Micro Finance Report

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A

PROJECT REPORT ON

MICRO FINANCE CHALLENGES FACINGFINANCIAL SERVICES

SESSION: - 2008-2010

Deepshikha College of Technical Education

Jaipur

Affiliated To RAJASTHAN TECHNICAL UNIVERSITY

Guided by: -

Dr. Sonal Jain Submitted by:-

INU JAIN

VIJAY CHECHANI

AMIT SAHU

JITENDRA KUMAR

LAV KUMAR

RAJESH KUMAR AGRAWAL

TABLE OF CONTENTS

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Section

no.

Topic Page no.

(1)

(2)

(3)

(4)

(5)

(6)

(7)

(8)

Introduction

Background & Evaluation

Micro Finance

(1) What is micro Finance(2) Concept of Micro Finance

(3) Scope of Micro Finance

(4) Feature of Micro Finance

(5) Principle of Micro Finance

(6) Objective of Micro Finance

(7) Impact of Micro Finance

(8) Challenge of Micro Finance

Institute of Micro Finance

Delivery models of Micro Finance

Micro Finance: Services

Key components of a Strategy for Reducing poverty

Current Scenario :- Micro Finance in India

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7-11

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14

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15-16

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21-22

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(9)

(10)

SWOT Analysis

Finding and Conclusion

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ACKNOWLEDGEMENT

Execution of any project is an uphill task and it cannot be completed without support and

co-operation of others. We take this opportunity to thank those who have helped shape

this Project.

We express our sincere most gratitude to Dr. Sonal Jain for channeling our endeavors

and providing us with shadow footed guidance through thick and thin of this Project.

And finally we reach out to all the respondents who became contributed to this Study with

their time, patience and information.

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Introduction

Microfinance is the provision of financial services (whether loans, deposit accounts,

insurance or otherwise) to poor and low income individuals and households. What

primarily distinguishes microfinance from the traditional provision of financial services,

aside from the small sums of money involved, is the absence of collateral as

security for a loan. Instead money is advanced on the basis of reputation. Since much

of the developing world does not have a formalized system of property rights the poor

are frequently unable to provide collateral, cutting them off from traditional financial

services. This is why microfinance is so important without it the only source of credit

is the local moneylenders who may charge extortionate rates of interest and beat up

clients who do not pay on time.

Microfinance has been hailed as a new age solution to alleviate poverty and bring

economic prosperity to the rural poor. In order to achieve its goals, it should be effectively

able to reach the poor entrepreneurs and give them the required loans to start their own

businesses and provide them with continuous flow of credit to sustain their business.

However, in spite of its commendable success, its aims are far from achieved and there

are many frontiers to conquer and its reach has to be broadened. This article discusses theconcept of microfinance and examines the key principles that govern it and the factors

that hinder the growth prospects of microfinance.

Among the millennium-developed program made by UN in year 2000, the very important

goal was to reduce world poverty to half till 2015. At UN summit it was also said that:

Micro finance is one of the practical development strategies &approaches that should

be implemented & supported to attain the bold ambition of reducing world poverty to

half.

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BACKGROUND AND EVALUATION

NEED FOR MICRO-FINANCE : THE GAP BETWEEN DEMAND AND SUPPLY

Since the 1950s, various governments in India have experimented with a large number of

grant and subsidy based poverty alleviation programmes. Studies show that these

mandatory and dedicated subsidised financial programmes, implemented through banking

institutions, have not been fully successful in meeting their social and economic

objectives:

The common features of these programmes were:

i. Target orientationii. Based on grant/subsidy, and

iii. Credit linkage through commercial banks.

These programmes:-

a. Were often not sustainable

b. Perpetuated the dependent status of the beneficiaries

c. Depended ultimately on government employees for deliveryd. Led to misuse of both credit and subsidy and

e. Were treated at best as poverty alleviation interventions.

Banks too never really looked on them as a profitable and commercial activity.

According to a 1995 World Bank estimate, in most developing countries the formal

financial system reaches only the top 25% of the economically active population - the

bottom 75% have no access to financial services apart from moneylenders -

In India too the formal financial institutions have not been able to reach the poor

households, and particularly women, in the unorganized sector.

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Structural rigidities and overheads lead to high cost of making small loans.

