Presented by :
Dr. Salehuddin Ahmed
Managing Director

Palli Karma-Sahayak Foundation (PKSF)
(Paper for course on "Identifying Funding Options", Microcredit Summit Meeting of Councils,
24-26 June, Abidjan, Ivory Coast)


PALLI KARMA-SAHAYAK FOUNDATION (PKSF) :
THE APEX MICROFINANCING ORGANIZATION IN BANGLADESH (Case Study)

1. Objectives of PKSF

PKSF was set up in 1990 by the government of Bangladesh with the overall objective of alleviating poverty and improving the quality of life of the rural poor, the landless and the assetless people by providing them with resources for creation of self employment for enhancing the economic conditions. The specific objectives of PKSF are:

(a) to provide various types of financial help and assistance to non-government, semigovernment, and government organizations, voluntary agencies and groups, societies and local government bodies, so that, as Partner Organizations (POs) and in consistence with the Foundation's image and objectives, they can undertake activities with a view to generating income and employment opportunities among the economically most disadvantaged groups in the society;

(b) to assist in strengthening the institutional infrastructure of the Partner Organizations, so that they can improve their present operations.

2. Operational Strategy of PKSF

The basic operational strategies of the Foundation have been drawn from its objectives:

(a) It does not directly lend money to the landless and the assetless people of the rural areas rather reaches its target groups through the Partner Organizations, the delivery mechanism for reaching the poor.

(b) It provides greater thrust to institutional development.

(c) It favors no particular model, instead innovations and different approaches based on experience are encouraged.

5. Programs

PKSF implements three complementary programs:

(a) Loan program for the rural landless and the assetless people through Partner Organizations;

(b) Institutional Development Program for the POs, and

(c) Research

Loan program is the core program. The institutional development program is a support program to strengthen the POs for making them sustainable delivery systems for the poor. It consists of training of PKSF and PO staff; development of Management Information System (MIS); provision of interest free loan to POs for buying computers/motor cycles etc.

6. Program Implementation

Application in prescribed form: PKSF receives application for loan in a prescribed application form that requires the applicant to include details of the information about the organization, program, financing, etc.

b. Preliminary appraisal: If an organization has experience of managing credit program for the poor, PKSF preliminarily selects it for field visit if all information provided by the organization are consistent. PKSF judges experience in rural credit program using several criteria;
(a) number of years of experience,
(b) amount of loan disbursed,
(c) number of members and borrowers,
(d) recovery rate of loan,
(e) adequacy of skilled salaried staff and
(f) credibility of the sponsors.
(Criteria of selection in Annex-1)

c. Field visit: Once an organization is selected for field visit, an officer visits the organization. If the performance of the applicant is found satisfactory it is recommended for acceptance as PO. If there is some deficiency, the concerned organization is kept under observation and suggestions are given for improving the performance. On the other hand, if performance of an organization is found unsatisfactory, the application is rejected. Usually, the main reasons for rejection are the financial mismanagement, gross inconsistency between information in the application and that gathered from field verification.

d. Approval by the Governing Body: The final power of accepting a PO rests with the Governing Body. If the management considers an organization to be accepted as PO, the proposal is placed with detail description of the organization along with the field report, rationale for accepting it as PO and recommendation of the MD, in the meeting of the Governing Body. The Governing Body after deliberation accepts or rejects or puts certain conditions for accepting the organization as PO.

e. Signing of Loan Agreement:
(a) Final step in disbursing loan to the newly selected Partner Organization is the signing of a standard loan agreement with PO. The loan agreement contains terms and conditions of loan (e.g. rate of service charge, area of loan disbursement, number of instalments etc.). The loan is collateral free. In addition to a loan agreement, a promissory note is signed by the representative of PO.
(b) The loan agreement is signed from PKSF's side by the Managing Director and from PO side by the Chief Executive of the PO or sometimes jointly by the Chief Executive and the Chairman. (Credit Products : Terms and Conditions in Annex-2)

f. Verification of Loan Utilization : After the first loan is given, the PO is supposed to disburse the loan immediately after receiving the fund and give a list of borrowers to PKSF. An officer from PKSF in charge of the PO visits the PO to verify the loan disbursement and utilization of loan by the members. Usually, PKSF officials visit the POs at an interval of 3 months.

g. Application for Successive Loans: The approval of successive loans to a PO depends on several factors:

(a) satisfactory utilization of previous loan,
(b) maintaining high rate of recovery of loan at the field level (>98%);
(c) giving reports regularly to the PKSF,
(d) potential for expansion of loan program, and
(e) repayment of loan installments to PKSF, if due. The successive loan proposals upto Taka 2.5 million are approved by the Loan Committee. Similar loan agreement is signed for each instalment of loan. Loan beyond Tk. 2.5 million limit is approved by the Governing Body.

h. Monitoring: Monitoring of credit program is crucial for its success. POs monitor their programs at the field level and Since PKSF monitors the programs both at their field and office levels. Since PKSF provides collateral free loan to POs the only way to reduce the risk is to monitor the programs regularly Several complementary steps are taken to monitor the activities of POs, especially the credit program and fund management. A brief account of the monitoring system is given below:

Collection of program information: As already mentioned above that PKSF collects information on changes in borrowers, savings, loan disbursement and recovery, every month in a prescribed form.

