Nurturing microfinance in a challenging environment : the Ford foundation in China

 76425 CASE STUDIES IN DONOR GOOD PRACTICES No. 10 March 2004 Nurturing Microfinance in a Challenging Environment: The Ford Foundation In China by Ann Duval, with Ruth Goodwin-Groen This case study describes how the Ford Foundation supported the emergence of microfinance in China by funding research, conferences, training, and an experimental Grameen project, run by an academic team, that developed into a large microfinance program. Overview economic development: more than 30 million private The potential of microfinance to alleviate poverty is businesses were created over the next two decades, gradually being recognized in China. In the context of a bringing unprecedented prosperity to many Chinese tightly regulated financial industry with high barriers to citizens. However, close to 100 million people in rural entry, the Ford Foundation has supported microfinance China still live in poverty. development through a wide range of local capacity- building activities. These initiatives include research and As part of its liberalization effort, the government conferences on poverty, microfinance, and rural financial restructured existing official financial institutions, created reform, as well training tours and an action-research new ones, and allowed unofficial financial institutions to project led by Chinese scholars. Ford’s support of these operate. In repeated attempts to ensure a sound financial activities has contributed to greater experimentation with sector, the government alternated between relaxing and microfinance in China, where a long history of massive tightening financial controls throughout the 1980s and subsidized rural finance programs makes the environment early 1990s. By 1993, however, the financial system especially challenging. Today, Chinese specialists on found itself in crisis. poverty and policy makers are expanding the policy dialogue on microfinance. A number of unofficial financial institutions had failed outright, causing many people to lose their savings. Among the local initiatives supported by Ford is an Politically motivated lending by state-owned banks experimental microfinance project led by a group of (which dominate the banking sector) had dire results: scholars at the Rural Development Institute (RDI) of the close to 25 percent of outstanding loans were non- Chinese Academy of Social Sciences. In 1994, the performing and loan-loss reserves proved to be scholars began a modest action-research initiative based inadequate. The government responded by introducing on the methodology developed by Grameen Bank new, stricter reforms to restore health and fiscal control to (Bangladesh). Funded by the Grameen Trust ($50,000 the financial sector. The new measures included soft loan) and the Ford Foundation ($50,000 grant), restricting small industry financing, closing unsanctioned Funding the Poor Cooperative (FPC) has since grown financial institutions, and establishing artificially low into a large microfinance program. As of August 2003, it interest rate ceilings in an attempt to curb inflation. had approximately 15,300 clients. FPC continues to experiment with adapting microfinance models to the Chinese context, providing valuable lessons, and We must severely attack all actions in the financial arena that disseminating information on good microfinance practice are illegal or in violation of regulations. We must guarantee to a growing Chinese audience of interested policy that financial laws, regulations, and rules are implemented makers, researchers, and practitioners. thoroughly. We must emphasize the prohibitions against banks using high interest rates to monopolize deposits, illegal fund- raising in society, and haphazard financial activities. Setting the stage Renmin ribao (People’s Daily), February 1999, as quoted in The People’s Republic of China initiated sweeping Back-Alley Banking (2002) by Kellee S. Tsai economic reforms in 1978. These reforms led to rapid Page 2 A DIRECT Case Study Concurrently, the government continued to subsidize 2003, one branch had an arrears rate1 of 0.08 percent. The loans in the effort to alleviate poverty. During the 1980s second branch had an arrears rate of 11.95 percent and and early 1990s, the Ford Foundation in China concen- needed to strengthen its management, while the third was trated on capacity building and poverty research. Several struggling to survive. Although not uniformly successful, Ford research grants were extended to Professor Du the experience of the three branches has identified Xiaoshan and his colleagues at RDI. In addition to valuable lessons for creating a sustainable microfinance studying rural poverty in China, RDI scholars studied sector in China. microfinance. In particular, they followed the progress of the Grameen Bank in Bangladesh. By 1992, Professor Du The founders of FPC have recognized that stronger and his team wanted to move beyond research and test management is needed to ensure the program’s long-term whether the Grameen model would work as a poverty success. Accordingly, they have hired professional staff alleviation tool in China. Their idea for a test project, in Beijing in an effort to standardize management across however, coincided with the financial crisis and sub- the branches. sequent tighter government controls. Meeting the Challenge: Funding the Poor Cooperative Start Up. Rather than seek permission to create a microfinance institution, Professor Du and his colleagues sought and received informal government approval in 1994 to test the Grameen model as an action-research experiment—the Funding the Poor Cooperative. Learning through Trial and Error. FPC chose to conduct its experiment in three of the country’s poorest counties. (The photo shows a typical client.) Although the RDI scholars had studied the Grameen methodology, they An FPC client in Hebei Province, August 2001. found putting it into practice to be more difficult than (Photo: Kellee Tsai.) theory. As the research experiment grew, like many MFIs, it experienced ups and downs, including Creative Solutions to Contextual Challenges. FPC occasional instances of corruption and financial mis- overcame two major stumbling blocks—institutional and management. Yet, the project leaders worked diligently financial—to initiate microlending operations. Unable to to continuously improve FPC’s financial performance register as a financial institution, the experiment and promote its institutional development. developed an unusual structure. FPC “headquarters