a very labour-intensive process. This review of the NGOs lending costs confirms this labour intensity If NGOs lending programs are to be commercially viable and sustainable, high productivity is very important. The optimum ratios in terms of number of clients to staff and number of loan accounts to staff will have to be worked out and targeted. High worker productivity also requires a short start-up time and a quick build-up to the optimum number of members per field worker. Since training costs form a substantial part of NGO budgets, this means that better, more cost-effective and faster ways of training and motivating field workers must be developed. As substantial social investments are made for a prospective member and borrower, the retention rate of members is also a critical aspect of worker productivity. A high retention rate will also eventually result in higher average loan sizes and thus lower overall transaction costs Key ways of improving worker productivity would include the introduction of simpler methods or more creative use of the data processing and information handling potential of computer technology. Another way to reduce transaction costs substantially is for NGO's to wholesale to groups in the same way that the commercial banks are encouraged to work through NGO's. This approach, however, is dependent on the success of the NGO's SHG building and organising efforts. Through all of these, the lending intermediary has to balance productivity and efficiency with the risk of default.This review of NGO viability based on KMBI's experience shows that with an increased loan size of Ps 10,000 and a member to staff ratio of 200, total transaction costs (excluding SHG promotion and development costs) can be reduced from its current 35 per cent of average loans outstanding to 17 per cent. With a reduced default rate of 5 per cent and the cost of funds set at 12 per cent, total lender costs would be 34 per cent which is one percentage point lower than its current earnings on loans outstanding ratio of 35 per cent. Thus, KMBI's lending to the poor can be a viable proposition if its group building efforts are funded externally and productivity is increased The paper makes the following recommendations: * The government must seriously consider funding the SHG formation costs, as a means of reducing the transaction costs of lending to the poor. By corollary, the government must allocate resources for pro-poor programs which will enhance their creditworthiness and viability as borrowers, * The NGOs must continue with their market-based financial intermediation, * The NGOs should continue to work towards increasing volumes and worker productivity, * The NGOs must explore the potential of mobilising more savings (deposits) as an alternative to bring down the cost of funds. In this regard, there is a need to review and possibly formulate an appropriate regulatory and empowering framework for savings mobilisationThe NGOs must also diversify their loan portfolios, * The NGOs must invest in improved technology for record keeping, report writing and loan monitoring. The advent of cheap computer technology makes this an immediately realisable goal, * The NGOs must be prepared to turn over to self-help groups some of the responsibilities in loan processing, monitoring and retailing of loans, * The NGOs and the banks must have mutual cooperation in the areas of training and consultancy services to strengthen and improve the capabilities of NGOs further. Areas for common collaboration include loans processing, record keeping, management of information and financial management techniques for example, product profitability models of banks, * The donors must continue to support the NGOs, especially in the following areas: professionalisation of management and administration, acquisition and installation of appropriate computer technology for efficient loan transactions, and funding assistance for institution building.


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