Financial position: POs submit cumulative and monthly income, expenditure and cash flow statements to monitor financial health of the PO.

POs regularly send the list of borrowers to PKSF. These are borrowers from fresh instalment of loan from PKSF or loan from revolving fund.

Field visits: Field visit by the officers of PKSF is the backbone of monitoring of programs of POs. PKSF places utmost emphasis on field visits. Usually, the concerned officer visits each PO every three month. However, if the PO is big and has multiple, branches, a team of PKSF officials visit the program. During the visits the information submitted by POs as mentioned in (a), (b) and (c) are verified. Suggestions are made for improvement. The field visit is used for verification of the program as well as an effort for institutional development of the PO.

100% audit by internal audit team: PKSF conducts 100% audit of borrowers, usually annually, before embarking on major expansion of loan. The audit reports are submitted to the CEO of PKSF directly.

Audit by audit firm: As a part of annual financial auditing of PKSF, external audit firm is engaged to verify the financial position of sample POs.

7. Human Resources Management

Human resources in PKSF is considered as its main strength and engine for its fast growth. A combination of above average academic standing of officers, training and an compensation package for the officers, and an open environment contributed to the success of PKSF.

a. Recruitment Policy

PKSF has a well developed 'service rules' for policies regarding the human resources management of PKSF. Most important policy of PKSF is the recruitment policy. PKSF recruits graduates of above average academic results. This policy has greatly contributed to the quality of services delivered, working culture within PKSF and advisory role played by PKSF.

PKSF follows an elaborate screening process to recruit officers and support staff. An elaborate written test with viva-voce test is taken to recruit officers. This ensures transparent recruitment process and ensures quality of officers.

b. Training Program for Officials

The objectives of training program for PKSF officials are to give them expertise in credit program management, various approaches and aspects of poverty alleviation programs, auditing techniques, PKSF management.

PKSF provides theoretical as well as field experience and on the job training to its officers:

Main theoretical training on poverty alleviation programs, credit programs and auditing techniques are provided within PKSF.

Besides officers are sent to Bangladesh Rural Development Academy (BARD), Public Administration Training Centre (PATC) to have overview of rural development and poverty alleviation programs.

(c) Practical training are acquired from Grameen Bank and other NG0s. Officers stay at least 2 weeks at the branch level of Grameen Bank. That gives the real exposure of credit program for the poor.

(d) PKSF sends its officers to stay in the POs as a part of training to learn about the program. After each visit either to Grameen Bank or to PO, trainee officers submit elaborate reports on the organizations.

(e) The most effective part of the training is the attachment of each trainee officer to a senior officer. Trainee officers visit the POs along with senior officers. In this fashion he/she learns about the appraisal process of a PO, auditing techniques, minor details of field activities, working ethics and culture of PKSF.

8. Achievements of PKSF

a. Enlistment of PO: PKSF has accepted POs every year since its inception. Starting with 23 POs in its first year of operations, PKSF enlisted 182 POs upto March 1999. POs are dispersed all over the country. As on March 1999, the POs of PKSF have been working in 60 out of 64 districts of Bangladesh.

b. Membership: POs of PKSF have covered nearly 1.4 million borrowers.
Loan disbursement: PKSF in its first year of operations could disburse only Taka 2.995 million. That was the preparatory year for formulating policies and a period of learning to disburse loan to institutions. Upto March 1999, it had disbursed Taka 4965 million. With the revolving nature and with additional fund the POs have extended about Taka 15260 million at the field level.

c.Loan Outstanding: PKSF has Taka 3554 million loan outstanding with POs as on March, 1999.

d. Borrowers: As on March, 1999, total number of borrowers financed by PKSF fund was 13.96 million of whom more than 90% were women.

e. Recovery of Loan: PKSF has two different recovery rates:
(a) recovery rate of loan between the PO and PKSF, and
(b) recovery rate of POs. Recovery rate of PKSF over the last 6 years has been nearly 98%. This rate is defined as the percentage of due amount has been received on time. Loan recovery of POs at the field level is 99%.

