Microfinance and Poverty Alleviation in Ethiopia (2015) , 2.6 MB

31 Pages·2017·2.64 MB·English

Inclusive Growth: Ethiopia Country Report

Cardiff School of
Geography and Planning

Microfinance and Poverty Alleviation
in Ethiopia

Peter Mackie, Alison Brown and Alastair Smith

Informal Economy Research Observatory
Cardiff University
Tegegne GebreEgziabher
Institute of Development Policy & Research
University of Addis Ababa
June 2015
Inclusive Growth: Ethiopia Country Report

Research Team
Principal Investigator is Professor Alison Brown, Cardiff University, with Co-Investigators Dr. Peter Mackie
and Dr. Alastair Smith and research assistant Ben Gascoyne.
Work in Ethiopia was led by Professor Tegegne GebreEgziabher, Director of the Institute of Development
Research, Addis Ababa University. We are indebted to the assistance and guidance of Mesfin Belocheu,
Deputy Director of the Institute of Development Research, and the support provided by researchers:
Berhanu Ayenew, Sebsib Belay, Eden Shiferaw, Tsegaye Tuke and Tewodros Workineh.
Contents
1. Introduction 3

1.1 The Study
1.2 Objectives
1.3 Approach

2. Micro-credit Landscape in Ethiopia 4
2.1 Microfinance Providers
2.2 Microfinance Regulation and Policy
2.3 Access and Reach of Financial Services
2.4 Informal Saving and Borrowing
2.5 Collective Saving and Borrowing
2.6 SACCOs (Financial Cooperatives)
2.7 Micro-finance Institutions
2.8 Agent Banking
2.9 Mobile Money
2.10 Consumer Protection

3. Financial Needs of Micro-entrepreneurs 16
3.1 Saving
3.2 Borrowing
3.3 Infrastructure challenges
3.4 VAT and micro-entrepreneurs
3.5 Business development in groups and associations
3.6 Vulnerabilities

4. Conclusions and Recommendations 22
4.1 Inclusive Growth: Reaching the Most Vulnerable
4.2 Micro-enterprises: Strengthening Financial Inclusion
4.3 Microfinance Institutions: Standards and Regulation
4.4 Mobile Money Innovations

Appendices 25
1. Expert Interviews
2. Survey Data
3. References

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Acronyms

AEMFI Association of Ethiopian Microfinance Institutions
DFID UK’s Department for International Development
ESRC UK’s Economic and Social Science Research Council
EI Expert interview
FCA Federal Cooperative Agency
GTP Growth Transformation Plan
ICA International Cooperative Alliance
MFI Microfinance Institution
MSE Micro and Small Enterprises
NGO Non-governmental Organisation
NBE National Bank of Ethiopia
SACCO Savings and Credit Cooperative
VAT Value Added Tax
VESA Village Economic and Social Association
VSLA Village Saving and Loan Association

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1. Introduction

1.1 The Study
This report outlines findings from a study of access to finance and microfinance regulation in
Ethiopia. The research examines the challenges faced by micro-enterprises and informal-economy
businesses working in growth sectors of the economy, and their requirements for strengthening
access to finance and consumer protection.
The study, Inclusive Growth: Improving Microfinance Regulation to Support Growth and
Innovation in Micro-enterprise, is one of a series of projects funded under DEGRP (DFID-ESRC1
Growth Research Programme) focussing on three themes of financial sector development,
agriculture and growth, and innovation and productivity. The report starts with a literature review
on microfinance in Ethiopia and then discusses survey findings and policy recommendations.
1.2 Objectives
This research examines the link between microfinance and urban livelihoods, exploring the
challenges of access to finance for micro-enterprises, the vulnerabilities caused by unscrupulous
lending practices, and the potential for improved financial access to contribute to poverty
reduction and economic growth.
Since 1983 when the Grameen Bank in Bangladesh began making tiny loans to village savings
groups, microfinance has emerged as a key tool of development policy based on the assumption
that improved access to finance will trigger entrepreneurship and smooth shocks. Microfinance is
now a major supplier of financial services to millions of people in the developing world. Yet
concerns have emerged about its reach, regulation and oversight, application in urban areas, and
impact on growth, poverty reduction and indebtedness.
Research on the impact of micro-credit and microfinance on poverty is inconclusive, and there is
an imperative need to examine further the conditions in which savings and micro-credit help or
harm low-income households. For example van Rooyen et al (2010 and 2012) concluded that
microfinance may make some people poorer, not richer, and the focus on reaching the poorest-
of-the-poor may be flawed.
Against this background, the project analyses the barriers, benefits and risks to micro-enterprises
in accessing a range of financial services and the potential of improved consumer protection to
address problems. It explores demand and supply-side opportunities and barriers influencing
micro-enterprises’ access to finance, and potential alternatives, particularly in urban settings. The
philosophy of the research is that, while microfinance is not a guaranteed route out of poverty,
micro-enterprises and informal-economy businesses should have access to secure savings and
borrowings with transparent costs, and without excessive interest rates or time burdens.
1.3 Approach
The study is based on comparative research in four countries of East Africa: Tanzania, Rwanda,
Kenya and Ethiopia, and a comparison with India’s more developed financial system, with a focus
on major cities and secondary towns and on micro-enterprises in growth sectors of the economy
– vending, construction, tourism, manufacturing and services. The findings in Ethiopia draw on
201 semi-structured interviews with micro-enterprises in Addis Ababa and Hawassa and expert
interviews (EIs) with regulators, microfinance providers/promoters and solidarity savings groups.

