Indonesia's Ultra Microcredit Programme: Financing Micro Businesses, Empowering the Poor.

• Author: Adam, Latif
• Position: ORIGINAL RESEARCH NOTE

1. Introduction

   The importance of Micro, Small and Medium Enterprises (MSMEs) in Indonesia has been recognized for a long time. They play a significant role in fulfilling various socio-economic objectives such as supporting higher growth of employment and output, promoting exports and alleviating poverty. Recent data show that, in Indonesia, MSMEs account for over 99 per cent of all enterprises, 97 per cent of employment, 57 per cent of value-added and 14 per cent of exports (Ministry of Cooperative and SME 2020). However, MSMEs face various problems that inhibit their growth and productivity improvements. Among all challenges, limited access to finance and financial institutions is the most critical one (Adam and Lestari 2017; OECD 2017; Dea 2019). This limited access prevents small firms from purchasing more raw materials and investing in new and more efficient technology to expand their business (TNP2K 2015).

   The Indonesian government has tried to assist MSMEs access financial resources by introducing the Kredit Usaha Rakyat (KUR) programme in 2007. Unfortunately, the scheme could only be availed by select influential MSMEs. There are currently around 64.2 million MSMEs in Indonesia (Ministry of Cooperative and SME 2020), of which only around 19.5 million (as of February 2020) could access KUR (CMEAs 2020). The rest were unable to comply with KUR participating banks' requirements such as a threshold level of fixed assets for collateral purposes.

   Most MSMEs that failed to access KUR are micro businesses (MBs) owned by the poor and vulnerable. By dividing KUR borrowers into their expenditure deciles, Adam and Lestari (2017) have indicated that the proportion of MBs in the first and second deciles (poor households) and the third and fourth deciles (vulnerable households) was only 11.9 per cent and 20.9 per cent of the total borrowers, respectively. Unable to secure loans, their position in the market remains marginal and they cannot generate optimal economic growth, create employment opportunities or accelerate poverty reduction.

   To provide more MBs access to funds, on 14 August 2017, the government introduced the Ultra Microcredit (UMi) programme to complement KUR. The two schemes are targeted at the lower-middle socio-economic class, particularly those who own and run businesses. UMi, however, has been specifically designed to provide cheap microcredit via simple procedures for MBs that have been excluded from KUR.

   Unlike other Indonesian microcredit programmes, UMi has eased its credit requirements and simplified the screening procedure to select and approve applications. This includes removing collateral requirements and implementing simple credit risk assessment methods. In addition, the government offers cheap loans to UMi's participating financial institutions at interest rates of 2 to 4 per cent to extend relatively inexpensive microcredit to MBs. The companies participating in UMi are mostly non-bank financial institutions (NBFIs) as they are not bound by rigid microprudential rules. These NBFIs are expected to be more flexible in selecting prospective customers and have a long experience of acting as lending institutions for MBs (Djunaid and Djunaid 2002; Assa, Tampajara and Endi 2017).

   This paper aims to examine UMi's design and evaluate the extent to which the programme has benefited MBs and the poor. It is important to note that, unlike Amanah Ikhtiar Malaysia/AIM (Terano, Mohamed and Jusri 2015; Ali 2019) and Vietnam Bank for Social Policies/VBSP (Duong 2021), the UMi initiative disburses loans by involving state-owned companies (SOCs) and their microfinance institution (MFI) linkage partners. Its role in tackling poverty is earned out not by providing social assistance, but by financing feasible "unbankable" MBs owned by the poor and vulnerable. The UMi programme is unique in that it is not a purely banking-based microcredit product.

   This paper is organized as follows. The next section explores a brief history of Indonesia's microcredit programmes. The third section then provides an overview of the design of the UMi scheme. The subsequent section assesses the implementation of the programme, while the fifth section analyses its achievements and challenges. The final section concludes and offers policy recommendations.

