Issues in Subsidies and Sustainability of Microfinance: An Empirical Investigation

This paper empirically investigates the determinants of microfinance profitability. It examines issues in mission drift, subsidization, efficiency and interest rates.

Using Yaron’s Subsidy Dependence Index (SDI) as a measure of sustainability, the study generates data from the audit reports of 179 MFIs worldwide. Results support the existence of a tendency for mission drift in microfinance. The study finds evidence that:

• Investors tend to direct funds to those MFIs that cater to well-off clients who can afford to pay back higher loans;
• MFIs do charge higher interest rates to women borrowers with small loan sizes;
• There is no trade-off between outreach and sustainability;
• There is a trade-off between costs and MFI sustainability;
• MFI productivity and efficiency contributes towards sustainability;
• Subsidized MFIs are inefficient due to higher costs associated with larger loan sizes;
• Subsidized MFIs hire qualified staff and offer better and innovative products to relatively well-off clients, thus increasing administrative costs.

The paper states that practitioners and social investors must realize that cost efficiencies resulting from good governance and management can significantly contribute to expanding outreach to the poor.