Microfinance Programme: What Worksover the past several years, much has been learned in the way of extending credit to the poorest microenterpreneurs. Many of these lessons have been based on concepts long employed by traditional informal finance activities, which are remarkably resilient and flexible to the needs of the client. For example, rotating savings and credit associations (ROSCAs) have long been in existence in Asia, Africa, and Latin America. These groups typically pool members' deposits, then extend loans to members after a given period. Funds can also be disbursed in cases of member emergencies or funeral expenses.
Some of these practices have even made their way to other countries. Acquaintances from immigrant communities form savings groups and accumulate funds which are used to start individual small businesses for each of the members in the new country. These informal sector financial services have supported the entrepreneurial success of many new arrivals in the industrialized world.
Another pervasive feature of the informal sector is pawning, one of the oldest forms of providing money to people who fall outside the reach of formal banks. Pawnshops provide instant small loans for short periods of time, assuring repayment by requiring physical collateral. Village money lenders also provide small loans for short periods of time, unsecured by collateral to people they know well. Their interest rates are much higher than other sources of credit, but they address the specific needs of their clients.
While every project is unique, the "laws" of effective projects which employ the successful elements of financial services as they occur in the informal sector are remarkably similar. These sources possess a significant amount of knowledge and experience in employing lending methods which have endured over time. Main lessons derived from the informal sector, include the following:
- Work directly in the community
Staff should visit villages and poor neighbourhoods almost daily, calling upon existing clients and explaining requirements to potential clients. They should hold meetings in the communities. If the project is operating in a rural area, staff should visit towns and villages, perhaps on a weekly basis.
- Simplify application procedures
There is little difference in the rate of loan repayment between projects that "write a book" on each applicant and those that reduce applications to one or two pages. At the microloan level, relying on peers to choose a client is an effective tool for loan security.
- Extend credit quickly
Loan applicants become discouraged if they have to wait months before receiving services. They are accustomed to moneylenders who dispense money on the spot. Well-managed projects extend credit in less than a month and often within a week. They disburse subsequent loans even more quickly.
- Do not require records and complex business plans
Because only a small percentage of farmers, traders and micro-manufacturers keep written records of any kind, successful programmes refrain from asking for records or plans.
- Do not require guarantees eliminating most potential candidates
Alternative mechanisms, such as credit groups where business owners are mutually responsible for repaying loans,substitute effectively for conventional guarantees. The individual;s reputation in the community is more important than collateral.
- Work with existing economic activities, no matter how small, or work with start-ups appropriate to the community.
Launching larger enterprises is seldom successful and requires extensive inputs over months and often years.
- Focus initially on the local market
Local entrepreneurs and small farmers can find 'niches' often invisible to outside experts. Efforts to find new markets are often costly and difficult.
- Extend small, short-term loans primarily for working capital on simplified terms.
Small, short-term loans not only 'test' the client's commitment to repay, but also allow the client to see whether or not a loan will, in fact, help the business grow. These loans should have frequent (weekly, bi-weekly, monthly) equal payments.
- Provide larger loans based on successful repayment
Virtually all successful programmes have a well defined system of providing increased loans based on successful repayment.
- Charge a higher rate of interest than the market
From the perspective of borrowers, quick credit is more important than a low interest rate. From the perspective of lenders, interest must cover transaction costs and the cost of operating the project.
- Assume clients, with their network of friendships and their relationships within the community, will take a major role in promoting the project
Clients form their own groups and provide on another with advice and assistance, reducing programme costs significantly. At the same time, this intensified interaction serves to develop a commitment among clients - to the project and to each other.
- Develop large-scale, self-sufficient, profitable projects working in close coordination with local banks
The involvement of the formal financial sector is vital if efforts are to reach a significant part of the rural and urban poor.
- Address the needs of poor clients
Formal sector banking hours are often not convenient to the schedules of the working poor.
- UNDP, MicroStart - a Guide for Planning, Starting and Managing a Microfinance Programme [Ver 1.0], 1997.
Hari Srinivas - firstname.lastname@example.org
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