f. Strengthening of the POs: One of the main achievements of PKSF is the development of local institutions. Most of the NG0s are running their program by receiving loan only from PKSF. Still they are successful to cover almost full amount of their cost of operations. Many have approached towards financial viability. Aside from financial viability, local POs are now better prepared to manage their program, because of training, advisory services and institutional development program of PKSF. These include training, development of accounting system and MIS, continuous management suggestions for improvement of the program management.

g. Potential for Expansion: This is another indicator for measuring achievement. Total borrowers of PKSF's POs are 1.4 million (including that of BRAC, ASA & Proshika). So, there is scope for further expansion of loan to the POs. In addition, PKSF is accepting new POs every year and existing POs are also expanding their coverage.

h. Training and advisory services: PKSF arranged several workshops for the directors of POs. These workshops mainly discussed policy issues to introduce uniform systems across the POs. Training sessions were arranged for giving training in accounting and MIS for the accountants and credit co-ordinators. PKSF has prepared 19 modules for training of its staff and different levels of staff of POs. One of the effective way of training of staff are those practical training given by the officers of PKSF during their routine visits to each PO. During these visits problems are identified and solutions are given. Regular discussions are held with the organizers and field staff during the field visits.

i. Research programs: So far, PKSF has conducted two research on the impact of its program on the beneficiaries. There have been several studies on PKSF by varrious authors at home and abroad. Recently, PKSF has contracted out a multi-year impact study to the Bangladesh Institute of Development Studies (BIDS), the premier research institution in Bangladesh.

j. Impact: Various reasearch studies have shown positive impact of microcredit on the lives of the rural poor in Bangladesh. A set of indicators ( Annex-3 ) has been suggested to study the impact further.

k. Fund : PKSF has received Taka 110 million from the government as grant since its inception. In addition, it is borrowing US$ 105 million from the IDA through the Government. USAID has provided a grant of Taka 500 million and the Asian Development Bank will provide US$ 18 million as loan. PKSF has also received some project related funds.

9. Sustainability of POs and Role of PKSF

a. Institutional sustainability of POs: Fundamental policies to run a successful rural credit program are in place in many POs Selection of members, savings and loan policies, portfolio management, financial control, monitoring and evaluation are some of the fundamental areas of policy formulation.

So far, many POs within their limited capacity tried to recruit competent staff. POs do not have adequate financial resources to recruit staff with better educational attainment and competence. Many POs are being managed by their founders and expected to be so for quite sometime. Leadership by the present Directors at this early stage of the organization is important for growth and sustainability. Many POs either have physical assets like office buildings and land or purchased land for construction of office, training center etc. This show a clear commitment from the part of the organizers for giving POs a solid foundation.

Financial sustainability of POs: The basic issue in financial viability analysis is whether, POs can cover their costs of managing the credit program from the income of the program, mainly the service charge from loans. Some POs have been successful to gradually cover the cost of operations from the income of the credit program and generate moderate surplus. It expected that all POs will continue to improve their profitability conditions.

Role of PKSF: Directors of POs have identified several areas where PKSF made significant contributions:
(i) by providing funds, PKSF fueled the expansion of programs and enabled them to become financially viable,
(ii) PKSF assisted developing the credit management system, MIS and accounting system,
(iii) PKSF's regular advisory services helped gradually improve the capacity of POs in managing programs.

Future role of PKSF: The future expected role of PKSF has also been identified by the Directors of PKSF which are:
(i) continuation of providing loan fund should be the main role of PKSF
(ii) PKSF should help train all staff of POs for further improvement of capacity of POs which will be the basis for sustainability,
(iii) Continuous advisory service will also be an important area of assistance, and
(iv) PKSF should have action research not only in micro-credit but also in other related areas of poverty alleviation. PKSF has recently decided to provide fund on a pilot basis to microenterprises, to the urban poor and to the hardcore poor.

b. Sustainability of PKSF

Institutional sustainability of PKSF: PKSF has a competent and dynamic Governing Body capable of guiding the management, changing policies and introducing programs as and when necessary. It has well established transparent policies regarding the loan program as well as management of its affairs. It has gradually increased its outreach by enlisting increasing number of POs. PKSF has been able to mobilize the financial resources to embark on a large scale expansion of its activities. These factors will continue to contribute towards expanded operations of PKSF.

Financial Viability: PKSF has been able to gradually improve its financial position. It has been successful in increasingly covering cost of operations by charging a reasonable service charge, increasing loan disbursement, keeping the operating expenses low and keeping the loan loss expenses very low by maintaining high recovery rate. Overall, PKSF has posted surplus every year since inception.

