The umbrella body of Kenya’s microfinance sector keeps abreast of the changes taking place in the financial world, top among them being digitization
Kenya has a very vibrant microfinance sector. Having gone through a dynamic landscape over the years owing to various socio-economic developments, the sector is one of the most advanced in Sub-Saharan Africa. Like other sectors in our economy, microfinance was adversely affected by the Covid-19 pandemic. That notwithstanding, following the easing of restrictions that facilitated the full reopening of economic activities, gradually, the Kenyan economy started recovering from the vagaries of the deadly pandemic. In that respect, the economy rebounded from a contraction of 0.3 percent in 2020 to grow by 6.8 percent in 2021 according to the Central Bank of Kenya (CBK) Financial Sector Stability 2022 report. Besides the easing of the Covid-19 containment measures, successful deployment of monetary, fiscal and financial policies, not only played a stabilizing role, but they also provided a conducive environment for business recovery.
It is also worth noting that domestic vulnerabilities related to the electioneering period in 2022 as well as external factors like the Russia-Ukraine conflict have slowed and delayed investment decisions, hence adversely affecting microfinance, among other sectors in the economy. Additionally, the microfinance sector ( like other financial services providers such as commercial banks, mortgage financiers and insurance) has recently experienced elevated credit risks, weak balance sheets , technology-related risks (cyber-attacks and frauds) as well as corporate governance challenges. These remain areas of focus given their potential impact on the economy and the sector’s stability. By and large, to minimize any destabilizing effects on the sector’s stability, promoting financial inclusion and conducive regulatory framework remain the greatest areas of focus for the Association of Microfinance Institutions – Kenya (AMFI-K) – the umbrella body of the microfinance sector in Kenya.
Lobbying strongly
AMFI-K recently organized a forum for its members in Nairobi. That was in line with one of its major activities – policy advocacy. This area of activity aims at enhancing collective action by AMFI-K members and other stakeholders for an enabling policy and regulatory environment for the microfinance sector in Kenya. Ultimately, this promotes growth and income among the low-income people – the main target market of its players. “The members’ forum gave us an opportunity to go through some pertinent issues and pain points that our sector has been experiencing as we endeavour to create a more conducive environment for our business,” said Caroline Karanja, Chief Executive Officer (CEO), and AMFI-K.
AMFI-K has over the years been lobbying for the regulation of the non-deposit taking microfinance institutions. The Microfinance Act was enacted in 2006 and operationised in 2008. Nevertheless, despite a push by the non-deposit taking microfinance institutions to be brought under a regulatory ambit in line with Section 3 of the Act, they still remain unregulated. “As an association, we met the Cabinet Secretary, National Treasury in March and he guided us on how to embark on this noble exercise,” said Caroline. “He advised us to make use of the microfinance banks’ regulations since they are already in place (as opposed to developing new regulations for the non-deposit taking microfinance institutions) and then evaluate the point of convergence,” she added. This opinion was based on the fact that microfinance banks and non-deposit taking microfinance institutions are both engaged in lending business. Their only point of departure is taking deposits.
With the support of a legal partner, AMFI-K has been working on the convergence between microfinance banks’ and non-deposit taking microfinance institutions’ regulations, while still evaluating whether there are other areas of the Microfinance Act that need to be amended. The aim is to create a conducive business environment for the entire sector. During the said forum, AMFI-K members gave their feedback regarding this initiative. “The outcome of that forum will help us to finalize on a document that we shall present to the Cabinet Secretary, National Treasury, before tabling the same in the National Assembly,” said Caroline. “ We are delighted because of this development since it will help our members to overcome the dilemma that they have been facing on whether to apply for licensing under the digital credit providers’ regulations or to wait for their own regulations to become effective,” she added. Caroline was emphatic that microfinance banks and non-deposit taking microfinance institutions are not digital credit providers. On the contrary, they only use the digital platforms in enhancing service delivery to their customers and developing products that are responsive to their needs. AMFI-K is optimistic that time is now ripe for the sector to have a regulatory framework that will help it to align vital issues affecting the business of its members.
Going digital
The emergence of technology has created new and agile business models in the microfinance sector which have enhanced financial inclusion. Digital financial services are spearheading greater financial inclusion not just in Kenya, but across the world. This has significantly boosted penetration and access to financial services and tools to the low-income households, the rural poor, pastoralist communities and the marginalized. Over the past years of market development, digital financial services have diversified from basic money transfer and bill payments to credit, cross-border remittances, savings, insurance, merchant payments, bulk disbursements and other value-added services like pay-as-you-go for utility bills, savings group and value chain digitization. In Kenya, digital credit offers are growing rapidly. Technological transformation is no longer an option, but a race microfinance banks and institutions must run to stay relevant in rapidly evolving markets.
Over the last decade, products and business model evolution have generated a greater variety of formal financial services available to the formerly unbanked population. As technology evolves and new solutions for financial services emerge, important questions arise: how will regulators ensure customer data and funds are safe, financial services are of high quality and regulatory requirements are met without hindering innovation? Regulators therefore need to fully comprehend this changing environment and be prepared with adequate supervision and oversight tools.
Inclusive digital finance is reliant on a broader disaggregation of the financial services value chain, with banks and non-banks (including fintech companies) assuming different responsibilities according to their area of specialization, through a web of partnerships. This could include account and client data storage, management and analytics among others. Regulators need to identify how to optimize synergies between digital finance and microfinance for financial inclusion, such as consumer protection for microfinance institutions and banks, know your customer (KYC), credit risk management, data privacy, innovation, reporting and financial education among other areas.
