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Microfinance: how to grow a business from grassroots and grit

Microfinance: how to grow a business from grassroots and grit

Guardian
guardian.co.uk

Inspire and Innovate

Microfinance is not a new idea, but its model, based on small loads made to groups based on trust, is lifting people out of poverty

To an entrepreneur, lending without collateral is banking anathema, even in times of rude economic health. But last year nearly £287m was loaned in the UK on pretty much this basis, based on the innovative notion of trust-based banking.
It's not a new idea. Microfinance — lending small amounts to entrepreneurs too poor to qualify for traditional loans — has been traced back in one form or another as far back as feudal times. What is groundbreaking about its most recent incarnation is a fundamental understanding that people on low incomes are bankable: or, in the words of Dr Muhammad Yunus, that "poor people can, and do, repay loans".

Yunus is largely credited with making microfinance a socially responsible and viable business model, winning a Nobel peace prize in the process. He set up the Grameen Bank in Bangladesh, and since its foundation in 1982, it has issued $6.38bn to 7.4 million borrowers. Yunus says the sustained success of Grameen lies in the fact that "we have made the system easy for borrowers to access, with a no-hassle, no-documents, no-credit-check policy. There is nothing threatening about the Grameen methodology."

Specifically, the Grameen bank uses a system of "solidarity groups — small, informal collections of people who apply together for loans. Each member acts as a co-guarantor of repayment, and supports one another's efforts at economic selfadvancement," explains Yunus. A bank representative who visits businesses on site on a weekly basis generally collects repayments. The Grameen board is made up of elected representatives from borrowers, giving everyone a stake, and savings are also encouraged. Clearly, the system works: according to Yunus, Grameen boasts a 98.3% repayment rate.

So what can the west learn?

While Yunus believes the model can be successfully transferred globally, some observers say cultural differences make a wholesale import of the idea impractical.

"Developed countries have fewer people who don't have access to traditional banking, and with small loans, scale plays a big part in sustainability," says Whitni Thomas, investment manager at Triodos Bank. "Also, while group loans have been tried in the west, they're not the right cultural fit because people here are more individualistic."

In the UK, this has seen microfinance evolve into a fragmented sector. "UK community development finance institutions (CDFIs) adopt a range of different operating structures, products and target groups compared with most microfinance institutions," says Thomas.

"Agencies may focus on different market niches, such as small loans to previously unemployed female entrepreneurs, cultural or creative industry enterprises, business start-ups in deprived areas, or socially driven organisations. While some specialise in microfinance loans, the sector as a whole consists of a range of product offerings to address financial exclusion, and to channel finance to deprived communities."

There are 70 CDFIs in the UK, according to the Community Development Finance Association, which in 2007 helped 15,000 small businesses, generating 33,000 jobs. One such organisation is Fair Finance, in London's East End. Founder Faisel Rahman says the agency, along with most other CDFIs, borrows from the Grameen model in the sense that it has a relationship banking policy that includes everything from straightforward micro-loans, to finance that comes complete with business advice support on everything from paying the loan back to helping set up traditional bank accounts for entrepreneurs. Rahman says although 70% of Fair Finance's loans are to people who have never run a business before, default rates are low at less than 5%.

Given that at the last count, some two million adults in the UK didn't have bank accounts, while eight million couldn't borrow at high street bank rates, microfinance clearly has a relevance here, says Barclays Bank's head of financial inclusion Peter Kelly. Barclays, as well as RBS/Natwest and Citibank, have bought into the evolved version of Yunus' original concept with support at various levels.

This is perhaps where the real innovation of Yunus' Grameen model lies: in proving to the mainstream finance industry that microcredit can be a source of potential growth, and thereby enabling entrepreneurship from the grass roots. As Yunus concludes: "We have to get out of this mindset that the rich will do the business and the poor will [make do with] charity."

Weblinks
Grameen: grameenfoundation.org
Barclays: barclays.co.uk/financialinclusion
Fair Finance: fairfinance.org.uk
Community Development Finance Association: cdfa.org.uk
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