Profits vs. impact: what can microfinance teach us?

How can the private sector work for development? This paper provides answers to this question from the firms’ perspective by examining the trade-offs that private firms face between maximizing their profits and achieving a positive social impact. In particular, it considers the experience of microfinance as the best available data source from the point of view of a firm engaged in development issues. The paper studies balance sheet data of microfinance institutions (MFIs) to understand what drives their financial self-sustainability. The analysis focuses on how this variable is affected by firm-level proxies for social impact, such as outreach to women and loan size, using both a quantile regression and an instrumental variable approach. The findings indicate that there is low risk of mission drift as MFIs become more financially sustainable. Indeed, serving women seems to increase financial self-sustainability in all types of institutions due to reduced risk. Moreover, increasing the loan size seems to be less important as firms gain financial self-sustainability. Nevertheless, even if more profitable MFIs tend to cope better with costs, they are also more sensitive to risk and market power. This can limit their role in financing projects with a higher long-term development impact, as well as it can reduce their interest in fostering market mechanisms forward. Therefore there is room for regulation to design risk mitigation mechanisms and promote competition.