Hans Kramer
Apr 20, 2017 · 4 min read

Why microfinance will not end poverty

Microfinance is often seen as the answer to poverty. Koen The, CFO of social crowdfunding website Lendahand.com, doesn’t believe it is. “I’ve felt slightly critical towards microfinance. Muhammad Yunus was awarded the Nobel prize for putting microfinance on the map and then the Dutch Princess Maxima became a sympathetic face of microcredit. Now, I love the idea of a world without poverty, but I see several stumbling blocks on the way forward. Microfinance, in my opinion, could never meet the high expectations, and the exponentially growing volumes of microfinance were not entirely justified, if you’d ask me.”

The challenges in microfinance
Koen The explains: “The average loan amount in microfinance is a few hundred euros. Typically the micro-entrepreneur uses the loan to buy a cow and sell the milk. Before the loan is issued, the microfinance institution (MFI) has to do a credit analysis on the micro-entrepreneur. But how do you do that if there is no reliable information? Furthermore there is the fact that microfinance is usually granted with short maturities with repayments on a weekly and sometimes even daily basis. Considering all this, the issuing and maintaining of such small loans is very expensive. Operating costs are high for MFIs. And because the various MFIs often do not communicate with each other about all these small borrowers, it is easy for people to obtain loans from several MFIs. In some countries this has led to (too) large debts for small business owners. One debt was taken to repay another.”

Of course there are examples of successful micro-entrepreneurs. But they too do not fully benefit from the microcredit. “With the average ammount lent, most of them can’t grow into a company that hires other people and creates more social impact. Only 5% of micro-businesses do. The potential is limited, because MFIs don’t provide larger loans (eg for purchasing equipment). The terms are too short (often up to 12 months) and repayment schedules too strict, so there can not be properly invested in growth.”

Not everyone is an entrepreneur
The biggest problem I have with microfinance as a solution to poverty is the assumption that everyone is an entrepreneur,” said Koen The. “Unfortunately you can’t give money to anyone and think that they can run a productive business with which they can provide themselves, and may be even some of the people around them. Most people need a job and stability, not money to build a business.”

A better solution: SME finance
I believe in investing in strong SMEs with growth potential. The founder(s) of such businesses often have shown to be successful entrepreneurs. By borrowing capital, they can grow harder and create jobs, often for lower-educated people. Financing SMEs can be done at far lower operating costs than microfinance and had much better scalability, but several years of experience in the field have also made me aware of the limitations of this model. To really get out of the downward spiral of poverty, people do not only need a job, but also access to basic needs, such as energy, water, healthcare and education. Through our platform Lendahand.com you can now contribute to both SME financing and access to basic needs while earning a healthy financial return (up to 6%).

Microfinance is not the solution, but certainly part of it
“So we use our online platform to combat poverty on multiple fronts. The fun and interesting thing is that microfinance can still be a part of the solution, creating better access to affordable financial services. For many people in the world it is not possible to borrow, save, build a pension and getting insurances. Those are products and services for one to get a little more secure future. This is also called financial inclusion.”

Since we started Lendahand.com a few years ago Lendahand, the expectations with respect to microfinance have become more realistic. It no longer has to redeem the promise that poverty will disappear. Furthermore, there have been some interesting financial and technological developments. We are increasingly able to correctly estimate the credit worthiness of a person, using mobile apps and data or even to determine someones identity. Also, (mobile) payments have become much more efficient in emerging countries. And then there is block chain technology, which will offer interesting opportunities. We’ll surely keep an eye on the developments!

Hans Kramer

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