Topic 5: Microfinance and Financial
Inclusion
Introduction
 Poverty is a multifaceted concept. The
elemental definition of poverty has
perennially been rooted in monetary
dimension, with income or consumption
serving as symbolic standards.
 When individual’s earnings dip below the
established poverty line, they find
themselves ensnared in poverty’s grasp.
 Conversely, the multidimensional perspective of
poverty encompass the deprivation of
fundamental human necessities – ranging from
sustenance, shelter, education, clean water,
sanitation and health and participation in
societal realms.
 Poverty, a pervasive and consequential
global issue, has gained significant
attention within the framework of
sustainable development goals (SDGs)
due to its wide – reaching prevalence and
profound implications.
 Various strategies, including microfinance,
have been implemented to tackle this
pressing concern.
 Microfinance
is often seen as a poverty
alleviating tool, specifically, to smoothen the
consumption stream of low income households.
 Apart from the credit that microfinance provides
for the poor, it also gives them access to other
financial services such as savings, financial
education and insurance among others.
 Microfinance has enabled the poor to climb up
the financial ladder. As such , microfinance has
been likewise seen as one of the tools to
combat financial exclusion.
 The World Bank Group considers financial
inclusion a key enabler to reduce extreme
poverty and boost shared prosperity.
DEFINITIONS
 Microfinance can be defined as provision of
both financial and non – financial services to
marginalized individuals - services such as
deposits, loans, payment services, money
transfers and insurance to poor and low –
income households.
 It is an attempt to improve access to small
loans for poor individuals who are neglected by
formal commercial banks.
 Financial Inclusion means that individuals and
low income groups have access to useful and
affordable financial products and services that
meet their needs–transactions, payments,
savings, credit and insurance delivered in a
responsible and sustainable way.
 The World Bank Group considers financial
inclusion a key enabler to reduce extreme
poverty and boost shared prosperity.
 Being able to have access to a transaction
account is a first step toward broader financial
inclusion since a transaction account allows
people to store money, send and receive
payments. It serves as a get pass to other
financial services.
 Financial access facilitates day – to – day
living, and helps families and businesses plan
for long term goals and unexpected
emergencies.
 As account holders, people are more likely to
use other financial services such as credit and
insurance, digital financial services, to start and
expand business, invest in education or health,
manage risk and withstand financial shocks,
which can improve the overall quality of their
lives.
 Close to one – third of adults’ world population
are still unbankable and about half of
unbankable people include women households
in rural areas.
 Gender gap in account ownership (in
developing countries) hinder women from being
able to effectively control their financial lives.
 Countries which have made commitments to
financial inclusion, have either launched or
developed a national strategy.
Characteristics of Microfinance
 Microfinance services are aimed at the
poor clients, who do not have access to
formal financial sources. Microfinance has
its unique characteristics which are as
follows:
 Mostly is collateral free
 MFIs go to clients rather than clients
going to MFIs
 Simplified savings and loan procedures
Small size of loans and savings
 Free use of loans no restrictions on
specified purpose)
 Repayment considers incomes from
business as well as other sources.
Objectives of Microfinance
 The organizations working to promote
microfinance institutions in different parts of the
world determine various objectives to
microfinance. The important among them are
listed as follows:
i) Promote socio – economic development at the
grass root level through community – based
approach.
ii) Develop and strengthen
people’s groups
called Self – Help Groups and facilitate
sustainable development through them.
iii)Provide livelihood training to disadvantaged
population
iv) Promote programs for the disabled
v) Empower and mainstream women
The essential features of credit for
microfinance
i) The borrower are low – income groups
ii) The loans are for small amounts
iii) The loans are without collateral
iv)The loans are generally taken for income –
generating activities, although loans are also
provided for consumption, housing and other
purposes
v) The tenure of the loan is short
vi) The frequency of repayments is greater than
for traditional commercial loans
Credit Delivery Methods used by Microfinance
Institutions
MFIs use two basic methods in delivering
financial services to their clients
These are:
i) Group Method
ii) Individual Method
Group Method:
 This is one of the most common method
for providing micro–finance. Group
method primarily involve a group of
individuals, which become the basic unit
of operation for the MFIs.
 Since MFIs have to provide collateral free
loans, group method help in creating
social collateral (peer pressure) that can
effectively, substitute physical collateral.
 Group becomes a basic unit with which
MFIs deal. The advantage of group
method is that:
i) Groups ensure repayments from all
individuals in that group and incase of a
default.
ii) Groups are trained to own joint
responsibility for loans that are taken by
individuals in the group.
iii) Groups function as the forum where the
credit discipline and other related issues
are discussed.
iv) Groups may have to jointly own the
responsibility of defaults and pay on
behalf of defaulting client.
v) Group also help credit appraisal and provide
opinion on creditworthiness of each individual
in the group.
vi) Groups method also help in controlling costs.
Having a group helps the MFIs in getting all
clients at one spot rather than visiting each
individual’s house. Increases the efficiency of
staff and controlling costs.
