Three Things to Remember
about Microfinance:

Microfinance is not new
Microfinance is not just money
Microfinance is not enough
    .    

Hari Srinivas
Concept Note Series E-110. April 2020.



Understanding the viability of microfinance requires a comprehensive analysis from the right perspective - one that emphasizes its precedence in the numerous traditional and informal systems of credit that were already in existence before microfinance came into the vogue.

Much has been written about microfinance being the provision of "small loans" to "poor people" who live on "less than two dollars a day." However, the viability of microfinance needs to be understood from a dimension that is far broader - in looking at its long-term, non-money aspects too.

The cure-all myth of microfinance needs to be debunked with the proverbial pinch of salt. Is microfinance alone enough? Is something missing? A broader perspective needs to be taken so that overall development is not compromised.

Microfinance is not new ...

So what is "microcredit"?

    .     The concept of microfinance can be best described by the title of F.A.J. Bouman's 1990 book, "Small, Short and Unsecured" - microfinance is the provision of very small loans that are repaid within short periods of time , and is essentially used by low income individuals and households who have few assets that can be used as collateral.


Environmental Colours of Microfinance

    .     The aspect of microfinance that has contributed to its success is its 'credit-plus' approach - where the focus has not only been on providing adequate and timely credit to low income groups, but to integrate it with other developmental activities such as community organizing and development, leadership training, skills and enterpreneurship management, financial management etc. The success and sustainability of microfinance programmes has depended upon, and has fostered, these aspects.

14 Reasons why the informal credit markets are used by the poor

    .     In the absence of commercial bank loans, access to microfinance affords low income groups to receive loans for their economic activity. Programmes and organizations that provide credit to low-income groups make a clear match between the quality and quantity of credit, and the capacity of the poor to utilize that credit - at the same time being organizationally sustainable. Unlike government credit programmes and formal bank credit that emphasize large loans for long repayment periods at very low interest rates, microfinance loans are for short periods that are repaid quickly, and made available at interest rates that keep the programme sustainable and viable.


A Continuum of Informality of Credit


A Typology of Informal Credit Suppliers

    .     It is important to understand that the concept of microfinance is not new. The precedence for microfinance lies in the numerous traditional and informal systems of credit that have existed in developing economies for centuries, long before modern, western-based commercial banking came into the picture. Many of the current microfinance practices, in fact, derive from community-based mutual credit transactions that were based on trust, peer-based non-collateral borrowing and repayment. Transactional (eg. money lenders), mutual (eg. ROSCAs) or personal (eg. friends and neighbours) credit suppliers have always lent to the poor, providing the right quality and quantity of credit, at the right time and place, to low-income households.


 

    .     The 'adoption' of traditional financial systems and its intergration into modern banking and financial systems is not reltively new (poineered by Grameen Bank, and other microfinance institutions such as SEWA (India), BRAC (Bangladesh) Bancosol (Bolivia) etc.). As far back as 1720, an Irish pastor and writer, Jonathan Swift, started the first Irish Loan Fund, providing loans without collateral to the poor of Dublin. The first formal Asian micro bank was the Priyayi Bank of Purwokerto in Java, Indonesia that was set up in 1895, and which is the predecessor of the current BRI.


      .     The integration of microfinance systems into the larger macro systems in developing countries has not been smooth and many barriers have existed. This is where second-tier institutions (multilateral institutions, donor agencies, universities and research institutions, international NGOs etc) have played a critical role in mainstreaming microfinance programmes and institutions. They have played both financial and non-financial roles - in terms of supporting microfinance initiatives financially, and in instituting capacity building and good governance practices in microfinance programmes.

    .    
There is a clear need, first of all, in establishing the viability and importance of microfinance as a poverty alleviation approach for low-income groups. It also helps in mainstreaming the concept of microfinance within the larger development economics thought. This is important to create a level playing field for microfinance, and its acceptance by macro players such as bankers and other financial institutions. Emphasis also needs to be placed on second tier organizations in order to support and promote microfinance initiatives.

