About Us
About Microfinance
Since the founding of Grameen Bank in Bangladesh, more than 7 million borrowers—97% of whom are women—have been reached, with a repayment rate in excess of 98% and over $5 billion lent out. The model has spread like wildfire all over the world, and has consistently proven to be an effective way to empower poor communities. And regardless of it a microfinance organization has been established in Bangladesh or India or Jackson Heights, New York, the result is always the same: high repayment rates from people not considered credit worthy by traditional financial institutions. Microfinance Institutions (MFIs) achieve high repayment rates and high social impact in several ways:
Reliance on Trust and Social Collateral, Not Credit and Traditional Collateral
Where formal financial institutions rely on quantitative data such as credit histories in order to assess and mitigate risk, MFIs have found that a reliance on trust can result in extremely low default rates; in fact, a high-quality MFI will typically see default rates of below 3%. The necessity of this approach is obvious, as the poor rarely have formal credit histories, and are unable or unlikely to be able to offer anything of value as collateral to secure a loan. What’s more, even if collateral were secured, the transaction cost to the bank of creating the legal documents and then collecting in the event of default would be prohibitive
Instead, MFIs rely on social collateral, which is created through the use of group loans—where in order to receive loans borrowers must join groups, and if anyone misses a payment, no one else in the group may receive an additional loan until that person pays back her loan—or through other mechanisms such as a strong reliance on community organizations and personal references.
A “High Touch” Approach
Generally speaking, traditional financial institutions want to be as “low touch” as possible with their borrowers—in other words, they want to minimize transaction costs in order to maximize profits. MFIs, on the other, take a “high touch” approach, emphasizing continued interaction with the borrower throughout the life of the loan. For example, in addition to the aforementioned group requirements, the Grameen Model also includes mandatory weekly meetings, at which borrowers make repayments, receive additional training and support, and check in with a loan officer.
This approach serves two purposes. First, it enables the MFI to develop a personal relationship with the borrowers so that loan officers can identify problems before they happen, and provide additional assistance to the clients. Second, it gives the MFI a chance to provide auxiliary services to borrowers. These include financial literacy training, information on hygiene, health, and fertility, and self-empowerment.
Tiered Loan Cycles
Microloans are, by definition, small loans. However, a common feature of MFIs is that as borrowers complete loan cycles, they become eligible for increasingly larger loans. In so doing, MFIs minimize risk by giving the smallest loans to the newest clients, and the largest loans to the clients with whom they have developed the strongest relationships. Eventually, the most successful borrowers “graduate” from the MFI and are then able to access larger loans from a traditional bank.
A Focus on Specific Demographics
MFIs typically focus on specific demographics that are more likely to benefit from microfinance while still being able to repay the loans. In Grameen’s case, 97% of the borrowers are women, because in their experience women are the most likely to use the loan for the benefit of the family, thereby increasing the social impact of the loan . The focus on specific demographics is important because of the different cultural and socioeconomic contexts of the different countries in which MFIs operate. And while not all MFIs exist to serve poverty alleviation/economic development goals, the ones that do are well served by targeting their efforts.
More Resources
To learn even more about Microfinance, check out the following resources:
Field Institute
Grameen Bank
Grameen America
Accion USA
A great history of microfinance as well as some recent innovations in the field
