The Impact of External Governance Quality on the Economic Success and Outreach of Microfinance Institutions: Empirical Evidence

This paper examines the connection between governance and the economic and social success of microbanks. It utilizes data provided by 558 MFIs in 80 countries from 2002 to 2007. The study presents the hypothesis that the quality of a country's external governance is positively related to the economic success and outreach of local microbanks. The study finds that higher external governance quality supports the success of MFIs that focus on the microfinance business, while microbanks that do not exclusively rely on microfinance may be more prone to reaching operational self-sufficiency under a good governance framework. Rule of law and government effectiveness have a positive impact on microbanks' economic success, but a negative impact on depth of outreach.The paper recommends that government should support microbanks through the implementation of good governance. Recommendations include:

• Country's administration must ensure that successful development of MFIs does not lead to mission drift;
• Measures that meet the particular characteristics and needs of microfinance should be taken to support a sustainable local microfinance industry;
• MFIs should not adapt business models and strategies so far exclusively pursued by formal banks.