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Research Paper

Research Paper

On

“The Role and Impact of Micro-finance in Poverty Reduction and Economic Development”

Research Paper

On

The Role and Impact of Micro-finance in Poverty Reduction and Economic development

Submitted To:

 Mr. Suborna Barua

Lecturer

Department of Finance

Submitted By:

Group

Fountain

Department of Finance

Jagannath University, Dhaka

August 21, 2011

Group Member

Fountain

Serial No.	Name of Members	ID
01.	Daiyan Salehin (Rep.)	380
02.	Md. Kamrul Hasan	379
03.	S.M. Mahmudul Hasan	387

Abstract

Micro-finance is widely as an approach to alleviate poverty and bring about development to poor. However the effectiveness of micro-finance has been a focus of debate in finance and economic literature with the controversy surrounds mainly on the performance, sustainability and impact of these initiatives on poverty reduction and further socioeconomic development. That is why some observers have raised questions about the efficiency of micro-finance in alleviating poverty. It is a fact that poverty still prevails in the rural areas of Bangladesh, and all participants of micro-finance programs could not cross the line of poverty. One has to keep in mind that poverty is a complex phenomenon which can not be tackled by a single hyper-needle intervention. The task demands mufti-sectoral approach and a comparative strategy. Microfiche can surely be a part of broad strategy, but it cannot be the only strategy¹. However, equal attention must be given to social capital development to attain Millennium Development Goals.

      

 

1.        Fazle Hasan Abed- Founder of BRAC

Introduction:

Microfinance is the supply of loans, savings and other financial services to the poor. Microfinance is not a new concept. During the eighteenth and nineteenth centuries, in number of European countries, microfinance evolved as a type of the informal banking for the poor. The early history of microfinance in Ireland can be traced back to 18th century. The so-called Irish loan funds appeared in early eighteenth as charities, initially financed from donated resources and offering interest free loans.

In Latin America and South Asia, the microfinance has grown out of experiments, but the best-known start was in Bangladesh in 1976. Its origin can be traced back to 1976, when Muhammad Yunus set up the Grameen Bank, as an experiment, on the outskirts of Chittagong University campus in the village of Jobra. Muhammad Yunus in 1976 came up with a new concept and model, which is called, “The Grameen Model”. The inspiration of Grameen Bank came to Muhammad Yunus’ mind when he lent the equivalent of $26 to $42 to exploited women who were working as bamboo furniture maker. In 1983, this institution became a bank. Today it operates in almost 36000 villages and serves more than 3500000 people.

Currently, microfinance services (loans, savings, etc.) are available to over 100 million of the worlds poorest families¹.More than 100 countries have introduced microfinance for poverty alleviation. Currently USA introduced microfinance services for some of the states. Many of the African country have already taken steps to introduced microfinance and some of them already started. Recently country likes Afghanistan also started microfinance by following grameen model.

Fig: Total Volume of Microloans

Fig: Total Borrowers of Microfinance

 

1. (Microcredit Summit Report, 2009)

Research Issue:

In the light of problem background leads to the following problem statements which will also be the overarching question/statement for this investigation:

§        The role of microfinance

§        The role and impact of  microfinance in poverty reduction

§        The role and impact of  microfinance in economic development

Literature Review:

Fighting poverty to small loans is hot, but microcredit is a single magic bullet for underdevelopment. The similar are also evident in the article of kingsbury¹, Dichter² and Dyal-Chand.³ Today about 10,000 MFIs hold more than $7 billion in outstanding loans. Dr. Yunus hopped to root out poverty totally by 2015. Yet there’s surprisingly little evidence that promise can be met. Dyal-Chand raised an immensely an insightful questions in terms of collateral hinged on the GB micro-lending process that impose human worth as collateral. By the term human worth means family status, honor and respect, this is in local word called 'ijjat'. Examples are there that many a debtor committed suicide in extreme cases. Some development experts warned that microcredit programs did little ti allivate overall poverty, even in the countries like Bangladesh where they are well established. About 45% of the country’s population lives below the poverty line, down just 2 points in the past decades . According to Elizabeth Littlefield, microfinance is not a magic solution that will propel all the poor –particularly the vary pooerest people-out of poverty (4). According to the study, there are microfinance giants that are only interested in making money.

 

1.        Micro Finance: Lending a Hand by K. Kingsbury (The Time, April 16, 2007)

2.        A Second Look at Microfinance: The Sequence of Growth and Credit in Economic History by T. Dichter (Development policy briefing paper no. 1, February15, 2007, The CATO Institute, Washington D.C.)