    .    
Thus microfinance institutions and the governmental and non-governmental entities that support it have to face two key challenges if microfinance is to become a viable tool for poverty alleviation and development.


SPECIAL THEME:
Capacity Building for Microfinance

    .     Firstly, there is a need for repackaging microfinance, focusing on capacity building of MFIs. Microfinance needs to 'graduate' from its dependence on grants and its charity orientation, to one of self-sufficiency and financial sustainability. Technical advisory, management tools, appropriate and timely information are some important inputs.


SPECIAL THEME:
Governance of Microfinance Institutions

    .     Secondly, there is a need for mainstreaming microfinance, focusing on governance of MFIs. This calls for a facilitative and supportive legislative environment to be put in place by national and local government agencies and financial institutions - essentially as a complement to the growing trend of self governance by MFIs.
    .    

Microfinance is not just money ...

Special theme: Finance for Microenterprises






Microfinance IdeaCards













Special theme: Inspiring Ideas in Microfinance

    .    
The idea of microfinance not being just about credit transactions takes its inspiration from the "Credit-Plus" approach. The Credit-plus approach essentially integrates adequate and timely credit into larger developmental processes such as comunity organizing, leadership training, entrepreneurship etc.

It is indeed a two way street - many interlinked and interdependent criteria need to be satisfied for the success of microfinance programmes, and conversly - availability of microfinance assists such activities.

The core of microfinance programmes go beyond mere access and distribution of money, to deeper issues of how money is utilized and invested by low-income individuals. It helps in fostering and developing a micro, community-based environment where existing networks and interlinks are strengthend. It is important therefore to understand that microfinance dosen't stand alone, but overlaps on existing developmental activities and helps in their implementation.

Eight such issues are presented here, with supporting good practices in microfinance management:

  1. Organizational and operational aspects
  2. Networking and information gathering
  3. Community and kinship development
  4. Skill and vocational development
  5. Leadership development
  6. Trust building
  7. Small enterprise management
  8. Education and health
  1. Organizational and operational systems
    The development and implementation of a microfinance programme facilitates, and is facilitated by, organizational and operational systems that are set up as a part of the programme. They include community-based organizations, peer groups etc. as well as systems of operation to manage the microfinance programme. A good organizational/operational system also leads to better financial sustainability.

    Good Practice
    A loan fund set as one of its long-term goals that the sponsor organization would run the revolving fund for three years. But, during that time, group members would be trained to take over. Long-term, within three years, the village women will assume management of the fund.

    Good Practice
    One programme which is flourishing now required long preparation by its organizers. Led by an extremely devoted woman, they held many meetings. They had a real plan and a strategy. They knew the neighbourhood women already had many contacts through trade union membership. They could identify possible leaders in each area. They were familiar with the economic activities of the women. And they had a good sense of their credit needs. While many explanations and meetings were required, the organizers had real possibilities to assist women.

    Good Practice
    One fund developed real techniques for learning from experience. Finding that many borrowers were falling behind in their payments, they started analyzing their delinquent loans regularly. They discovered that their terms were unrealistic generally for their borrowers. The women simply could not save enough from payment-to-payment, to meet the schedules. They adapted flexibly by changing the terms. But they continue to examine what they have done, to try to do better.

  2. Networking and information gathering
    The success of microfinance programmes greatly depends on the degree of networking incorporated into the programme - both within the community in which it operates, and with external agencies and institutions that can help its development. Building the MFI's capacity as well as instituting governance structures in its management is dependent on the links it develops, and in the information and transparancy it incorporates into the programme. Good networking and information gathering system also leads to better informed decisions and understanding market operations.

    Good Practice
    In one community, women started small and expanded their business.They saved their money as a group. They then brought a truck and started selling transportation services, in an area where there was no service at all. BAsed on their success, they are buying more trucks to lease to others as a first step. As a second step, they are starting to transport fuel as an extra service, and sell it to their customers.

