Microfinance: A Primer

What Is Microfinance?

People living in poverty, like everyone else, need a diverse range of financial services to run their businesses, build assets, smooth consumption, and manage risks. Microfinance is a way to provide basic financial services to the poor. These include but are not limited to loans, savings accounts, money transfer services and even insurance.

Absent microfinance, poor people rely on a variety of informal relationships, such as local moneylenders and savings clubs, but these are not always reliable or desirable. Traditional banks tend to overlook the poor - for any number of reasons, not least of which they don't think they can make money that way.

Over time, several types of financial services providers for poor people have emerged, including non-government organizations (NGOs), cooperatives, community-based development institutions like credit unions, telecommunications and remittance services, and post offices.

Financial services for poor people have proven to be a powerful instrument for reducing poverty, enabling them to build assets, increase incomes, and reduce their vulnerability to economic stress.

How Does Microfinance Help the Poor?

People living in poverty need a diverse range of financial services to run their businesses, build assets, stabilize consumption, and shield themselves against poverty. Microfinance can help lessen poverty, over time. Financial services can improve poor people's lives by providing needed financing for business activities, which can increase their household incomes. Although higher earnings are by no means automatic, reliable sources of credit provide a fundamental basis for planning and expanding business activities, which can enable clients to save, manage cash flows, and reduce the need to sell assets to in times of crisis.

Studies have shown that clients who take part in microfinance acquire more productive assets over time than those who do not.

By reducing vulnerability and increasing earnings and savings, financial services allow poor households to make the transformation from every-day survival to planning for the future. They are better prepared to send their children to school. Plus, increased earnings can lead to better nutrition and better living conditions, which translates into a lower incidence of illness.

Many microfinance programs target poor women. For women, money management, greater control over resources, and access to knowledge leads to more choices and a voice in family and community matters. Women who are involved in microfinance also are more likely to also own assets, including land and housing, and play a stronger role in decision making.

What Is a Microfinance Institution (MFI)?

A microfinance institution (MFI), as the name implies, provides financial services to the poor - those individuals typically ignored by traditional banks.

MFIs can be government-owned, like the rural credit cooperatives in China; member-owned, like the credit unions in West Africa; socially minded shareholders, like many transformed NGOs in Latin America; and profit-maximizing shareholders, like the microfinance banks in Eastern Europe. The types of services offered are limited by what is allowed by the legal structure of the provider: non-regulated institutions are not generally allowed to provide savings or insurance.

MFIs must be registered legal organizations subject to regulatory oversight.

For more detailed explanations, see Consultive Group to Assist the Poor (www.cgap.org). CGAP is an independent research and policy group housed at the World Bank.

In 2009, 8% of North American adults were unbanked, compared to 80% of adults in Sub-Saharan Africa

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