10. Lessons from PKSF Model

PKSF is a unique organization in its organizational structure, activities and management practices. Few factors can be identified that made it possible to register such an impressive performance.

PKSF has been established and funded by the government, but it has been kept as an independent organization outside government bureaucracy. That enabled PKSF to form its own policies and develop own management practices suitable for its activities.

The outstanding quality of the Governing Body has contributed most in guiding the management and forming and revising policies whenever it was felt necessary.

The policy of recruiting officials of above average quality has contributed most to the growth and performance of PKSF.

PKSF has been successful in utilizing the capacities of local NG0s in quickly reaching the poor and developing the POs to deliver the financial services to the poor. Selection of right PO was the most crucial factor for the success.

The key to the sustainability of POs is the assured source of fund and improvement in capacity of human resources backed by good management practices. In both areas, PKSF has proven itself to be effective.

Financial intermediaries (NG0s) backed by resources from PKSF has been found to be effective in reaching the poor. PKSF and POs can also become sustainable in the process.

The rural poor men and women have proven to be capable of managing fund and improve their income. Given an opportunity they can help themselves. The POs of PKSF have proven capacity to select right target groups and deliver the desired services.

One area that needs top priority from the part of PKSF is enhancing the capacity of POs. This can be done by more investment in development of human resources of POs.

PKSF model (as an apex second-tier organization) shows potential for replication. It can further grow and make significant contribution in improving the quality of life of the poor.

References

The Role of An Apex Financial Institution to Finance Micro Credit Programs: The Palli Karma-Sahayak Foundation (PKSF) in Bangladesh by Dewan A.H. Alamgir, CDF/CGAP, Dhaka, 1997.

PKSF, Annual Report 1997-98.

The World Bank, Staff Appraisal Report : Bangladesh Poverty Alleviation Micrfinance Project, August, 1996.

Annex-1

Guideline for selection of Partner Organization (PO) of PKSF for its "OOSA" (organization operating in small area) microcredit programme

PKSF is presently carrying out its operations through various partner organizations, therefore, selection of PO is a crucial task of PKSF and this is an ongoing process. Under this process PKSF appraises various types of non-government, semi-government and government organizations, voluntary agencies, societies and local government bodies to select these as POs which have gained experience and expertise or which have the potentials to operate a successful microcredit programme for self-employment and income generation of the landless and assetless. In appraising an organization, PKSF follows a clear guideline which can be divided into the following areas:
(i) Organization;
(2) Organizer;
(3) Management;
(4) Human Resources;
(5) Working Area;
(6) Field Activities;
(7) Past performance;
(8) Management Information System (MIS) and
(9) Accounting System.

According to the above mentioned guideline, to become a PO, an organization should have the following features.

(i) Organization :The organization should have a legal basis i.e., if it is a non-government and voluntary organization it is to be registered under the appropriate registration authority such as the Directorate of Social Welfare, Department of Women's Affairs, Registrar of Cooperatives, NGO Affairs Bureau etc.

It should have a constitution duly approved by the concerned registration authority.

It should have a General Body and an Executive Committee approved by the concerned registration authority.

In case of government, semi-government and local bodies it must be formed lawfully.

The organization should have the mandate to operate credit programme for self-employment and income-generation activities of the landless and assetless with an admissible service charge.

It should have a mandate to borrow money from the government, semi-government, private and any other organizations.

(2) Organizer :

The organizer or founder(s) should be socially reputable, respected, honest with intention to serve the poor people

Organizers are to be acceptable to the staff, group members and to the community in general.

The organizers should have the capability and vision to develop a future perspective and strategic plan of a development organization.

(3) Management :

The organization should have an organogram.

The chief executive should be full time and should possess the mentality to work on a long term basis. In case of local organization the chief executive have to stay in the working area.

The chief executive should have good and dynamic leadership quality and should demonstrate good management capability and be able to formulate strategic plan for the organization.

The organization should have adequate number of regular and fulltime staff to ensure proper implementation of microcredit programme.

The chief executive should have a good reputation and should be acceptable to the staff, group members, and to the community in general.

(4) Human resource:

The organization should have trained and skilled manpower to administer the organized group and to maintain a sound accounting system.

Staff should be honest, dedicated, and should possess missionary zeal.

(5) Working Area :

Working area of the organization should be well suited for microcredit operation. It should have good communication network, banking facility and easy access to market so that the borrowers can utilize their loan profitably.

It should be poverty stricken and such rural areas will be given preference.

There should be potentials for expansion of the programme by avoiding duplication with the activities of the other organizations in the same area.