1 DFID = Department for International Development (UK Aid); ESRC= the UK’s Economic and Social Science Research Council
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2. Micro-credit Landscape in Ethiopia
2.1 Microfinance Providers
Microfinance provides a small but significant and expanding role in Ethiopia’s developing finance
sector. According to the National Bank of Ethiopia (NBE 2015a) the number of banks operating in
the country reached 19 in December 2014, of which 16 are privately owned. The banks operated
2,502 branches, equating to a branch/population ratio of 1:35,957. Some 35% of all bank branches
are located in Addis Ababa. The total capital in the banking system increased by 21% between
2013 and 2014, reaching Birr 30.2 billion2.
There were 17 insurance companies operating in Ethiopia, of which 16 were privately owned. Of
the 359 insurance company branches 53% were located in Addis Ababa. The total capital of the
insurance industry was Birr 30.2 billion.
There were 32 microfinance institutions (MFIs) operating in the country, all of which are deposit
taking. These MFIs mobilized a total saving deposit of around Birr 13.0 billion. The five largest
MFIs are regional institutions supported by the government (Amhara, Dedebit, Oromia, Omo and
Addis Credit and Savings Institutes) which accounted for 93.6% of the savings and 90% of the
credit of the MFI sector.
A wide variety of organisations provide micro-savings and micro-credit services and these are
categorised into three sub-sectors (discussed further in Sections 2.4–2.9 below):
Informal
- Informal providers (eg: money lenders, friends/relatives, Iddir, Iqqub (Ekub), and Meskel
Aksiyon);
- Community savings groups (VESAs [previously VSLAs] and Savings Groups);
Semi-formal
- Savings and Credit Cooperative Societies (SACCOs);
Formal
- Microfinance Institutions (MFIs)
- Formal banks
Meanwhile there has been very limited development of mobile money, in contrast to experiences
in many other countries in the region. The number of mobile subscribers is growing rapidly and
reached 28.3 million in 2013/14, suggesting there is a clear market. Expert interviews (EIs) suggest
that this area is currently being developed, but poor reliability of the mobile phone network may
hamper progress.
The Association of Ethiopian Microfinance Institutions (AEMFI) has been the network for all
registered MFIs in Ethiopia since it began in 1999. According to MFTransparency (2011) AEMFI is
well regarded both nationally and internationally as one of the strongest microfinance networks
in Africa. AEMFI provides a forum through which MFIs can exchange information as well as
providing training and conducting research, advocacy and policy development activities.
Unlike many of the other countries examined in this study, particularly Kenya and Tanzania,
international donors do not appear to play an influential advocacy role, largely because law
prohibits NGOs and any other institution from offering financial services.

