Microfinance and Sustainable Microentrepreneurship Development
Nisha Bharti H.S. Shylendra
Institute of Rural Management
Looking at the growth of poverty and unemployment in developing countries, promotion of micro entrepreneurship and microenterprises is gaining importance in the present context as an important poverty alleviation tool. More than a concept ‘Sustainable micro entrepreneurship’ is a development process, based on small scale and self sustainable activities. One of the major problems identified with the development of sustainable microentrepreneurship is lack of access to credit for the microentrepreneurs. According to an estimate more than 90 percent people in developing countries lack access to financial services i.e. either savings or credit. Specially, for the micro entrepreneur who lacks any asset base for collateral, situation becomes all the more critical.
However, microenterprise usually needs small capital. Still it is difficult for the poor to manage that small amount of capital need. Due to the failure of government and market institutions to provide financial services to the poor, last decade has seen the evolution of microfinance institutions as a boon for the microentrepreneurs. For promoting ‘sustainable microentrepreneurship’ microfinance is seen as an important requirement.
This paper will make an attempt to explore the possibilities of promoting micro entrepreneurship through Microfinance Institutions.
Since independence unemployment and poverty has been
two major challenges before
In several countries micro and small enterprises constitutes a large part of the total work force. Interest in the promotion of microenterprise as an engine of growth (Pisani & Patrick, 2002) and as poverty alleviation tool (Ortiz, 2001) in the developing world is gaining importance. But one needs to understand the difference between anti poverty programme and microenterprise development programme. The objective of microenterprise is to make the poor self sufficient whereas antipoverty programmes are the means to support the poor to fight against poverty. Hence, microenterprise development programmes needs a self sufficient and sustainable approach.
Promotion of microenterprises requires financial capital
as one of the critical resources. Poor are the most disadvantaged in terms of
access to credit through formal sources. Both, market and government failed to
provide access to credit to the poor. Lack of access to the credit has always
been a major hindrance in promoting microenterprises. According to Singh
(2002), “In India, the need for microfinance is higher as the demand for credit
to start micro-enterprises by the poor people could not be met by the
institutional initiatives of rural finance up to large scale. Due to the
failure of percolation theory of social development, poor people are highly
dependent on non institutional sources of credit. Growth of micro-finance in
This paper is an attempt to see the role of microfinance as a tool to promote sustainable microentrepreneurship. Does access to microfinance services help microenterprise in their growth and development? This paper tries to address this questions based on review of literature.
The paper starts with the objective and the rationale for the study. In the next sections it discusses the need of promoting microenterprise and tries to identify the role of microfinance in promoting microenterprise. Paper concludes with identifying the gaps in literature and suggesting some future directions of research followed by a brief conclusion.
2. OBJECTIVE OF THE PAPER
This paper is an attempt to review the available literature on the role of microfinance in promoting microenterprise with the following objectives
3. RATIONALE OF THE STUDY
In several developing countries microenterprises are the major source of employment and livelihoods for the poor. In the last decade microfinance has been important component in microenterprise finance. It was a myth that microenterprise finance is for poor and therefore it cannot be financially viable. In the recent years many microfinance institutions (MFIs) have shown that despite their objective of serving poor they can be financially viable.
In the present context, microfinance is becoming controversial regarding its role in poverty alleviation; there is a need to define the role of microfinance.
4. CONCEPTS OF MICROFINANCE AND MICROENTERPRISE
Dictionary meaning of microenterprise is “very small-scale business, esp. owner-operated with few employees” (Webster's New Millennium™ Dictionary of English, 2003-2005). The term “microenterprise” refers to a very small-scale, informally organized business activity undertaken by poor people. According to Schreiner& Woller “Microenterprises are tiny businesses; most have one employee, the owner” (Schreiner& Woller, 2003).
Microenterprise sector is very diverse in terms of its size, type, market and several other characteristics that it is difficult to define a boundary for microenterprise and define it in proper words. Probably, this is the predominant reason behind lack of official definition for microenterprise. Awasthi (2004) mentioned that it is very unfortunate that there is no official definition available for microenterprise in the country. But he considers the units employing less than six workers under the category of microenterprise.
Schreiner and Leon (2001) defined microenterprise as “Firms owned by the self-employed poor that use microfinance”. These definitions are the simplest definition for Microenterprise. According to Schreiner and Leon (2001) complex definition of microenterprise should have three components i.e. type of activity, investment limits and number of employee. Hence, for the purpose of this paper microenterprise can be defined as an informal activity run by poor with an investment limit of less than 0.1 million and employing less than five workers.