2. A Brief History of Indonesia's Microcredit Programmes

   Microcredit can be defined as a means to extend credit, usually in the form of small, short-term loans with no collateral requirements to non-traditional borrowers, such as those who wish to start and promote their own business (Ife 2013; ILO 2015; Nugroho and Saptia 2017; Akhter and Cheng 2020). It has played an important role in developing countries as a strategy to alleviate poverty, reduce unemployment, empower MBs, promote social capital and diversify livelihood (Ledgerwood 1999; Elahi and Danopoulos 2004; Uddin 2011; ILO 2015).

   Indonesia first adopted a microcredit programme in 1968 by introducing the BIMAS (Bimbingan Masai, or Mass Guidance) scheme. Since then, microcredit in the country has grown and transformed into various initiatives with different objectives. Its sources of funding, particularly after the introduction of Law No. 23/1999 on Bank Indonesia, have also shifted, from relying heavily on government budgets to utilizing banking funds (Figure 1).

   BIMAS was designed as part of the "rice intensification" programme aimed at achieving rice selfsufficiency (Hamada 2010; Hadiwinata 2003; McLeod 1994). Specifically, it offered subsidized interest rates for agricultural loans to small farmers. Bank Rakyat Indonesia (BRI), as the largest Indonesian microfinance institution, was appointed to manage and disburse BIMAS loans. To run the programme, BRI equipped itself with a microfinance village unit (BRI Unit Desa), which began with four units in Jogjakarta. Over the years, total BIMAS loan disbursement reached IDR636.7 billion to a total of 28,847 farmers. Despite its success story in helping attain self-sufficiency in rice production (Ashari 2009), BIMAS was considered an expensive experiment, costing up to IDR25.1 billion due to a high default rate of about 60 per cent in 1981 (Adam and Lestari 2017).

   Various studies (McLeod 1994; Hadiwinata 2003; Siebel 2005) have identified at least three reasons for BIMAS' failure, all connected to different forms of information asymmetry in the market--adverse selection and moral hazard. First, BRI staff did not actively monitor bank practices and screen applicants, leading to banks adversely selecting many farmers who defaulted on their loan repayment. Second, there was no incentive for small farmers to repay their loans on time. Because there was no strong penalty and because BIMAS bore the risk for the loans, a moral hazard emerged where borrowers intentionally delayed repaying their loans so as to use them for other purposes. Third, BIMAS intermediary institutions, mostly KUDs (Village Unit Cooperatives), manipulated financial statements in collusion with the borrowers and government officers.

   After BIMAS was terminated, in 1985, the government introduced the KUT (Farmer Business Loans) programme. This scheme aimed to reach out to small farmers who had completely repaid their BIMAS loans and were believed to have poor financial capacity to support their fanning businesses. Like its predecessor, KUT involved BRI as the parent financial institution and KUDs as the intermediary institutions. However, the two programmes differed in terms of their linkage mechanisms. BIMAS adopted a linkage channelling scheme in which the loan default risk was borne by BRI, while KUT implemented an approach in which the default risk was the responsibility of KUDs. The KUT programme was terminated in 1999 because a large proportion of KUT loans was enjoyed by not-so-poor farmers. The loan default rate was also high, reaching around 75 per cent of the total accumulated loan disbursement of IDR8 trillion (Nugroho and Saptia 2017).

   The termination of KUT coincided with the issuance of Law No. 23/1999, which prohibited the government from involving BRI as the main financial institution to support its microcredit programmes. Accordingly, various initiatives with subsidized interest rates for MSMEs introduced by the government now involved the country's overall banking system. Some of these programmes were the KKP (Food Security Credit Programme), KKPE (Food and Energy Security Credit) and KUPS (Cattle Breeding Business Credit) (Figure 1). However, none of these could be implemented optimally (Nugroho and Saptia 2017) and had to be discontinued because they faced the same challenges as BIMAS and KUT (Thee 2006).

   With this history of failed microcredit schemes, the Indonesian government shifted its approach of intervening in the microcredit market from providing subsidies to offering commercialized credit by launching the KUR programme in 2007. Commercialized credit refers to the application of market-based principles...