Microcredit

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This article is specific to small loans. For financial services to the poor see Microfinance. For small payments see Micropayment.

Microcredit is the extension of very small loans (microloans) to the unemployed, to poor entrepreneurs and to others living in poverty. These individuals lack collateral, steady employment and a verifiable credit history and therefore cannot meet even the most minimal qualifications to gain access to traditional credit. Microcredit is a part of microfinance, which is the provision of a wider range of financial services to the very poor.

Microcredit is a financial innovation which originated in Bangladesh^{[citation needed]} where it has successfully enabled extremely impoverished people to engage in self-employment projects that allow them to generate an income and, in many cases, begin to build wealth and exit poverty. Due to the success of microcredit, many in the traditional banking industry have begun to realize that these microcredit borrowers should more correctly be categorized as pre-bankable; thus, microcredit is increasingly gaining credibility in the mainstream finance industry and many traditional large finance organizations are contemplating microcredit projects as a source of future growth, even though almost everyone in larger development organizations discounted the likelihood of success of microcredit when it was begun. The United Nations declared 2005 the International Year of Microcredit.

1 History 2 Principles 3 Strengths 4 Microcredit and the web 5 In the developed world 6 Criticism 7 Role of developing countries - a recent Forbes ranking 8 See also 9 References 10 Bibliography 11 External links

Microcredit has been practiced at various times in modern history; Jonathan Swift inspired the Irish Loan Funds of the 18th and 19th centuries[1], in the mid-1800s abolitionist/legal theorist Lysander Spooner wrote about the benefits of numerous small loans for entrepreneurial activities to the poor as a way to alleviate poverty,[2], and microcredit was included in portions of the Marshall Plan at the end of World War II. However, in its most recent incarnation, with attention paid by economists and politicians worldwide, it can be linked to several organizations starting in Bangladesh in the 1970s and onward.

Microcredit is based on a separate set of principles, which are distinguished from general financing or credit. [3] Microcredit emphasizes building capacity of a micro entrepreneur, [4] employment generation, trust building [5] and help to the micro entrepreneur on initiation and during difficult times. Microcredit is a tool for socioeconomic development ^[1] Sapovadia, Vrajlal K., "Micro Finance: The Pillars of a Tool to Socio-Economic Development" . Development Gateway, 2006

In the past few years, savings-led microfinance has gained recognition as an effective way to bring very poor families low-cost financial services. For example, in India the National Bank for Agriculture and Rural Development (NABARD) finances more than 500 banks that on-lend funds to self-help groups (SHGs). SHGs comprise twenty or fewer members, of whom the majority are women from the poorest castes and tribes. Members save small amounts of money, as little as a few rupees a month in a group fund. Members may borrow from the group fund for a variety of purposes ranging from household emergencies to school fees. As SHGs prove capable of managing their funds well, they may borrow from a local bank to invest in small business or farm activities. Banks typically lend up to four rupees for every rupee in the group fund. Groups generally pay interest rates that range from 12-24% a year, based on the flat calculation method. Nearly 1.4 million SHGs comprising approximately 20 million women now borrow from banks, which makes the Indian SHG-Bank Linkage model the largest microfinance program in the world. Similar programs are evolving in Africa and Southeast Asia with the assistance of organizations like Opportunity International, Catholic Relief Services, CARE, APMAS and Oxfam. Microfinancing also helps in the development of an economy by giving everyday people the chance to establish a sustainable means of income. Eventual increases in disposable income will lead to economic development and growth.

The principles of microcredit have also been applied in attempting to address several non-poverty related issues. Among these, multiple internet-based organizations have developed platforms that facilitate a modified form of Peer-to-peer lending where a loan is not made in the form of a single, direct, loan; but as the aggregation of a number of smaller loans - often at a negligible interest rate.There are several ways by which the general public can participate in alleviating poverty using web platforms.

Lend to micro-entrepreneurs:

Kiva.org, is the first micro-lending Website that enables an individual to lend money to a micro-entrepreneur in the developing world through a microfinance institution. As of November 2008, over 100 field partners have collaborated with Kiva, dramatically extending its scope and reach.

New platforms which connect lenders to micro-entrepreneurs are emerging on the web : Rang De (India)[6], dhanaX (India)and http://www.babyloan.org or http://ww.veecus.com (France).

Invest in microcredit securities:

MicroPlace.com, a wholly-owned subsidiary of eBay, was launched on October 2007. With Microplace, retail investors in the US can buy securities issued by security issuers. Therefore, MicroPlace is tapping into the socially responsible investment world and can attract larger capital to microcredit. Deutsche Bank estimates that $250B [7]is needed to raise enough capital to get it into the hands of the 1 billion working poor who could benefit from microcredit. While the US gave $303B[8] in charity to all causes, they invested $2.4T in socially responsible investments.[9].

