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2013 Annual Conference and General Assembly
from 15/10/2013 to 18/10/2013
Addis Ababa, Ethiopia
The Africa Microfinance Network (AFMIN) will organize its 12th Annual Conference and General Assembly at African Union Conference Center, Addis Ababa, Ethiopia on...
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F.A.Q
1. What is microfinance?
2. What is the difference between microfinance and microcredit?
3. Who are microfinance clients?
4. How do borrowers use microcredit loans?
5. What kinds of institutions deliver microfinance?
6. Do MFIs do other things besides financial services for low-income people?
7. How does microfinance help the poor?
8. When is microfinance NOT an appropriate tool?
9. Why do MFIs charge high interest rates to poor people?
10. Do governments do a good job of delivering microcredit?
11. What is the government’s role in supporting microfinance?
12. How do savings services help poor people?
13. What is social performance measurement and why is it important for financial institutions?
1. What is microfinance?
“Microfinance” is often defined as financial services for poor and low-income clients. In practice, the term is often used more narrowly to refer to loans and other services from providers that identify themselves as “microfinance institutions” (MFIs). These institutions commonly tend to use new methods developed over the last 30 years to deliver very small loans to unsalaried borrowers, taking little or no collateral. These methods include group lending and liability, pre-loan savings requirements, gradually increasing loan sizes, and an implicit guarantee of ready access to future loans if present loans are repaid fully and promptly.
More broadly, microfinance refers to a movement that envisions a world in which low-income households have permanent access to a range of high quality financial services to finance their income-producing activities, build assets, stabilize consumption, and protect against risks. These services are not limited to credit, but include savings, insurance, and money transfer.
2. What is the difference between microfinance and microcredit?
Microcredit refers to very small loans for unsalaried borrowers with little or no collateral, provided by legally registered institutions. Currently, consumer credit provided to salaried workers based on automated credit scoring is usually not included in the definition of microcredit, although this may change. Microfinance typically refers to microcredit, savings, insurance, money transfers, and other financial products targeted at poor and low-income people.
3. Who are microfinance clients?
Typical 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.
Over the past decade, a few MFIs have started developing a range of products to meet the needs of other clients, including pensioners and salaried workers. Although little is known about the universe of potential clients, the number of households without effective access to financial services is enormous.
4. How do borrowers use microcredit loans?
Most microcredit borrowers have microenterprises—unsalaried, informal income-generating activities. However, microloans may not predominantly be used to start or finance microenterprises. Scattered research suggests that only half or less of loan proceeds are used for business purposes. The remainder supports a wide range of household cash management needs, including stabilizing consumption and spreading out large, lumpy cash needs like education fees, medical expenses, or lifecycle events such as weddings and funerals.
5. What kinds of institutions deliver microfinance?
Most MFIs started as not-for-profit organizations like NGOs (non-governmental organizations), credit unions and other financial cooperatives, and state-owned development and postal savings banks. An increasing number of MFIs are now organized as for-profit entities, often because it is a requirement to obtaining a license from banking authorities to offer savings services. For-profit MFIs may be organized as non-bank financial institutions (NBFIs), commercial banks that specialize in microfinance, or microfinance departments of full-service banks.
6. Do MFIs do other things besides financial services for low-income people?
Some MFIs provide non-financial products, such as business development or health services. Commercial and government-owned banks that offer microfinance services are frequently referred to as MFIs, even though only a portion of their assets may be committed to financial services to the poor.
7. 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.
8. When is microfinance NOT an appropriate tool?
Financial services, particularly credit, are not appropriate for all people at all times. For loans that will be used for business purposes, microcredit best serves those who have identified an economic opportunity and can capitalize on it if they have access to a small amount of ready cash. Regardless of how loans are used, MFIs can provide long-term, stable credit access only when clients have both the willingness and ability to meet scheduled loan repayments.
Microfinance is particularly inappropriate for the destitute, who may need grants or other public resources to improve their economic situation. Grants are a more efficient way to transfer resources to the destitute than are loans that many will not be unable to repay. Too much risk is placed on the MFI and client, when the only way a client can repay a loan is by starting a successful business. Basic requirements like food, shelter, and employment are often more urgently needed than financial services and should be appropriately funded by government and donor subsidies.
Governments and development agencies often use microfinance as a tool to address socio-economic problems such as relocation of refugees from civil strife, generating employment among demilitarized soldiers, or assistance following a natural disaster. Microfinance may or may not be able to respond to these situations effectively, and certainly not as a stand-alone intervention. Implementing a successful microfinance program to address these types of situations depends upon a number of factors, the most important of which is a client base capable of making regular repayments.
9. Why do MFIs charge high interest rates to poor people?
Concerns often arise as to why microcredit interest rates are higher than the bank interest rates that wealthier people pay. The issue is cost: the administrative cost of making tiny loans is much higher in percentage terms than the cost of making a large loan. It takes a lot less staff time to make a single loan of $100,000 than 1,000 loans of $100 each. Besides loan size, other factors can make microcredit more expensive to deliver. Credit decisions for borrowers who have neither collateral nor a salary cannot be based on automated scoring. These decisions require substantial intervention of a loan officer in judging the risk of each loan. MFIs may operate in areas that are remote or have low population density, making lending more expensive. This is often why traditional banks tend to stay away from such areas. If an MFI wants to operate sustainably, it has to price its loans high enough to cover all its costs.
Although microcredit interest rates can be legitimately high, inefficient operations can make them higher than necessary. As the microcredit market matures in a given country, administrative costs usually drop as managers learn from experience and in some cases because competition forces lower pricing and greater efficiency.