Organizational philosophy has not been oriented towards recognizing the poor as credit

worthy. The problem has been compounded by low level of influence of the poor, either

about their credit worthiness or their demand for savings services. Micro-finance

programmes have often been implemented by large banks at government behest

All this gave rise to the concept of micro-credit for the poorest segment along with a new

set of credit delivery techniques. With the support of NGOs an informal sector comprising

small Self Help Groups (SHGs) started mobilizing savings of their members and lending

these resources among the members on a micro scale. The potential of these SHGs to

develop as local financial intermediaries to reach the poor has gained recognition due to

their community based participatory approach and sustainability - recovery rates have

been significantly higher than those achieved by commercial banks in spite of loans going

to poor, unorganized individuals without security or collateral.

Success stories in neighboring countries, like Grameen Bank in Bangladesh, Bank Rakiat

in Indonesia, Commercial & Industrial Bank in Philippines, etc., gave further boost to the

concept in India in the 1980s.

The Global Summit on Micro Finance held in Washington in Feb 97 set a global target of

covering 100 million poor families with credit by 2005 - it was expected that 25-30

million of these could be in India alone.

The poor in India define the micro-finance market. The Planning Commission estimate of

1993-94 says 36% of the population or 320 million people live below the poverty line -

there would be 140-150 million women alone living below the poverty line. Assuming

that only 30% of the countrys poor women are ready to adopt micro-finance as a method

of poverty alleviation, it is estimated that 40-45 million poorwomen would need credit.

As against this, it is estimated that all agencies in India engaged in the provision of micro-

finance services, would have together covered barely 1 million poor people by the close

of 1998-99.

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The most prominent national level micro-finance apex organization providing micro-

finance services for women in India is the National Credit Fund for Women or the

Rashtriya Mahila Kosh (RMK).

E v a l u a t i o n o f M i c r o f i n a n c e :

Microfinance, loosely defined by Woller and Woodworth (2001) as programs that extend

small loans to poor people for self-employment projects that will generate income, was

first attempted with the creation of the Grameen Bank in Bangladesh in 1983. Since that

time the microfinance movement has gained both momentum and success, with thousands

of MFIs operating in almost every county in the world (Woller and Woodworth 2001).

Following the lead of the Grameen Bank, FINCA International, another MFI, was

developed in Washington DC in 1986. Within ten years of its creation, by 1996, FINCA

had introduced the methodology of microfinance in fourteen countries, serving more than

sixty-five thousand of the poorest families in rural Latin America, Africa, and Asia (Kelly

1996). Today, tens of millions of people have been on the receiving end of microfinance

loans, with billions of dollars of outstanding loans at any given time.

Once primarily cooperatives and non profit organizations, MFIs around the world

are now professionalizing, in hopes of creating sustainable, or even profitable, institutions

to provide banking options for the poor. Commercial funding for MFIs has greatly

increased in recent years, enhancing their ability to provide both financial and non-

financial services to their clientele. Non-financial services, which have become an

integral part of the MFI framework, primarily consist of improved access to, and funding

for, education and healthcare in areas where such resources were previously out of reach.

The quest for commercial funding has also led to increased competition between MFIs,

forcing competing institutions to create innovative products and increase employee

productivity. Various savings plans, some aimed at saving for the education ofborrowers children, have been introduced in a number of programs as one form of

innovation.

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Human resource management firms have been employed by MFIs to monitoenhance

worker productivity. A number of incentive based pay programs have been included in

the framework of MFI employee policy, most offering increased pay and

Stock options in return for increased productivity. According to Godquin (2004) success

is based in these innovative systems of incentives and non-financial services that are

inherent in the MFI framework. Others have attributed the success of MFIs to their

primarily group-based lending models and the use of women as primary borrowers.

Anderson, Locker, and Nugent (2002) credit the success of MFIs partially to their ability

to increase social capital within a region. Anderson et al also make the argument that the

success of MFIs may be more deeply rooted in social factors than economic factors. That

is, pre-existing social linkages and a heightened sense of communal dedication seen in

poor, rural communities, combined with the theology of hard work and determination

engrained in the MFI framework, create an environment conducive to MFI success.

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What is microfinance?

Micro finance is defined a process of providing financial services to both poor and low

income households, which include loans, deposits, insurance and pensions.

Microfinance means providing very poor families with very small loans (microcredit) to

help them engage in productive activities or grow their tiny businesses. Over time,

microfinance has come to include a broader range of services (credit, savings, insurance,

etc.) as it has been recognized that the poor who lack access to traditional formal financial

institutions require a variety of financial products.

