The Role Of Microfinance

Published Date: 02 Nov 2017

Introduction

In fact, recently, with the boost of world economies, virtually everything revolves around money. consequently, there is virtually a huge amount of people who cannot get access to financial institutions, be it in developed or developing countries. Most of the banks were to the view that the poor population is "unbankable" as they do not possess enough financial resources and assets that can be put up as collateral. Thus, in the 1970`s, Muhammad Yunus took the initiative to make tremendous efforts for ameliorating the high rate of poverty that infected the world [1] .

Muhummad Yunus believed that low income people are equipped with "entrepreneurial drive" and "survival skills" that can promote them to become profitable microentrepreneurs (Engler,2009,p.82). [2] As a matter of fact, he contended that there should be special institutions which would work upon the limitations of the poor in order to develop tools and services for their benefit (Yunus, 2007,p.20) [3] .

As a result, microfinance emerged as a popular financial instrument for providing credit and savings facilities to the poor with the aim to smooth the progress of their income generation. [4] the list of ‘microfinance-saturated’ countries (defined in terms ofborrowers per capita) soon began to comprise not just the original pioneer Bangladesh, but also Bolivia,Bosnia, Mongolia, Cambodia, Nicaragua, Sri Lanka, Peru, Colombia, Mexico and India [5] . (Bateman 2011b, p. 4, Table 1.1).

This new financial tool has come into existence to combat poverty, and other social aspects which affect the life of poor people, however its efficiency has been severely criticized my some authors. [6] Hence, the essay, will attempt to anlayse the role of microfinance by reviewing the impact that microfinance has caused on the whole world and also by referring to concrete examples and stories of the poor.

Role of microfinance

Actually, microfinance became prominent after the 2005 meeting of the United Nations General Assembly which gathered 151 Heads of States from all over the world. They "recognised that there should be a way for the poor to access financial services, including microfinance and microcredit" (Egwuatu, 2008). In accordance to economic relations, it is believed that the poor remain poor because they are deprived of access to life transforming opportunities. According to Dr Muhammad Yunus confident claims [7] , "poverty will be eradicated in a generation and that our children will have to go to a poverty museum to find out what all these problems were about" (eg. Yunus1997) [8] . As such, microfinance takes a different stand in the sense that it only targets the poor people and its core principle lies on the assumption that the poor are motivated to do anything to move out of poverty, hence they should be given a chance to improve their lives. (Yunus, 2007, p.20).

Microfinance aims at building assets which eventually provides a pool of resources to combat economic crisis. As a matter of fact, the poor are ensured a high level of security through the accretion of those resources and it allows them to better benefit from services and broader networks which might help them to get involved into more intricate forms of financial services such as commercial banks or from specialised investors. As such, the poor are granted extensive and long term loan capital which can eventually create a huge difference in smallholder agricultural productivity. Moreover, education loans, health insurance and general-purpose emergency loans can actually help the poor to build up social assets. [9] It is worth noting that reliable and thriving experience have been revealed concerning the role of micro finance and on the whole this new innovative tool is considered as effective for improving resilience for subsistence farming households [10] .

However, the role of microfinance has been heavily criticised by various scholars for not really eradicating poverty, however, based on several case studies in different countries, this innovative financial tool has demonstrated that it has powerful implications in promoting economic development among poor people [11] . It is seen as a reliable and effective way of empowering the poor and most especially women who can now contribute to the global economy [12] . Moreover, people with low-incomes are better able to achieve and develop entrepreneurship and management skills which will eventually lead to an overall improvement of their human capital.

