IV- MICROFINANCE

Introduction

INTRODUCTION

In early 1980’s, the existing banking policies, procedures and systems were not
suited to meet the requirements of poor. For borrowings poor people usually resort
to unorganised sector. NABARD recommended that alternative policies, systems
and procedures should be put in use to save the poor from the clutches
of moneylenders. Thus microfinance was introduced in banking sector.
Microfinance is a programme which includes a broad range of financial services such as
deposits, loans, payment services, money transfers, insurance, savings, micro-credit
etc. to support the poor people and low income individuals. Mohammed Yunus
was awarded the Noble Prize for application of the concept of microfinance, with
setting up of the Grameen Bank in Bangladesh
The concept of microfinance was created by Professor Muhammad
Yunus founder of Grameen bank in Bangladesh and noble price winner in
2006.Microfinance is the provision of a broad range of financial services such as
deposits, loans, payment services, money transfers and insurance to the poor and
low income households and their micro-enterprises. Microfinance is defined as
Financial Services (savings, insurance, fund, credit etc.) provided to poor and low
income clients so as to help them raise their income, thereby improving their
standard of living.The Asian Development Bank (2000) defines microfinance as
the provision of broad range of services such as savings, deposits, loans, payment
services, money transfers and insurance to poor and low income households and
their micro-enterprises. This definition of microfinance is not restricted to
the below poverty line people but it includes low income households also.The task
force on Supportive Policy and Regulatory Framework for Microfinance constituted by

NABARD defined microfinance as “ the provision of thrift, saving,

credit and financial services and products of very small amount to the poor’s in
rural, semi urban and urban areas for enabling them to raise their income level and
improve their standard of living.
Microfinance is a form of financial services for entrepreneurs and small businesses
lacking access to banking and related services. The two main mechanisms for the
delivery of financial services to such clients are: (1) relationship-based banking for
individual entrepreneurs and small businesses; and (2) group-based models, where
several entrepreneurs come together to apply for loans and other services as a
group. For some, microfinance is a movement whose object is a world in which as
many poor and near-poor households as possible have permanent access to an
appropriate range of high quality financial services, including not just credit but
also savings, insurance, and fund transfers. Many of those who promote
microfinance generally believe that such access will help poor people out of
poverty. For others, microfinance is a way to promote economic development,
employment and growth through the support of micro-entrepreneurs and small
businesses. Microfinance is a broad category of services, which includes
microcredit. Microcredit is provision of credit services to poor clients. Microcredit
is one of the aspects of microfinance and the two are often confused. Critics may
attack microcredit while referring to it indiscriminately as either 'microcredit' or
'microfinance'. Due to the broad range of microfinance services, it is difficult to
assess impact, and very few studies have tried to assess its full impact. Proponents
often claim that microfinance lifts people out of poverty, but the evidence is mixed.
What it does do, however, is to enhance financial inclusion.

Definition of Microfinance : Microfinance is the provision of a broad range of

financial services such as – deposits, loans, payment services, money transfers and
insurance products – to the poor and low-income households, for their
microenterprises and small businesses, to enable them to raise their income levels
and improve their living standards.

The term 'microfinance' is often confused with the related term 'microcredit',
so much so, that the two are often treated as synonymous and used
interchangeably.

The term microcredit refers to a small size loan, to be repaid within a short
period of time, used mostly low income households and micro entrepreneurs for
the purpose of income generation and enterprise development. The mobilization of
such credit is restricted to external sources such as banks and moneylenders.
 Microfinance on the hand, provides a greater menu of options whereby the
small loan can be garnered not just from the external sources but also through
selfmobilization, by way of saving and sale of assets. Also, in case of microcredit,
due to the definite obligation to repay the loan, a physical collateral may
sometimes be needed. However, the biggest flexibility in the case of microfinance
is the lack of any physical collateral, even in case of loan from the bank. The
options available with microfinance, therefore, are much broader and flexible than
the ones available with microcredit.

Difference between microfinance and microcredit

Sl.No Characteristics Microfinance Microcredit

1 Size of loan Small Small
2 Repayment of period Short Short
3 Sources of mobilization Both external and External
internal
4 Repayment Obligation if Definite obligation
source external to repay
5 Collateral Not needed May or may not be
needed
6 May or may not be needed Flexible, Mostly fixed,
consumption limited scope for
income generation deviation
7 Scope of operation Mostly group loans Usually individual
trickling down to loans, though
individuals group loans might
be given

Features of Microfinance

1. It is an essential part of rural finance.

2. It deals in small loans.

3. It basically caters to the poor households.

4. It is one of the most effective and warranted Poverty Alleviation Strategies.

5. It supports women participation in electronic activity.

6. It provides an incentive to grab the self employment opportunities.

7. It is more service-oriented and less profit oriented.

8. It is meant to assist small entrepreneur and producers.

9. Poor borrowers are rarely defaulters in repayment of loans as they are simple
and God-fearing.

10. The borrowers are generally from low income backgrounds

11 .Loans availed under microfinance are usually of small amount, i.e., micro
loans
12 The loan tenure is short
13. Microfinance loans do not require any collateral
14.These loans are usually repaid at higher frequencies
15.The purpose of most microfinance loans is income generation

Microfinance is a broad category of services, which includes microcredit.

