Microfinance describes the provision of banking services to individuals, households and small businesses at the base of the income pyramid. Microfinance also supports global efforts to increase financial inclusion, which studies show can not only spur economic activity, but, also reduce income inequality.
According to the World Bank, there are currently an estimated 2.0 bn working age adults, that is almost half of the total adult population globally, with no access to financial services. Recent research by McKinsey Global Institute (2016) finds that broadening access to financial services, particularly with digital technologies, could increase the GDP of all emerging economies by 6% by 2025 and potentially more in certain countries. This would represent additional economic growth of USD 3.7 bn equivalent to adding an economy the size of Germany and potentially creating up to 95 million new jobs in emerging economies across all sectors of the economy.
With its roots in Bangladesh in the early 1970s, the microfinance sector has grown significantly since its early days. From the narrow provision of microcredit, that is the provision of small loans to low income entrepreneurs, it now encompasses the delivery of savings instruments, mobile payment systems and micro-insurance, that is protecting lowincome people from certain risks such as illness, accidents or natural disasters.
Consultative Group to Assist the Poor (CGAP) 2015 data estimate the size of the microfinance industry at around USD 70 bn and serving over 200 million borrowers. In terms of private sector funding a large proportion of this is directed through financial intermediaries in the form of microfinance investment vehicles (MIVs), which have also grown significantly over recent years. In terms of organisational structure, MIVs invest in microfinance institutions (MFIs) as intermediaries, which are typically in the form of a commercial bank, nonbank, non-governmental organisation (NGO) or cooperative. Meanwhile small, medium-sized enterprise (SMEs) financiers are mostly in the form of a commercial bank or non-bank. Both MFIs and SMEs financing companies, which are captured in MIV portfolios, are generally regulated by their respective country’s central bank, the microfinance regulatory body or a relevant financial regulatory authority.
The type of funders, that is those entities that provide finance to the institutions who then offer financial products to the end-recipient, have also evolved from NGOs and cooperatives to foundations, bilateral and multilateral agencies and more recently by an increasing number of institutional investors.
One challenge for financial inclusion is how to service SMEs since they are often referred to as the “missing middle”. These enterprises are typically too small to be serviced by local banks, given over-proportionate transactions costs and the risk being perceived to be higher than for larger corporates, and too large to be serviced by MFIs.
According to the 2016 Symbiotics Microfinance Survey, institutional investors have remained the prime funding resource for MIVs although capital from the public sector has grown significantly. Industry figures indicate that there exists a significant under-supply of microloans in the marketplace today with 2.0 bn potential micro-borrowers. As a result, there is the prospect of strong growth for the microfinance sector. McKinsey Global Institute (2016) estimates a total credit gap of USD 2.2 tn for micro, small and medium sized enterprises in emerging economies.
One growing issue and opportunity for the microfinance sector is how to support their clients in adapting to the impacts of climate change. As floods, droughts and other disasters become more frequent and intense, MFI clients will be negatively impacted. MFIs thus need to be more aware of potential climate impacts in their geographies. In cooperation with governments and development finance institutions, MFIs have an important role to play in supporting training and financial solutions that help clients adapt to and reduce the risk of climate change (Fenton 2016).
While there have been setbacks to the microfinance sector over recent years, most notably excessive lending and over-indebtedness in India, drawdown events in terms of returns have tended to be relatively short-lived and these have been followed by periods of rapid recovery.