Benefits of microfinance

It is believed that microfinance may alleviate poverty by improving the poor`s income consumption and helping them to diversify their source of income and also helping them to accumulate assets. Moreover, microfinance can tend to be beneficial in empowering poor women by giving them more power over their financial income. (Asian Development Bank,p 2-3) [13] . As a consequence it will promote economic growth. Besides, this new financial instrument has proved to be quite beneficial in some parts of India as it allowed more people to overcome the barrier of starting-up costs and it eventually helpeld them to expand their businesses. Evidently, these tiny loans would not be enough to promote the efficiency of these businesses, however their success can attract banks and make them more willing to lend them larger sums, which will eventually lead to more economic activity. Thus, microcredit may help reduce poverty in the long run, even if its short-run effects are negligible. [14] 

For instance, some authors like Bakhtiari (2006) claimed that micro credit and microfinance have received extensive recognition as a strategy for poverty reduction because it provides economic empowerment particularly to the poor population. A survey was conducted by Mawa (2008) where it was demonstrated that this innovative step also help the poor to use and develop their skills by enabling them to earn money through micro enterprises. Moreover this new method of finance helps the poor to secure from unexpected risks by helping them to build assets for the future and also to educate their children for a better quality of life.

For example, we can observe that in rural Bangladesh, a study which surveyed 1800 families displaced that 62% of the sons who borrowed from the Grameen Bank were able to attend school in comparison to 34% of the sons of non-borrowers. Hence, an increase of school enrolment was noticed by microfinance advocators. Furthermore, while conducting a study in Turkey, Gurses (2009) concluded that microfinance is seen as a powerful tool to reduce poverty, while authors like Rena, Ravinder and Tesfy, Ghirmai (2006) observed that there is a strong link between microfinance and poverty eradication. in that the latter depends on the poor gaining access to, and control over, economically productive resources, which includes financial resources. There are also strong proponents like Kumar, Bohra, Johari (2008) and Shastri (2009) who believe that microfinance is a strong potential way for eradicating poverty in India as the creation of self employment is one way of lifting the poverty line and solving the problems of unemployment and making the poor credit worthy.

The impact of high interest rates on the lives of the poor

Nevertheless, we come to the point that despite the success stories and testimonials from low income people, microfinance presents many criticisms concerning its real impact on poverty levels just like any other anti-poverty programs.

Another essential concern on the role of microfinance as a poverty alleviation tool involves sustainability. Most microfinance institutions depend on donations such as organisations and government sources. Hence, these institutions are to a large extent dependent on the frequency and amount of monetary support that they receive from donors. Since financial institutions cannot heavily rely on donations, a trend towards self-sustainability has started to become more prevalent among MFIs as it allows them to better serve their clients and to maintain the high costs associated with their operations (Husain, 2008, p. 40). For example, this idea can be best illustrated by the sustainable microfinance institution of the Grameen Bank which charged only a meek interest rate of about 20 percent to its customers (Engler, 2009, p. 84). According to Muhammad Yunus, this rate is sufficient enough to maintain the sustainability of his bank (Yunus, 2007, p. 22).

However, we can notice that nowadays many of those MFIs have started to charge higher interest rates than normal to the poor in order to cover costs or even to make profit. As a consequence, the low- incomes people start to suffer again as they initially start facing increased difficulty again in repaying higher interests and loans. Hence, when MFIs aim at becoming profitable, or more than sustainable, they develop a tendency that divert their real aim of fulfilling social goals and in turn it becomes overshadowed by pure economic interests.

If a number of case studies which have been conducted in various countries of the world such as Bangladesh, Indonesia, Africa, India and Latin America have proven the positive impact of microfinance on the economic status of the poor, its real impact on alleviating poverty at the global level is not supported by rigorous research. As critics claim, while recognizing its ability in empowering women, aiding social mobility, providing new knowledge through training, and contributing psychological benefits to these people, MFIs are also criticized for charging high interest rates in the pursuit of becoming self-sustainable organizations because this decision ultimately affects their impoverished clients and borrowers. The MFI`s degeneration has also been portrayed through the case study of ‘Mexico`s Compartamosbanco’, which demonstrated that managers became multimillionaires in little time, while taking an interest rate of around 90-100% or nearly 120% on their tiny microloans [15] .

