This paper presents the first analysis of credit market capacity using the Global Findex dataset, a survey on the use of financial services in 148 countries, published in April 2012.
Unlike other development interventions, too much credit can be a bad thing. Knowing where the upper limit lies is thus critical for microfinance practitioners, whose goal is to improve access to financial services in the poorer segments of the world’s population while ensuring that its clients remain protected from the risks related to over-borrowing. In a context where the precise estimation of the market potential for microcredit has proven difficult, we are taking the opportunity offered by the Global Findex to study the overall formal credit market in a country as a first step to understanding the potential for microcredit specifically.
We find use of loans from financial institutions (formal credit) to be highly correlated to the Human Development Index, as well as use of formal savings and semi-formal loans. Accordingly, we propose to predict market potential for formal credit through a formula based on these three indicators. We then compare this predicted market potential to the current use of formal loans to calculate the penetration rate, which we rate on a 5-point market score, ranging from countries that are likely under-served to those that may be approaching or exceeding the upper limit for sustainable credit use.
Besides highlighting risks, the market score can also provide guidance for policy objectives. For markets scoring 1, implying significant under-development of formal credit use, the scope of work is the largest, requiring both the development of market infrastructure as well as funding the development of new and existing MFIs. At the other end of the spectrum, countries scoring 4 or 5 are either approaching their credit capacity threshold or have crossed it altogether, and thus require a strong emphasis on preventing over-indebtedness. This entails developing credit bureaus and putting in place appropriate regulations to limit excessive lending, while focusing growth strategies on expanding to underserved segments and deepening financial inclusion by serving still-unmet needs, such as payments, insurance, and savings. Between these two extremes, markets scoring 2 or 3 generally show a normal level of development in the use of formal credit, suggesting that microfinance practitioners should focus on improving service quality while pursuing sustainable growth.
In addition to modeling credit capacity at the overall retail market, we examine aspects related to Global Findex that can be more specifically tied to microfinance lending directly. These include a comparison of MIX Market and Global Findex data, as well as a look at how the model performs when applied to individuals in the bottom 40% of earners, as reported by Global Findex.
This paper, dedicated to evaluating total credit market potential, is the first in a series to be published by Planet Rating, and will gradually constitute the Microfinance Index for Market Outreach and Saturation (MIMOSA).