Creates a forum where individuals come and
discuss, provide opinions and exert social
pressure.
vii)The clients that the MFIs are dealing with are
generally poor and may face genuine problems
at times.
Rather than taking an aggressive/legal
approach with such vulnerable clients, it is
always better to have more constructive and
collective approach, which is provided by the
groups.
Individual Method
 MFIs are also increasingly providing loans to
individuals. In individual lending method, MFIs
provide loans to an individual based on his/her
personal credit worthiness.
 Individual lending is more prevalent with clients
who generally need bigger size loans and have
the capacity to produce guarantee and
generate enough comfort to the MFI.
 MFIs generally base their decision on personal
knowledge of the client, his/her reputation
among peers and society, clients income
sources and business position.
 MFIs also ask for individual guarantors from
clients.
 Individual guarantors come from friends or
relatives well known to the borrower and who
are ready to take liability of repaying the loan,
should the borrower fail to do so.
 If the loan is significantly larger, the MFIs may
also take some collateral security.
Microfinance’s contribution to poverty reduction
and its challenges
 Despite the inadequacies of microfinance as a
sole tool for poverty reduction, studies have
reported significant contributions of MFIs
towards poverty reduction.
Based on the study by Sulemana et.al. (2023):
“Effects of Microfinance and Small loans centre
(MASLOC) on poverty reduction in Wa West
District in Ghana”, we can identify several
contributions and challenges as follows;
Contributions
1. Increased consumption
 Many respondents, indicated that before
they benefited from the MASLOC loans,
they could not eat a balanced diet daily or
provide some other basic necessities
such as clothing and paying for
healthcare because of lower incomes.
 Others used the loan to buy food.
2. Acquiring assets
 Assets acquired after benefiting from the
MASLOC loan included land, sheep, goat,
cattle, farm tools and house hold chattels.
 Some of the assets acquired were crucial in
poverty reduction because can be sold directly
to obtain income to meet their basic needs in
times of hardship, while others can be used to
generate income for them.
Constraints/Challenges
1. Repayment problems

It was indicated that, some beneficiaries did
not invest the monies they took while others
just spent the money to satisfy other
requirements such as food, clothing, medical
expenditures,
household
utensils
and
children’s learning materials, so repayment
became a problem. Loans used for
consumption and not for productive purpose,
does not serve the real purpose of micro–
credit.
 Loan repayment problem default was because
of the short period allocated. They claimed, the
repayment duration of one month was too short
since most of the business could not have
started to make a profit.
 Invested the money in retail business but it was
not profitable, could not make adequate
revenue to repay the loan because of wrong
investment decision.
 The rural poor have irregularity/volatility in
income streams and expenditure patterns,
and there is possibility of systemic risks such
as crop failures or fall in commodity prices and
therefore, may face real difficulties in servicing
loans. Banks have genuine concerns while
dealing with the rural poor, and tend to identify
such loans as risk.
 Female clients repay their loans more than their
male counterparts.
2. Hidden information
 An official of MASLOC remarked: The
beneficiaries do not provide all the
information needed by the field officers
and programme officers to better judge
their situation before approving the loan,
thus making loan recovery an issue.
 Besides this, the beneficiaries' attitudes
towards loan repayment are very harmful.
Most of them will not even explain why
they are not paying back the loans.
3. Staffing related issue
 Some staff needed to be more competent.
There was limited in-service training
programmes for staff .
 These situations make it difficult for them to
discharge their responsibilities effectively and
efficiently.
 It might have contributed to their inability to
retrieve loans from clients.
 Political
interference in the recruitment
process, hijack it and recruit their friends who
sometimes lack the necessary competencies
for the job.
 When these people can not discharge their
duties, they can not be taken accountable
because of the politicians that brought them.
4. Inadequate credit to clients
 Inability to generate funds. MFIs have inability
to raise sufficient fund in microfinance sector
which is again an important concerning
challenge.
5.Lack of education
 Financial illiteracy. One of the major
challenges towards the growth of the
microfinance sector was illiteracy of the
people. This makes it difficult in creating
awareness of microfinance and even more
difficult to serve them as microfinance clients.
6.Interest rates.
 MFIs are charging very high interest rates,
which the poor find difficult to pay. MFIs are
private institutions and therefore require being
economically sustainable.
 They do not get any subsidized credit for their
lending activities and that is why they need to
recover their operational costs from borrowers.
7. Weak regulatory framework.
 Government has not been able to develop and
enforce a legal and regulatory framework
conducive to rural finance. Government should
strengthen, policies and programmes that
create environment for growth and development
of strong microfinance institutions. Lack of
conducive regulatory framework, makes it even
difficult for financiers to provide borrowers with
the right incentives for repayment.
8.Language difficulty.
 Language barrier makes communication with
the clients (verbal and written) difficulty.
 As the education level of clients is low so it is
difficult to communicate with them.
 For this reason, it is also difficult for the MFIs
employees to make the clients to understand
the policy and related details.