Over-Indebtedness in Cambodia: Findings from a Financial Diaries Study
1 year ago
Findings from MFO’s latest Financial Diaries study revealed that a segment of MFI borrowers from Cambodia who had high debt-to-income ratios displayed signs of financial stress including: food insecurity, using cash transfers from outside the home to cover loans, and borrowing to repay a loan. Despite these signs of stress, borrowers were regularly repaying their loans, reflecting a commitment by the borrowers to meet their financial obligations.
Recent findings from the Microfinance Index of Market Outreach and Saturation (MIMOSA) suggested that Cambodian MFI borrowers might be over-indebted. To further explore this issue, the Dutch Development Bank (FMO) contracted Microfinance Opportunities (MFO) to conduct a Financial Diaries study on 258 MFI clients. One-fifth of the sample was based in and around Phnom Penh, while the remaining four-fifths were based in the Kampong Speu province.
Over the course of 12 weeks respondents were interviewed six times and reported on all earnings; all expenditures, including household and business expenses; all savings and loan transactions, with a focus on MFI loan repayments; and all cash transfers, distinguishing between transfers within the home from transfers with people outside the home. These interviews resulted in 3,096 weeks of data, in total.
On average, the 258 borrowers had outstanding loans of about KHR 14 million at the start of the study, and their average monthly repayments were around KHR 824,000. However, their average net monthly earnings were only KHR 742,000, suggesting that they could not afford to make these payments on their own. After taking into account cash transfers that the borrowers received from other household members, MFO found that more than one-third of respondents had debt-to-income ratios greater than 75 percent. These high debt-to-income ratios also strongly correlated with questions about food insecurity. MFO also found that three percent of the sample financed a repayment with another loan, and eight percent used cash transfers from outside the home to finance repayments.
Despite these signs of over-indebtedness, most borrowers were meeting their monthly loan obligations using both their earnings and cash transfers. However, 43 percent of respondents reported no earnings during the 12-week study, relying solely on cash transfers from other household members to finance repayments. These borrowers also tended to have higher debt-to-income ratios than income-earners did. MFO also found that 76 percent of non-earning borrowers lived in homes with garment workers, and the size of cash transfers that these garment workers gave to the respondent played a key role in determining that respondent’s debt-to-income ratio.
Finally, MFO found that workers had a high-level of financial literacy and a conservative approach to money management that emphasized timely repayments and savings. MFO concluded that MFI’s were leveraging these conservative attitudes to keep their portfolios-at-risk low. Discussions with MFI’s also revealed that their underwriting was typically for the whole household, not just the individual borrower. Thus, MFIs relied on assumptions about the inner workings of Cambodian households when underwriting their loans by including other economically active household members as co-borrowers and guarantors and including their income when underwriting the loans.
For this to keep working, two conditions have to be true about the economically active members of the household: first, they have to remain committed to helping the principal borrower cover the loan repayment; and, second, they have to continue to earn an income. The Diaries data suggests that MFIs cannot take the first of these two conditions for granted across all households. The second condition will hold true so long as Cambodia’s economy continues to grow strongly.
Based on these findings, MFO recommended the following to MFIs:
- Avoid making loans to households with a current loan outstanding.
- Review their underwriting practices to ensure that they are making an accurate risk assessment of the willingness and ability to repay of other members of the household when underwriting a loan.
- Assess their exposure to different sectors of the economy by tracking the occupations of both borrowers and other members of their households: for example, what share of loans are being repaid with salaries from the apparel industry?
- Develop an early warning system that identifies clients in financial stress, even if they are repaying their loans, and develop policies and procedures for reducing that stress.