2 USD 1 = ETB 20.58 (US dollars to Ethiopian Birr, March 2015)
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2.2 Microfinance Regulation and Policy
The Ethiopian economy and financial policy has evolved through three major phases: an initial
focus on state-led industrial and agricultural development; an emphasis since 1991 on market-led
development through liberalisation, and since the mid-1990s a focus on financial inclusion and
promotion of micro-enterprise (Zwedu 2015).
Job-creation through the development of micro- and small-scale enterprise is a key area of
government policy. The 5-year poverty strategy reduction paper, the 2005/06-2009/10 Plan for
Accelerated and Sustained Development to End Poverty (PASDEP) included a target to create 1.5
million jobs through promotion of micro- and small enterprise, with substantial support for credit,
training, technology and information. The 2011 Micro and Small Enterprise Development Strategy:
provision framework and methods of implementation set out the implementation framework
(GoFDRE 2011) and the current 2010/11-2014/15 Growth and Transformation Plan (GTP)
envisages 3 million more jobs will be created in MSEs; during 2013/14 some 200,319 new micro
and small enterprises (MSEs) employing 2.5 million people were established (MoFED 2011: 10).
The primary legislation affecting MFIs is listed below:
- Licensing and Supervision of Banking Business Proclamation No. 84/1994.
- Licensing and Supervision of Micro Financing Institutions Proclamation No. 40/1996.
- Cooperative Societies Proclamation No. 147/1998.
- Banking Business Proclamation No. 592/2008.
- Micro Financing Business Proclamation No. 626/2009.
- National Payment System Proclamation No. 718/2011.
Microfinance institutions
Microfinance was first established in Ethiopia in the late 1980s, with a range of NGO and
government micro-credit programmes. However, these were not seen as well-organised or
capable of operating on a continuous and sustainable basis (Wolday 2012). Major criticism
included the heavily subsidised nature of many NGO programmes, with low interest rates for
credit, high rates of default, and lack of saving products. In response, the Government introduced
legislation regarding the licensing and supervision of banking businesses (Proclamation No.
84/1994) which allowed the establishment of private financial institutions, thus breaking the state
monopoly in the banking sector (Gobezie 2005). Shortly after, the first microfinance law was
passed (Proclamation No. 40/1996) with the aim of protecting small depositors, ensuring stability,
and promoting the efficient performance of MFIs (Fite 2013). Moreover, it brought all MFIs into
the monetary and financial system, enabling deposit taking while placing the National Bank of
Ethiopia (NBE) in charge of regulation and supervision.
The NBE supervises MFIs, which report their statistics to the bank for risk-based supervision.
Proclamation No. 40/1996 also required that Ethiopian microfinance institutions should be owned
fully by Ethiopian nationals and/or organisations wholly owned by Ethiopian Nationals, thus
excluding international NGOs and other overseas agencies from owning and running microfinance
institutions in Ethiopia (Deribie et al 2013). The 1996 statute dictated that loans should to be
delivered to clients using the group-loan methodology, without the requirement for property
collateral. Until 2009, Proclamation No. 40/1996, with NBE directives, constituted the major legal
and regulatory framework used to regulate and supervise the microfinance sector in Ethiopia.
Proclamation No. 40/1996 was replaced by Proclamation No. 626/2009, which addresses
institutional financial discipline, prudent lending and transparency (Wolday 2012). The
proclamation prohibits the operation of microfinance businesses without a license from the NBE,
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however banks licensed under the appropriate law do not need a separate micro-financing
business license (Deribie et al 2013). The 2009 proclamation states that the main purpose of a
micro-financing institution is to collect deposits and extend credit to rural and urban farmers and
people engaged in other similar activities as well as micro- and small scale rural and urban
entrepreneurs, the maximum amount to be determined by the NBE (Deribie et al 2013).
Changes in 2009 permitted the loan methodology used by MFIs to be selected at their discretion
– moving away from mandatory group-lending. The NBE determined that the maximum loan size
for MFIs whose savings fell below Birr 1,000,000 was Birr 5,000. For MFIs whose savings portfolio
exceeded Birr 1,000,000 the maximum loan size was unrestricted, but loans over Birr 5,000 should
not surpass 20% of total loans. Directive MFI/17/2002 sets the maximum loan period to 24 months
for loans of up to Birr 5,000 and 60 months for larger loans, albeit changes are to loan lengths are
frequently under discussion (EI). The NBE has imposed the limits in an attempt to dissuade MFIs
from drifting from their poverty alleviation mission (MF Transparency 2011).
Banking business laws applicable to MFIs, including requirements for obtaining a bank license, and
matters not covered by Proclamation No. 626/2009, are contained in Proclamation No. 529/2008.
Other relevant primary legislation includes Proclamation No. 718/2011, which focuses on the