3.        The pitfalls of Microlendings by Dyal-Chand (A Lecture delivered at Northeastern University, Boston)

4.        Microfinance and the poor: Breaking down walls between microfinance and formal finance by Elizabath Littlefield & Roserberg (page: 40)

On the otherhand, Ahmed & Segrado are the only investigator who pioneered this new disciplene. Besides, Hassan & Lewis, Iqbal, Khan and many others wrote on general understanding on MFIs. Ahamed acknowledged the social dimention of banking programs and focused on the way of manifasting the social role of Islamic banks to provide finance to poor to increase their income and wealth (5). In his paper he argued that if a marriage between Islamic banks and micro-financing was possible or not as Islamic banks could deliver finance to poor efficiently and effectively. The article of Ahmed explored the potentiality of 'Awaqf'-based microfinance in the society to uplift the condition of poor realizing the social part of Islamic finance to play. Segrado(6) examined Islamic microfinance from the socially responsible investment perspective. He discussed about different tools of Islamic microfinance that could lead to a successful venture. Hassan and Lewis(7) placed an introduction on Islamic financing and Islamic Banking perspective.Iqbal (8) provided an overview of the current position of Islamic microfinancing at a global level, covering developments in banking, investment fund and Islamic international financial institutions.

 

5.        Financing Microenterprises: An Analytical Study of Islamic Microfinance Institutions by H. Ahmed (Islamic Economic Studies vol-9, page: 27-64)

6.        Islamic Microfinance & Socially Responsible Investments by C. Segrado (Case study of Meda Project, University of Torino)

7.        Islamic Microfinancing: An introduction by M.k. Hasan & M.K. Lewis (European Journal of management & Public policy 3(1): 3-11)

8.        Islamic banking in practice by M. Iqbal (European Journal of management & Public policy 3(1): 12-40)

Research Methodology:

The study is based on the secondary data. Relevant data regarding microfinance and its framework in different countries is being gathered through books, journals, newspaper and internet or other sources.

The secondary source of information was collected from

ü     Internet

ü     Newspaper

ü     Journal

ü     Books

The Role of Microfinance

The microfinance revolution has changed attitudes towards helping the poor in many countries and in some has provided substantial flows of credit, often to very low-income groups or households. Microfinance has proven to be an effective and powerful tool for poverty reduction. Like many other development tools it has sufficiently penetrated the poorer strata of society.

So the role of microfinance is vast. But we will evaluate the role of microfinance in following major section.They are as below:

§       The role of microfinance in women empowerment

§       The role of microfinance in Childhood education

They are discussed below

The role of microfinance in women empowerment

The microfinance program is a unique innovation of credit delivery technique to enhance income generating activities. Over the last two decades, a large number of studies on Grameen’s impact on women such as political participation and on how Bank’s membership generated income assets and employment were done. These studies indicating that women are empowered day by day where microfinance plays a vital role. 95% of the borrowers of microfinance are women which help to empower them in the family, society and nations.

The microfinance program provided women with loans to improve their existing economic activity or to start a new enterprise. Such investments, was believed, would lead to social and gender equality in the country, and would enhance the elimination of poverty, which would reduce impoverishment among women.

Women play an important agency in eliminating the economic hardship. They obtain loans and make use of this money in order to invest it in some way or the other for income generation. Microfinance programs have also in many cases increased mobility and strengthened networks among women who were previously confined to the home.

The role of microfinance in childhood education:

The role microfinance in childhood education is significant. An important goal of all microfinance is to spread the light of education throughout the society especially for primary education. Development through this program, along with the other program, indicates human development among the people. This will build up a society free of poverty, illiteracy and disease. Their goals are to expand education opportunities for disadvantaged children and provide them with necessary technical and financial support.

Microfinance provides financial assistance for the borrowers directly for education purpose such as childhood education. Borrowers directly use the fun for childhood education. As a result microfinance help ensue education in some sector.

Poverty & Microfinance

Lack of access to credit is generally seen as one of the main reasons why many people in developing economies remain poor. Usually, the poor have no access to loans from the banking system, because they cannot put up acceptable collateral and/or because the costs for banks of screening and monitoring the activities of the poor

Microfinance has received a lot of attention recently.The poor in developing economies have increasingly gained access to small loans with the help of so-called microfinance programmes

Especially during the past ten years, these programmes have been introduced in many developing economies. Well-known examples are the Grameen Bank in Bangladesh, Banco Sol in Bolivia and Bank Rakyat in Indonesia.

