Technical Efficiency of Microfinance Institutions in India – A Stochastic Frontier Approach

This study attempts to measure the efficiency levels of Indian MFIs by applying the stochastic frontier approach to 40 MFIs from 2005 to 2008.

Efficient MFI functioning is critical for long-term sustainability. The study attempts to benchmark best practice MFIs by assigning them ranks in order of their efficiency levels. It also seeks to determine factors responsible for the variation in efficiency levels.

The study utilizes a methodology that simultaneously estimates parameters of the stochastic frontier and the inefficiency model. Study findings reveal the low efficiency levels of Indian MFIs. They include:

• Indian MFIs realize only 34% of their potential output;
• MFIs can increase their output levels by 66% with the same amount of inputs and technology;
• Average efficiency of sample MFIs increased over the period 2005-08;
• MFI age is an important determinant of efficiency level, but size does not matter much;
• No trade off is observed between efficiency and outreach;
• Significant regional variation exists in MFI efficiency levels;
• Southern MFIs are more efficient than others;
• Unregulated MFIs are more efficient than regulated ones.