Microfinance 101: What is microfinance?

Welcome to Microfinance 101 at FAI!

If you're interested in microfinance, but dont necessarily want to learn about graphs, differential equations and statistical techniques then you have come to the right place. Each week we will be posting a blog explaining the core principles of microfinance.

This week's blog is a basic introduction to the subject of microfinance.

Microfinance refers to financial services for the poor, like credit, savings and insurance. Started in the 1970s by innovative and entrepreneurial practitioners and popularized by advocates like Nobel Laureate, Muhammad Yunus, microfinance has shown that poor people can indeed make excellent customers, refuting the notion that the poor are a credit risk, or “unbankable” due to their lack of education and capital.

In the beginning, microfinance institutions (MFIs) focused on providing basic loans to small businesses and entrepreneurs, especially women. As microfinance gained in popularity, however, MFIs expanded their services to include products like savings, housing loans, insurance packages and social services like health care and education.

These broader financial offerings reflect, in many ways, the tools richer households use: mechanisms to manage cash flows, devices for accumulating assets in both the short and long-term, and tools for coping with risk. While microfinance was originally targeted at microentrepreneurs, research now shows us that it is used for a wide range of financial activities beyond starting a business. People use microfinance to address important, basic needs, putting food on the table every day, paying medical bills when they get sick, paying school fees and other sizeable expenses, and seizing investment opportunities as they arise.

Who uses microfinance?
Currently, 2.5 billion people – or almost 50 percent of the world’s population – are unbanked, meaning that they don’t have access to a formal checking or savings account. This represents a potential market for the over 12,000 microfinance organizations operating worldwide. In 2007. estimates put the number of microfinance customers at 155 million-meaning that the vast majority of the world’s unbanked remain without access to financial services. According to a Financial Access report (published by CGAP and the World Bank) some of the most active and developed markets for microfinance include those in lower income countries and in South Asia in particular.

Who provides microfinance?
Microfinance as we know it is provided by a variety of organizations. The spectrum of providers ranges from purely commercial players to those where the social mission is dominant. A 2008 report, drawing on a dataset of 346 of the worlds leading microfinance institutions and covering nearly 18 million active borrowers, found that NGOs comprise the largest number of institutions in the microfinance space, serving 51% of borrowers while licensed non-bank financial institutions serve 17% of all borrowers. Government institutions still have an important presence in the microfinance market and service 30% of demand for microfinance. Credit unions are self help groups; most often set up by rural borrowers in conjunction with microfinance institutions and meet 6% of microfinance demand while rural banks meet 1%. The microfinance landscape is changing and providers are continually adapting to meet new challenges and reinventing their service delivery models. New social finance venture capitalists are also being drawn to the microfinance space and the only certainty is change.