FAQ — Microfinance
What is microfinance?
Microfinance is designed to meet the financial needs of those excluded from formal financial services, especially the poor. Just like anyone else, the poor need a diverse range of financial instruments to be able to build assets, stabilize consumption and protect themselves against financial risks. Microfinance helps the poor to achieve this formally through small loans, savings, insurance or other financial services. It enables the poor to move out of poverty and to provide a better future for their children.
What is a Microfinance Institution?
Microfinance institutions are committed to assisting some sector of the low income population in the developing world, reporting their financial and social performance to investors, regulators and/or the public. Legal forms include credit unions, non-financial service companies and banks. These institutions are financed either via their own savings operations or via donations and investments from donor agencies, commercial and private investors.
Who are the clients of microfinance?
The typical microfinance clients are poor or low-income persons in the developing world who do not have access to formal financial institutions. They use microfinance to support or start small scale entrepreneurial or self-employed ventures, often household-based. Some examples are small farmers and others who are engaged in small income-generating activities such as food processing and petty trade, street vendors, service providers, artisans, street vendors, etc.
How does microfinance help the poor?
Microfinance enables the poor to increase their income, build viable businesses, and reduce their financial vulnerability. It can also be a powerful instrument for self-empowerment by enabling the poor, especially women, to become economic agents of change and respected members of a community. Microfinance clients often increase their social status and improve their educational levels. Microfinancing also helps clients deal with unforeseen economic shocks, such the cost of home maintenance, schooling, doctors and health care as well as funerals.
Is microfinance too expensive for poor people?
The few alternative options of financing, savings or insurance available to poor people are usually offered at cost much higher than those offered by microfinance institutions. For example, they borrow from private moneylenders or invest in flexible assets that might be exchanged for cash in the future (gold jewelry, domestic animals, building materials, etc.). Overall, providing financial services to poor people is expensive, especially in relation to the size of the transactions involved. This is reflected in the cost of microfinance services. It is also one of the most important reasons why traditional banks do not make small loans.
Can microfinance be profitable?
Data from MIX shows that the world's best performing microfinance institutions are able to generate positive returns, after adjusting for inflation and after taking out subsidies they might have received. Therefore, microfinance can be sustainable, help the poor and generate profits. However, the poor do repay slower than customers of traditional banks, which creates a trade-off between maximizing profitability and serving the destitute. The challenge for the industry is now to find efficient and reliable ways of providing a richer menu of microfinance products.