managing risk.pdf

Managing Risk and Creating Value with Microfinance93Communication with clients is also important for the establishment of clear expectations of what supportmay be available in the aftermath of a disaster. The MFI can ensure adequate predisaster communication bypreparing staff members. During the orientation provided to new clients, the MFI’s staff can present disasterpolicies and practices. When clients apply for subsequent loans, the staff could briefly review the policies. Ifmanagement decides that lending and collection policies will be more flexible in the event of a disaster, thestaff should receive a special operating manual. This approach will ensure that all clients receive the sameinformation about what assistance and adjustments are available.Contingency fundsBecause liquidity is often the biggest financial constraint after a disaster, the most direct approach to financialrisk mitigation is a dedicated contingency fund. A contingency fund is an earmarked fund that may be accessedin times of disaster to help clients and MFIs survive and recover. Donors often help in disaster preparednessby establishing contingency funds, which comprise three types, differentiated by their organization andmanagement. The first is assigned to a single MFI, usually a large institution with many years of experience,efficient administrative systems, and nationwide coverage. The second is operated by a special administrativeunit. The third is shared by various MFIs: each one is responsible for regional coverage or specific communities.Contingency funds can be an advantageous solution for the clients, the MFI, the government, and the donorsfor five reasons:• Clients can reestablish income streams quickly, thus getting funds for medicines, food, and temporaryhousing costs.• When conditions return to normal, the MFI can reduce the risks of delinquent clients and loan lossreserves. Long-term client loyalty climbs when MFIs respond quickly to the client’s emergency needs.• The government may be overwhelmed by the disaster and may have to focus on the logistics of rescue,emergency housing, and massive relocation of communities. The MFI with a contingency fund can bean important ally in short-term recovery efforts.• Donors often contribute to the initial capitalization of such funds, because contingency funds fordisaster preparedness offer significant advantages to them as well.• Administrative costs incurred by donors and local agencies decline and response time decreases whenplans and contingency funds are in place.Periodically, according to a strategic target, the MFI should add to a special reserve fund for disaster recovery.This earmarked fund can be used for disaster relief in the form of short-term loans to clients or as a recoveryfund for the MFI (for example, to repair or replace key equipment and infrastructure).Are disaster contingency funds appropriate for all situations? The most successful funds have been establishedin disaster-prone areas of South Asia. Larger MFIs are more likely to benefit from disaster contingency funds,because they are in a better position to make a strong case for using the resources efficiently and quickly. If theMFI can link to an existing contingency fund, such as a deferred drawdown option (DDO) that is establishedfor disaster response (see box 7.1), then the reserves can be maintained at a minimum. However, in disasterproneareas, it would be wise to always have such funds waiting for the next round of claims. The example ofBuro-Tangail (box 7.2) shows how contingency funds can be used for a number of purposes, while being readyfor disasters.