A good definition of microfinance is, Microfinance refers to small-scale financial

services for both credits and deposits that are provided to people who farm or fish or herd;

operate small or micro enterprises where goods are produced, recycled, repaired, or

traded; provide services; work for wages or commissions; gain income from renting out

small amounts of land, vehicles, draft animals, or machinery and tools; and to other

individuals and local groups in developing countries, in both rural and urban areas

CONCEPT OF MICRO-FINANCE

Micro-finance, as is being practiced by the National Credit Fund for Women or the

Rashtriya Mahila Kosh (RMK), could be defined as a set of services comprising the

following activities:

a) Micro-

credit:

Small loans; primarily for income generation activities, but also for

consumption and contingency needs.

b) Micro-

savings:

Thrift or small savings from borrowers own resources.

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Scope of Micro

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THE FEATURES OF THE MICROFINANCE ARE:

1. It is a tool for empowerment of the poorest; the higher the income and better the

asset position of the borrower, the lower the incremental benefit from further equaldoses of micro-credit is likely to be.

2. Delivery is normally through Self Help Groups (SHGs).

3. It is essentially for promoting self-employment; the opportunities of wage

employment are limited in developing countries - micro finance increases theproductivity of self-employment in the informal sector of the economy - generally

used for (a) direct income generation (b) rearrangement of assets and liabilities for

the household to participate in future opportunities and (c) consumptionsmoothing.

4. It is not just a financing system, but a tool for social change, specially for women -

it does not spring from market forces alone - it is potentially welfare enhancing -

there is a public interest in promoting the growth of micro finance - this is whatmakes it acceptable as a valid goal for public policy.

5. Because micro credit is aimed at the poorest, micro-finance lending technology

needs to mimic the informal lenders rather than the formal sector lending. It has to: a)provide for seasonality (b) allow repayment flexibility (c) eschew bureaucratic and legal

formalities (d) fix a ceiling on loan sizes.

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THE MAJOR OBJECTIVES OF MICROFINANCE ARE:

Poverty alleviation

Empowerment of women

Financial sustainability

Outreach and impact

PRINCIPLES OF MICROFINANCE:

Poor people need a variety of financial services, not just loans.

Microfinance is a powerful tool to fight poverty.

Microfinance means building financial systems that serve the poor.

Microfinance can pay for itself, and must do so if it is to reach very large

numbers of poor people.

Microfinance is about building permanent local financial institution.

Microfinance is not always the answer.

Interest rate ceilings hurt poor people by making it harder for them to get

credit.

The role of government is to enable financial services, not to provide them

directly.

Donor funds should complement private capital, not compete with it.

The key bottleneck is the shortage of strong institutions and managers.

Microfinance works best when it measures and discloses its performance.

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Impact of Microfinance

Access to microfinance enables poor people to manage riskbetter and takeadvantage of opportunities.

For women, greater control over resources leads to growth in self-esteem, self-confidence, and opportunities

Microfinance services can result in diversification of income sources andenterprise growth.

Microfinance leads to an increase in household income

Challenges of microfinance

Sustainability of the Institutions

Recovery mechanism of Loans

Outreach of these institutions

Performance assessment of these institutions

Services delivery approaches

Hierarchy of credit needs and availability from formal sources:

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Major milestones in access to finance:

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The various institutions delivering microfinance are:

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Banks

Financial Corporations - Specialized entities focusing on specific segments like

SC/ST, Minorities

NBFCs - Commercial MFIs (SKS, Spandana, SHARE, SNF, Basix) - regulated by

the RBI

Societies and Trusts (NGO-MFIs / SHPIs) and Section 25 companies

Mutually Aided Credit Society (MACS) - community owned & managed

operations - popular in Andhra Pradesh

Delivery Models for Microfinance:

Self Help Groups

Home grown co-operative like

Savings based / savings led

Meeting diverse needs

largely promoted by NABARD-Public Sector Banks-Self Help Promoting

Institutions (NGOs)

Performance - mixed

Grameen (Joint Liability Group)

Regimented

Loan based

Focused on enterprise

Pace of growth might be a cause for concern

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Microfinance: Services

Microfinance is much broader than just micro credit - it includes other financial services

Savings

Remittances

Risk mitigation products

Financial counseling

Lifecycle planning products

These are specialized activities, it is not easy to offer them to the poor in a cost effective

manner.

What is a microfinance institution (MFI)?

A microfinance institution is an organization that offers financial services to low-income

populations. Almost all of these offer microcredit and only take back small amounts of

savings from their own borrowers, not from the general public. Within the microfinance

industry, the term microfinance institution has come to refer to a wide range of

organizations dedicated to providing these services: NGOs, credit unions, cooperatives,

private commercial banks and non-bank financial institutions (some that have transformed

from NGOs into regulated institutions) and parts of state-owned banks, for example.

