Next test for microfinance

Few countries have shaped the global discourse on microfinance as profoundly as Bangladesh has, where the model emerged as a tool for poverty alleviation and social empowerment. Over decades, it has extended credit and basic financial services to millions excluded from conventional banking, attracting both praise and criticism. Now, with the approval of the Microfinance Bank Ordinance, the interim government seeks to chart a new course by institutionalising the concept of social business within the formal banking sector. The legislation proposes converting eligible microfinance institutions into specialised banks operating under a social business model, in which profits beyond the recovery of initial capital are reinvested for social objectives and a majority shareholding is reserved for borrower members. Presented as a natural evolution of a maturing industry, the move nevertheless raises several substantive questions that warrant careful public scrutiny before it is rolled out on a wider scale.

A critical concern is the already congested state of Bangladesh's banking sector which includes around 62 scheduled banks alongside numerous non-bank financial institutions. Many of these entities grapple with governance failures, weak balance sheets and a history of regulatory forbearance. Introducing a new category of banks, even under the banner of social business, would add further complexity to a system that has yet to address its existing vulnerabilities. Although the ordinance prescribes relatively high capital requirements and places microfinance banks under the direct supervision of Bangladesh Bank, experience suggests that formal oversight alone does not ensure prudence. There is concern within sections of the banking community and among development practitioners that converting large MFIs into banks could intensify competition for deposits without a corresponding strengthening of financial discipline. The risk extends beyond institutional fragility, potentially exposing low-income depositors to entities whose capacity to operate as full-fledged banks remains untested.

The government contends that bringing MFIs into the banking framework will address one of the most persistent criticisms of microfinance, namely high lending rates. By allowing these institutions to mobilise deposits, the cost of funds is expected to decline, reducing dependence on commercial bank borrowing and ultimately easing the burden on borrowers. While this reasoning has merit, it rests on assumptions that may not materialise automatically. Interest rates in microfinance are shaped not only by funding costs but also by high administrative expenses, intensive borrower monitoring and the risks inherent in unsecured lending. The social business provision, which restricts profit distribution beyond the recovery of initial capital, may curb excessive profit seeking, but it does not by itself ensure that savings will be passed on to clients. Without clear disclosure standards, rate transparency and competitive pressure, the promise of cheaper credit risks remaining aspirational rather than assured.

The government also faces unfinished business in the existing microfinance ecosystem where many poor households take new loans simply to service old ones. Instead of empowering borrowers, this often traps them in cycles of debt that can culminate in the distress sale of their last valuable possessions. If the new social business initiative is to command credibility, such distortions must be addressed so that poverty is not reduced to a commodity for exploitation. Meanwhile, the mixed reactions to the Microfinance Bank Ordinance, including cautious opposition from sections of the NGO and development sector, suggest that a consultative approach to refining the framework would be prudent. Engaging critics alongside supporters is essential to ensure that this well-intentioned financial innovation does not falter under practical constraints and that lessons from past microfinance experiences are meaningfully incorporated.