Cambodia's Micro-credit Trap

Roaming the streets as a motorcycle taxi driver in Dangkao district on the edge of Phnom Penh, Ek Sovannara is lucky to earn US$2.50 a day. But his aspirations once stretched much further.

In 2005 he was presented with an opportunity to borrow US$500 from Credit Microfinance Institution, a firm established by the Christian charity World Relief US in 1993, to set up a small food stall in Trapaing Krasaing commune where crowds of garment workers pass on their way to work. His decision that day to take the money would stay with him for years.

Since then, borrowing more and more from private lenders to pay back microlenders, he has fallen into a complicated web of debt now so severe that he is considering selling his house and about 50 square meters of land, together worth around US$6,000. Though he has managed to pay back some of what he borrowed, his business ceased turning a profit two months ago. After successive borrowing to repay other loans, Sovannara still owes US$1,520 to Credit Microfinance Institution and a further US$400 to seven private moneylenders.

Sovannara, 39, is far from alone in his battle with debt. From its nascent days in the mid-1990s, Cambodia now has more than a million families with a microcredit loan in a population of 14 million people. That number is growing fast. Total outstanding loans as of the end of the first quarter amounted to US$711.8 million, an almost 10 percent increase over the previous quarter.

Like many others in his village, he has been approached by both private moneylenders and licensed microfinance institutions that hand out small loans with few strings attached, offering anywhere between US$50 and US$2,000.

Private lenders often allow borrowers to pay back the formal lenders, who in return agree to provide their clients with more credit. A lack of available credit history has also produced cases where clients have taken loans from more than one microfinance institution at the same time.

It is hard to know if this scenario is representative of the broader microcredit sector. Only licensed microfinance institutions are obliged to report on loan defaults, while smaller, registered institutions do not. According to figures from the Cambodia Microfinance Association, non-performing loans among licensed institutions were calculated to be just 0.99 percent in the first three months of the year.

Defaults on loans appear to be even lower. At Chamroeun Microfinance, defaults on loans amounted to just 0.01 percent in 2010 while at Hatta Kaksekar Ltd, which started offering micro-loans as an NGO in 1994 and became a licensed MFI in 2004, defaults on loans was just 0.2 percent in 2010.

Microfinance institutions "have invested in improving systems and there are higher levels of control than before," said John Brinsden, vice president of Acleda Bank, the country's largest microcredit lender. He added that commercial banks in Cambodia were beginning to look at many licensed institutions as "serious peers" in the financial services industry.

Nonetheless, microfinance institutions admit that loan officers need more training to assess borrowers' creditworthiness and analysts say high levels of debt are a growing problem.

As Cambodia's microfinance sector has established itself, particularly over the last five years, a plethora of institutions have flooded into the market. Meanwhile dozens of non-governmental organizations and private moneylenders have also sought a piece of the action.

"In difficult times I took money from private moneylenders to pay back the loans I borrowed from the microfinance institutions," said Sovannara, who now relies on his wife’s job in a nearby garment factory as well as his meager income from the motorcycle taxi service. "I feel scared I will lose my home as so many people in my village lost their house to debt problems."

The scenario being played out in Sovannara's village in Trapaing Krasaing commune -- a tight-knit community where strife in the quest to earn a living is shared -- is at times dismal. Both poverty and crippling debt levels loom over the heads of many here. By day, credit officers from some of Cambodia's 27 licensed microfinance institutions travel round on motorbikes looking for new clients and collecting outstanding debts.

While acknowledging instances of high debt levels, those in the industry say that most microfinance institutions are largely healthy and have stringent policies on only handing out loans to those with viable incomes. Still, Chan Mach, general manager of Credit Microfinance Institution, which has a loan portfolio of US$35 million in micro-loans, making it the country's fifth largest microcredit institution, said he was aware of the problems facing the microfinance sector.

"The main concern in the microfinance sector in Cambodia is over indebtedness," he said, acknowledging that he had identified cases where loans his institution had made were being repaid by overlapping loans from other institutions or private lenders. "We need to commit ourselves to revise the policy, to guide our staff about the loan assessment."

Mach said Credit Microfinance Institution plans to conduct research with its clients to find out exactly how many of them have overlapping loans. To combat the problem, he said his institution is also giving training to its clients in family budgeting, saving techniques and debt management.

Hout Ieng Tong, general manager at Hatta Kaksekar Ltd, said that some microfinance institutions had problems with their credit officers' level of training and doubted the purpose of handing out loans of as little as US$100.

"To do some business here you must have some capital...otherwise you cannot do the business," he added. "I think the microfinance that lend with small amount, maybe it doesn't help the client. What can you do to a business with US$50 or US$100?"

Tong said that 10 percent, or US$1.5 million of total revenues at HKL, is spent on training staff every year to ensure that all employees are capable of carrying out robust loan assessments.

However, while less than 1 percent of microloans are considered non-performing, analysts say that number would be much higher if private lenders did not prevent borrowers from defaulting with microfinance institutions.

The National Bank of Cambodia says it is aware of the risks facing the microfinance sector and will include an entire chapter on how to ensure the industry's strength in its financial sector development strategy for 2011 to 2020, to be completed shortly.

"We will try to find a solution and a road map in order to strengthen the microfinance institutions," said Ngoun Sokha, director general of the National Bank of Cambodia. She said that part of the strategy would be to encourage MFIs to inform borrowers of the benefits of taking money from formal lenders--lower interest rates and more flexibility--rather than those which operate outside central bank regulation.

A credit bureau, which is due to be launched by the end of the year, will also help MFIs to better target suitable borrowers.

The circumstances there have drawn critics to accuse microfinance institutions of handing out loans with little regard for the ability of borrowers to make repayments. Analysts say that as the microfinance sector has grown its policy has come to be guided by a desire for profits rather than for reducing poverty.

"When a borrower has defaulted, the collateral land most often end up with the private lender, who has paid off the MFI," said Jan Ovesen, a professor of cultural anthropology at Uppsala University in Sweden, who has completed extensive research on microcredit lending in Cambodia. "We also have examples of private lenders taking MFI loans."

Ovesen said that research in Cambodia had shown that borrowers would take a private loan for a couple of days in order to pay the microcredit loan, because when the loan is paid according to schedule, the borrower is eligible for a new one. This scenario has brought about what she described as "predatory lending" among both microfinance institutions and private lenders in Cambodia.