regulation of the national payment system, including the “sending, receiving and processing of
orders of payment or transfers of money” (Proclamation No.718/2011) by a bank or MFI.
Other savings and credit mechanisms
Savings and Credit Cooperatives (SACCOs) were initially licensed and supervised by the NBE
(Proclamation No. 84/1994). However, since the issue of Proclamation No. 147/1998, there has
been a separate authority for cooperatives, including SACCOs, which is now called the Federal
Cooperative Agency (FCA). Proclamation No 147/98 incorporated all the International
Cooperative Alliance (ICA) principles and the standard legal aspects of cooperatives. It was
amended by Proclamation No. 402/2004, which focuses on the issues of interest rates and the
promotion of higher forms of cooperatives.
Traditional self-help associations, such as Iddir and Iqqub are self-regulated.
There is also a Remittance Directive (BUCFLP 2015) which has three primary aims: 1] to improve
the operations of the formal remittance service; 2] to reduce the costs of remittance transfer; 3]
to increase access to international remittance services for Nationals and make the service reliable,
fast and safe.
Key regulatory challenges
A review of key literature suggests there are three key challenges relating to the regulation of the
microfinance sector:
- The size of some MFIs (which exceeds some private banks). There is no tiered approach in
existing regulation, nor is there a clear regulatory framework for transforming, or “up-
grading” the largest MFIs into microfinance or rural banks (Kassa, 2010).
- Overly restrictive prudential regulation, in particular the existing maximum loan ceiling and
loan term, which Wolday (2012) argues limits the scope of MFI services.
- There is no separate law for SACCOs, consistent with microfinance proclamation and
directives, which recognises SACCOs as specialised financial cooperatives. Wiedmaier-Pfister
et.al. (2008) argue that the SACCOs should be brought under regulatory control of the NBE.
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Policy development
Government policy establishes that MSEs and MFIs have a key role to play in economic
development in Ethiopia. There are two primary areas of policy which steer the development of
microfinance in Ethiopia.
The first core policy area is the government’s national economic development strategy,
implemented in a series of five-year strategic plans – Sustainable Development and Poverty
Reduction Programme (SDPRP, 2001-2005), Plan for Accelerated and Sustainable Development to
End Poverty (PASDEP, 2006-2010), and the Growth and Transformation Plan (GTP, 2011-2015).
The GTP is the most recent economic plan. Launched in late 2010 the GTP aims to sustain current
economic growth, achieve the 2015 Millennium Development Goals (MDGs), and set the longer
term vision for Ethiopia as being:
‘to become a country where democratic rule, good-governance and social justice reign,
upon the involvement and free will of its peoples, and once extricating itself from poverty
to reach the level of a middle-income economy as of 2020-2030’ (GoE 2010: p21)
The Ethiopian economy recorded an average annual growth of 10.1% over the period 2010/11-
2013/14, and is projected to grow by 11.4% in 2014/15 (NBE, 2015: 1).
The GTP makes explicit reference to the role of MFIs. They are viewed as key to establishing an
accessible, efficient and competitive financial system within the five year GTP period, in order to
increase Gross Domestic Saving from 6% of GDP % in 2010, to 15% by 2015 (MoFED 2010: 30).
MFIs are also expected to play an important role in facilitating access to finance for Ethiopians,
targeted to reach 67% by the end of the plan period from 20% in 2010 (MoFED 2010: 34). This is
a significantly more ambitious target than the commitment by the National Bank of Ethiopia at
the Maya Declaration, 20113.
The second core policy area is the support for MFIs in the Micro and Small Scale Enterprise
Development Strategy (2010-2015) (GoFDRE 2011) which recognises the importance of MFIs and
their role in the development of MSEs. The strategy aims to address six major challenges that
impede the growth of micro-enterprises, including: skills development, technology transfer,
market facilitation, access to finance, the reduction of entry barriers, and improving information
(World Bank 2015a). To address these challenges the government has introduced one-stop-shop
facilities at woreda (district) level providing a broad range of support services to MSEs (WB 2015).
As one EI explained, at these ‘one-stop-shops’ people can access a MSE (micro and small
enterprise) officer and a MFI officer all in one place. The office also provides oversight of local
enterprises.
2.3 Access and Reach of Financial Services
Our assessment of the access and reach of financial services draws primarily on data from a World
Bank report (World Bank 2015a) which analyses World Bank Enterprise Survey data. Enterprise
Surveys were conducted by the World Bank in Ethiopia from July 2011 – July 2012 with 644 firms,
32% of which were MSEs. An employment definition of MSEs was used for the report with micro-
enterprises employing 0-9 employees and small enterprises employing 10-20 employees. The
study interviewed 1,926 of whom the majority were micro-enterprises, including at least some
that were informal, although proportions were not given.