    Good Practice
    Attempts to organize two businesses, one group and the other individual, emphasized the importance of economic and social conditions to one african group. Some of the lessons they learnt: 1. Always select a product or service with strong local demand; 2. Put the chosen product or service to a careful and long test of continuing sales; 3. Use every available agency or individual resource, without creating permanent dependence on them; 4. Keep the project design simple, especially in the early stages; 5. Use paid staff to do careful organizing, or else it will not get done; 6. Build on the long-standing traditions of women in forming clubs in the course of forming a new one.

  3. Community and kinship development
    Microfinance programmes bring the community together, and facilitate the development of kinship among the residents - particularly those that focus on women. Existing networks of kinship and community organization, conversely, greatly facilitates the implementation and success of MFI activities. In the long term, it leades to better quality of life and well-being.

    Good Practice
    The organizers of one large loan programme know their group very well. They know, for example, that almost all the women borrowers cannot read or write. They know that they are from 20 to 40 years old, have several children, and that some are sole family supporters. Regarding their businesses, they know that the women have nowhere else to meet their needs for funds to buy tools and raw materials and to fix up their selling stalls. They can therefore tailor their programmes to meet the women's needs.

    Good Practice
    A revolving loan fund set a very broad long-term goal: improve the well being of low-income people in 60 villages. Short-term, they planed to work with groups of women in helping them finance and manage their business projects.

    Good Practice
    One group defines its membership to include women who have been in business at least one year; women between 21 and 60 years of age; women who are members of a solidarity group; and only women who have a reference from a person in the community who is not already a member of the credit group.

  4. Skills and vocational development
    Access to good finance goes hand in hand with providing the appropriate skills and vocational resources to utilize the finances. This not only includes the development of new skills and vocations, but strengthen existing skills that the microfinance recipients possess - leading on to more equitable economic development.

    Good Practice
    One fund has an extensive training program for fund directors and managers, as well as group members. They use case studies and coursework to learn accounting, budget control, control of defaults, how to use borrowed money, financial planning, promotional methods, human relations etc.

    Good Practice
    Women's initiative is everything! It should be demonstrated in a project before lending. In one goat-raising project, several women put their small savings towards raising a herd. One member of the group, trained in animal husbandry, kept the herd. A local veterinarian assisted with advice. And the local market proved to be good. The women worked out all the details and sold the goats. When the time came to expand, they sought out fund money for that.

  5. Leadership training
    Identification and nurishing good community leaders helps in bringing the community together and in giving a representative voice to the community in articulating its needs and wishes. Many microfinance programmes have leadership training components built into them. Good leaders instill discipline among the borrowers, leading to better financial management.

    Good Practice
    A rural home improvement extension agent got the idea of a cattle project among 16 women. She started by visiting all the women monthly. Soon they had their own monthly meeting. While the rural agent still attended, the leadership had shifted to the women themselves.

    Good Practice
    One woman, a real leader, started by going from house-to-house each evening, her way lighted by a lantern, since there was no electricity in her village. She knew she was being laughed at, at first. But she was rewarded by the unity of the group that formed over time, and their business activity.

  6. Trust building
    Building trust among the various actors of the microfinance programme - the community leaders, borrowers, NGOs and other internal and external stakeholders. Trust building among the various individuals involved is also a critical ingredient in good repayment and recovery.

    Good Practice
    "The crowing of a hen not only will cause the fall of a home, but it will ruin the whole village ... " (old saying). Thus felt the village elders in one town about the women's organizing efforts. The women made an opportunity to explain their efforts to the village during a happy feast day. And they managed to change the minds of those doubted their work. Now they have applause rather than ridicule.

    Good Practice
    In order to apply for a loan, the club women have to receive training relate d to their project. They then develop loan proposals which are reviewed according to the fund's lending criteria. Once a loan is made, government field coordinators provide regular support.

