Agricultural Microfinance: Serving the Poorest
Josh Weinstein, KF9, Philippines
Last week I went to a town called La Castellana about an hour south of Bacolod to visit the NWTF branch there. I was there to meet a handful of Kiva borrowers and interview them about the progress of their loan. Over the course of two days, I met six women that currently have a loan with Kiva, and another four that I am going to post to the site this week. La Castellana is a town in the mountains that is largely supported by agriculture. It is also one of the major areas impacted by agrarian reform and home to some of NWTF’s poorest clients.
The Philippines is a country of ~90 million people, half of whom live in rural areas. Eighty percent (80%) of Filipinos living below the poverty line are in rural communities, supported primarily by agriculture. Over the past three decades, agricultural land ownership in the Philippines underwent a transformation via a series of legislation known as Comprehensive Agrarian Reform Program (CARP) passed in 1988. Designed to provide landless farm workers a piece of land, the program has redistributed farmland in 1.1-hectare units. It is a controversial topic, and its effectiveness at combating poverty is debatable. Regardless of whether or not CARP has worked, the ARBs (Agrarian Reform Beneficiaries) – the recipients of the farmland – are the poorest of the poor. In Negros alone, there are 112,000 ARBs working 170,00 hectares. There are no economies of scale on a one-hectare farm. Fertilizer, farming equipment and labor are expensive, and they don’t have the capital. The average land tract size for ARBs in Negros is 1.25 hectares, with input costs of 35,000 pesos (~$800 USD) per hectare. The government gave them land but failed to provide adequate funding, agricultural training, or meaningful support. In many ways, the cards are stacked against them. So, unable to make ends meet, many just rent or sell their land back to the owner. It is a vicious cycle, but microfinance can offer a solution.
Microfinance institutions offer agricultural loans. For these loans, traditional microfinance with center meetings and a weekly repayment system does not work. The ARBs require a big sum of cash upfront to buy inputs at the beginning of the growing season. As with other types of clients, there is no collateral, because they have nothing to put up. They can’t pay back the loan until harvest time, at the end of a 9-12 month cycle. In addition, they require higher loans than typical clients (about ~60,000 pesos – 12x greater than the first loan cycle for Project Dungganon) to cover input costs and pay themselves a salary during the interim between planting and harvest. Because there is only one payment, the nominal and effective interest rates, making it is less profitable for the MFI. The average income per hectare for ARB planters is only 18,000-20,000 pesos. Translated monthly, this would only mean roughly 1,700 pesos per month – significantly less than what you would need to feed the average Filipino family of five persons. These aren’t the only issues. A report from CGAP describes some of the external factors influencing repayment:
Agricultural finance is notoriously risky. Many farmers need credit to purchase seeds and other inputs, as well as to harvest, process, market and transport their crops. While borrowing on the basis of anticipated crop production might seem logical where collateral assets are few, such loans expose the lender to production and price risk. Natural disaster, a decline in market prices, unexpectedly low yields, the lack of a buyer, or loss due to poor storage conditions are only some of the factors that can result in lower-than-expected revenues. Such a fall in revenues can often lead to high default rates on agricultural loans.
For all these reasons, many of the ARBs default on their loans. Agricultural programs often rely on grants and subsidies initially from NGOs and, later, the World Bank and IFC. Traditional funders for MFIs would not lend for agricultural loans, because, understandably, they need to make money. After all, microfinance is not charity. If an MFI also operates a rural bank, like NWTF, it can draw funds from there, but it is still high-risk. MFIs have something called a “loan loss provision” worked into their products, which accounts for defaults in advance and raises the interest rate for the loan product. The maximum portfolio-at-risk (PAR) rate – an estimate of the potential defaulters – according to international standards is 5%. However, the PAR rate for agricultural loans might be as high as 30-50%. It is just not possible to allow for 30% default in the loan product, because the interest would be too high and clients could not afford to pay. Therefore, you have to accept high default rates, and mitigate the loss in other ways. For example, encouraging farmers to diversify their businesses improves the chances of repayment. A report from the Microfinance Council of the Philippines discusses this issue:
By diversifying their sources of income, farmers protect themselves from the seasonal risks inherent in agriculture. On the part of the creditors, risks are minimized if their clients have other sources of income because they can pay on a regular basis and have alternative sources of payment when their main livelihood activities fail. Regular payments also instill discipline among borrowers.
Many MFIs in the Philippines have microcrop programs in place. Other countries have successfully implemented agricultural loans as well. It is a difficult challenge, and one that requires a coordinated effort by MFIs and other NGOs that consists of providing capital, training, technology, and support. It also requires a degree of financial risk that causes many funders to turn their backs. Perhaps there is a role for Kiva here, but there are some issues with that. For one thing, lenders would have to accept losses in the order of 30%. Regardless of how it is funded, agricultural microfinance makes a meaningful difference in the lives of the poorest people in the Philippines, so it is worth working toward a solution.
If you are interested in learning more, NWTF put together a documentary on the program. Take a look:
Please help NWTF achieve its mission of serving the poorest communities in the Philippines by joining the NWTF Lending Team. Also, if you have any other questions about agri-loans or NWTF and their work in general, please send me an email.