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Value Chain Approach Of Microfinance Economics Essay

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KIT and IIRR (2010) stated that the financial services are not always available, and the value chain actors engaging in agricultural and rural value chains regularly complain about a lack of access to financial services. Commercial banks and other financial institutions are reluctant to provide rural financial services hence the higher level of transaction costs and risk associated with borrowers (Pollinger, Outhwaite, and Guzmán, 2007). Potential lenders may also see high risks because they lack understanding of the rural sector, and have no way to evaluate the risks in agricultural value chains (Quirós. 2006). As a provider of banking services, the MFI is subject to adverse selection and moral hazard from credit clients with little or no collateral (Armendariz de Aghion and Morduch, 2005), bank does not have enough information to differentiate between good and bad risks (Stiglitz and Weiss ,1981),customers often have a short or no credit history (Mersland and StrØm ,2007). Moral hazard is the problem that the borrower will not exert necessary effort to repay the loan, when the bank is unable to monitor.

Value chain finance aims to address perceived constraints and risks by providing innovative ways of delivering financial services to rural producers, small- and medium sized agribusinesses who remain under-served (KIT and IIRR, 2010). In answer to this gap in finance, researcher seeks to find out the implications for providers of "Microfinance" in pursuing value chain approach as a strategy, analysis the efficiency, economic, social, and environmental impacts of VC approach, identify the needs & constraints of actors and support service providers of VC to play their role in the optimized supply chain, and propose a framework to understand how poor people in rural areas can advance their position within a range of local, regional and global value chains.

In developing countries, more than 50% of the population lives in rural areas, where the highest poverty indexes are recorded. Thus, microfinance as a poverty alleviation tool should intervene in priority in rural areas in order to offer financial services to micro entrepreneurs involved in income generating activities, especially in agriculture. These activities, which are upstream of the value chain, are characterized by: low added-value, low profitability and variable incomes. Microfinance institutions in rural areas, hence, bear important risks since the majority of their portfolio finances these activities. For microfinance institutions, what is at stake in being interested in the value chain is thus to improve the quality of their portfolio and then to assure their sustainability to the streamlining and the raising of their customers' incomes. Using the "value chain" approach in a rural microfinance program, thus, consists of studying the whole chain in order to identify its constraints and to develop solutions to optimize it (PlaNetFinance, 2010).

According to the South Asian Microfinance Network (SAMN) "approximately 50% of Sri Lankan households do not have access to credit and this unmet demand for microfinance in Sri Lanka is estimated at Rs. 125 bn". According to the Microfinance Industry Report 2010 Sri Lanka's microfinance sector is served by Co-operative Rural Banks and other co-operatives, Thrift and Credit Co-operative Societies (TCCSs/ Sanasa societies), Samurdhi Bank Societies (SBSs), NGO-MFIs, Licensed specialized banks, and other financial institutions (commercial banks, registered finance companies, etc, which offer some microfinance services). There are 9834 outlets offering MF services countrywide. Among them 89.4% rural, 9.6% urban, and 1% estate outlets are operating to serve the clients. Mid-year population of Sri Lanka in year 2011 was 20.869 million with 4.2% unemployment rate. Per capita GDP at market prices was 2836 USD and domestic savings showed 15.4% of GDP. Poverty Head Count Index in 2009/2010 is

8.9 and 32.9% employed in agriculture. Twenty-four licensed commercial banks with 5347 branches and nine licensed specialized banks with 775 branches were operated in year 2011.

Nagarajan and Meyer (2005) emphasizes that "financial institutions may benefit from linkages with traders to expand rural finance, especially in poor and remote areas". A good example is the situation whereby a trader with a good reputation (known as a reliable buyer) can "vouch for" smaller producers s/he trades with, making them ipso facto attractive potential clients for financial services providers (Charitonenko et al. 2005). A more effective integration of small and medium producers into rapidly growing and modernizing value chains contributes to their welfare and the creation of wealth in poor communities (Downing, Field and Kula, 2005; Dunn, 2005).

Research questions

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What are the implications for providers of "Microfinance" in pursuing value chain approach as a strategy?

To what extent are the existing credit constraints a barrier to entry for small and medium agricultural producers into high value-added chains?

To what extent can financial deepening facilitate the entry of larger numbers of small producers into these chains?

To what extent can participation in new value chains improve the producers' overall access to credit?

What are specific channels through which the expansion of access to credit takes place?

How does development of the modern value chains influence access to financial services other than credit?

What are the economic, social, and environmental impacts of VC approach?

Commercial Banks



Customer's perception of performance

Financial service providers

Chain actors

Figure1: The chain of value chain finance (based on KIT and IRR, 2010 and Viswanadham and Raghavan, 2000)

Research methodology

According to the Central Bank report 2011, there were 32.9% employed in agriculture sector in 2009/10. This research focuses on agriculture sector value chains special reference to the export oriented Agri-product of cinnamon and two leading microfinance institutions which are Samurdhi Bank Societies and Regional Development Banks which provides financial services. The sample of this study is to be 200 actors of cinnamon value chain. These 200 actors are to be selected in the different place of value chain and the random selection is to be used. Primary data is to be collected through structured questionnaire and interviews. Secondary data will be collected through the financial records, books, articles, and internet. The institutions have been selected based on the quality and extent of their data. It is not representative of all microfinance institutions. They do, however, collectively serve a large fraction of microfinance customers. Since the sample contains data across firms, cross sectional data method is employed. It is said to be cross sectional hence all of the observations are from the same point in time and represent different individuals/firms (Studenmund, 2001).The mix method (quantitative and qualitative) will be used in this research and SPSS and AMOS software are to be used for analyzing data. Financial and social needs and constraints of actors and support service providers, quality of service, market access, business orientation, skills and experiences, relationships (contracts), financial and social performance of actors and MFIs, availability of financial services are to be used as variables in this study and these concepts/ variables will be operationalized by the questionnaire. The pilot study is to be used to identify the gaps and to analyze the converjont and discriminant validity of the questions.

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