Asian Development bank defines Microfinance as the provision of a broad range of financial services such as deposits, loans, payment services, money transfers, and insurance to poor and low-income households and, their microenterprises (ADB, 2000). Ledgerwood defines microfinance as “The provision of financial services (like savings, credit, insurance and payment services) to low-income clients (the poor), including the self-employed” (Ledgerwood, 1999).
These definitions clearly indicate the relationship between microfinance and microenterprises. Microenterprises by providing income generating activities facilitates good repayment and help microfinance become sustainable. On the other hand microfinance is the specially designed financial service for the microentrepreneurs helping them in running and expanding business. Both the terms are interrelated and mutually benefit each other. Therefore there is a need to explore the relationship between these two.
5. NEED TO PROMOTE MICROENTERPRISE
In many developing countries microenterprise in its various forms are the major sources of livelihood in rural as well as urban areas. It contributes to a large proportion of employment generation in developing as well as developed countries. Microenterprises are considered to be the source of equitable distribution. Otero and Rhyne (1994) stated that “For increasing number of poor people, microenterprise is a source of income and employment where no other alternatives are available. In urban areas, a growing percentage of the working population- sometimes as high as 50 percent- is engaged in microenterprise activity. In rural settings, most families combine microenterprise with the farming and many depend on it as the main source of family income”. Otero and Rhyne, have assumed that the “new world of microenterprise” finance has the potential to do in “finance what the green revolution has done in agriculture: provide access on a massive scale to the poor” (Otero & Rhyne, 1994).
Mentioning the importance of MSEs in
Describing the potential and importance of microenterprise and microfinance Rangarajan stated that “If a serious impact on the economic conditions of the rural poor has to be made, a much larger flow of credit to support a much broader production base is required. It is in this direction the movement has to travel. Self help groups (SHGs) have to graduate into promoting micro enterprises. Though’ micro enterprises are not a panacea for the complex problems and chronic unemployment and poverty in rural and urban areas, yet promotion of micro enterprises is a viable and. Effective strategy for achieving significant gains in income and assets for poor and marginalized people”(Rangarajan, 2005).
This contribution of microenterprise is not uniform
across the world. It depends on several factors within the country i.e.
Internal and external environment and their support to these microenterprises.
Khanka (1990) rightly argued that the role of entrepreneurship in economic
development varies from economy to economy and it depends on several factors
like availability of material resources, industrial climate and responsiveness of
the political system to the entrepreneurial function.
In a study on the role of microfinance, entrepreneurship and sustainability in poverty alleviation in least developed countries (LDCs) Vincent (2004) concluded that microfinance and sustainable micro entrepreneurship in LDC’s have economic benefits and it affect the quality of life for the microentrepreneurs.
Schreiner (2004) has defined support for microenterprise in terms of asset-building. He believes that microenterprise programs attempt to help people to build human, financial, and social capital for the development of very small businesses that will improve people’s well-being. This “asset-development” paradigm highlights the usefulness not only of loans for financial capital and training for human capital but also savings services for financial capital and networks for social capital.
In another study in
Other than economic benefit there are some social benefits of microenterprise and microfinance development. Singh (2002) mentioned that “The social development approach of micro-finance is based on the premise that people should earn money by investing in viable micro-enterprises. They should earn profit from their enterprises. Major share of the profit should be reinvested in enterprises for their growth. The other share of the profit should be spent on social development that is, health, education, housing, sanitation etc. By earning profit from the viable micro-enterprises, people will increase their paying ability for services delivered to them”. And finally this will lead to the development of the overall society.
CGAP (2003) reported that “One of the first things
poor people all over the world do with new income from microenterprise is
invest in their children’s education. Studies show that children of
microfinance clients are more likely to go to school and stay in school longer.
Student drop-out rates are much lower in microfinance-client households”. In an
impact study of a microfinance program in
Grosh and Somolekae (1996) tried to explore the potential of developing industrial sector from microenterprise and stated that “An alternative line of thinking has focused on the informal or microenterprise sector as a possible source of industrialization. Despite the common belief that the informal sector can play such a role, very little effort among scholars has been gone into identifying specific ways through which this may happen.” There is a need for a policy support to help these microenterprises to lead to industrialization.
role of MSEs in the economy of
It has been clearly discussed in the above section that microenterprise can play an important role in various aspects of social and economic development of the society. Increasing income opportunities and finally leading to empowering the poor is the basic objective of the microenterprise. Empowerment of the poor community is the way to development of society.