We observe that in July 2011, in Bangladesh, caps on microcredit interest rates aimed at protecting the poor who borrowed money but it actually had a contradictory effect [16] . The fact that there is a reduction in interest rates, the supply of granting loans becomes stricter [17] . The negative impact is that there would be a reduction in lending of loans. Many financial institutions can stop giving the smaller sized loans which normally existed for people with the smallest amount of capital or who lived in areas where it is more expensive to provide for [18] .

It is a fact that microcredit should be able to cover up its costs so as to be sustainable and also for acquiring a long-lasting and optimistic effect, but we can highlight that nowadays the new role of microfinance has lost its original aim which was helping the under privileged people.

To which extent microfinance has been beneficial?

Interestingly, the role of microfinance has however helped the poor to increase their self confidence to a certain extent, though the achievement of their basic requirements and also by introducing them to the facility of savings (Gopalan 2007). Many studies have also demonstrated that microfinance acts as a tool to enhance the health status of the poor through better, timely and easy access of health care [19] .

Nevertheless, despite the positive role of microfinance, it also has a negative impact on the lives of many poor people lives because actually it only heals the symptoms of poverty but it does not really attack the cause of the problem. Next hurdle is that in accordance to the studies of some microfinance scholars, so far there is no compelling evidence that microfinance has led to continuous poverty reduction.

We agree that poverty is a worldwide phenomenon; however, (Oladunni 1999) points out that Nigeria is one of the poorest countries in the world. The situation sounds alarming as more than 45% of the population lives below the poverty line, while 67% of the poor are extremely poor. Some researchers who examined the financial position of Nigeria, claimed that the introduction of community banks/microfinance banks, poverty has still increased though at a decreasing rate with the increase of microfinance credit, however, one of the researchers argues that persistent boost of microfinance credit will lead to severe reduction of poverty in Nigeria. As such, they are to the view that more microfinance banks should be set up in so as to prevent undercapitalization, excessive interference from board members and regulatory and supervisory lacking. According to the author Odoko (2008), microfinance alone would not be enough unless additional methods are adopted along with it for the realisation of poverty reduction in Nigeria.

We can note that there is still a high percentage of more than 80 percent of poor people [20] who do not have access to banking services in developing countries due to inability of accessing banks for credit because they lack collateral to secure their loans [21] .

Besides, in many instances, we can denote that the rate of poor people is less in countries where microfinance institutions are more prevalent compared to countries where they are less.

The effect of microfinance on women empowerment

Currently around the world, a large majority of women were excluded from the formal financial sector due to various forms of gender inequality; hence with the help of microfinance, now 70 percent of the women have been given the chance to improve their status. [22] 

It is good to point out that microfinance has definitely facilitated the poor women`s access to financial resources and also it has created microenterprises that lead to employment, and additional benefits which has contributed to their overall economic improvement and social mobility. Accordingly, women empowerment is considered as one of the most important and beneficial impact that microfinance generates in rural communities, especially in third-world countries [23] . Indeed, those women can now start their own family business with the financial support that they get from banks and therefore it allows them to upgrade their position in the society and also it has more impact on their decision making power in the household. As a result, they do not remain mere housewives as they tend to develop some managerial skills, while also acquiring more knowledge concerning how to run their own source of livelihood.

Especially in villages where sex discrimination is dominant, the women get better chances to uplift their status and respect in society as they portray greater capacity to stand on their own feet. Hence it is worth noting that microfinance has played a beneficial role, based not only on a financial aspect but also in such a manner where gender empowerment and self-actualization are empowered [24] . As a matter of fact, there has been a great reduction in domestic violence and a rather huge increase in the self-respect of women (Meryer,p16) [25] . -wordpress

Non-financial impact of microfinance

Beside financial support, we can denote that microfinance provides psychological benefits to its poor clients by promoting a sense of "self-respect and dignity as they are convinced that they possess the capabilities to improve their lives (van Maanen, 2004, pp. 27-28). Thus, there would be no need for the poor to rely on loan sharks or moneylenders, who charge them for exorbitant interest rates, to finance their daily needs. Moreover, instead of constantly relying on welfare programs for financial support, their self-employed jobs will allow them to have a more stable source of income. We can highlight that as the old saying goes "Give a man a fish and you feed him for a day. Teach a man how to fish and you feed him for a lifetime." Hence, while providing the poor with the right financial tools and knowledge to start a microenterprise, it will benefit them in the long-run to become self-sustaining in the due course.

