Fulfilling the banking needs of Pakistanis under challenging economic conditions

Fulfilling the banking needs of Pakistanis under challenging economic conditions

By: Communicators - Business Team (July 16, 2024)

Recently in Pakistan, it has been noticed that microfinance banks are making significant strides in expanding their outreach to the low-income segment of the population. Despite facing challenging macroeconomic conditions, these banks are able to serve more accountholders and borrowers compared to conventional banks, particularly due to their focused approach and limited sizes. This expansion highlights the resilience and critical role of microfinance banks in promoting financial inclusion and providing essential financial services to underserved communities.

Microfinance banks often serve more accountholders and borrowers than conventional banks due to their focus on financial inclusion and outreach to underserved populations. Some reasons why microfinance banks excel in these areas include:

1. Target Market:

   • Microfinance banks primarily target low-income individuals, small businesses, and entrepreneurs who are often excluded from traditional banking services.
   • They provide financial services to people without collateral or credit history, which conventional banks typically require.

2. Product Offerings:

   • They offer small loans, savings accounts, insurance, and other financial products tailored to the needs of the underserved population.
   • These products are designed to be accessible and affordable for people with limited financial resources.

3. Accessibility:

   • Microfinance banks often have a widespread presence in rural and remote areas where conventional banks may not have branches.
   • They use innovative delivery channels such as mobile banking, agents, and community-based banking to reach more people.

4. Community Focus:

   • They often engage with local communities and build relationships, making it easier for them to understand and meet the needs of their clients.
   • This community-oriented approach helps in gaining the trust of people who might be wary of formal financial institutions.

5. Supportive Services:

   • Microfinance banks frequently offer financial literacy training and other support services to help clients manage their finances better.
   • They may also provide business development services to help entrepreneurs grow their businesses.

6. Regulatory Environment:

   • In many countries, regulatory frameworks are designed to support microfinance institutions, encouraging their growth and outreach.
   • Governments and international organizations often support microfinance as a tool for poverty alleviation and economic development.

These factors contribute to the ability of microfinance banks to serve a larger number of accountholders and borrowers compared to conventional banks, which tend to focus on more profitable, less risky clients and larger-scale operations.

The data from the State Bank of Pakistan (SBP) for the year CY23 shows significant growth in branchless banking accounts. Here are the key points:

1. Branchless Banking Accounts:

   • Total BB accounts increased by 18.1%, reaching 114 million.
   • Out of these, 64.1 million accounts are active.

2. Microfinance Banks:

   • These account for approximately 80% of the total BB accounts when combined with conventional banks.

3. Conventional Banks:

   • Conventional banks maintain a total of around 85 million accountholders.

These statistics highlight the growing trend towards digital and branchless banking in Pakistan, with a substantial contribution from microfinance banks.

Microfinance banks have indeed played a crucial role in enhancing financial inclusion, particularly through branchless banking. By leveraging technology, microfinance banks offer branchless banking accounts that enable the unbanked and underserved populations to access financial services conveniently and affordably. Here are a few key points illustrating their impact:

1. Accessibility: Branchless banking allows individuals in remote and rural areas to access financial services without needing to visit a physical bank branch. This is particularly beneficial in regions where traditional banking infrastructure is lacking.

2. Cost-Effectiveness: Branchless banking accounts typically have lower transaction costs compared to traditional banking methods. This affordability makes financial services more accessible to low-income individuals who might otherwise be excluded from the formal financial system.

3. Convenience: Branchless banking services can be accessed through mobile phones, which are widely available even in low-income communities. This convenience encourages more people to engage with financial services, including saving, transferring money, and accessing credit.

4. Financial Literacy and Inclusion: By offering simple and user-friendly financial products, MFBs help improve financial literacy among the underserved population. This, in turn, empowers individuals to make better financial decisions and promotes overall economic development.

5. Economic Empowerment: Access to financial services through BB accounts enables individuals to start and grow small businesses, manage their finances more effectively, and improve their livelihoods. This can lead to increased economic activity and poverty reduction.

Overall, the adoption of branchless banking by microfinance banks is a significant step towards achieving broader financial inclusion, ensuring that more people have the opportunity to participate in the financial system and benefit from its services.

Microfinance banks have also played a significant role in increasing financial inclusion in recent years. According to the State Bank of Pakistan (SBP), there are 5.7 million microfinance bank borrowers compared to 4.0 million bank borrowers. A notable aspect of MFBs is that around 58% of their loan portfolio consists of loans provided without any collateral, relying instead on personal guarantees and anticipated cash flows.

This practice has facilitated greater access to financial services but has also led to increased credit risk for microfinance banks. Several factors contribute to this heightened risk, including:

• Lack of Data-Driven Credit Models: Without robust credit scoring systems, microfinance banks may struggle to accurately assess the creditworthiness of borrowers, leading to potential defaults.

• Economic Vulnerability: Borrowers of microfinance banks are often more susceptible to economic shocks, which can affect their ability to repay loans.

• Agricultural Sector Exposure: A significant portion of microfinance bank lending is directed towards the agriculture sector, which is highly vulnerable to climate risks such as floods, droughts, and other adverse weather conditions.

These factors collectively increase the overall credit risk faced by microfinance banks, necessitating careful management and the development of strategies to mitigate potential losses.

The performance of microfinance banks will hinge on their capacity to create buffers that can endure disruptions, particularly by rebuilding the institution-borrower relationship that was disrupted during the post-pandemic period. Addressing these challenges is essential for improving loan recoveries and reducing credit risk, thereby safeguarding their already strained solvency position, according to the report.