What is the difference between microfinance and microcredit?

Micro credit is a small amount of money loaned to a client by a bank or other institution.

Microfinance refers to loans, savings, insurance, transfer services, micro credit loans and

other financial products targeted at low-income clients. Micro credit has been changing

the lives of people and revitalizing communities worldwide since the beginning of time.

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Who are the clients of microfinance?

The clients of microfinance are generally poor and low-income people. They may

be female heads of households, pensioners, artisans or small farmers.

How do financial services help poor and low-income people?

Anyone who has access to savings, credit, insurance and other financial services is

more resilient and better able to deal with everyday demands. Microfinance helps

poor and low-income clients deal with their basic needs. For example, with access

to micro insurance, poor people can cope with sudden expenses associated with

serious illness or loss of assets. Merely having access to formal savings accounts

has also proved to be an incentive to save. Clients who join and stay in

microfinance programs have better economic conditions than non-clients.

What is an inclusive financial sector?

An inclusive financial sector allows poor and low-income people to access credit,

insurance, remittances and savings products. In many countries, the financial sectors do

not provide these services to lower income people. An inclusive financial sector will

support the full participation of the lower income levels of the population.

How can poor people afford such high interest rates?Micro credit interest rates are set to provide viable, long-term financial services on a large

scale, while subsidized interest rates generally benefit only a small number of borrowers

for a short period. Studies conducted in India, Kenya and the Philippines found that the

average annual return on investments by micro-businesses ranged from 117 to 847 per

cent. These high returns are commonplace among micro entrepreneurs, and while the

interest rates seem high, they usually represent only a small portion of micro

entrepreneurs total returns. Interest rates charged by informal moneylenders are

overwhelmingly higher than those of MFIs.

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HOW SHOULD WE MEASURE POVERTY?

On the basis of income per capita, in most countries

between a third and half of people are below the

poverty line.

However, broader definitions may encompass factors

such as illiteracy, malnutrition, health, access to water

supply and sanitation, economic vulnerability and

political freedom.

A human poverty index incorporating such

considerations shows Philippines, shri lanka, and viet

nam performing much better than their income figures.

Do poor people save?

Poor people save all the time, although mostly in informal

ways. They invest in assets such as jewelry, domestic animals,

building materials and things that can be easily exchanged for

cash. Access to secure, formal savings services provides a

cushion when families need more money for seasonal expenses

and in difficult times. Secure savings accounts allow people toguard against unexpected expenses associated with illnesses,

build assets, prepare for old age or pay for school fees,

marriages and births.

KEY COMPONENTS OF A STRATEGY FOR

REDUCING POVERTY

A policy regime for reducing poverty would promote:

Inclusive economic growth

Investments in human capital and infrastructure

Good governance and civil society participation

Effective social safety nets and targeted redistribution.

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Microfinance could make its most effective contribution in

such a policy environment.

Why is microfinance so important for women?

In a world where most poor people are women, studies have

shown that access to financial services has improved the status

of women within the family and the community. Women have

become more assertive and confident. Furthermore, as a result

of microfinance, women own assets, including land and

housing, play a stronger role in decision-making, and take on

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leadership roles in their communities.

Microfinance InduWomen

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Microfinance: Banking for the poor, not poor

banking

Linking self-help groups with banks is easily the largest and

fastest growing microfinance programme in terms of its

outreach and sustainability.

Self Help Group (SHG) Bank linkage programme is the

largest microfinance

programme in India in terms of outreach. It is based on linking

of informal

groups of poor with banks for credit and savings.

The Indian microfinance sector reflects many of the KEY SUCESS and

remaining challenges common round the globe.

A wide range of financial institutions offer a variety of

financial services to the poor.

The diversity of settings and the different levels of

political, social and economic development necessitate

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this variety of institutional types adapted to the local

context.

Liberalized interest rates are necessary to

allow/encourage banks and MFIs to serve their low-

income customers on a sustainable basis because of the

high volume of low value transactions involved. But

India's prowess in information technology should allow

it to lead the world in the development of e-banking

solutions for the poor.

The unparalleled banking infrastructure in India offers

a significant opportunity to accelerate, deepen and

improve the quality of access to financial services for

the poor, and to develop an inclusive, sustainablefinancial system.

There is a growing recognition that lack of human

capacity remains one of the key barriers to developing

full-fledged inclusive, sustainable financial system.