Microfinance contributes to fight against HIV while focusing on women empowerment.

Many women and their wards were getting indulged into prostitution so as to sustain their economic needs. Hence, with the help of microfinance, there is a reduction in the vulnerability of AIDS as they are less likely to get involved into high-risk behaviors [26] .

Moreover, even countries where HIV rates are relatively high, most of the adults are still able to embark on productive activities. Furthermore, many women have benefited from free legal advice concerning inheritance and children`s rights or education on how to take care of sick family members [27] .

Thus, we find that microfinance is not just related to financial issues, but there are also social effects such as improvement of health and sanitary services which are being generated from it as a positive change has been noticed not only in the people`s financial position but in their way of living as well [28] .

Crticisms of the innovative financial tool

Although neoliberal policymakers significantly valued the emphasis upon "self-help and individual entrepreneurship", and also its enormous contribution for free market capitalism, they still portrayed strong uncertainties about the financing of the Grameen Bank microfinance model. We can highlight that the Grameen Bank’s operations, along with other microfinance institutions that grew up around the world at that time, depended upon a continuous inflow of subsidized capital. Hence, the fact that the microfinance funding was provided by an MFI’s own government to a large extent, the neoliberal policymaking community began to feel increasingly awkward about using subsidies to keep the supposedly non-state, market-driven microfinance sector going.

Nowadays even long-standing supporters of microfinance have started to overtly express their concerns at the way the microfinance concept was being destroyed in the hands of neoliberals and hard-hearted investors [29] . In fact, the microfinance industry of UK witnessed a quite destructive blow in 2011. A review was made concerning the impact that microfinance has had on the well-being of the poor (Duvendack et al 2011) and according to the review, the previous impact studies of the role of microfinance were extremely biased, incomplete or even very poorly designed to the point of being quite unusable.

http://www.dnaindia.com/money/report_new-sks-head-talks-of-sea-change-in-business-model_1617016\

It seems that microfinance industry has begun to "drop the important claim to be facilitating poverty reduction, moving very quietly to redefine a new goal for itself in terms of facilitating the far more nebulous concept of ‘financial inclusion’. However, in reality this new objective for microfinance appears to have even less substance to it than the failed poverty reduction objective it is designed to replace" (Bateman 2012a).

The microfinance model ignores the crucial role of scale economies

We can observe that the main role of microfinance has actually contributed to financial developments which eventually lead to economic growth, and indirectly helped in eradicating poverty. This is so because, by granting poor people access to finance, the financial sector has direct effects on the economic condition of the poor. Nonetheless, in general, we notice that microfinance policymakers have to a large extent failed to register the fundamental importance of minimum efficient scale. According to those policymakers, what matters above all, so that their argument runs, is to construct a local financial system dominated by MFIs that can establish as many microenterprises as possible in the short term.

Actually, the problem with microfinance lies in the fact that it produces agricultural units that are relatively very little, to the extent that it practically operates below minimum efficient scale. As a matter of fact, we can denote that it would be almost impossible for enterprises which remain under a minimum efficient scale of production to operate below such level. There is no doubt that it would be hard for them to continue their existence and to achieve prosperity in nowadays competitive business world.

It is worth noting that for example in India, the microfinance has been expanding quite rapidly, especially in Andhra Pradesh state. As from 2006, "microfinance constituted around 15% of all commercial bank lending in the whole of India, while, the non-bank microfinance sector witnessed a significant boom this last decade due to the of private entrepreneurs and other financial institutions and foreign investors" (Arunachalam 2011).

