1. Summary of the Last lecture The Microagent Model: Barefoot Agents MODELS OF FINANCING INCLUSIVE FINANCE Supply and Demand

2. MODELS OF FINANCING INCLUSIVE FINANCE

3. Supply and Demand By 2007, total international investment in microfinance topped $5.4 billion, a dramatic increase in only three years. Much of the increase came from private investors, both institutional and individual.

4. Supply and Demand While many of these new investors were attracted by the social impact of microfinance, others sought solely commercial returns.

5. Supply and Demand Among the investors in microfinance are: The rich. High-net-worth individuals and private banking clients, many looking to combine social and financial returns.

6. Supply and Demand Ordinary people. Retail investors accessing such vehicles as Oikocredit, a European fund, and Kiva, an Internet-based social investment vehicle. Most of these investors are strongly socially motivated, and some treat their investments as a charitable activity.

7. Supply and Demand Institutional investors. Pension funds, insurance companies, and the like, such as TIAA-CREF, are bound by prudential rules that restrict them to top-quality investments. For microfinance, attracting investors like these represents a major threshold crossed.

8. Supply and Demand Risk-taking investors like hedge funds and venture capitalists. Banks with liquidity to place, especially banks with developing-nation operations.

9. Supply and Demand Sovereign wealth funds, particularly from non-OECD countries, with excess liquidity.

10. Supply and Demand Each of these investor types needs investment vehicles fitted to their special characteristics.

11. Supply and Demand At one end of the spectrum, MicroPlace leverages eBay technology to lower the cost of servicing tiny transactions, making it possible to work with $500 investments.

12. Supply and Demand At the other end, a venture capital firm like Sequoia has the skills and risk appetite to invest directly in MFI equity, as it did in SKS, a powerhouse MFI in India.

13. Supply and Demand Many of the private investors in microfinance are based in Europe or North America.

14. Supply and Demand But local investors matter, too. Although capital markets in developing countries are often shallow, local investors work in the same currency as the MFIs they invest in, avoiding foreign exchange risk that hits MFIs borrowing in hard currency.

15. Supply and Demand They understand the market context and have firsthand exposure to the MFIs. For these reasons they are the most suitable investors in the long run, and their importance will rise as the markets in countries like India, Brazil, and Mexico deepen.

16. Supply and Demand One final group of “investors” who fund MFIs is depositors. International investors should be aware of the importance of local depositors as core funders, as well as the importance for low-income people of access to savings services.

17. Supply and Demand What has changed?

18. Supply and Demand The Gates Foundation has made savings services the cornerstone of its financial inclusion strategy.

19. Supply and Demand Investors have a responsibility to ensure that their funds end up as part of a diversified MFI balance sheet that includes plenty of savings, where permitted.

20. What Has Changed? What has changed over the last 10 years to make microfinance “invest-able”? Some changes have little to do with microfinance, and everything to do with favorable market conditions.

21. What Has Changed? Until late 2008, markets were liquid and looking for good places to invest. At the same time, emerging and even some frontier markets were gaining the depth and stability to make them attractive, while new mechanisms made it easier to invest across borders.

22. What Has Changed? The microfinance sector, at least its more advanced portions, was ready to accept this increased interest.

23. What Has Changed? The leading MFIs grew to a size sufficient to absorb the amounts investors wanted to place, while at the same time lengthening their track records of stable profitability.

24. What Has Changed? More MFIs became regulated, coming under scrutiny by banking authorities that required them to meet prudential norms of capital adequacy and transparency. The quality and availability of information coming from individual MFIs improved.

25. What Has Changed? Today, information on MFIs is much better than it was 10 years ago, which is to say it is more complete, more verifiable (audited or rated), and more in line with the financial indicators used by private-sector investors.

26. What Has Changed? The sector as a whole is developing a track record of lower risk than commonly expected, and lower correlation with other asset classes.

27. What Has Changed? Finally, as investors enter the market and experiment, the market itself has grown more sophisticated. Instruments are available for investors of different stripes. Exit options, once nearly nonexistent, are starting to emerge.

28. What Has Changed? In the investment world, deals drive change. Each new deal takes markets one step further and enlarges the realm of possibility for other deals.

29. What Has Changed? In this section of the course, on models for entering inclusive finance, we organize our discussion around deals featuring different investment instruments.

30. What Has Changed? These instruments are for investors what the models of bank downscaling or banking correspondents are for direct lenders—the means to connect to inclusive finance.

31. Debt Deals We can regard debt as the investors’ entry strategy. Private investors have been far quicker to provide debt to microfinance institutions than to take on equity stakes.

32. Debt Deals Nonprofit MFIs that cannot take deposits depend heavily on debt for lending capital, and deposit-taking microfinance banks need debt for growth, longer-term funding, and liability diversification.

33. Debt Deals A wide range of investors provide debt to MFIs, from ordinary people who fund Kiva and MicroPlace, to high-net-worth individuals, to institutional investors who participate in structured finance.

34. Debt Deals The debt instruments, too, range from the simple (bank loans) to the sophisticated (securitization).

35. Bank Loans At the start of microfinance, donors and government supplied nearly all MFI loan capital. When a few MFIs in Latin America began to break even and grow faster than donors could respond, they decided to seek loans from local banks.

36. Bank Loans This turned out to be harder than they expected. In 1985, ACCION International responded by creating the Latin America Bridge Fund to guarantee such loans.

37. Bank Loans The Bridge Fund is the first go-round in the story of financial deepening that recurs many times as MFIs gradually engage the capital markets. At first, banks were unwilling to bet on the creditworthiness of MFIs without guarantees.

38. Bank Loans The public sector (USAID) provided initial backing for the Bridge Fund, but private socially responsible lenders soon joined.

39. Bank Loans Although most of these private lenders were essentially philanthropic—including foundations making program-related investments and religious orders using their retirement savings to do good—these Bridge Fund lenders were in fact the first private investors willing to bear credit risk in microfinance.

40. Bank Loans Most Bridge Fund–backed loans were in the range of $500,000 to $2 million, and early guarantees covered 90 or 100 percent of capital loaned.

41. Bank Loans Over time, banks reduced the required cover, and eventually most Bridge Fund MFIs graduated from guarantees.

42. Bank Loans These MFIs now access bank loans on their own or have moved to better—larger scale, longer term, and cheaper—sources of finance, such as bonds.

43. Summary These MFIs now access bank loans on their own or have moved to better—larger scale, longer term, and cheaper—sources of finance, such as bonds.