(6) Field activities :

Members organized would be the landless and assetless; the characteristic features of whom would be as follows: those residing in rural areas owning less than .50 decimal of cultivable land or having total asset of the value less than that of one acre of land in the locality, would be considered as landless-assetless.

Members are to be organized in groups and groups must be formed with like minded people who should be conscious/careful about group discipline and regular in attendence in group meeting, and making saving deposits. Members should have a minimum 6 months practice of regular saving deposit.

The organization should have at least 400 organized members, Tk. 0.2 million operating loan outstanding at field level and should have experience of at least 6 months successful microcredit operation.

Number of organized members should be consistent with the working/operating capital of the organization.Groups should be organized within the 10 Km radius of the project office.

In case of local organization 'Head Office' should be situated in the working/operational area.The organization has to maintain a minimum loan recovery rate of 98% on a continuous basis. For a program operating for more than three years a minimum loan recovery rate of 95% has to be maintained on a continuous basis.

Overlapping with the activities of other organization in the same area must be avoided.

(7) Past Performance :

The organization should have a demonstrated experience of ensuring proper utilization of loan money with maintaining a high rate of recovery on a continuous basis.

It should have the evidence of successful implementation of all the programmes undertaken by the organization.It should have properly organized members and groups for successful operation of microcredit programme.

(8) Management Information System (MIS)

System for collecting information from member, group and office level for proper management and monitoring of the microcredit programme should be present.

Adequate information should be available regarding microcredit operation.

(9) Accounting System :

The organization should maintain a sound, systematic, correct, detailed and transparent accounting system.

The organization should not have case of any misappropriation or illegal withdrawal of fund.

Savings account of the group members must be complete, detailed, transparent and correct.

All the accounts should be duly audited by the proper authority and the reports should be readily available.

All the accounts must be correct and updated.

Annex-2

CREDIT PRODUCTS : TERMS AND CONDITIONS

PKSF's services to various types of organizations (mostly NGOs) called the Partner Organisations (POs) are given through two windows for two groups with respect to their volume of operations. Small and medium sized POs and large POs are termed as OOSA (Organizations operating over a small Area) and BIPOOL (Big PO operating over a large Area) respectively. For OOSA, the amount of first loan is 1,00,000/- taka or less. Amount of subsequent loans is not restricted by any specific amount. It depends on the performance and absorption capacity of a PO. Service charge varies from 3% to 4.5% per annum depending on sanctioned amount of loan in favour of a PO under OOSA window of PKSF.

Amount of sanctioned loan (in taka) Service Charge

1. Upto 5 million 3%
2. Above 5 million to below 75 million 4%
3. Above 75 million 4.5%

The loan repayment period for each loan disbursed to a PO is 3 years. First six month is considered as grace period and the loan is to be repaid in 10 quarterly instalments along with service charge within the rest 30 months.

At present PKSF is considering to impose 2% additional service charge on POs as penalty for late payment of instalment to PKSF.

For BIPOOL (Big POs), service charge is 5% per annum. Loan repayment period is 10 years. First 4 year is treated as grace period. However, service charge has to be paid by the PO on a semi-annual basis during the grace period. The loan is to be repaid in 12 semi-annual instalments along with service charge within the rest 6 years.

Summary of Foundation's Loan Programme

A..PKSF-PO Level

PO - Member Level

Recovery Rate of Foundation's Loan Programme ( in percentage)

REGULATORY FRAMEWORK FOR MICROFINANCE INSTITUTIONS : A CASE STUDY OF BANGLADESH

Presented by :
Dr. Salehuddin Ahmed
Managing Director
Palli Karma-Sahayak Foundation(PKSF)

(Paper for course on "Legal and Regulatory Framework", Microcredit Summit Meeting of Councils, 24-26 June, Abidjan, Ivory Coast)

1. Context

Financial services in Bangladesh come from three areas: informal sources (family, friends, ROSCAs and savings clubs, and moneylenders); the semi-formal sector of NGO microlending; and the formal sector of agricultural and nationalized commercial banks, along with some privately owned banks. Like many countries, only the formal sector is regulated, with no regulation or supervision specifically focused on MFIS. The public policy reasons for regulating the financial sector are:
(i) individual depositors need protection from fraud and mismanagement by financial institutions because the public does not have the information or expertise to evaluate those risks; and

(ii) if the government provides deposit insurance or financial support to the financial sector, it imposes some risk parameters on those institutions. As MFIs push further into financial intermediation and use member savings as a major funding source, some degree of oversight under the first rationale may be appropriate. At present, depositors and funders of NGO microfinance institutions rely primarily on the integrity of management to protect their funds.

