Microfinance

Microfinance is a term for the practice of providing financial services, such as microcredit, microsavings or microinsurance to poor people. By helping them to accumulate usably large sums of money, this expands their choices and reduces the risks they face. Suggested by the name, most transactions involve small amounts of money. "Micro finance" is financial services for the global poor.

These services include providing business and housing loans, insurance, pensions, and deposits. The prospects for this industry are strong since the gap between demand and supply is great.

Objectives MFIs through peer lending groups intend to create social capital Serving the owners of very small, often part time and start-up businesses in low income communities Provide services like credit, training and the opportunity to participate in a group peers for support, advice, customer referrals, joint marketing and joint venturing Through its peer lending programs MFIs’ extend credit to self selected member groups who review and approve each other’s loans, with no secondary review or collateral required

The Markets and MFI customers The entrepreneurs in low income communities are largely invisible, are often based at home, serve local markets, represent a supplemental source of income, their owners generally lack business plans and adequate records. Mainstream services – banks, technical assistance are far beyond their reach Most of the customers are at or near the poverty line, many are women, mainly are middle aged and the single head of household.

WHY does commercial microfinance work WHY does commercial microfinance work? Poor people around the world produce very high marginal returns on capital, and need financial services to exploit these opportunities. The high cost of capital in the developing world,the high demand for credit, and the low cost of labor, make transaction-intensive microfinance quite profitable if done right.

Microcredit is the extension of very small loans (microloans) to the unemployed, to poor entrepreneurs and to others living in poverty who are not considered bankable. These individuals lack collateral, steady employment and a verifiable credit history and therefore cannot meet even the most minimal qualifications to gain access to traditional credit. Microcredit is a part of microfinance, which is the provision of financial services to the very poor; apart from loans, it includes savings, microinsurance and other financial innovations.

Microcredit is a financial innovation which has successfully enabled extremely impoverished people to engage in self-employment projects that allow them to generate an income and, in many cases, begin to build wealth and exit poverty Due to the success of microcredit, many in the traditional banking industry have begun to realize that these microcredit borrowers should more correctly be categorized as pre-bankable

Intended Impact Increase sales and profits through reduced costs of credit Intense networking and support to spill over into increased self-confidence, community involvement To channelise social capital where it is most needed: in low income communities outward flight, declining local enterprises and persistence crime and violence.

In developing countries there is virtually no access to capital other than from loan sharks and pawnshops, which charge from twenty percent per month (secured by goods) up to ten percent per day for unsecured loans Since credit is easily available, the interest rates that MFIs charge are much low.

Microinsurance is the provision of insurance to poor and low income households. The concept is to charge very small premiums from a large group whose risk profile or exposure to risk is similar and provide it to the nominee of unfortunate one. Basically it is a pooling and sharing exercise. People having similar risk exposure gathers the money. The participants control over the insured event should be minimum and insurable interest should always be there.

In India it comes under the perview of Insurance Regulatory and Development Authority and it is mandatory for all insurance companies to bring a certain percentage of business from government defined rural and social areas. This minimum limit varies from year to year.

Trends in MFIs: The Indian scenario SHG: Self help group They set interest rates on loans near the informal lending rates of their areas ( in most places at around 24% per annum), reducing the possibility of arbitrage They soon linked with the banks and brought the mainstream market players into the operations In alwar (Raj.) women from diverse groups got together to set up what they call company which was a self liquidating group that that operated functionally till the women could meet their needs and constantly liquidated and regrouped with new needs

A vibrant market for rural credit High interest rates are not really a concern for the borrowers of low amounts , they are ready to take loans from any body that can supply them loans at rates lower than at which supplied by the moneylenders if the transactions are carried out with dignity and ease Thus raising possibilities of arbitrage Which has enabled a few MFIs to make super normal profits attracting the mainstream bankers

The banks now recognise the group collateral as a valid security and extends loans to the SHGs or MFIs for lending to the poor clients as a part of priority sector lending targets . Rice credit line extended by Velugu program of AP provides the collective bargaining power to purchase rice in bulk for the entire village and store, while the payment can be made over a period of time when the earnings come in through wages thereby providing the necessary food security for the hoseholds

ICICI bank was one of the first in the country to the commercial potential in rural finance It entered the rural finance in two ways one through partnership with these MFIs and secondly by securitisation deal

Other aspects to rural finance Kisan credit card Joint liability groups Risk mitigation :Breaking up the comprehensive risks of fall into smaller measurable components was something that ICICI lombard initiated

Importance of SHGs in the rural finance Targeted towards the women helping tap the slack time in the family to do something productive with capital infusion Insisted on regularity; which meant that cash had to be found in order to attend a meeting It was savings driven as against credit driven as regularised financial market