Microfinance is the provision of small loans and other small scale financial services to the poor. Having access to affordable credit, a secure place to save money and insurance to protect against the unforeseen can make a world of difference for the “unbanked”, some 2-3 billion poor people in “The Base of the Pyramid”. Affordable microfinance services enables them to build businesses, to increase and stabilize their income and to reduce their vulnerability.
Who are microfinance clients?
Generally, microfinance clients are poor and low-income people that do not have access to other formal financial institutions. Microfinance clients are usually self-employed, household-based entrepreneurs. Their diverse “microenterprises” include small retail shops, street vending, artisanal manufacture, and service provision. In rural areas, microentrepreneurs often have small income-generating activities such as food processing and trade; some but far from all are farmers.
Hard data on the poverty status of clients is limited, but tends to suggest that most microfinance clients fall near the poverty line, both above and below. Households in the poorest 10% of the population, including the destitute, are not traditional microcredit clients because they lack stable cash flows to repay loans. Most clients below the poverty line are in the upper half of the poor. It is clear, however, that some MFIs can serve clients at the higher end of the bottom half. Women often comprise the majority of clients.
How does microfinance help the poor?
The impact of microcredit has been studied more than the impact of other forms of microfinance. Microcredit can provide a range of benefits that poor households highly value including long-term increases in income and consumption. A harsh aspect of poverty is that income is often irregular and undependable. Access to credit helps the poor to smooth cash flows and avoid periods where access to food, clothing, shelter, or education is lost. Credit can make it easier to manage shocks like sickness of a wage earner, theft, or natural disasters. The poor use credit to build assets such as buying land, which gives them future security. Women participants in microcredit programs often experience important self-empowerment.
Empirical studies on the impact of credit are difficult and expensive to conduct and pose special methodological problems. Most impact studies to date have found significant benefits from microcredit. However, only a few studies have made serious efforts to compensate for the methodological challenges. In fact, many studies would not be regarded as meaningful by most professional econometricians. A new wave of randomized trial studies is now in process, which should yield a more definitive picture.
Even so, there is a strong indication from borrowers that microcredit improves their lives. They faithfully repay their loans even when the only compelling reason is to ensure continued access to the service in the future.
Other microfinance services like savings, insurance, and money transfers have developed more recently, and there is less empirical research on their impact. Client demand indicates that poor people value such services. MFIs that offer good voluntary savings services typically attract far more savers than borrowers.
India: Growth of Microfinance
India is the largest emerging market for microfinance, with about 350-400 million people living below the poverty line (USD 1.25), of which only 15-20% have access to the formal financial sector. The sector has grown from a development focused, mainly government/donor funded NGO sector into a retail financial services sub-sector with an economic and social impact, integrating into the mainstream financial system. The Indian microfinance market has grown to more than 5 billion dollars in outstanding loan portfolio in 2008.