2. The Formal Sector

As of December 1996, the formal financial sector in Bangladesh consisted of thirty-two banking institutions: fifteen national commercial banks (state-owned commercial banks), two agricultural bank networks (also state-owned), ten privately owned banks, and a few recently established non-bank finance and leasing companies.

The Regulators

Bank regulation is conducted by the Bangladesh Bank and the Ministry of Finance. The Bangladesh Bank has the responsibility to establish regulations and supervise the banking sector. It has the power to license and examine all banks in the country and exerts great influence over the state-owned banks and their directors, in part due to its accountability to the Ministry of Finance. It has a staff of approximately six thousand and is headed by a governor appointed by the Ministry of Finance.

The Ministry of Finance is a cabinet-level position within the government, and the Minister is a direct political appointee. Where the jurisdictions of the two agencies meet or overlap is unclear, but the Ministry of Finance is influential over the Bangladesh Bank.

3. The Semi-Formal Sector: Microrinance Institutions

Most MFIs in Bangladesh are NG0s registered under the Voluntary Social Welfare Agencies Ordinance 1961, Societies Act of 1860, The Foreign Donations (Voluntary Activities) Regulation Ordinance 1978 and The Foreign Contribution (Regulation) Ordinance 1982 exempting them from central bank oversight. Most have a donor-funded loan pool and hold member deposits in a low-risk investment portfolio to pay interest on their savings. Several large MFIS, however - including ASA, Buro Tangail, and BRAC - use member savings to fund their lending activity as loan demand has outstripped the supply of donor capital.

The permissiveness of the current regulatory environment allows NG0s to undertake nearly all the activities they need to meet their development objectives. They can accept deposits, extend credit, and raise capital from donors and private sources. While many organizations have used this flexibility to achieve impressive development impact through creative design, efficient branch networks, and visionary leadership, their members and funders rely solely upon management to avert fraud, mismanagement, and/or unforeseen circumstances.

The few MFIs that have adopted a legal form with some regulation face minimal oversight and monitoring. Although a legally chartered bank, Grameen faces minimal supervision. Financial co-operatives are chartered under the Co-operative Societies Ordinance of 1984, permitting them to mobilize deposits from the general public in addition to their members. While the government's Registrar of Co-operatives regulates these institutions, the registrar has little preventive or protective regulation and conducts minimal to no supervision.

So far, the regulatory framework has not caught up with the evolution of microfinance in Bangladesh. The few NG0s that have considered applying for a standard commercial banking license have either been denied approval or have found the process too time-consuming and uncertain to warrant the pursuit.

Structure of The Semi-Formal Sector

A few large institutions dominate the microfinance industry in Bangladesh. In June 1996, Grameen Bank and three NG0s served eighty-five percent of the active micro-borrowers. Grameen, ASA, BRAC, and Proshika have traditionally been the largest microlending organizations.

4. Existing Regulation: The Grameen Bank

The only central bank-regulated MFI in Bangladesh today is the Grameen Bank. Grameen's formal and legal bank status allows it to raise capital and collect deposits to finance its commitment to provide banking services to low-income persons. In theory, this forms the basis for Grameen's permanence as a banking institution. Grameen Bank evolved from an initiative sponsored by Chittagong University, to a project of the Bangladesh Bank, to a specially chartered institution in 1983 with the passage of the Grameen Bank Ordinance by the Bangladesh Parliament. While Grameen does not attract private capital with market rates of return, and still receives substantial donor funding for its development activities, the Bank's operating costs are covered more than one hundred percent by internally generated revenues.

The major features of the Grameen Ordinance parallel most of those requirements, but were adapted to fit the microfinance mission. Specifically:

• Capital Requirement: Grameen began with an initial capital base of Taka 10 crore (US$2.5 million), with additional paid-in capital of Taka 7 crore (US$1.75 million), or US$4.25 million compared to US$3.25 million for a standard commercial bank in Bangladesh. However, there are no ongoing capital adequacy or liquidity ratio requirements for Grameen Bank.

• Ownership stake by the Bangladesh Bank: Ownership of Grameen Bank is shared by Bangladesh Bank and Grameen's clients (member-shareholders). The central bank amended the ordinance in 1990 to reduce its ownership from 60 to 25 percent, with member-shareholders increasing their stake proportionately.

• Compliance with standard (relatively weak) portfolio risk classifications, including delinquency, loan-loss provisions and write offs. While Grameen has developed more detailed and useful internal reporting systems, it reports delinquency to the Bangladesh Bank using the same measures as formal banks (i.e., loans more than one year past due are delinquent, and loans more than two years past due are considered bad debts).