Guarantee loans to micro-entrepreneurs:

United Prosperity will enable an individual to guarantee a loan to the micro-entrepreneur they choose to connect and support. The guarantee allows the microfinance institution to raise funds in local currency from local banks and make a loan to micro-entrepreneurs. Since the guarantee is only for a part of the loan amount, the guarantee allows the guarantors to multiply the impact of their money.

Contribute to micro-entrepreneurs:

Wokai( lending to China) allows contributors to contribute towards micro-entrepreneurs they choose to connect and support. Since the contribution is a donation, contributors in the United States may also get a tax-deduction.

Ensure microcredit reaches the poorest families:

The Microcredit Summit Campaign brings together microcredit practitioners, advocates, educational institutions, donor agencies, international financial institutions, non-governmental organizations and others involved with microcredit to promote best practices in the field, to stimulate the interchanging of knowledge, and to work towards reaching the following goals:^[2]

• Working to ensure that 175 million of the world's poorest families, especially the women of those families, are receiving credit for self-employment and other financial and business services by the end of 2015

• Working to ensure that 100 million families rise above the US$1 a day threshold adjusted for purchasing power parity (PPP), between 1990 and 2015.

Microcredit is not only provided in poor countries, but also in one of the world's richest countries, the USA, where 37 million people (12.6%) live below the poverty line. [10] Among other organizations that provide microloans in the US[11][12], Grameen Bank started their operation in New York in April 2008. According to economist Jonathan Morduch of New York University, microloans have less appeal in the US because people think it too difficult to escape poverty through private enterprise.

Efforts to replicate Grameen-style solidarity lending in developed countries have generally not succeeded. For example, the Calmeadow Foundation tested an analogous 'peer lending' model in three locations in Canada: rural Nova Scotia and urban Toronto and Vancouver during the 1990s. It concluded that a variety of factors -- including difficulties in reaching the target market, the high risk profile of clients, their general distaste for the joint liability requirement, and high overhead costs -- made solidarity lending unviable without subsidies. ^[3] However, debates have continued about whether the required subsidies may be justified as an alternative to other subsidies targeted to the entrepreneurial poor, and VanCity Credit Union, which took over Calmeadow's Vancouver operations, continues to use peer lending.

Gina Neff of the Left Business Observer has described the microcredit movement as a privatization of public safety-net programs.^[4] Enthusiasm for microcredit among government officials as an anti-poverty program can motivate cuts in public health, welfare, and education spending.^{[citation needed]} Neff maintains that the success of the microcredit model has been judged disproportionately from a lender's perspective (repayment rates, financial viability) and not from that of the borrowers. For example, the Grameen Bank's high repayment rate does not reflect the number of women who are repeat borrowers, and have become dependent on loans for household expenditures rather than capital investments.^{[citation needed]} Studies of microcredit programs have found that women often act merely as collection agents for their husbands and sons, such that the men spend the money themselves while women are saddled with the credit risk.^[5] As a result, borrowers are kept out of waged work and pushed into the informal economy.^{[citation needed]}

Many studies in recent years have shown that risks like sickness, natural disaster and overindebtedness are a critical dimension of poverty, and that very poor people rely heavily on informal savings to manage these risks (see for example The Microfinance Revolution: Sustainable Finance for the Poor by Marguerite Robinson). It might be expected that microfinance institutions would provide safe, flexible savings services to this population, but -- with notable exceptions like Grameen II -- they have been very slow to do so. Some experts argue that most microcredit institutions are overly dependent on external capital. A study of microcredit institutions in Bolivia in 2003 for example, found that they were very slow to deliver quality microsavings services because of easy access to cheaper forms of external capital.^[6] Global data tables from The Microbanking Bulletin show that savings represent a small source of funds for microcredit institutions in most developing nations.

Bangladesh's Finance and Planning Minister M. Saifur Rahman charges that some microfinance institutions use excessive interest rates.^[7] In recent years there has been increasing attention paid to the problem of interest rate disclosure, as many suppliers of microcredit quote their rates to clients using the flat calculation method, which significantly understates the true Annual Percentage Rate.

There are other related criticisms, in the corresponding section, within the article on microfinance.

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The US business magazine Forbes ranked the world's top 50 microfinance institutions. Seven of the 50 were little-known institutions from India, the most of any country. They included Kolkata-based Bandhan (ranked 2nd), Microcredit Foundation of India (13th) and Saadhana Microfin Society (15th). Those ranked above even Bangladesh-based Grameen Bank, which along with its founder Mohammed Yunus was awarded the Nobel Prize in 2006. Grameen Bank ranked 17th in the list, below another Bangladesh-based institution, ASA.

