OVC Support Toolkit  >  Economic strengthening  >  Economic Responses 

Financial Services for the Very Poor

This section looks at the provision of financial services to the very poor. Another section looks in general at different economic responses to benefit orphans and other vulnerable children. Other sections look in detail at skills and vocational training , agriculture and specific examples of projects.

The key points about providing financial services for the very poor are:

1. Experience has shown that financial services can be of immense benefit to poor people. These services can be run effectively and sustainably. Poor people are able to run small, informal businesses and to repay loans with interest.

2. A wide range of terms are used to describe these services. One of the commonest is 'microfinance'. Although this is often seen as mainly the provision of small loans ('microcredit'), it also includes activities which promote saving.

3. Providing financial services to the very poor requires special skills. It also requires a business-like approach. For these reasons, AIDS NGOs are often not able to run these services effectively. Partnerships with specialist microfinance institutions are more likely to be effective.

4. There are several questions which may need to be asked before starting to offer microfinance services. Checklists can be useful for this purpose.

Features of Financial Services for the Very Poor

Many poor people are engaged in activities to generate household income. These are in effect small businesses. They are usually highly informal in nature. They are sometimes called 'microenterprises' or 'income-generating activities'. Financial services for the very poor aim to strengthen these activities. This is in turn intended to improve their standard of living and to enable them to withstand financial shocks.

Experience of providing these financial services comes from many countries, including Bangladesh and Bolivia. These financial services include promotion of savings and provision of small loans. They are delivered near to where poor people live. This makes them accessible. They often benefit women in particular. They are usually run by specialist organisations. These bring together experience from NGOs and commercial banking. They are called 'microfinance institutions' or 'MFIs'.

One of the key activities of MFIs has been the provision of small loans to poor people ('microcredit'). MFIs charge interest on these loans. Interest rates are often higher than market rates. MFIs require 'security' on such loans. However, the types of security they will accept are quite varied. These include physical property, such as goats and chickens and monies saved. Security may also be provided by a group for loans to individual members. MFIs focus very strongly on ensuring high rates of loan repayment. They have incentives to ensure loans are repaid in full and on time. They have penalties for late payment.

Defining Terms

It is sometimes confusing reading documents about financial services for the very poor because of the number of different terms used. The most commonly used term is 'microfinance'. This has been defined as 'financial services for the very poor over the long-term through the establishment of self-sustaining indigenous institutions'. Other terms include:

• Microenterprise Development - This includes microfinance and activities to support business development. This includes training in running a business and establishing market linkages.
• Microenterprises - These are small, informal businesses. They may be operated by an individual or a group. They are also sometimes called income-generating activities.
• Income-generating activities - In the broadest sense, these are the same as microenterprises. However, amongst NGOs the term is widely used for activities which are aimed to increase the income of the organisation's target group. These activities may be run by individuals or, more commonly, by groups. Such group-based income-generating activities are rarely successful. Reasons include failure to clearly define objectives, lack of business skills, lack of market research, insufficient client base and problems of running income-generating activities as a group. Also, these activities are often targeted at people who are experiencing a financial crisis. This is an inappropriate approach.
• Microfinance - This has been defined above. These financial services have two main elements. These are savings and provision of small loans. Savings may be voluntary or compulsory. Compulsory saving means that people have to save a fixed amount per month to be part of a scheme. Some microfinance institutions also offer insurance services. These may provide money to clients in case of death or illness. They may also repay a loan if a person fails to pay the loan back.
• Microcredit - This is the credit element of microfinance only, that is, it does not include savings. Some documents refer to this element alone as microfinance. Level of loans vary from $50 to $50 000.
• Rotating Savings and Credit Associations - These are community groups which encourage group members to save regularly. Funds generated through saving may then be loaned to individual members. NGOs often encourage the formation of these groups. Although they make credit available within the group, this does not involve taking loans from microcredit associations.

Principles

Experience of providing financial services to the very poor has resulted in a number of key principles being identified. These are:

• Microfinance is not a universal solution in all settings.
• Microfinance will only work in areas where there is sufficient cash-based, market activity. This means that it may not work in some areas, where people live on what they grow and buy very little.
• Successful microfinance institutions run on business principles. They do not mix grants and loans. They expect loans to be repaid. Most NGOs focused on AIDS are not good at doing this work. However, they can be involved through partnerships with microfinance institutions.
• Microfinance requires a large client base. This means that it will rarely work if it is limited to the clients of a particular NGO, for example, people living with HIV/AIDS. It is better to offer these services to all people in a community. In areas with a high prevalence of HIV, this will mean that people with HIV are involved.
• People who are running microenterprises require basic business skills. For example, they should be able to calculate the price to charge for goods they produce. Training may be required. This is part of microenterprise development.
• Group borrowing for group projects rarely succeeds.
• Lending for production of agricultural crops is very risky. Crops may fail or be eaten rather than sold. Many communities have previous experience which raises expectations that funds supplied for crops are grants that do not need to be repaid.

Checklist

It may be helpful to ask the following questions before starting to offer financial services in an area:

• Is the area's cash economy sufficient to support microcredit?
• Is the area stable? Wars or natural disaster increase the risk of loans not being repaid.
• Does the area have enough physical resources and access to market?
• Can all the things needed for the microenterprise be obtained easily?
• Are there enough clients? (600 has been suggested as a minimum.)
• Does local culture and tradition support this kind of activity, particularly by women?
• Can people who will be clients travel to market and for other reasons as needed?
• Can microfinance staff live there? Could they get to a bank easily? Would they be accepted by the community? Would a man be accepted to work with female clients?
• What else is currently happening for poor people in the area?
• Does the local leadership support the introduction of microfinance activities? Will they support measures to pursue bad debts?
• Are there sufficient community and household 'safety nets'? These are important to help people with loan repayments in case of unforeseen problems.
• Are potential clients able to meet their survival needs? If not, there is a risk of loans being used for these.
• Is sufficient labour available for the planned activities? Will this be the case if the key person is ill?
• Do the clients have sufficient skills to run a small business?
• Are clients clear of the difference between loans and gifts?

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