Microcredit is provision of credit services to poor clients. Micro credit and micro-
finance both are different. Micro credit is a small amount of money, given as a
loan by a bank or any legally registered institution, whereas, Micro-finance
includes multiple services such as loans, savings, insurance, transfer services,
micro credit loans, etc. for poor people.

Evolution of Microfinance in India

The evolution of Indian Microfinance sector can be broadly divided into four
distinct phases:

Phase 1: The Cooperative Movement (1900-1960): During this phase, credit

cooperatives were vehicles to extend subsidized credit to villages under
government sponsorship.

Phase 2: Subsidized Social Banking (1960s - 1990)

With failure of cooperatives, the government focused on measures such as

nationalization of Banks, expansion of rural branch networks, establishment of
Regional Rural Banks (RRBs) and the setting up of apex institutions such as the
National Bank for Agriculture and Rural Development (NABARD) and the Small
Scale Industries Development Bank of India (SIDBI), including initiation of a
government sponsored Integrated Rural Development Programme (IRDP). While
these steps led to reaching a large population, the period was characterized by
large-scale misuse of credit, creating a negative perception about the credibility of
micro borrowers among bankers, thus further hindering access to banking services
for the low-income people

Phase 3: SHG-Bank Linkage Program and Growth of NGO-MFIs (1990 -

2000) The failure of subsidized social banking triggered a paradigm shift in
delivery of rural credit with NABARD initiating the Self Help Group (SHG) Bank
Linkage Programme (SBLP), aiming to link informal women's groups to formal
banks. The program helped increase banking system outreach to otherwise
unreached people and initiate a change in the bank's outlook towards low-income
families from 'beneficiaries' to 'customers'. This period was thus marked by the
extension of credit at market rates. The model generated a lot of interest among
newly emerging Microfinance Institutions (MFIs), largely of non-profit origin, to
collaborate with NABARD under this program. The macroeconomic crisis in the
early 1990s that led to introduction of the Economic Reforms of 1991 resulted in
greater autonomy to the financial sector. This also led to emergence of new
generation private sector banks that would become important players in the
microfinance sector a decade later.

Phase 4: Commercialization of Microfinance: The First Decade of the New

Millennium Post reforms, rural markets emerged as the new growth drivers for
MFIs and banks, the latter taking interest in the sector not only as part of their
corporate social responsibility but also as a new business line. On the demand side,
NGO-MFIs increasingly began transforming themselves into more regulated.

Role and Importance of Microfinance

According to the research done by the World Bank, India is home to almost one
third of the world’s poor (surviving on an equivalent of one dollar a day). Though
many central government and state government poverty alleviation programs are
currently active in India, microfinance plays a major contributor to financial
inclusion. In the past few decades it has helped out remarkably in eradicating
poverty. Reports show that people who have taken microfinance have been able to
increase their income and hence the standard of living.

Thus Microfinance plays a major role in upliftment of Indian economy in

following ways:-

Credit to Rural Poor:-Usually rural sector depends on non-institutional agencies

for their financial requirements. Micro financing has been successful in taking
institutionalized credit to the doorstep of poor and have made them economically
and socially sound.

Poverty Alleviation:-Due to micro finance poor people get employment. It also

helps them to improve their entrepreneurial skills and encourage them to exploit
business opportunities. Employment increases income level which in turn reduces
poverty.

Women Empowerment:- Normally more than 50% of SHGs are formed by

women. Now they have greater access to financial and economical resources. It is
a step towards greater security for women. Thus microfinance empowers poor
women economically and socially.

Economic Growth:-Finance plays a key role in stimulating sustainable economic

growth. Due to microfinance, production of goods and services increases which
increases GDP and contributes to economic growth of the country.

Mobilisation of Savings:-Microfinance develops saving habits among people. Now

poor people with meagre income can also save and are bankable. The financial
resources generated through savings and micro credit obtained from banks are
utilised to provide loans and advances to its members. Thus microfinance helps in
mobilisation of savings.

Development of Skills:-Micro financing has been a boon to potential rural

entrepreneurs. SHGs encourage its members to set up business units jointly or
individually. They receive training from supporting institutions and learn
leadership qualities. Thus micro finance is indirectly responsible for development
of skills.
Mutual Help and Co-operation:-Microfinance promotes mutual help and co-
operation among members. The collective effort of group promotes economic
interest and helps in achieving socioeconomic transition.

Social Welfare:- With employment generation the level of income of people

increases. They may go for better education, health, family welfare etc. Thus
micro finance leads to social welfare or betterment of society.