Microfinance is a source of financial services for
entrepreneurs and small businesses lacking access to banking and related services.
The two main mechanisms for the delivery of financial services to such clients are:
- relationship-based banking for individual entrepreneurs and small businesses; and
- group-based models, where several entrepreneurs come together to apply for loans
and other services as a group.
In some regions, for example Southern Africa, microfinance is used to describe the
supply of financial services to low-income employees, which is closer to the retail
finance model prevalent in mainstream banking.
For some, microfinance is a movement whose object is "a world in which as many poor
and near-poor households as possible have permanent access to an appropriate range
of high quality financial services, including not just credit but also savings,
insurance, and fund transfers. For others, microfinance is a way to promote economic
development, employment and growth through the support of micro-entrepreneurs and
small businesses.
Microfinance is a broad category of services, which includes microcredit.
Microcredit is provision of credit services to poor clients. Microcredit is one
of the aspects of microfinance and the two are often confused. Critics may attack
microcredit while referring to it indiscriminately as either 'microcredit' or 'microfinance'.
Due to the broad range of microfinance services, it is difficult to assess impact,
and very few studies have tried to assess its full impact. Proponents often claim
that microfinance lifts people out of poverty, but the evidence is mixed. What it
does do, however, is to enhance financial inclusion.
In developing economies and particularly in rural areas, many activities that would
be classified in the developed world as financial are not monetized: that is, money
is not used to carry them out. This is often the case when people need the services
money can provide but do not have dispensable funds required for those services,
forcing them to revert to other means of acquiring them. In his recent book The
Poor and Their Money, Stuart Rutherford cites several
types of needs:
- Lifecycle Needs: such as weddings, funerals, childbirth,
education, homebuilding, widowhood and old age.
- Personal Emergencies: such as sickness, injury, unemployment,
theft, harassment or death.
- Disasters: such as fires, floods, cyclones and man-made
events like war or bulldozing of dwellings.
- Investment Opportunities: expanding a business, buying
land or equipment, improving housing, securing a job (which often requires paying
a large bribe), etc.
The obstacles or challenges to building a sound commercial microfinance
industry include:
- Inappropriate donor subsidies
- Poor regulation and supervision of deposit-taking MFIs (Micro Financial Institutions)
- Few MFIs that meet the needs for savings, remittances or insurance
- Limited management capacity in MFIs
- Institutional inefficiencies
- Need for more dissemination and adoption of rural, agricultural microfinance methodologies
Use of loans
Practitioners and donors from the charitable side of microfinance frequently argue
for restricting microcredit to loans for productive purposes—such as to start or
expand a microenterprise. Those from the private-sector side respond that, because
money is fungible, such a restriction is impossible to enforce, and that in any
case it should not be up to rich people to determine how poor people use their money.