With the infrastructure already available in India, we have the

perfect springboard for creating an inclusive, competitive and

vibrant financial system that offers high quality, client-

responsive products and services to all sectors of society on a

commercial basis. The logic of commercialization is simple

"banking for the poor cannot be poor banking".

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How effective is microfinance?

The best examples of microfinance in the countries with the

most advantageous circumstances have demonstrated

profitability after many years of experimentation and

development. These best-case examples represent about 150

microfinance institutions of the more than 10,000 operating

worldwide. Together they serve approximately 40-50 million

clients, of the estimated 500

million to 1 billion poor people who could benefit from

microfinance services.

It is now recognized that microfinance can:

Help the poor to smooth their consumption spending,

manage financial risk, earn more and build assets

women Empower women, in particular

Build more integrated (that is, more inclusive)financial

systems.

Current Scenario: Microfinance in India

A vibrant and developed micro-finance sector can significantly

impact economic development and distribution of wealth.

MICRO-FINANCE is the new fad in the Indian financial

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system. It is growing rapidly and getting a lot of attention from

financial institutions, non-governmental organizations (NGOs)

and the Government, as an instrument that can transform the

lives of the poor.

Micro-finance took root in 1992-93 with the launch of the Self

Help Group (SHG)-bank linkage program by the National

Bank for Agriculture and Rural Development (Nabard). Under

the program, which has now run for over a decade, groups of

poor people mostly women have been formed and linked

to banks for credit.

Nabard has been proactive in this linking process and up to

March 2005 over 16.18 lakh such groups had been linked to

banks. This translated to an estimated 24.25 million poor

families being brought within the fold of formal banking

services. The cumulative bank loan disbursed since the

inception of the program stood at Rs 6,898.46 crore up to

March 2005.

The demand for micro-finance is enormous. According to the

Tenth Plan document, in 1999-2000, 26.10 per cent of the

population was living below the poverty line. Of the 260

million poor, 193 million were in the rural areas and the

remaining 67 million in the urban areas.

In terms of micro-finance, the number of people living below

or just above an austerely defined poverty line has been

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estimated at around 400 million. Translated into number of

families, it comprises approximately 80 million households.

The financial needs of this vast population, even at a

conservative estimate of Rs 6,000 and Rs 4,500 per urban and

rural family respectively per annum, add to about Rs 40,000

crore. This sum has considerable significance for the financial

system.

On the supply side, the banking sector comprising commercial

banks, cooperative banks and regional rural banks (RRBs)

caters primarily to the demand mentioned above. According to

Nabard, by end of March, 35,294 branches of 560 banks were

involved in extending credit to SHGs. These comprised 48

commercial banks, 316 cooperative banks and 196 RRBs.

During 2004-05, these banks had disbursed Rs 2,994 crore to

5.39 lakh SHGs. Compared to the demand, this amount is

indeed miniscule.

Microfinance InGrowth

0

40

80

120

1997 1999 2001 2003 2005

Total clients Poorest clients

Total Clients Reached:

SWOT Analysis

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Strengths

Flexible lending models with individual lending option

Weaknesses

Lack of industry experience

Operation in few cities with limited distribution

network

Opportunities

Growth potential for individual lending model among

urban poor which is currently just 7 % of market size

Urban markets are untapped with little awareness of

microfinance among urban poor

Lack of flexible lending models from the competitors

The urban population is expected to increase to 50% of

the total population by 2030

Risks

Transient nature/migration of the urban poor

population.

Emergence of retail chains which compete with

roadside vendors

Less homogeneity of culture in urban communitieswhich makes self help group formation difficult

Higher default rate in individual lending

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Roadside selling by vendors considered illegitimate by

district authorities(Municipal corporation)

ConclusionThe Indian economy at present is at a crucial juncture, on one

hand, the

Optimists are talking of India being among the top 5

economies of the world by

205047 and on the other is the presence of 260 million poor

forming 26 % of the

total population. The enormity of the task can be gauged from

the above

numbers and if India is to stand among the comity of

developed nations, there

is no denying the fact that poverty alleviation & reduction of

income inequalities

has to be the top most priority. Indias achievement of the

MDG of halving the

population of poor by 2015 as well as achieving a broad based

economic growth

also hinges on a successful poverty alleviation strategy.

In this backdrop, the impressive gains made by SHG-Bank

linkage programme

in coverage of rural population with financial services offers a

ray of hope. The

paper argues for mainstreaming of impact assessment and

incorporation of

local factors in service delivery to maximize impact of SHG

Bank linkage

programme on achievement of MDGs and not letting go this

opportunity.

Micro Finance Report

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