  7. Small enterprise management
    Good management of an enterprise not only ensures that finance is invested properly and protitably, it also leads to long-term financial independence.

    Good Practice
    A women's club formed and operated a revolving loan fund. None of the officers of the club had any special training for her job. The treasurer, for example, had a primary school education. But she had not studied accounting. They had the books set up by an accountant. The treasurer keeps a careful record of the group's loans and payments. And the accountant reviews their books every month.

    Good Practice
    One program states a very clear policy on management and technical assistance. They say: after a period of three years of assistance, the women entrepreneur shall be required to pay for all assistance given to her.

    Good Practice
    As group members learned to use credit from a fund, they also learned how to control the cash flow in their own businesses. Result: the businesses started to grow - their capacity to use credit properly also increased, as did their business abilities.

  8. Education and health
    The indirect externality of microfinance lies in the borrowers ploughing back the financial resources to the household to ensure that education and health needs are also met. This of course leads on to better overall broad-based development.

    Good Practice
    A group business turned out to be the best solution, because it overcame many problems the smaller individual businesses had. Several women had been making rice noodles in their homes, but faced problems of hygiene, high demand and low quality. The thirty women re-organized into a large production unit, and gained much better control over production and marketing.


    Good Practices abstracted from: "A guide to community revolving loan funds" Voluntary Fund for the UN-Decade for Women

    .    

Microfinance is not Enough ...
           The excitement of microfinance as a 'new tool' to combat poverty is being tempered by the realization that we need more than just microfinance to undo some of our societies' maladies and the developmental lacks, gaps, and mismatches we are facing.

Square peg in a round hole?

     .     Microfinance is an enabling, empowering, bottoms-up tool to poverty alleviation that has provided considerable economic and non-economic externalities to low-income households in developing countries. Microfinance is being hailed as a sustainable tool to combat poverty, combining a for-profit approach that is self-sustaining, and a poverty alleviation focus that empowers low-income households. Microfinance is increasingly becoming a tool to exercise developmental priorities for governments in developing countries.

But there has been a gradual realization that microfinance alone is not enough. Microfinance is not a replacement for jobs that are not there, markets that are inaccessible, or education and skills that do not exist. Particularly, the main objective of microfinance institutions - poverty alleviation - requires a holistic and indepth understanding of the interplay between economic, social, cultural extracts of the developmental process.

Stealing microfinance
Opponents of microfinance have pointed out that valuable aid money from fatigued donor agencies has been diverted to untested and non-viable microfinance programmes - away from vital programmes on health, education etc. that are in dire need of such money.



Problems behind problems

    .     Understanding the problems, and the cause-effect relationships, is critical for a holistic view of development. There will always be problems behind the problems. For example, some of the commonly cited 'problems' of developing countries, such as high population growth, poverty and very poor people, pollution and bad local environments, or low water resources are indeed effects of deeper problems that lie behind it: lack of political will and leadership, bad development and management practices, inadequate human resources and skills, or improper infrastructure provision and management.

Problems behind problems therefore require 'solutions behind solutions' that target the root cause of problems - indeed it is critical for the progression of developmental inputs and solutions to run in parallel in achieving all-round progress.

For example, good individual health and good local evironmental conditions are a vital ingredient in improving the quality of life and the productive/economic capabilities of such individuals. But good health, without adequate access to financial resources, to jobs and to incomes, is per se insufficient for development. Conversly, a well designed and well implemented microfinance programme will have little effect if the overall health of the individuals is poor.



More than microfinance

    .     In the long run, access to adequate and appropriate financial resources is critical in solving societal problems such as illeteracy, poverty, lack of skill, inaccessible markets etc.and the real issues that lie behind these issues: lack of political will and leadership, lack of transparency, high graft and corruption, lopsided developmental policies ... etc. Microfinance is indeed an essential ingredient in the development process - but not the only ingredient.

      .    

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Hari Srinivas - hsrinivas@gdrc.org
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