According to the United Nations (UN), in 2002 almost one fifth of the world population (i.e. 1.3 billion people) were living in extreme poverty, earning less than one dollar a day. In recent public debates microfinance has been mentioned as an important instrument to combat extreme poverty.

To support this view the UN declared 2005 to be the International Year of Microcredit. According to the UN, microfinance can contribute significantly to the achievement of the United Nations Millennium Development Goals,

Role of Microfinance in poverty alleviation

Microfinance programmes provide credit to the poor, either through joint liability group lending or through individual-based lending. While the latter comes close to traditional banking, involving a direct relationship between the programme and an individual, the joint liability lending approach uses groups of borrowers to which loans are made. Currently, the majority of microfinance borrowers have access to loans through group lending programmes.

With joint liability lending the group of borrowers is made responsible for the repayment of the loan, i.e. all group members are jointly liable. Thus, if one group member does not repay her loan, others may have to contribute so as to ensure repayment. Non-repayment by the group means that all group members will be denied future access to loans from the programme. In this way, group lending creates incentives for individual group members to screen and monitor other members of the group and to enforce repayment in order to reduce the risk of having to contribute to the repayment of loans of others and to ensure access to future loans.

“Thus, joint liability group lending stimulates screening, monitoring and enforcement of contracts among borrowers, reducing or erasing the agency costs of the lender.”1*

Contribution of Microfinance in poverty alleviation in deloping countries

Indonesia, Pakistan, Nigeria, Egypt, Sri-lanka, - account for over half a billion(528 million) 0f the world’s poor with incomes below $2 a day or national poverty line. With another five countries- Afganistan, Sudan, Mozambique, Turkey & Niger, they account for over 600 million of the world’s poor. In those countries microfinance has influence in poverty alleviation, empowering the women through reducing the inequality of gender. But points to be noticed that most poor people can not get benefit from it rather it has far reaching effect on the moderate poor.

World’s most poverty affected region like Bosnia, Somalia, Zimbabwe, Uganda people are suffering from extreme hunger, microfinance are inactive here because people are fighting for their survival can not repay the loan. So here microfinance activities interrupt.

Condition of Bangladesh

Microcredit programs can lift as many as 5% of program participants out of poverty every year. Unfortunately, this figure fails to mention that, in Bangladesh for example, microcredit programs only reach about 20% of the population.

 

1*(models by  and  explicitly deal with moral hazard and monitoring problems, showing how joint liability may help to solve these problems. and)

Therefore, only about 1% of the population can rise from poverty each year under microcredit programs. And at the same time that this 1% is rising from poverty, the population is increasing by 1.8% per year, predominantly in the poorer classes¹.

Micro credit’s track record in the area of female empowerment is equally mixed. Some studies have found a strong correlation between participation in microcredit schemes and female empowerment. They attribute this to the self-confidence women gain from handling money, operating independent businesses, and earning money for the family.

Role of Grameen Bank in poverty alleviation

THE GRAMEEN BANK ² is a unique financial institution in Bangladesh. It was originated to provide small loans exclusively to the poor who possess not more than a half acre of land or assets not exceeding the value of one acre of medium quality cultivable land. It also provides comprehensive investment counselling and close supervision over borrowers' entrepreneurial activities so that they can make the most productive use of the loans and succeed in their business ventures.

Cost Efficiency: The Grameen Bank is not yet a viable financial institution, although it claims to be making profits. Its claim is true in the sense that it borrows funds in excess of the financial needs of its clients from both national and international sources at highly concessional rates of interest. Reinvesting and often arbitraging with these funds, the Grameen Bank earns handsome amount of interest income.

Loyalty of Held Workers: Critics often claim that the success of the Grameen Bank, to a large extent, depends upon the availability, dedication and loyalty of field level workers. Their training program is so rigorous and effective that they become fully motivated before going to the rural areas to serve the cause of their institution and that of the rural poor.

1.        Micro Credit Innovatives by Khandker, pg. 73

2.        GB related onformation has taken from Bangladesh Economic Association (April 2010 vol-1, page-460)

New Technological Challenges: The Grameen Bank members must also be prepared to take the technological challenges of the 1990s. Not only must they move into more productive areas to continue increasing their income, they must also be prepared to compete with technological improvements in sectors in which they are presently involved.

The successful operation of the Grameen Bank in Bangladesh has prompted governmental and non-governmental organizations in many less developed countries as well as the United States and Canada to replicate the Grameen model in their own countries.