• Branching Restrictions: Grameen must request Bangladesh Bank approval to open a new branch. In practice this has been a formality since no request has ever been denied. For new branch approval, the central bank prepares a brief "feasibility study" that describes the area, the population, demographics (percentage of women and landless; literacy rates, if available; and typical occupations), and the opinions of local politicians and local national commercial bank officers.

• Access to Bangladesh Bankfunds: While Grameen Bank cannot access central bank lines of credit, the Bangladesh Bank amended the Ordinance in 1990 to add a provision for the issuance of bonds and debentures that are guaranteed by the Government of Bangladesh, dramatically increasing Grameen's access to the capital markets. The interest rate is 1-1.5 percent below market rates, with interest-only payments during the term of the bond.

• No limitations on the scope of activities: As long as business functions are conducive to the objectives of the Grameen Bank, they are permitted activities. Grameen has been authorized to collect savings from non-members since 1987, but has only recently emphasized savings mobilization.

• Board Structure: According to the 1990 amendment, governance is by a twelve-member board of directors, of which three are government appointees and nine are elected by member-shareholders. Member-shareholder representatives are elected through a regional process of a series of local elections. The Chair of the Board is appointed by the government from the board's appointed directors. All directors serve three-year terms. The managing director is an ex-officio Board member with no right to vote.

• Bangladesh Bank Approval on Senior Management: While the board appoints the managing director, any selection must have prior approval of the Bangladesh Bank. To date, the only managing director has been Dr. Mohammed Yunus, Grameen Bank's founder.

• Taxable Status: For at least the first ten years, no taxes were due on any profits. The board of directors determines the permitted use of profits.

5. Proposed Framework for Regulation of MFIs

In view of the historical emergence and evolutionary process of MFIs (most of which are NGOs) in context to Bangladesh comparing to the experiences of other developing countries in micro-finance industry, it can be argued that the conventional regulatory framework like that of formal banks and financial institutions is not considered appropriate and hence not required under the circumstances prevailing in Bangladesh particularly in view of the fact that MFIs are not accepting deposits with chequing facilities from public. The unique features of MFIs in the mode of social and financial services with the core objective of poverty alleviation that differentiate the industry from the formal financial sector further justify the proposition. However, the above proposition (non-requirement of conventional regulatory framework) does not, in any way, downplay the importance of having some strategic monitoring measures that lie compatible and appropriate to their objectives, institutional operation and development culture. And that it should incorporate user's friendly prudential norms/indicative guidelines (preventive measures) in the form of a concrete 'Code of Norms/Conduct' which would ensure sound and organized growth of MFIs on sustainable basis.

5.1 Self-Regulation For NGO-MFIs

The self-regulation mechanism for the MFIs is a prerequisite for their smooth functioning and sound growth. It is admitted that the effective self-regulation is one of the important key elements of an well-managed and viable institution which can hardly be substituted by external measures.

It is, therefore, proposed that self-regulation through development of own strong governance -body, efficient management system and effective supervision and internal control (on-site and off-site) should be introduced within the fold of an agreed 'Code of Norms/Conducts' for the growth of MFIs in Bangladesh. The following elements of self-regulation are suggested which the MFIs must abide by under the agreed 'Code of Norms/Conducts':

(a) A strong and capable board of directors that establishes sound program interventions, financial and risk management policies and holds management accountable for implementing those policies effectively,
(b) Developing of standard accounting system that is transparent and acceptable universally,
(c) Effective internal control and an intensive and extensive internal audit function to conform that the approved policies are followed and procedures are effective,
(d) Development of effective mechanism of saver's protection,
(e) Efficient management and effective Management Information System (MIS),
(f) Development of effective financial and operational performance standard,
(g) High quality external auditing by those auditors who are knowledgeable and competent in micro-finance as an objective check on internal systems to protect against fraud and mismanagement, and
(h) Strategic monitoring of the financial performance standards, program performance and compliance of the code of norms/conducts by an appropriate and competent monitoring organization.