Microfinance`s expansion of funding occurred due to the particular financial support of the Indian banking sector and also due to the contribution of the Indian government’s firm belief in the virtues of microfinance [30] . However, as one of the author, points out, India`s economic efficiency was undermined due to the immediate reduction in funding and support for small medium enterprisess. (Karnani, 2011).

Limitations of Microfinance

Although microfinance has proved to be beneficial to the poor, there is still little evidence of its impact and accessibility. According to many experts, it is not appropriate and effective for all the low income people, hence there is continuous debates about this financial tool`s efficiency [31] . Moreover, several scholars are to the view that microfinance runs short in proving strong and valid quantitative data that accurately present noteworthy changes in the economic conditions of the poor (Midgley, 2008, p. 472).

We can notice that the role of microfinance has contributed to the benefits of poor people on the whole; nevertheless debates still occur concerning its efficiency at the global level. A survey which was carried out in Philippines demonstrated that microcredit can be deceptive as the study revealed that microcredit may not forcibly reduce poverty. There was no real positive impact on average domestic consumption, at least within a year of the experiment. We can highlight the fact that microfinance has been quite successful in third world countries; nonetheless in more advanced countries such as the United States, its role has not been so effective. It has actually been found that the economy of U.S is rather more complex and hence it renders the entry of micro entrepreneurs more difficult. We notice that a great number of microfinance institutions have closed down as the people who borrowed money could not repay back their loans [32] . However, in one of the Hyderabad studies, it was found that the loans which were granted to the poor people eventually led to the expansion of new businesses and it helped them to do small savings for the long-run [33] . According to Brownstein, Fleck, Shetty, Sorensen, and Vadgama (2007), microfinance is a good tool for poverty alleviation but it is not a miracle way to solve the problem of poverty overnight. For instance, in Sub-Sahara Africa this innovative tool is performing well, however it cannot completely eradicate poverty as microfinance is considered as a too simple method to solve this problem.

Hence, I believe that micro finance needs more support to generate productive results. Moreover, in order to increase its efficiency, there is a need to promote better awareness and technological improvements.

What is wrong with microfinance?

Moroever, many critics have pointed out that microfinance is not really efficient as most of the borrowers are not using the loans to produce small profitable enterprises but they rather use it for smoothing consumption as the money is use mainly for weddings, extravagant expenditure or health fees. Eventually, this attitude leads them to high indebtness [34] . Hence, microfinance institutions should be able to provide social support as well in order to prevent over-indebtedness [35] .

Academicians such as Chang and Bateman have hardly criticized microfinance by going further even further in their arguments, while claiming that microfinance is "to a large extent a world of make-believe." [36] 

The most important is that microfinance institutions should make sure that their interest rates are high enough to cover the lending costs as the contrary will cripple the institution from achieving financial sustainability. It will further undermine its ability to supply financial support to the poor. As such the government need to ensure that he changes the regulations which set barriers on interest rates so as to allow the MFIs to set appropriate rates.In addition, the government must make sure not to disburse subsidies and loans from the same financial institutions, so as to clearly differentiate between grants and loans. The future sustainability of microfinance can be threatened in case both subsidies and loans are involved as the financial discipline of paying back loans can be lost.

Furthermore, advocators of microfinance posit that the focus is too much on providing loans only to the poor rather than expanding on areas such as savings and insurance (Meyer,p 3) so as to allow those people access to savings accounts as well. In consequence, it will procure a certain level of discipline to the poor by helping them to save for the future when they will be in greater need of money. Subsequently, there need to be better monitoring and evaluation of microfinance institutions to ensure that performance is at optimal level. [37] 

