Microfinance, or microcredit, is the practice of offering financial services to the poor. Microfinance deals with small amounts of money, due to the limitations of the poor. But why do the poor need to use microfinance? Why can’t they just go to a bank and open up an account? How do these financial deals work? And why do they work? We will explore all of these questions in order to enlighten ourselves on the topic of microfinance.
In an ever modernizing and developing world, everybody needs access to financial services. People need a place to store their money instead of hiding it under their mattresses. If money is short at hand, people should be able to have access to a loan that will keep them afloat. This process is easy enough for the middle class and the rich, who all have steady income and valued assets. The formal bank institutions that provide these services can see proof that these loans will be paid, and if not, collateral is available. But what happens when a poor man, who has nothing but the pennies in his pocket, asks for a loan? How can a bank trust him to pay them back, and what can they take from him as collateral if he doesn’t? You see, in the middle and upper classes, financial deals are made on paper, based on evidence of income and assets, with the signing of a contract. However, in the poor, lower-class villages, deals are made through an earned mutual trust and social interaction. When the poor make trades and loans with each other, they don’t have to have a steady income to prove that they will pay the loaner back. These trades are based on the peoples’ character. When a farmer need $20 to buy seeds for a new harvest season, he can ask his neighbor to help him shoulder the costs (the cost being repayment, or even a share of the crops). The neighbor can trust the farmer to pay back the money, because they share more than just $20, and they have earned each other’s trust over many years. But what if a forest fire comes and burns down all the farmer’s crops and makes the soil infertile? How can he continue to survive without the necessary aid to rebuild his farm? This is where microfinance comes into play.
Within the Mahila Mandals run by CORD India, microfinance is huge a financial service that gives much-needed help to thousands of women. In this system, a group of 10-20 women join together to form a Self-Help Group (SHG). In an SHG, each member is responsible for contributing a membership fee, which is accumulated by the group. Once a certain threshold of money is reached, the group will begin to loan money to individuals. This money is used for things such as crops, animals, tools, equipment, and events (such as weddings). Most loans are made with some interest, around 11%, which is put back into the SHG’s pool of money. Groups can also take loans from banks by using CORD as a third-party middleman. Since 1994, when CORD Sidhbari began these SHG’s, over 1,470 groups have been created and strengthened, and these groups support over 22,000 women. Currently, there is about $4.5 million in circulation between the SHG’s savings and bank loans.
This system works incredibly well for two main reasons. First, the SHG is comprised of women in the same village who share a personal connection. These people know each other on a personal level, and many of them are neighbors. These relationships create the necessary trust required to deal these financial trades. The amount of trust that these groups hold would never have been reached with a bank. Second, when a person receives a loan, they have a personal incentive to pay it back, even with the interest. When a SHG makes a loan, both parties are benefited. The SHG itself is benefited because the loan has a little bit of interest on it, which adds to the pool. The loan taker is benefited because they get the money required to do with what they wish, and more importantly, the money they pay back with the interest goes back into the group. This is very incentivizing because eventually the money that they put back into the group will come back to them! Not only is it helping the group, but it is help the individual loaners too. This reason is backed by the fact that 99.01% of all loans, with the banks, and within the SHG’s, have been paid back. This unbelievably high loan repayment rate just proves once more that microfinance works exceptionally well, empowers women, and is the way to go to solve the problem of poverty not only in India, but also around the world.
