Microfinance services have emerged as an effective tool for financing micro-entrepreneurs to alleviate poverty. It is a tool to enable poor to start their own business to survive in the society. It refers to savings, insurance, loans, transfer services, microcredit and other financial products to customers who have low incomes. As these does not have any physical collateral and have a higher risk in return payments of the borrowing money, therefore they have only small credit in views of financial institutions and the amount of money that they can borrow is relatively small. Especially in developing countries, microcredit makes it poor for self-employment projects that generate income, allowing them to improve the quality of life for themselves and their families.
What is the difference between microfinance and microcredit?
Microfinance refers to savings, insurance, loans, transfer services, microcredit and other financial products to customers who have low incomes. Microcredit is a small amount of money provided to the client by the Bank or other institutions. Because the poor people have no physical collateral and have a higher risk in return payments of the borrowing money, that’s why they have only small credit in views of financial institutions and the amount of money that they can borrow is relatively small.
Features of microfinance
Microfinance provides access to low-income financial and non-financial services access to money to start or develop their income generating activities. Individual loans and savings for the poor Small customers. Microfinance has been noted with satisfaction that some micro-entrepreneurs and poor people it can be “repaid”, that is, how can you pay the loan and interest on time, and also make savings; Services are designed to meet your needs. Microfinance has created financial products and services, with low-income people to be customers of the bank (Khan &Rahaman, 2007).
The characteristic of this model are following:
- Provides short term loan (one year).
- Funds mainly granted to women
- Weekly compensation
Poverty alleviation is one of the most important components of Sustainable Development Goal (SDG) of United Nation (UN). Financing micro-entrepreneurs for job creation and income generating activities shows some success in many developing countries. Consequently, poverty alleviation is necessary to deal with by any effective program related to sustainable development.
In the past 25 years, microfinance service has been considered as one of the most significant innovations in development policy around the world. Microfinance service offers not only the microcredit but also the allied services such as consulting and training for the microenterprises as well as market information and access to wider market which is very often not in reach of micro-entrepreneurs due to their lack of knowledge and bureaucratic hurdles. Since the last decade, the role of microfinance has received significant attention, from both policy makers as well as academics. Therefore, microfinance can contribute to the Sustainable Development Goals such as gender equality by empowering women through microfinance and through the provision of financial capital to promote sustained and inclusive economic growth. Strategically, microfinance plays a vital role for the poor to raise their own microenterprises to escape from poverty.
Impact on people
Microfinance program have a positive impact on the lives of the poor. Microfinance provides small loans to the poor on flexible conditions, who don’t have access to traditional banking. Through microcredit poor people can set up their own small business and become able to earn income for their basic needs, therefore, microfinance can change the lives of poor. Microfinance does not only provide small credit but also offers savings and insurance to the poor, in this way microfinance have positive impacts on individual and society. These microfinance services holders contribute to the economic growth and poverty reduction.
Microfinance services may aid in reducing eruption of social and moral evils like prostitution, crimes and the likes. For example, income poor can be provided with soft credits to start up viable businesses to support their daily life. Similarly, the identified youths who are engaged in crimes can be trained on how to set up income generating activities to support their daily life by issuing those credits as a seed money. The potential impact of microfinance, to understand how microcredit has a positive impact on life very poor people in the area they are in. It is important to note that the poor in rural areas and Small farmers in developing countries severely affected by extreme poverty threats. Access to and control of resources and participation of women in decision making the microfinance program. The Microfinance Program is dedicated to women and marginalized segments community. But there is much to be done, such as the still low level of coverage of microfinance services for the poor excluded communities.
Impact on economic development
Microfinance generates access to productive capital together human capital through education and training. This is because income generated from capital gained through microfinance can be used for investment in human capital through training and further education. And also social capital can be achieved through the development of the Organization, and this will ultimately allow people to escape from poverty. Providing tangible capital for poor persons, strengthen their sense of dignity, and can help to empower poor people to actively participate in the economy and society. Microfinance program improves access to and control over resources and women’s participation in decision-making. In a world where almost half of the population lives in poverty, offer microfinance innovation, small loans to low-income groups to generate income and employment for local authorities. Thus, micro has been elaborated as an important tool for economic development. The poor have to wait long for the benefits of economic growth, which are separate from one another to a distance from urban areas, where economic activity is concentrated. It is important that this part of society is more convenient conventional balanced part growth for long-term sustainability of economic prosperity and social development is essential.