Moreover, we can note that India has witnessed a downfall with the large amount of microfinance which has been driven towards tiny subsidies farming units which were not prepared for it. Hence, many believe that microfinance is not the form of financial support which will help the large population of subsistence farms [38] as the current profits from those subsistence farms are simply too insignificant and too uncertain to justify its engagement with commercial microfinance [39] . As a matter of fact, recent reports have revealed that in 2010, the rate of suicide among more than 50 farmers in the state of Andhra Pradesh has increased as these over indebted people were unable to repay their loans due to exorbitant interest rates [40] . It is worth noting that microfinance has been criticized to such an extent that the Prime Minister of Bangladesh, addressed into his speech that "micro-lenders are blood suckers of the poor". On the other hand the economist, Professor Mahumud argued that microcredit which was considered as a "magic bullet is now counterproductive" as recently the micro industry aimed too much on profit [41] . Besides, we can highlight that the Australian national manager of the anti-poverty group Results pointed out that micro-credit is more beneficial when the loan is granted to the women as they are more likely to spend it wisely for "the benefit of their family and kids" [42] .

Furthermore, according to the microfinance expert, David Roodman, the microfinance industry should less focus on credit. In countries such as Bangladesh, Indonesia and Bolivia, though microfinance was at its peak, it has been proven that banks are still taking in as much deposits than granting loans. Hence, this idea demonstrates that poor people have rather been depositing their money instead of taking loans. The reason for this trend was that poor people find it a burden to take loans and they were more willing to take deposit than taking loans [43] . Moroever, Bateman laid great stressed on the fact that, it is possible that microfinance can be "an innovative and very strong form of poverty trap" [44] .

Even longtime advocators of microfinance, such as (Dichter and Harper 2007) have started to get strong doubts about the efficiency of the role of this new financial tool as the evidences are quite deceptive. Another problem lies in the fact that this particular model has not clearly resulted in a sustainable poverty reduction or economic improvement in many countries [45] . For example, extensive studies which were conducted in those countries such as China, Taiwan, Japan, South Korea, Thailand, India, Malaysia and most recently Vietnam, revealed that the microfinance model has played no role at all. These countries have instead successfully reduced poverty through financial institutions and investment strategies that are the absolute contrary of the new microfinance model [46] .

Also, it is believed that microfinance is based on the core doctrines of neo liberalism. Actually, in the 1980`s, it was soon assumed that microenterprises portray disempowering labour market consequences. Thus, the governments of developing countries were stimulated to adopt the microfinance strategies in order to "flexibilise the labour market and to disempower labour" [47] which demonstrates that it is an incredibly "neoliberal goal in their own right". [48] 

CONCLUSION

We can conclude that there is no doubt that poverty is hindering many countries over the world and despite microcredit has acted as an innovative financial tool to enhance the lives of many people, it has certainly not be able to completely eradicate poverty. Hence, while assessing the role of microfinance, it is worth noting that microfinance is not the only remedy to alleviate global poverty as there are other factors that contribute to the predominance of poverty in the whole world. This new financial weapon has definitely has definitely empowered the poor by instilling in them a sense of self-respect and incentive to come out of poverty for achieving success [49] , nevertheless it is not a magical tool which can suddenly alleviate poverty in the whole world.

The role of microfinance is definitely doubtful as there is no concrete evidence about the continual improvement of the poor people and as to whether it helps other people at the national levels. Despite the fact that microfinance has improved the lives of many people, we notice that high interest rates are increasing the problems of the poor till a point that they actually commit suicide. Thus, we can ask the question whether microfinance is really serving its role in a positive way or is it having more negative outcomes. Moreover, we can conclude that it is of vital importance to achieve cooperation between lenders, regulators and borrowers for ensuring the sustainability of microfinance and also for encouraging it to continue its fight in alleviating poverty. [50] . We can note that, it is also critically important to have transparency while lending capital to the poor [51] and it would be better if microfinance institutions could have adopted new approaches to effectively serve and address the needs of its customers.

To end with, we can argue that microfinance is just a step to alleviate poverty and it can only be successful if the low-income people have the determination to fight poverty on their own. Microfinance can only be considered as a source of hope for those poor who are strong enough to become independent.