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Home > Articles > Microfinance – Definition, Sources and Problems

Microfinance – Definition, Sources and Problems


January 31, 2010 Fehmeen Leave a comment Go to comments

Bono once put an interesting twist to an old adage: Give a man a fish and he’ll eat
for a day. Give a woman microcredit, she, her husband, her children and her
extended family will eat for a lifetime. The simple quote sums up the power of
microfinance, to develop entire societies in a bottom-up manner instead of just the
top-down manner traditionally employed by the commercial sector.

What is Microfinance?

According to Forbes, microfinance is probably the best known means of helping


small business owners in developing countries move out of poverty. As the name
suggests, microfinance is the field of offering financial services to people on a small
(micro) scale, such as businesses with low or moderate incomes. The definition for
according to The Asian Development Bank (ADB) is any financial service targeted
toward the poor, such as:

deposits
finance schemes or micro loans up to $3,000
payment services
money transfers
insurance to poor and low-income households and their micro-enterprises

Microfinance Institutions (MFIs) provide micro services through a variety of lending


models, while Micro Entrepreneurs use these services. The theory is that if the poor
have access to these services, their financial lives will be more stable, predictable
and secure, allowing them to plan and improve their livelihoods through education,
healthcare and empowerment.

In other words, microfinance converts poverty into an economic opportunity that


evades the idea of exploitation.

What are the Sources of Microfinance?

Microfinance providers come in various forms which can be broadly grouped as


follows:

Formal Microfinance Institutions – rural/microfinance/village banks,


commercial banks, telecom firms, and cooperatives (see examples)
Semi-formal Microfinance Institutions – nongovernmental organizations (see
examples)
Informal Microfinance Sources – money lenders and shopkeepers

This list was taken from ADB’s website.

Problems Faced by Microfinance

Despite good intentions, microfinance still has several hurdles to face:

perceived high risk of lending to the poor


technology-related hurdles, such as the high costs involved in small
transactions for microfinance providers (Read about technology-related
solutions)
lack of awareness about sources of funds for microfinance providers to pass
on to the poor
the poor’s inability to offer marketable collateral for loans to MFIs
difficulty in measuring the social performance of MFIs (Read about tools to
help measure the social impact of microfinance)
mixing of charity with business by microfinance providers (this is an issue of
poor governance)
high interest rates for microcredit
lack of customized solutions/ microfinance models for the poor
inappropriate targeting of poor households by microfinance programs
lack of microfinance training for MFIs
poor distribution system of MFIs, i.e. a need to spread out into rural areas
lack of information about microfinance investment opportunities (Possible
solution through AppLab)
poor institutional viability of microfinance ventures
dual mission of MFIs to be financially sustainable as well as development
oriented

These problems can be grouped according to whether they’re caused by MFIs or


caused by micro entrepreneurs. You can read about them in greater detail at these
links.

Just like any other new venture, microfinance too faces obstacles that will eventually
be ironed out as governments alter their priorities, and as the commercial sector
understands the economic viability of the development sector, considering the
relative immunity of the microfinance sector to the global financial meltdown.
Already, a few encouraging trends have emerged in the microfinance sector.

As Kofi Annan once put it, microfinance not only recognizes the needs of the poor,
it also empowers them and taps into their remarkable reservoir of energy and
knowledge. In short, microfinance has tremendous potential, its time is now and is
here to stay.

You can read other articles about microfinance theory and practice here.
Please remember to leave a comment. I would love to hear your views.

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Comments (2) Trackbacks (0) Leave a comment Trackback

1.
Alhaji Cherno Ceesay
July 16, 2010 at 10:35 am | #1
Reply | Quote

Succint overview of the subject matter a d quite helpful to understanding the


concept.

Fehmeen
July 16, 2010 at 4:32 pm | #2
Reply | Quote

Thank you!

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