The Current State of Microfinance (and Why it Needs an Overhaul)

The following post is part of the course work for “Live Exchange” the foundational course on communication for The MBA Design Strategy Program at California College of the Arts. The rest of the posts are presented here.

By Brian Schmierer

Microfinance has a long history of helping the bottom of the economic pyramid to build assets and achieve a standard of living the rest of the world takes for granted.  Microfinance Institutions (MFIs) act as banks which provide formal financial products and services for economically-productive low-income entrepreneurs, consumers and producers.  They exist in many forms such as savings clubs, rotating savings and credit associations, and mutual insurance societies.

Until 2008, MFIs had enjoyed a positive glow from both the media and other financial institutions, seeming to be an uncorrelated sector that delivered on their lofty promises of poverty alleviation, high repayment rates and unlimited lending opportunity.  Loan portfolio growth that exceeded management’s capacity to manage, client overindebtedness in certain saturated markets and the lagging effect of the global economic collapse, all contributed to the weakening of the microfinance sector in the last several years.  The early funding model in MFIs, in contrast to the commercial banking sector, was comprised of donations and other forms of subsidized capital.  In the effort to scale and transform into a commercially sustainable industry, MFIs have hit a significant stumbling block.

There are three main silos within the MFI landscape. The first includes the public institutions such as DFI (Department of Financial Institutions) that oversee the private equities and debt. The second silo is the MFIs themselves, the micro banks lending in small amounts to be repaid over a set duration and loan structure. The third silo encompasses the private sector. This segment consists of two main categories. The first is the actual investors, pouring large and small amounts of money into the MFIs.  The second category is the lending beneficiaries, the low-income countries, providing jobs and income to the most in need.

The current conversation, or rather lack thereof, remains the biggest hurdle the MFIs face.  The dialog among stakeholders on all levels has to be re-calibrated and aligned to relay the same message.  The three main silos all have differing objectives and motivations within the current landscape.  The disconnect was exacerbated in the last few years during the financial crisis and ensuing meltdown.

Currently the entire microfinance industry is suffering from several negative conditions. The first big setback is the atmosphere of the entire financial sector worldwide.  The second major setback can be attributed to expectations on the microfinance industry as a whole, regarding its failure to emancipate women, create millions of entrepreneurs, and pull impoverished countries into the developed world.  The third condition is the divergence of interest and motivations surrounding this sector of the financial world.

Personally, I feel the future of leading will grow into more of a peer-to-peer model.  Both in the micro/impact world, as well as the modernized first world, the current state of lending and investing needs a overhaul. The current financial environment is far too volatile for sustainability and growth with its existing structure.

David Roodman, a microfinance expert at the Center for Global Development, sums it up well: “Suppose microfinance is not having much average impact on poverty, but is giving millions of people a modicum of greater control over their lives.... is that so bad?”

Additional resources: 

What and Where is Microfinance? Between a Rock and Hard Place India's Looming Microcredit Crisis    Microcapital   Center for Global Development