SUMMARY - Developing Community Finance: Some Lessons Learned

By Anne Gaboury – DID (January 2005)

http://www.did.qc.ca/documents/D%C3%A9v-FinCom(TAP)An.pdf

Abstract

DID (Developpement International Desjardins) has five lessons for the development of community finance:

1. Savings are the pillar that supports the development of local community financial institutions.
2. Financial cooperatives are formidable distribution networks.
3. Community finance organizations need a strong legal and regulating environment.
4. Financial performance is only one of many performance factors.
5. Partnerships need to be expanded.

Summary

Created in 1970, DID specializes in providing technical support and investment for the community finance sector in emerging and developing countries. The following lessons are drawn from DID's work with community finance partners throughout the world.

Lesson 1: Savings are the pillar supporting the development of local community financial institutions that are able to offer true financial intermediation.

• DID's slogan, 'Savings is freedom,' stresses its belief that financial services should be made available through the development of financial institutions whose main resources come from the community rather than external resources.
  
  
• There are two objections to this view. One questions the savings potential of the poor. But DID's experience shows that savings are sufficient to meet loan needs and savings converted to loans are 77%. The second one argues that a long time is needed to consolidate these institutions. This argument is accurate, but the result is a financial institution that is anchored in the community and provides diverse services on a sustainable and permanent basis.
  
  
• Encouraging savings within a community means encouraging development of individuals and community wealth and empowerment, while providing financial institutions with less expensive sources of funds.
  
  
• Credit institutions that add savings to their operations face a difficult task because they must target a different clientele. Moreover, they must be concerned about matching funds and the costs of mobilizing funds, which include the remuneration earned on deposits and the larger engendered transaction costs, such as infrastructure, salaries, work organization, and internal controls.
  
  
• Organizations using savings for lending should not reject the use of external funds, but should aim to use savings deposits as the primary source for lending before resorting to external financing.

Lesson 2: Financial cooperatives may become formidable distribution networks for dispensing financial resources with vertical and horizontal outreach that helps circulate resources for social intermediation.

• Cooperative networks offer great potential for the distribution of resources under the following conditions:
• Introduce methods that reduce entry requirements to the poor, which allows the development of vertical outreach (reaching the poorest).
  
  
• Optimize base unit outlets while avoiding the abuses of a multiplication of outlets, which allows the development of horizontal outreach (reaching a large number of clients).
  
  
• Unite base cooperatives into a federated network to share systems, standards, products, and an image. This encourages the circulation of resources and cross-subsidization.
  
  
• These conditions strengthen the distribution potential of a network of cooperatives. Highly integrated cooperatives allow the network to push into marginalized zones at lower costs. Openness of cooperatives is important to serve not only the poorest, but also the less poor, which allows cross-subsidization and social intermediation.

Lesson 3: As an integral part of a country's financial system, community finance institutions and their legal and regulatory environment must be strengthened.

• Internal systems need to be formalized and a network must be set up to develop strong base institutions and to ensure their permanence over the long-haul. DID encourages locally owned, profitable, and permanent institutions. Its strategy to consolidate base units is to encourage organization in a federated network.
  
  
• Because they take deposits from the public, strict supervision should also be stressed, DID promotes strong and independent external surveillance. If such a service is unavailable, DID suggests setting up strict internal surveillance.
  
  
• External supervision can only have an impact if an adequate legal framework is in place. The proof that a regulatory framework is just as important as other tools is the strong growth observed for community finance institutions in countries with a regulatory framework in place. DID believes community finance institutions should be regulated under dedicated legislation.

Lesson 4: Performance of a community finance institution should be monitored and analyzed using three complementary dimensions. The assessment should include the following:

• Business performance: Assess the degree of relevance of the institution within its market as well as its financial performance.
  
  
• Organizational performance: Assess the degree to which the various systems on which it is based are formalized.
  
  
• Institutional performance: Assess the level of institutional maturity from a viewpoint of integration and solidarity among base unit cooperatives.

Lesson 5: Cultivate and expand partnerships.

• Growth in the sector has highlighted the need for operators to be more professional in the face of competition that will soon come from a well-organized commercial sector. Organizations must develop strategic partnerships (e.g., in technology, organizational development, finance and marketing) and not just accompany local organizations.
  
  
• Partnerships are inevitable and beneficial, although it is difficult to envisage where they will lead the sector.