INNOVATIONS IN RURAL AND AGRICULTURE FINANCE


Overview RENATE KLOEPPINGER-TODD AND MANOHAR SHARMA


FOCUS 18 • BRIEF 1 • JULY 2010 E


verywhere in the world, small agricultural producers are entrepreneurs, traders, investors, and consumers, all


rolled into one. In all these roles, small agricultural households constantly seek to use available financial instruments to improve their productivity and secure the best possible consumption and investment choices for their families. But the package of financial services available to small farmers in developing countries is severely limited, especially for those living in remote areas with no access to basic market infrastructure. When poor people have limited saving or borrowing options, their investment plans are stifled and it becomes harder for them to break out of poverty. If households have no access to insurance and are unable to accumulate small savings that enable them to pay for household and business expenses, especially during lean seasons, they are forced to limit their exposure to risk, even if high returns are expected, once again making the pathway out of poverty more arduous than necessary. Inadequate access to financial services is thus part of what is often called the “poverty trap.”


Microfinance and agriculture finance


In the 1980s and 1990s the deleterious impact of limited financial access caught the attention of many academics, policymakers, donor agencies, and development practitioners, who generated an outpouring of new thinking and new ideas. Innovative concepts such as group liability, village banking, microinsurance, and index- based insurance were tested in new and emerging microfinance institutions. But progress on expanding agricultural finance—as opposed to nonagricultural microenterprise finance—lagged. Donors and governments that had invested heavily in agricultural development banks and agricultural credit in the 1980s and early 1990s found that these efforts did not produce the expected results and withdrew their support. It was hoped that private commercial banks would step in, but for the most part they did not. Financial institutions have demonstrated a lack of interest


in agriculture finance for four reasons. First, many agricultural households were located in remote parts of the country and were often so widely dispersed that financial institutions found it challenging to provide cost-effective and affordable services. Second, big swaths of the agricultural population were subject to the same weather and climate risks, making it hard for providers of financial services to hedge risks or operate profitable insurance pools. Third, service providers, mainly urban-based, simply did not know enough about the business of agriculture to devise profitable financial products. Fourth, most small agricultural producers in developing countries had little education and little knowledge of how modern banking institutions work.


Recent progress in rural finance


Since the early 2000s a number of organizations have developed innovative approaches to financing agriculture. They have sometimes adapted microfinance concepts to the provision of


Addressing the business reality of small farmers


Most small farmers in developing countries have little education and limited exposure to modern financial instruments. Further, many of these small farmers have only recently transitioned from subsistence to commercial farming, and their contact with the cash economy and experience in cash management is limited. Hence, in Brief 2 Monique Cohen addresses the issue of financial literacy and explains why the poor may need some coaching on how modern financial instruments can better their lives. Additionally, many small farmers in developing countries


live in remote rural settings, where urban-based retail banking is unavailable. In Brief 3 Anne Ritchie describes two operational models used by community-based financial organizations and explains how community banking enables the unbanked rural poor to serve themselves, with or without links to the formal financial sector. As rural banking takes hold in developing countries, it has also


attracted the attention of institutions in developed countries that have traditionally served farmers. The Netherlands-based Rabobank, for example, has made investments in countries as varied as China, Paraguay, and Zambia. In Brief 4 Gerard van Empel describes Rabobank’s use of a supply-chain approach to address key gaps in rural banking in many developing-country contexts. Ghana’s network of rural and community banks represents a


unique approach to generating access to financial services across the rural areas of a whole country. In Brief 5 Ajai Nair and Azeb Fissha describe their business model, their services, and their financial performance. The brief discusses the challenges facing the network and its apex institution in becoming financially sustainable and competitive and draws lessons that are applicable elsewhere. The financing of productive assets requires access to medium- term loans and usually significant collateral, neither of which are


agricultural finance, used good banking practices, and above all drawn on knowledge of agriculture to enter and succeed in this market. Many of these new approaches show great promise, but no single approach works for all situations. Rather, organizations have the most success when they are nondogmatic, apply comprehensive risk-management strategies and tools, retain the ability to pick and choose their clients rather than having the government do so, and are innovative and pragmatic. This set of briefs explores how rural and agricultural finance


can be profitable, without high levels of government subsidies, by examining a selection of successful interventions—out of the many being implemented in the developing world—and highlighting the lessons learned. The briefs fall into four thematic areas: addressing the business


reality of small farmers in developing countries, using modern communication technology to overcome the tyranny of distance and information bottlenecks, managing risks at the farm and household level, and bundling financial services with nonfinancial services to address the multiple constraints faced by most small farmers.


FOR FOOD, AGRICULTURE, AND THE ENVIRONMENT


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