India and Bangladesh together are home to the most MFIs. Those in other countries included five from Bosnia and Herzegovina, four each from Morocco and Peru, three from Colombia, two from Ecuador, Ethiopia and Serbia, and one each from 15 other countries, including Russia, Pakistan, Mexico and Brazil.

Besides those already mentioned, other Indian MFIs include Grameen Koota (19th), Sharada's Women's Association for Weaker Section (23rd), SKS Microfinance Private Ltd (44th) and Asmitha Microfin Ltd (29th). Grameen Koota and SKS Microfinance use on the same model as Grameen Bank.

Forbes magazine said that "microfinance has become a buzzword of the decade, raising the provocative notion that even philanthropy aimed at alleviating poverty can be profitable to institutional and individual investors." "Billionaires, global leaders and Nobel Prize recipients are hailing these direct loans to uncollateralised would-be entrepreneurs as a way to lift them out of poverty while creating self-sustaining businesses," it noted.

Forbes made the ranking of MRIs by using data available from the Microfinance Information Exchange and the analysis from rating firms Micro-Credit Ratings International Limited and MicroRate. The ranking was based on six key variables: gross loan portfolio, operating expense, operating expense divided by the average number of active borrowers as a proportion of gross national income per capita, outstanding balance of loans overdue by more than 30 days as a proportion of gross loan portfolio, return on assets, and return on equity. "Each microfinance institution earned scores in four equally weighted categories -- scale, efficiency, portfolio risk and profitability. Rankings were then based on the combined average score of those four categories".

• FINCA International, a major US-based, global microfinance institution
• flat rate (finance)
• solidarity lending
• Freedom from Hunger, US charity promoting Credit with Education
• Cooperative banking
• Friends of Women's World Banking, a major Indian apex Microfinance Institution.
• Microcredit Summit Campaign, US non-profit organization, promoting access to microfinance for the poorest

Following is a selected bibliography about microcredit.

• Adams, Dale, Doug Graham and J.D. Von Pischke (eds.) Undermining Rural Development with Cheap Credit. Westview Press, Boulder, Colorado, 1984.
• Drake, Deborah, and Elizabeth Rhyne (eds). The Commercialization of Microfinance: Balancing Business and Development. Kumarian Press, 2002.
• Elizabeth Rhyne. Mainstreaming Microfinance: How Lending to the Poor Began, Grew and Came of Age in Bolivia. Kumarian Press, 2001.
• Fuglesang, Andreas and Dale Chandler. Participation as Process – Process as Growth – What We can Learn from the Grameen Bank. Grameen Trust, Dhaka, 1993.
• Gibbons, David. The Grameen Reader. Grameen Bank, Dhaka, 1992.
• Harper, Malcolm and Shailendra VyakarnamRural Enterprise: Case Studies from Developing Countries, ITDG Publishing, 1988.
• Hulme, David and Paul Mosley. Finance Against Poverty. Routledge, London, 1996.
• Johnson, Susan and Ben Rogaly. Microfinance and Poverty Reduction. Oxfam, Oxford UK, 1997.
• Kadaras, James & Elizabeth Rhyne. Characteristics of equity investment in microfinance, Accion International, 2004.
• Khandker, Shahidur R. Fighting Poverty with Microcredit, Bangladesh edition, The University Press Ltd, Dhaka 1999.
• Ledgerwood, Joanna. Microfinance Handbook. Washington, D.C., World Bank, 1998.
• Rutherford, Stuart. ASA: The Biography of an NGO, Empowerment and Credit in Rural Bangladesh. ASA, Dhaka, 1995.
• Small Enterprise Development, Intermediate Technology Publications, London.
• Todd, Helen Women at the Center: Grameen Borrowers After One Decade, University Press Ltd, Dhaka, 1996.
• Wood Geoff D. & I Sharif (eds.) Who Needs Credit? Poverty and Finance in Bangladesh. University Press Ltd., Dhaka, 1997.
• Yunus, Muhammad. Banker to the Poor: Micro-Lending and the Battle Against World Poverty. Public Affairs, 2003.

• Building a Microfinance Institution from Scratch Institution's objective is to offer financial services on a self-sustaining yet efficient basis to microentrepreneurs.
• Journal of Microfinance, a forum for practitioners in microfinance and microenterprise development to exchange information and ideas
• Omidyar-Tufts Microfinance Fund, a partnership between Pierre Omidyar and Tufts University.
• "Microfinance in the U.S." Helping ensure egalitarian access to needed financial services.
• The Promise of Microfinance for Poverty Relief in the Developing World
• Innovative BRAC Microcredit Securitization Honored in Bangladesh
• Alleviation and poverty and enpowerment of the poor, BRAC Bangladesh
• The European Union Project “Credit Cooperatives - Russian Federation” official web site