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UNITED NATIONS CAPITAL DEVELOPMENT FUND Microfinance |
Issue 17 / October 2005 |
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Featured Guest: Ms. Diana Taylor, New York State Banking Superintendent
Q&A on the Commercialisation of Microfinance 
In New York State it is conservatively estimated that there are about 800,000 people who, for a variety of reasons, don't use banks. While some are unbanked by choice, the problem is compounded by the fact that there are many communities here that lack basic banking services. For the most part, these are low income, immigrant communities in New York. Banks, in and of themselves, are engines of economic development. Their branches increase financial opportunity of all kinds by providing people and businesses access to capital. We've all heard the adage about 'give a man a fish and he'll eat for a day; teach a man to fish, etc. etc.'…I take that one step further - give the person the knowledge and means to fish, or bake bread or make clothes and they will sell you the excess. That's entrepreneurship and market development in one simple stroke. Right now, we are soliciting bids to conduct a Statewide survey that I hope will give us valuable information on how people access capital and how they use it. There are some givens: for example, we know that thousands of New Yorkers don't use banks and we know that people get victimized by predatory lenders. What we don't know is where people do use banks as opposed to, say, money transmitters and check cashers. Being able to break this information down will enable us to locate the gaps in services and the provision of community-appropriate financial products that stymie neighborhood economic development. Understanding what people know about money, as opposed to making assumptions about what their habits are can help promote access to financial services for all New York residents, to deploy resources where needed, and to foster a safe and sound financial services industry across the state. The Banking Development District program - or BDD - works by reducing the risk that banks incur in establishing a branch in areas where none has been before by granting them the right to receive at or below-market government deposits. This accomplishes two things - it allows the branch to reach profitability long before it otherwise might, and it gives the bank the capital to lend out into the community. We conducted a survey recently of 12 BDD branches across the state and found that each branch has an average of: US$57 million in deposits; 920 bank accounts; and has made 256 loans totaling US$6.3 million. That's a lot of capital and economic activity where none existed before. It really does work, and I intend to keep it going.
The Banking Department has no jurisdiction over what any bank does outside of our State. However, we can demonstrate our commitment by example, showing banks that increasing the access to financial products in disenfranchised communities everywhere is good for business. I do think we have a lot to learn from our fellow bankers and regulators elsewhere in the world - many of them are way ahead of us in the microfinance realm. If you look at the markets in Indonesia during its crisis of 1997, or the more recent Bolivian crisis, microfinance portfolios performed much better than commercial bank portfolios. The best thing we can do is come together, scope the extent of our need and learn from each other, and we in the U.S. have a great deal to learn.
If by 'prudential' you mean safety and soundness of the banks and the financial system, the most important job of regulators is to ensure that banks are managed responsibly and that the money supply is safeguarded, but that the system is flexible enough to allow people to do business and make a profit. Prudential supervision comes into play when an institution accepts deposits. In the case of entities which are providers of microloans, but which are not depository institutions, they should not be subject to the same level of prudential supervision as banks. Regulators need to be careful to make sure that any requirements placed on these entities make sense, and are not so onerous that they cannot conduct business. We need to foster a regulatory regime that allows banks to extend products to all financial sectors - just because the target market is poor that should not automatically convey the stigma of 'bad credit risk'. As regulators, we need to look closely at interest rate caps and loan criteria. The difficulty with microloans is that they are by definition very small, very expensive to administer, and typically are not collateralized. However, several studies have found that the repayment history for these loans is much better than for more conventional loans, and as I mentioned above, a microloan portfolio can be much more stable in times of financial crisis than other types of loan portfolios. Another area where regulators can have an impact is on how financial advocacy groups regard microloan programs. In this country, there is a very large and vocal contingent against "subprime" loans, or high interest rate loans. Their feeling is that no loan should have an interest rate that is "high" (however one defines too high) because it is bad for the borrower. The alternative, though, is denying people access to credit, an eventuality that I think is worse for the borrower in many cases. We must work to de-stigmatize legitimate subprime loans.
I am hoping that regulation can advance the commercialisation of microfinance. I think we need to look at the experience of regulators in other countries, some of which have been very successful in fostering these programs. As I mention in my answer to question 5, we need to be careful as regulators not to create an environment where it is impossible for the private sector to offer these services profitably. Think of the financial sector as a three-legged stool; if the law is the seat of a three-legged stool, regulations are the legs. One leg is safety and soundness. One is profitability and innovation, and one is consumer protection. All these virtual legs are equally strong and supportive and each is essential to maintaining balance. It is through effective and balanced regulations and rules that the system has retained its integrity, its edge and its ability to deliver capital where it is needed. Regulations should allow this more risky activity to be profitable. Removing caps from fees and lifting limits on interest rates could be changed. Once markets are truly free, more of these loans will be made, a meaningful market rate established and new investment opportunities will emerge.
I think the role of the private sector is crucial but as a former investment banker, I can say with certainty that it won't happen without a clear profit motive. Microfinance is about providing not just loans, but other financial services such as savings and deposit accounts, insurance, and cash transfer services. The only way to have a really sustainable program is with the involvement of the private sector. We need to build the capacity of financial institutions locally. We need financial intermediaries able to provide all the services needed. While there is clearly a role here for the not-for-profit sector, as loan originators, the key to success is to reduce the costs of the program as much as possible. The most efficient way to provide these services is through the private sector.
Nearly 40 percent of all the people who live in New York City were born outside of the U.S. In total, these immigrants send billions of dollars home every year. Of course, with so much money moving across borders, there is always an opportunity for bad actors to abuse the system. If there are anti-money laundering (AML) and Bank Secrecy Act (BSA) weaknesses in compliance systems, they will be found and exploited. That's why, as much as we regulators talk about the safety and soundness of the banking system, we must be just as concerned that check cashers and money transmitters - Money Services Businesses, or MSBs - are subject to the same sort of rigorous supervision. On the face of it, it's easy to see that this is important. What is not so obvious is that because MSBs need to have a correspondent relationship with banks in order to do business, banks need to feel comfortable that the MSB is being run by competent management. They need to know that all appropriate protections are in place and being used. If banks do not have this confidence, they will exit the business - which will do nothing to diminish the need for these services! They will simply be driven underground, out of our direct oversight. And that is the worst case scenario.
Microfinance is a very powerful tool against poverty, and we need to figure out how to create a system where more people can access microfinance products. None of us comes close to having all the answers, but, I hope in working together and taking advantage of the experience of others, we can come up with systems that work. I hope that it will make real what we all learned about in Finance 101. Intermediation: getting money from where it is to where it is needed. Our goal is to make capitalism work: creating access to capital - for a price - and putting it to use. Some refer to this as our opportunity to create a global middle class. I believe that we can use the financial sector as a means to that end; doing more than alleviating poverty - providing the world's poor a means to earn a living. |