Impact on local economy
Microfinance has a positive impact on the economy of the poor. Microfinance in its simplest form consists of the provision of credit to a group of borrowers; commonly known as self-help groups. They agree to help others through informal savings groups. The typical self-help group consists of 10-20 people who meet regularly to discuss activities and social issues and put their savings in a joint bank account. Once they accumulated enough savings, team members can apply for the loans within the group or apply for loans through the commercial bank. Self-help groups of microfinance are at their best in the allocation of resources because it uses the most comprehensive local information regarding local needs and controlled costs, mitigate the problem of bad faith and adverse selection. As a result, the transfer of resources for self-help groups should lead to efficiency and enhance local capacities. These resources are channeled through parallel institutions. Beyond the economic impact of self-help groups have important social consequences, as reflected in measures of violators of rights and opportunities for women.
Generally, microfinance produces couples of positive impact to the economy arranging from household level to community level. Also, microfinance may contribute in discouraging immigration of poor rural people to urban areas in searching for jobs and other opportunities. This can help in decentralize development in developing countries. Microfinance services have a potentially positive impact on the local economy and the agricultural sector. Small farmers’ access to microcredit can increase agricultural productivity and improve access to food.
The Bangladesh and Pakistani model
The micro-credit scheme of Grameen Bank of Bangladesh, providing micro loans to landless poor women in rural areas of Bangladesh, for instance, became a successful equitable and sustainable development initiative. A similar and successful approach is followed by the Pakistani micro-finance institution Kashf Foundation that exclusively lends to women and increases their empowerment. Because women are the central actors, particularly, of rural livelihood activities. Women-centric income generating activities strengthen their role in sustainable development as indicated in the Sustainable Development Goals. Ideally, poor people invest micro-loans in their micro-enterprises to generate income that ultimately help them to reduce their poverty. Generally, microloans are directed towards funding both existing and start-up enterprises. While many microfinance institutions offer services such as training, savings facilities, family planning, health services and education, interest rates of micro-loans are usually higher than those of commercial loans, but they are far below the interest rates of informal money lenders. Generally, repayment records of micro loans are high and consequently, default rates are often lower than in commercial lending. Grameen Bank, for instance, achieves repayment rates as high as 98% compared to only 27% for the Bangladeshi banks.
Microfinance and sustainability
The connection between microfinance and sustainability is discussed at least in three ways. Firstly, it is connected with the financial sustainability of the microfinance institution. It focuses on whether the microfinance institution is able to conduct the business without being supported by donor monies. Secondly, it is about the long-term effect of microfinance on non-financial goals such as poverty alleviation and empowerment. Thirdly, it deals with the connection between economic, environmental, and social effects of microfinance.
Regarding the financial sustainability of microfinance institutions, there are two main categories of microfinance institutions. The first group follows a poverty alleviation approach while the second group is based on the financial sustainability approach. Many institutions from the first group are dependent on donor subsidies to manage the high costs of lending in order to maximize poverty alleviation efforts. The costs are higher because the institutions attempt to provide small loans to as many borrowers as possible. Therefore, until to date, investments in microfinance have been mainly done because of philanthropically motives. Consequently, these institutions are not able to sustain financially without financial donors.
Sustainability of microfinance understood as long-term effects is also discussed controversially. One group of researchers suggests that access to finance reduces poverty significantly and long-lasting through an increase of income, a diversification of sources of income, the accumulation of financial assets and other financial aspects. Consequently, an improved financial situation contributes to achieving better education, health-care, and empowerment. The other group argues that microfinance does not have a long-term effect on poverty alleviation because it does not address the poorest of the poor and because it does not contribute to developing higher levels of economic activity, yet stays at the micro-enterprise level. The third aspect of sustainability is about the connection between social, economic, and environmental issues, the so-called triple-bottom line. Stakeholder pressure and social responsibility have thrived the integration of environmental aspects into microfinance in recent years. The integration of environmental issues into micro lending or even using microloans as a means to improve the triple-bottom-line are rare with some exceptions such as, Grameen Shokti’s loans for solar devices in Bangladesh.
A general conclusion can be drawn that microfinance plays a very significant role in the development process. However, while acknowledging the fundamental role of microfinance there is varying perception over the fore mention roles from various development stakeholders. Microfinance might be a very good weapon in fighting against poverty but without sportive infrastructure, it is hard to attain the desired development objectives in order for microfinance to work all structure should be properly instituted in the favor of microfinance operations. The current state of the poor people could have been very poor without the help from microfinance interventions. Therefore, microfinance seems to be a very usefully bridge in a lifting poor people out of extreme poverty. From what has been said above about of microfinance it has been shown that microfinance is an innovative way to reduce poverty. Through microfinance services, the poor can use their skills to improve home-grown growth to grow their children and improve the quality of life. The poor can contribute to economic development and can fight hunger and poverty. Micro-finance emancipating women so that women can also contribute to economic growth.
[box type=”note” align=”” class=”” width=””]The author, Mr. Nazir Ahmed Shaikh, is a freelance columnist. He is an academician by profession and writes articles on diversified topics. He could be reached at email@example.com[/box]