As players strive to support the development of regulatory frameworks that deepen financial inclusion, we must understand the convergence of technological transformation specific to digital finance and microfinance on the consumers and explore the implications for financial regulators and supervisors.
For the microfinance sector to successfully leverage digital transformation, various options are available. They include: digitizing processes using mobile devices, partnering with a digital financial service provider and developing a proprietary agency network to distribute existing services or products.
Benefits of digital transformation to the microfinance sector
For microfinance service providers, digitization is no longer an option. It is now a compulsory path to remain competitive. To start with, it will deepen outreach.
To foster sustainable financial inclusion, these providers need to embrace new technologies and reconsider their business models. This therefore is an opportunity for microfinance providers to leverage their license, customer base and outreach to rural areas and low-income clients, which are of interest to digital financial service providers. Additionally, digital solutions help financial institutions to deepen customer engagement and product usage. In turn, this promotes and increases financial inclusion. Large segments of the population in developing markets are financially excluded. Bringing on board the unbanked requires financial education and specially designed services and products – areas which players in the microfinance sector are well versed with.
Digital financial products and services offer better value proposition for customers. They are more convenient since they open access to a broader range of financial services such as credit, savings, insurance and payments that customers can access at their comfort, even in remote areas, hence eliminating the need to travel to physical branches.
By and large, microfinance institutions have made a lot of difference in the lives of the low income households in the rural areas in particular, for whom travelling to a branch is usually costly, time consuming and risky. With digital finance, customers no longer need to travel long distances with large amounts of cash in their pockets, hence reducing the risk of theft.
Digitization has also enabled customers to transact, save, take out and repay loans in seconds, besides accessing other products and services, without having to travel or close their business. It has also gone a long way in reducing the length of group meetings among customers of various microfinance institutions.
By the same token, digitization allows customers with no access to formal banking to begin building a transaction history, which will later enable them to access loans more easily. In the case of digital credit offered through mobile, digital transaction history is based not only on savings and microloan repayment history, but also on airtime and mobile money activity.
Finally, digital channels make it much easier for microfinance providers to collect data. Indeed, data analytics play a crucial role in determining risk profiles for financially excluded and new customers. The burden of data management is also alleviated, as digital data can be gathered, stored, retrieved, structured, cleaned and analyzed much more efficiently than traditional paper-based methods. This helps financial institutions to lower costs, provide customer centric products, reduce fraud, identify cross selling opportunities and expand their customer base.
Threats
Although digitization delivers benefits for both customers and service providers, it also comes with challenges and risks. Microfinance providers must have the necessary operational, technical and financial capacities to move forward. Digital transformation is multifaceted, complex, and filled with challenges that can make the head of even the most experienced business to flip. The external challenges include: cost and affordability, inadequate and unreliable technology providers, uncompetitive technology market with artificially inflated costs for local hardware , poor infrastructure, low digital and financial literacy requires consumer education to build trust , business continuity , data safety, security and protection requirements and finally, regulatory requirements and restrictions.
Internal challenges on the other hand include: inexperienced personnel, data migration from paper or outdated systems, lack of leadership buy-in, operational agility and budget constraints.
AMFI-K programmes
Currently, AMFI-K is undertaking a programme on affordable housing which is aimed at improving the uptake of housing microfinance products and services among its members. Housing finance plays a critical role in determining the availability, affordability and quality of housing in the country. This is because the cost of financial services impacts the final cost of housing for the consumers. On the demand side, housing affordability is determined by the relationship between property prices and income levels. Therefore, it is important for the cost of financing to align with the cost of the property in order to ensure that housing remains affordable for a majority of the population.
Adequate housing availability is influenced by factors such as production scale, technology applied, construction costs and property quality. The affordability of housing financial products directly affects the scale and distribution of housing, including self-construction and home purchases. Addressing housing finance challenges is therefore a crucial aspect of developing the financial sector and improving housing conditions.
To address the affordable housing and housing finance challenge, AMFI-K in partnership with Habitat International conducted a study to identify the systemic barriers preventing access and usage of housing finance in Kenya on the supply and demand side. The objective of the study is to inform the roll-out of the affordable and incremental housing for low income households and promote inclusion.
The strategic objective of the programme is to:
• Address the need for incremental building by exploring development of financing solutions that promote incremental housing development, such as supporting self-built housing.
• Developing solutions such as alternative credit scoring mechanisms, asset registry and minimal collateral requirements to address the informality challenge.
• Increasing funding for housing finance initiatives, such as grants or low-interest loans to financial institutions that provide housing finance.
• Collaborations between the government, private sector, development partners, wholesale lenders and investors to increase housing finance availability and create a sustainable housing finance system.
• Technical assistance and capacity building to financial institutions, developers, housing support organizations, government agencies, building contractors and construction workers to address supply-side capacity constraints including gaps on skills and data/information availability.
• Exploring innovative financing options, such as blended housing finance solutions that encourage early-stage innovation and long-term sectoral growth.
• Sound policies, such as reforming national housing policies, developing housing finance strategies and creating an enabling environment.
• Enhance financial literacy and awareness to consumers through financial education programmes to increase knowledge of housing finance options among low and middle-income households.
• Develop tailored housing finance products that cater specifically to the needs and financial capacity of low and middle-income households. These include flexible repayment terms, lower interest rates, and minimal requirements.