5.2 Strategic Monitoring Framework for NGO-MFIs

Side by side with the self-regulation mechanism for MFIs, there has been a strong felt need for overseeing the financial and program performance through an appropriate monitoring mechanism based on certain standards compatible to the MFIs activities unlike the conventional financial performance standards being used for formal banks and financial institutions. As most of microfinance institutions undertake both financial and non-financial services, the ratio analysis should also be different from formal banking institution. However, the non-financial services, i.e. the social development activities of the MFIs bring no direct financial return to the institution, the assessment of such activities could be made through impact studies. Usually financial performance evaluation for a bank is being done by CAMEL rating that includes the capital adequacy ratio, portfolio quality ratios, management efficiency, earning quality ratios and liquidity ratio. In case of micro-finance institutions, some of the proponents suggest for more or less similar set of measures to assess the performance which is known as SCALE (includes self-sufficiency ratio, capital adequacy ratio, asset or loan portfolio quality, liquidity ratio and earning quality ratio) and in addition to evaluate the development objectives suggest using OSI (outreach, service quality and impacts). A mix of contextual indicators from the above rating measures as a ‘package’ based on the important features ( Annex-4 ) can be suggested for assessing financial performance situation of the micro-finance institutions (irrespective of size and outreach).

The program monitoring of the MFIs is recommended to be periodically undertaken (off-site) by the monitoring agency through regular periodical statistical reporting from the micro-finance institutions. The periodical information should include the extent of coverage in terms of membership and geographical area, loan disbursement (by term), loan recovery, loan outstanding, amount of gross and net savings (obligatory and voluntary), amount of arrears due with actual recovery against the due, loan recovery rate etc.

5.3 Organizations to Undertake Strategic Monitoring

(a) Bangladesh Bank

Bangladesh Bank does not have, at present, adequate expertise and manpower to undertake strategic monitoring and supervision of the NGO~MFIs. And as the number of such organizations are many (more than 1000) with varied size, outreach including their operation at different locations in the country, it will not be appropriate and feasible for Bangladesh Bank to play the role of monitor and to undertake supervision functions. It is often suggested that the Bank should only be responsible for registration of MFIs.

(b) Palli Karma Sahayak Foundation (PKSF)

PKSF has a great potential to administer and monitor the system of self regulation. It has qualified expertise. PKSF devoted considerable resources to monitor and supervising its partner organization to ensure that they meet those standards. The supervision responsibility would need its charter to be amended further.

(c) Apex MFI as Apex Body of NGO-MFIs

The thire-option is to establish an exclusive and independent organization as Apex Body through the government enactment. It will be responsible for undertaking strategic monitoring of MFIs in line with the agreed 'Code of Norms/Conducts'. It could be a corporate body having representatives of formal and semi formal MFIs, the government and the Bangladesh Bank.

(d) Apex Body as Unified Organization for Registration, Monitoring & Supervision : Alternate Option

Instead of having more than one organizations (Bangladesh Bank for registration and Apex Body for monitoring and supervision) involved in the process of registration, monitoring and supervision, it would be an alternative option to have one unified organization to deal with the whole affairs of NGO-MFIs. In that case, the proposed apex body will be in a better position to play its role effectively as monitoring organization. Such quasigovernmental organization can be established through special enactment by the government. The main features of the organization will be
(a) a non-profit corporate body to be established under Companies Act limited by guarantee,
(b) a capable Governing Body with mixed stake-holders and
(c) sources of funding to run the organization will be from the subscriptions of member institutions,contribution from the Government and donations from the international organizations.

6. Special Enactment

There is the need for special enactment for the MFIs (mainly the semi formal ones) for formally recognizing them as legal entity by the Government for providing limited financial services with the objective of poverty alleviation. The enactment should clearly identify the appropriate organization delegating the authority of providing registration or issuing certificate of recognition as NGO-MFI in favor of the Government based on certain eligibility criteria. The eligibility criteria should be simple and appropriate in context to the usual features of the existing micro-finance institutions working in Bangladesh. Any existing NGO-MFI who fulfills the eligibility criteria will get the registration irrespective of whether it was previously registered under any act of the Government or not. A new NGO which wish to undertake micro-financial services will be eligible to obtain the registration from the concerned authority if it fulfills the criteria/conditions. The above Government enactment and incorporation of the NGOs to function as micro-financial service providers would legally allow and authorize the NGO-MFIs to undertake contract/ agreement to get access to funds with formal financial institution or other national and international organizations. For various reasons PKSF as regulating agency might emerge as viable option. To avoid the conflict of interest the lending function and regulatory function can be clearly demarcated. For this, PKSF should be organizationally restructured and appropriate legal authority should be bestowed on it by the government.

References

PKSF, Annual Reports of various years.

Bangladesh Bank/Development Planners & Consultants (DPC), "Final Report on Regulatory Framework", January 1999, Dhaka.

Microfinance Network, Occasional Paper No. 2, "Regulation and Supervision of Microfinance Institutions: Case Studies", Washington D.C., 1997.

M.A. Baqui Khalily & M.O. Imam, "Behaviour of Microfinance Institutions and the Case for Regulation and Supervision", Paper presented at a Seminar arranged by PKSF/Proshika, Dhaka,
June 1998.

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