Microfinance is called upon to provide financial services to the poor with low income. It is referred to the grant of a small loan by a bank or any other financial institution as well as to the provision of other facilities including insurance, savings, and money transfer. These basic financial services help people save, invest, and generate their income. Potential loan debtors might have enough income or collateral but they still cannot appeal to banks because they require too small amount. Taking into account that informal financial relationships with village moneylenders lead to very high costs for borrowers, microfinance institutions are often very much to the point. To assuage doubts about what microfinance actually implicates, two more facts about the definition should be considered:
- Microfinance does not deal solely with money making activities. Such programs also provide help in the form of essential living costs, medical or educational expenses.
- Microfinance does not represent a phenomenon of developing countries. There is a need for such programs worldwide.
What is the microfinance and what is the microcredit?
Microcredit is a part of microfinance. As a rule, microcredit is targeted at unsalaried borrowers having no or little collateral. This term does not typically include consumer credit extended to salaried employees and built upon automated credit scoring system. In turn, microfinance presents financial services and products, such as money transfers, savings, insurance, and other services offered by different providers.
Who are microfinance clients?
Microfinance is aimed at poor people with low income having no opportunity to use services of formal financial agents, for instance, banks. They are often self-employed microentrepreneurs operating small businesses. In urban settings, these can be market stall, grocery shop, car repair or other workshops while in rural localities, such business is usually focused on agriculture, food processing, livestock, and poultry raising. More than a half of microfinance clients all over the world are women.
Microfinance institutions make it possible for borrowers to:
a) make savings In many countries, especially in undeveloped ones, part of the population doesn’t even have bank accounts so there is no suitable option for them to save money. In order to protect savings from fraudsters, people often invest in material assets. Therefore, they cannot use the advantages of money such as versatile divisibility and usability. Microfinance institutions offer low-income people to open an account, which is sometimes the only possibility for them. b) take out tiny loans Traditional financial institutions do not usually grant tiny loans, since the costs are too high and the profit is low. Nevertheless, it often occurs that a sum not exceeding 100 US Dollars reveals radically different perspectives for
a borrower. Developed microfinance tools allow granting such small loans. There are several ways microfinance helps the poor. The first is providing capital such as equipment, livestock or infrastructure know-how which brings an entrepreneur additional income. Microfinance can also be useful in offering not only direct business expansion but also an opportunity to pay off informal debts that have high interests with microloans having more temperate interest rates. c) conduct transfers Microfinance clients are able to transfer money, thus avoiding the need to travel far as well as the risk related to cash payments. d) use the benefits of insurance In view of poor living conditions, there are more dangers and therefore varied accidents are more probable. For an individual living below the poverty line a micro insurance is a real possibility to receive a certain level of protection. The question that has to be answered is why interest rates offered by microcredit institutions prove to be higher than the ones offered by banks to wealthier people.
- Taking into consideration the administrative cost, it is much cheaper in percentage terms to make a large loan than to provide small loans.
- Making, for instance, 1000 tiny loans requires more staff time than granting a single large loan.
- Operating in areas with low population density increases the costs of MFIs that automatically affects the terms offered to borrowers.
Why does the microfinance industry place so much emphasis on sustainability?
Governments cannot provide microfinance with enough funds in order to meet the huge demand for it. Consequently, if MFIs do not price services at a sustainable level, they will be able to function only for a limited time having a restricted number of consumers or will serve more political goals than client needs.
Key features of microfinance
Microfinance experiences a boom. In 2014, the lending volume has reached gargantuan sizes in comparison with 2004. The diagram below shows the data from around 2000 institutions providing financial services. There are actually more than ten thousands microfinance institutions that lead one to think the global volume is even higher. [wpsocialite]