There is a growing doubt if microfinance is an effective tool to reduce poverty, whether it’s a good idea to provide the poor with easy credit to expand their economic as well as social opportunities. Microfinance has long been projected as “the solution” to the problems of the poor and its importance is often overstated, as if it were a magic potion for the poor. However, slowly but surely evidence is mounting that microfinance alone is not sufficient to free people from the poverty trap and that it should not be seen as a substitute for jobs and income that are not there.
The major concern about Micro Finance Institutions (MFIs) is that they cannot run solely on charity. MFIs, like any other business, need profits to sustain themselves. In this regard, MFIs are looking to expand their client base (i.e. provide credits to more clients) as well as the base of the microcredit lenders; to improve outreach and to explore business opportunities. However, the issue of business competitiveness, which is an important consideration for business sustainability (including for MFIs) in today’s globalized world, is often forgotten.
Microfinance programs need answers to important questions like: How do they identify microfinance client (often referred to as the poorest of the poor)? Are credits the right alternatives for their clients? If yes, are the clients willing to learn and adopt business principles? Is there a demand for their products? Can they make profit and be sustainable in the long run?
A recent article by N S Ramnath in Forbes India entitled What Ails Microfinance? explores implications of a crucial research undertaken by David Roodman.
Roodman analyses microfinance under three frameworks: Development as escape from poverty, development as freedom, and development as industry building tool. On the basis of his 10-year research, Roodman concludes there is no evidence for the first, inconclusive evidence for the second, but a strong evidence for the third. He finds that microfinance has the biggest impact in industry building—not in turning clients into entrepreneurs, but in building microfinance institutions that compete, innovate, create jobs and cater to the poor.
Hence, even microfinance experts agree that microfinance is sustainable only if MFIs can make some profit. MFIs will expand and sustain if their microfinance transactions increase; but transaction will only increase if micro businesses bring financial services into use. But ultimately, micro businesses will explore financial services only if their businesses are promising. Thus, the primary question regarding microfinance is: Which businesses are competitive?
As Roodman says, there is a lot of hype but little evidence of microfinance raising people out of poverty. Giving India’s example, he concludes that the country “…is improving economically, and that’s not because of tiny loans, but because of the broader changes in the economy”. Thus, there is a strong case for not lending to the poorest of the poor as credit would make their already risky lives even riskier. It would also add to the risk of the MFIs.
In the Nepali context, finance practitioners, professionals, advisors and institutions need to be aware of these fundamental business principle before it’s too late. Efficient and competitive microfinance regimen calls for an in-depth understanding of the core business principles. Otherwise, most of the micro-businesses in Nepal will appear less attractive compared to the ones across the border. In that case, most of the current or potential clients of MFIs will stop doing business here and choose to migrate to India and other countries. The people in Nepal will for their part continue to use goods and services delivered either by a very competitive Nepali private sector or by business houses from across the border.
The writer works with SNV in Cambodia as Senior Advisor for the Agriculture programs
pokhrel2012@hotmail.com
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