A microfinance company is a financial institution that caters for the banking needs of low-income groups or individuals. Since the financial crisis, the demand for such a service has risen exponentially, with mainstream banks less willing to loan money than before.
While the concept was developed by Bangladeshi economist Professor Muhammad Yunus and his Grameen Bank for villagers, the practice was really brought into the public consciousness in the 2010 Simpsons episode ‘Loan-a-Lisa’, which saw Lisa Simpson lend school bully Nelson Muntz money to set up a bike shop. Yunus actually provided a voice for the episode.
Growth in the industry has been particularly strong in developing countries, such as India. Many of the country’s regions lack access to mainstream banking, and the practice has been embraced and promoted by the Reserve Bank of India as a means to help lift people out of poverty. The micro finance industry in India expects to see 40% growth in the gross loan portfolio in 2014-15, driven largely by an increase in credit flow from commercial banks to the sector for on-lending. The industry body Microfinance Institutions Network, meanwhile, revealed that as of September 30 last year, MFIs provided loans to over 27.9 million clients, up 23% on the second quarter of 2013/14.
The success has been seen across the developing world, with MFIs in Mexico among those to have brought in fortunes from small loans. The industry has also won praise from the Clintons and a number of other high profile figures for the impact it has had.
There is an increasing level of scepticism as to whether microfinance actually provides the sort of benefits it promises though. The weight of evidence suggests that there are limited, if any, ways in which it helps poverty, with a review funded by the UK government concluding in 2011 that "enthusiasm [for microcredit] is built on … foundations of sand".
The way micro financing works means that capital providers, such as governments, often use “intermediaries” to get the loans to people. Problems arise when these intermediaries decide to charge whatever interest rate to the poor they want, in unregulated markets, with limited client protection.
There are a number of ethical issues. While providing the poor with funds with which they may be able to escape the cycle of poverty, it also overburdens the most vulnerable with debt - debt they often cannot pay back. There have also been numerous reports of profiteering in the sector, as the idea is leapt on by the more unscrupulous, with Harvard economist David Korten noting in his foreword to Hugh Sinclair’s book, Confessions of a Microfinance Heretic, that ‘many micro credit programmes are nothing more than predatory lending schemes rebranded as socially responsible investment opportunities.’
The obvious answer to this is increased regulation. The comparisons with payday lenders in the UK are there to be seen, both charging extortionate interest rates and aggressive debt collection methods. However, whereas payday lenders have now been regulated by the UK government, micro financiers across the world still operate with a distinct lack of transparency, largely unfettered by any of the rules that apply to most lenders.