Analysis of funding mechanisms for the small and micro enterprise development project, Egypt

The project, which was approved in 9/88, established two foundations, one in Alexandria and one in Cairo, to carry out the project. The principal structure of the project"s credit component was the lending mechanism, which involved USAID/C as the supplier of funds, two nonprofit foundations as credit facilitators, and commercial banks to handle the mechanics of the flow of funds. The lending mechanism was designed to deliver credit to SME"s in an efficient and effective manner. The structure of the lending mechanism was straightforward, minimized lending costs, and was easy to manage. The key element in creating the lending structure was the funding mechanism, which was designed for maintenance of value, ease of management, instillation of financial discipline in the foundations, minimizing of costs to borrowers, and ensuring of sustainability after the end of the project. The funding mechanism selected was a U.S. dollar-denominated collateral account with a right of offset. This account, which has been used as the funding mechanism by the Alexandria and Cairo Foundations for 2 1/2 years, is working well, and all of the participants are satisfied with its operations and mechanics. Alternative funding mechanisms that were examined were collateral funds in currencies other than U.S. dollars, guarantee facilities, and disbursement of funds to the foundations for direct on-lending to SME borrowers. An analysis of the alternative funding mechanisms indicated that the current dollar collateral fund is the best way to achieve the purposes for which the funding mechanism was designed. None of the other alternatives examined were determined to be as effective or efficient in meeting those objectives. The dollar-denominated collateral fund protects the integrity of the fund against decapitalization due to devaluation, is easy to manage, and ensures the future viability of the program after the end of the project. The last feature is particularly vital as it points to the important role of the foundation in the financial deepening of Egypt"s financial system. The foundations provide a transitional link for the SME sector as it moves from informal to formal financial services. None of the borrowers has access to the formal financial system. The foundations are the means by which the SME sector has access to the commercial banks and entry into the formal financial system. Involving commercial banks in the lending mechanism introduces the borrowers to the formal financial system and teaches commercial banks about the SME sector. The SME borrowers are learning about the discipline of repaying on time. The commercial banks are shedding misperceptions that all SME borrowers are high risk and that the transaction costs associated with SME borrowers are too high. Experience gained with the SME"s will lead to future borrowers for the commercial banks as the SME"s outgrow the capacity of the foundations to provide them with loan funds. (Author abstract)