Findings:

         Benifits

        Problems

The Benefits of Microcredit

The main benefits of microcredit claimed by proponents are:

1. A reduction in vulnerability to adverse circumstances on the part of the poor,

2. An increase in consumption in the same group,

3. A reduction in income-poverty. The supporters of microenterprise clusters further claim that clustering increases the chances of success and prosperity for poor loan recipients.

4. Decreasing the gender inequality

5.Helps in sustainable economic growth & iradicate the curse of poverty

6.Ensuring sanitation facility ,education, medical assistance,housing,etc.

7.Brings infrastructural change to the landless.

8.Providinng collateral exemted loan which is not possible in case of traditional banking

Problems of Microcredit

1.Turning a Profit on the Loan  One of the most fundamental problems with microcredit programs is the difficulty involved in actually turning a profit on the loans. In the first place, borrowers must bear not just the cost of the loan and interest payments. They must invest a significant part of their time in group activities mandated by their programs.

 2. Inability to reach the poorest of the poor A second important drawback to microcredit programs is that they don’t reach the poorest members of the society.

3. Microcredit dependency Another possible failure of microcredit programs lies behind seemingly benign statistics.   Some researchers have proposed the idea that the high repayment rates, repeated borrowing, and low drop-out rates indicate a dependency on microcredit programs rather than an attraction to successful microcredit programs on the part of poor borrowers.

4. Durability of poverty reduction A related problem is the durability of poverty reduction. Infusions of cash in almost any amount are bound to have some effect on the poverty stricken borrowers.

Recommendation

1. Assets should be transferred.

2. Human Capital Should bs globalized.

3. Provide capasity building support that will enable MFIs to achieve sustainability.

5. Improving infrastructure is probably more durable method of poverty alleviation including land reforming ensuring gender equality

6. Micofinance can be a great help to poor people with good mathematics.

7. Strict law should be implement for conducting micro finance activities in the country.

8. Micro finance policy should be reformed and dynamic.

9. Bureaucracy, nepotism should be stopped.

10. Poor people under micfinance activities should be trained properly.

11. Monitoring, auditing, training, guideline, accountability should be impose on every sphere.

12. Govt. intervention is necessary to overcome the provelems.

13. Terms & condition should be flexible in getting loan.

14. All NGOs, non-government financial institution and other concerning authority should contribute to ensure overall progress in microfinance activities for poverty alleviation.

Other References:

1.Khan, Penn F. (2005), “Microfinance and Development”, Masters Thesis, Umeå School and Business

2. Economics (USBE), Sweden , p. 19 Seibel, Hans D. (2005), “Does history matter? The old and new World of Microfinance in Europe and

3. Asia”, An interdisciplinary workshop, Asia Research Institute, Department of Economics and Department of Sociology, National University of Singapore, pp. 1-2

3. Microfinance, Where do we Stand?”, the British Association for the Advancement of Science Meetings, University of Salford, UK , p. 4

4.MicroFinance and Poverty: Mahathir’s Failed Project in Malaysia by Mohammad Ashraf (LAP LAMBERT Academic Publishing)

5. Microfinance or Debt Trap; Case for Yunus’ Grameen Bank in Bangladesh by Mohammad Ashraf (LAP LAMBERT Academic Publishing)

6. Attacking Poverty with Microcredit edited by Salehuddin Ahmed & M.A. Hakim (The University Press Limited)

7. Publication from Bangladesh economic Association (April 2010, vol- 1 & 2)

8. Micro Credit Summit Campaign Report 2002, November, Washington D.C.

9. Microfinance in Bangladesh: Emerging Policy Issues by Marilou Jane (Director, FSD, World Bank)

10. The controversial effects of microfinance on child schooling: A retrospective approach by Leonardo Becchetti Pierluigi Conzo.

11. Microfinance: An Emerging Investment opprtunity by Raimar Dieckmann

12. Microfinance and Poverty Reduction in Uganda: Achievements and Challanges by Okurut Francis Nathan, Banga Margarate and Mukungu Ashie

13. Micro-credit and Poverty Reduction by H. I. Latifee

14. Micro-Finance and Poverty Evidence Using Panel Data from Bangladesh by Shahidur R. Khandker

15. The Role of Microfinance in Asset-Building and Poverty Reduction: The Case of Sinapi Aba Trust of Ghana by Joseph Kimos Adjei, Thankom Arun, Farhad Hossain

16. Political institutions & grassroots development : The political economy of microfinance by Kristen Hudak (Northeastern University)