Group 8

Credit,
Microfinance and
Empowerment

Mohit Kumar 18/156

Rahul S More 18/257
Munisha Aggarwal
18/258
Rahil Bassim 18/259

Table of Contents
1.

Introduction..................................................................................................... 2

2. Credit Market Failures............................................................................................... 2

3. Impact.................................................................................................................. 3
(a) Poverty, Vulnerability and Empowerment...................................................................3
b) Microfinance and Money Lender Interest Rates............................................................4
c) Sustainability versus Outreach..................................................................................4
4. Conclusion............................................................................................................. 5
5. References............................................................................................................. 6

1. Introduction
Microfinance has been described as the provision of financial services to those excluded from the
formal financial system. It is a process that includes financial intermediation such as supplying
credit, savings and insurance products with a goal towards social intermediation such as reducing
poverty and enabling empowerment.
Microfinance is and economic Development approach that involves providing financial services
through institutions to low income details. It is defined a tool against poverty by enabling the
beneficiaries to
Create sustainable activities to increase their incomes
Reduce external shocks
Improve the living conditions of entrepreneurs and of their families
Empower people and mainly women
Microfinance aims to mitigate credit market failures. The premise is that by using innovative new
contracts, micro lenders can both make profits and serve the poor. Innovative features of
Microcredit includes
Group Lending
Progressive lending
Flexibility in the type of collateral
Focusing on female clients
Emphasis on savings

2. Credit Market Failures

A market failure occurs when a competitive market fails to achieve an efficient allocation of
credit. A case in point is government regulations to hold interest rates on loans below market
clearing levels. Without a market clearing mechanism, savings and credit are misallocated. Many
of these policies were not consistent with helping the poor. The default rates were high, and much
of the benefits of credit subsidies accrued to the wealthier farmers.
Markets usually operate inefficiently when there are externalities. Three features of rural credit
markets are:
Collateral that could be seized if the borrower defaults is typically scarce in rural areas
Lack of literacy, and weak communications tend to make formal bank arrangements
costly for many individuals.
Agriculture on which large segments of the rural population still depend for their
livelihood is prone to weather shocks, and volatility of market prices that affect whole
region which will in turn lead to large scale defaults
Traditionally banks and Lending institutions do not lend money to low income individuals of
rural areas. Main reasons being:

High Transaction Cost

Lack collateral or guarantors
Gap in the communication /Lack of confidence of Banks
Doubt of the bank of the repayment capacity
2

Lack of access to financial infrastructure and services in remote areas

3. Impact
(a) Poverty, Vulnerability and Empowerment
In studying poverty, the author of the paper talks about researches done in different parts of
the country using different tools. Some main points are: microcredit improves household
welfare such as consumption and income, second, for sustainability purposes, more loans go
to non-poor in rural areas as a result of which wealthier villagers benefit more, and third, in
paper presented by Ms. Dallas Pellegrina suggests that bank loans are more effective in long
term.
There is vulnerability in terms of health shocks, interest rates charged by local money
lenders, commercialization of microfinance etc. In terms of health, it is seen that those who
borrow microcredit are better able to cope with health shocks.
Women empowerment: There are 2 questions that need to be answered: 1. Does Access to
microcredit enhance womens role in intra-household decision making? In a research done in
Bangladesh (2008), access to credit may not improve womans role as she has limited skills
for autonomous productive activities. Q2. Does more cash in their hand alter allocation of
goods and services within households? Fortunately, the answer to this is question is yes,
women spend more in welfare-improving health-related activities.
An important tool for studying microfinance in India is Self-Help Groups. The below
diagram summarizes their working.

In addition the government supports this initiative in their policies like in planning
Swarnjayanti-Gram-Swarojgar-Yojna and Jan-Dhan-Yojna
b) Microfinance and Money Lender Interest Rates
The response of interest rates in the informal sector to expansion of formal credit depends on
two factors i.e market structure in the informal sector as well as frequency of repayment. In a
monopolistically competitive market with free market and lender acting as imperfect
substitute for another a subsidy in the formal credit market may cause interest rates to rise in
the informal sector because the induced new entry drives up the marginal enforcement cost of
lending. If demand for loan increases and if they are inadequate or repayment schedule is too
frequent, borrowers will turn to local moneylenders pushing up their interest rates. Presence of
moneylenders can be beneficial, if increasing competition between formal and informal lenders
increases borrowers access to funds at competitive interest rates.

c) Sustainability versus Outreach

Large-scale outreach to the poor on a long term basis cannot be guaranteed if MFIs are not
financially sustainable. In line with this concern, donors, policy makers, and other financers
of microfinance have shifted from subsidising MFIs towards financial sustainability and
efficiency of these institutions. It is due to various factors like commercialisation of
microfinance, financial liberalisation and regulation measure of government.

Financial Sustainability raises serious concerns about dilution of out-reach of micro-finance..

Moreover, MFIs that provide individual loans increasingly focus on wealthier clients-often
referred to as mission drift. So we should shift to importance of institutional design.
There is also strong evidence that outreach is negatively related to efficiency of MFIs.
Specifically, MFIs with lower loan balance are less efficient. Besides, MFIs that have more
women borrowers are less efficient. Supervision also has a negative effect on outreach, as
supervision is positively associated with the average loan balance, while it is negatively
associated with percentage of women borrowers.

4. Conclusion
The Micro Finance Instituions are a way for government to achieve important goal of
Finacial Inclusion and provide for credit support and last mile services to large part of
populaton that isnt served by traditional banking system. The MFIs have performed well on
the FGT(Fosster-Greer-Thorbecke) poverty indices which emplasizes more on the
volume/scale of activities than on performance/quality which the traditional banking system
focusses on.
MFI are successful in providing for causion against health shocks and natural disaster
and help people come out of tradegy, however on part of empowering the women by giving
them access over credit hasnt proved to be successful. Instead cooperation and jointness in
decision making could serve better with regards to empowering women. Few things that
needs to taken care of is the effectiveness of provisions like group lending which originally
introduced to reduce trasaction costs and improve repayment rate hasnt met its objective and
inastead increased peer pressure, business risks and free-riding among group members.
5

The Self-Help Group model has proved to be more effective in servicing the poor
because of lower interest rates and low risk, MFI should therefore understand that providing
loans at extremely high interest rate of about 28% will not help poor come out of there
subsistence level. Hence they should aim at incorporating things which would help them
address this problem and using technology to improve effciency and reduce trasaction costs
might be one of the ways to do that.
Finally MFI should find a proper balance between commercialisation and social goals,
because going after profits like banks would result in the mission drift for MFI which is not
desirable. Regulation on part of government might serve well in protecting the poor from
coercive tactics of loan recovery as well as facilitate a conducive environment for growth and
inclusion and institutionalise this sector. Moreover, as the institutional sector dealing in
micro-credit expands, it reduces the need of the poor to approach the informal sector for
credit. A combination of micro-lending by larger and more efficient MFIs and direct lending
to the poor by banks could help to cover the vast majority of the financial needs of low
income groups in India and help India achieve the goal of financial inclusion.

5. References
1. Credit, Microfinance and Empowerment, Raghav Gaiha, University of Delhi & Vani S.
Kulkarni, Yale University
2. At the Crossroads, Microfinance in India, Rajesh Chakrabarti And Shamika Ravi
3. Competitive micro-credit market in India- Development Policy division planning
commission New Delhi
4. https://www.youtube.com/watch?v=J4wxo5IHpT0
5. The Indian Microfinance Experience Accomplishments and Challenges* -- Rajesh
Chakrabarti