3 The Maya Declaration was the statement on financial inclusion principles agreed by a group of developing countries at the
2011 meeting of the Alliance for Financial Inclusion held in Mexico.
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Despite considerable and rapid progress, access to financial services remains limited all over
Ethiopia with only 2.78 commercial bank branches (World Bank 2015a) and 0.33 ATMs (World
Bank 2013) per 100,000 adults. This compares, for example, with Kenya where there are 5.17
commercial branches and 9.46 ATMs per 100,000 adults (World Bank 2015a). More specifically,
when access to finance for MSEs are explored we find the following (see also Figure 1):
- Almost 93% of MSEs have either a checking or a savings account.
- Despite the positive trend in saving, access to credit is problematic as only 6% of micro-
enterprises and 1.9% of small enterprises have a loan or a line of credit. The Enterprise
Surveys showed 41% of MSEs felt access to finance was a major constraint (similar to the SSA
average of 43%), although problems tend to be more complex than this.
- Among firms who applied for a loan or line of credit in the last fiscal year, 57.3% and 87.9%
of applications submitted by micro and small firms respectively were rejected (World Bank
2015a: 21-29).
Figure 1: Access to finance is an obstacle for young and smaller firms (World Bank 2015a: 29)

Exploring why MSEs face difficulties accessing credit, many contributing factors were identified by
financial institutions (World Bank 2015a). These factors reportedly relate to SME characteristics
(poor quality financial statements, inability to manage risk, lack of knowledge of business
management, lack of collateral, informality) and macroeconomic conditions (inflation, exchange
rate, tax regulation, high vulnerability of the agriculture sector).
The final, particularly relevant question in the Enterprise Survey asked whether competition from
the informal sector was seen as problematic amongst MSEs. Interestingly, only 11% of MSEs
identified practices of competitors in the informal sector to be a major constraint, which compares
favourably to the SSA average of 40%. This is perhaps due to the significant scale of ‘formalisation’
that has been undertaken through government MSE and MFI policies.
Ethiopia has adopted an unique model where the promotion and development of MSEs and MFIs
lies at the heart of government strategy but still many people are unable to access loans. Options
for improving access to credit include introducing more capital to enable MFIs to meet their goals;
improving management of SACCOs or savings groups.

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2.4 Informal Saving and Borrowing
According to MFTransparency (2011) informal finance is often the only option available for those
who require financial services but who are unable to access the formal financial sector. It is also
attractive to some due to the accessibility of loans and the speed of loan processing.
Reportedly, more than two thirds of the population has access to an informal finance provider,
whether it is from money lenders, friends/relatives, or from one of the three popular Ethiopian-
specific systems of informal finance: Iddir (financial assistance during mourning periods), Iqqub
(cash savings organisations), and Meskel Aksiyon (group collaborations to purchase meat for the
Meskel festival) (MFTransparency 2011).
A study in 2004 found funeral societies to have significant development potential. Drawing on
panel data from the Ethiopian Rural Household Survey conducted since 1989, and interviews in
15 communities, Dercon et al. (2004) concluded that funeral societies are based on well-defined
rules and regulations and appear to be remarkably inclusive offering mutual support to members
of different economic groups. The groups were also offering other forms of insurance and credit
to cope with hardship, and the paper argued that these institutions were well-placed as a
springboard for other development activities.
2.5 Collective Saving and Borrowing
The SAVIX reporting system (savinsgroups.com) collects and validates financial and operational
data from over 75,000 savings groups in all regions of the developing world and the agencies that
promote them. It provides a wealth of data on collective saving and borrowing in Ethiopia.
In total there are 6,828 recorded collective saving and borrowing groups in Ethiopia, with 136,547
members, equating to an average of 20 members per group. The total savings is approximately
US$ 1,280,414, equating to US$ 9.38 per member. These groups are clearly being used for
borrowing as the loan fund utilisation rate is 68.6% and the average value of loans outstanding
per member is US$ 17.67. Collective saving and borrowing is clearly extending financial services
as the majority of these projects are in rural areas and 54% of members are women. Average
attendance rates at group meetings is approximately 93% (SAVIX 2015).
Many of these groups operate as Village Savings and Loan Associations (VSLAs), voluntary groups
which come together to save money on a weekly basis, and borrow against the weekly savings,
forming a ‘self-organised’ financial sector. Many of the VSLAs operate in rural areas to support
agricultural livelihoods, and seek to develop transparent methods of regular saving and
borrowing. VSLAs are an improved version of traditional savings groups, which are not usually
linked to formal institutions once they have received NGO training.
CARE Ethiopia is the main facilitator of collective saving and borrowing groups in Ethiopia (5,206
groups), with a much smaller role played by World Vision (640), Plan International (293), and
Mercy Corps (232), with other facilitators assisting the remaining 457 groups. The report reflects
briefly on the approaches being pursued by the two primary facilitators, CARE Ethiopia and World
Vision.
The Village Economic and Social Association (VESA) model (CARE Ethiopia)
The Village Economic and Social Association is an evolution of the VSLA model and includes
savings, loans and resilience development, promoted by Care Ethiopia. The resilience element
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