In most Western or developed countries, it’s relatively easy to obtain credit through large banks or money lending institutions.
But in the developing world, where many people lack steady employment, credit history or collateral, there’s often no way for legitimate small businesses to receive a loan. In many ways, microfinance changed all of this.
Generally defined as small lending to the rural poor in developing countries, microfinance has made great strides in the latter half of the 20th century.
The 2006 Nobel Prize awarded to Dr. Muhammad Yunus, one of the founders of modern microfinance, has helped to push the industry even further into the spotlight. But the idea of microfinance has existed for hundreds of years — in many regions and in many forms.
The Origins of Small Lending Microlending often starts in small villages, where family members and friends get together in money-sharing groups. Mary Coyle, director of the International Institute at St. Francis Xavier University in Nova Scotia, Canada, has studied the history of microcredit and says that these savings clubs can be traced to all parts of the world.
“They have operated for centuries — probably since the introduction of currency.” From region to region, these clubs developed their own names. In West Africa, they were known as “tontines;” in Bolivia, “pasanaku;” and across Mexico and Central America, “tandas.”
Tanda means “shift” in Spanish and works on the premise that members of the group contribute to a pool of money, which shifts to a single member that has the most need. The tontines of West Africa can be traced back to 17th-century Europe and are named for the Italian banker Lorenzo de Tonti.
An early version of microlending was the Irish Loan Fund system, introduced in the early 1700s, by writer and nationalist Jonathan Swift. Swift’s early success helped the Irish when many were living in impoverished conditions.
Swift’s original system was standardized in 1837, when hundreds of independent loan funds were brought under the control of the Loan Fund Board. By law, no loan could be more than £10 or run for longer than a 20-week term, with weekly repayments.
As with many contemporary microcredit institutions, interest rates were low – in this case around 8 percent per year – much lower than those charged by local profiteers. The Pioneers of Modern-Day Microfinance The concept of microloans took a big leap in the 1960s and 1970s, when groups such as ACCION International, in Venezuela, and Yunus’s Grameen Bank, in Bangladesh, began to institutionalize the process.
By formalizing and expanding the basic concept of sharing programs, these microfinance institutions helped to build capital for small businesses rather than just loaning for basic necessities such as food, water and clothing. Yunus first came across the idea of microcredit while studying the lives of poor entrepreneurs in his native Bangladesh during the famine of 1974.
He began by loaning to groups of women, and his program soon proved that small loans could not only quickly improve lives but were paid back with interest and on time. The next step was setting up a consistent on-the-ground program. In the case of the successful institutions, this meant sending a representative, or “field manager,” to the prospective region to educate and advise and to oversee the loans locally.
After a few members of the group were accepted for a loan, the rest had to wait for that initial loan to be repaid before they could obtain their own loans. “Peer pressure” from other members of the group to repay the initial loan helped to set the bar high.
There’s no doubt that microcredit has reached the poor in many places overlooked by mainstream banking sources. And even when the rate of return is less than 100 percent, as is the case for most if not all microlending institutions, putting capital into the hands of small businesses can have benefits for the future.
“The real outcome will manifest itself in the education and choices that will open up for their children,” says Maria Otero, president of ACCION International. “The power of putting capital in the hands of poor people enables them to create their own wealth and invest in their children.”
This post is credited to: The Evolution of Microfinance, by Bob Krieger at Frontline World