14, March, 2013

Latin America’s Institutional and Regulatory Innovations for Microfinance Growth

Before the 1980s, the microfinance sector was virtually non-existent in Latin America, but now it grows at two-digit rates. How have institutional innovations played a role in this expansion?

Current microfinance sector performance is associated with the reforms of Latin American countries’ financial sectors, starting at the end of the 1980s. Before the reforms, development of microfinance was constrained by an overly regulated financial industry that was primarily based on state participation. Streamlining regulation and implementing practices to supervise the sector provided microfinance institutions (MFIs) with the right environment to expand, innovate and become worldwide leaders in their field. This Brief provides an overview to the Latin American experience in regulating MFIs, covering the history of microfinance regulation in the region and the positive effects it has had on the sector’s current performance.  It also highlights good practices in regulations, risk management and oversight, and concludes with lessons learned that might prove useful for other regions.

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Key Lessons:

  • Underinvestment in microfinance before the 1990s was associated with institutional obstacles to private investment. When a sound regulatory framework was established in the 1990s, it provided an adequate environment for greater investment, which, in turn, spurred growth in the sector.
  • Although specific policies and requirements vary from country to country, a set of good practice from the Latin American context emerges, including: minimum capital requirements, strict standards for related-party lending, increased access by MFIs to more complex or risky operations subject to fulfilling more demanding requirements, ensuring adequate scale for efficiency, and promoting competition.
  • Prudential regulation is key to speeding up the development process of the microfinance sector. Latin American experience shows that stability of policies, transparency and the establishment of guidelines that highlight differences between types of institutions are desirable qualities of the institutional framework.

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