6. NEED OF MICROFINANCE TO PROMOTE MICROENTERPRISE
This section makes an attempt to understand the various theoretical arguments on the role of microfinance to support microenterprise development. According to Robinson (2002), about 90 percent of the people in developing countries lack access to financial services from Institutions, either for credit or savings. Specially, for poor who lack any asset base for collateral, situation becomes all the more critical. Microenterprise usually needs small capital. Still it is difficult for the poor to manage that small amount of capital. This lack of capital constrains the growth of microenterprise.
6.1 Theoretical Arguments
In literature there are two schools of thoughts available regarding the role of credit for promoting microenterprise and social and economic benefit for the poor. One school believes that credit is a constraint to the growth of microenterprise, whereas other school holds the view that credit may have negative impact on those who are very poor.
6.11 Credit as a Constraint
This school of thought considers credit as one of the major constraint to the growth of microenterprise and believes that credit has a positive role to play in larger goal of social and economic benefit (Jain 1996; Hashemi, Schuler, and Riley 1996; Otero and Rhyne 1994; Schuler, Hashemi, and Riley 1997). International Finance Corporation reported that more than 500 million poor people across the world run profitable microenterprises and often cite credit as the primary constraint to Business growth (IFC, 2002). Amartya Sen (1999) also find availability of finance as one of the important factor for development and mentioned that being financially more secure can help an entrepreneur become more successful, as it limits or reduces the various unfreedom which comes with poverty.
Eversole (2000) holds a positive view on the role of credit for micro businesses and stated that “Microcredit for businesses is usually offered in small quantities for short terms (usually three to ten months), with regular, frequent payments, solidarity- group or other accessible guarantees, and significant costs (transaction costs and interest). Microenterprise programs seem to be serving well: while impact on enterprise is difficult to measure quantitatively, the continued demand for these services suggests a positive impact”.
Credit is the single problem faced by these microentrepreneurs and providing access to credit will help these poor people to successful enterprise is not true. Nair (1998) identifies two streams of thoughts on the impact of microfinance on poor producers. First stream identifies credit as the most important input for poverty alleviation and believe that credit will go to some productive investment and that will help in reducing poverty.
Credit Productive investment Self employment Reduced poverty
This belief is based on the assumption that all credit goes to productive investments. Poor also have some consumption need and the credit not necessarily always go to productive investment. Rangarajan (2005) sees the evolution of Self Help Groups at three levels
Unfortunately a large population of
Whereas, other stream does not deny the importance of role of credit for small business but they believe that finance is only one factor among several factors which affects the quality of life. Microenterprise need much more than finance to grow.
In a study at
Fig 2: Credit and Successful entrepreneurial Activities: Possible options (Kuzilwa, 2005)
It shows the importance of major microfinance services like savings and credit at various stages of life cycle of these businesses. Harper argued that only firms with the potential to graduate from micro to small and medium enterprise can be considered as entrepreneurial and businesses that are merely surviving to sustain a family and are not able to demonstrate any growth are not entrepreneurial (Harper, 1998 c.f. Kuzilwa, 2005). Kuzilwa clearly established the relationship between credit and expansion of business. This argument supports the need of credit for entrepreneurial activity.
Microenterprises often operate on short term cycle and that is why there is need of short term loan in small amount for them. In order to run their business they require sufficient amount of capital constantly and on time. Alagappan & Nagammai stated that “One of the foremost problems of any entrepreneur is finance. Availability of adequate finance at reasonable cost at the required time is the need and expectation of any entrepreneur including the owners of small scale industries” (Alagappan & Nagammai, 2003). The major problems with formal financing are inadequacy and delayed processing. Microfinance has tried to avoid these two problems but are lacking on part of their cost of lending.
In a study in LDCs, Vincent concluded that access to credit promotes a sense of entrepreneurship. Initial small loan of about $100 helped in reintegrating these entrepreneurs into formal networks and it promotes the structural and sustainable development of the communities. However, only 5% of the micro credit demand is fulfilled leaving a great potential to this sector to grow. The author is very optimistic about the role of microfinance and entrepreneurship and stated that “Despite several challenges ahead, this emerging industry, and the process of sustainable entrepreneurship combine to offer a potential alleviation solution to the poverty crisis of the 21st century, and into a sustainable future” (Vincent,2004).
empirical study done on 12 MFIs in four countries of
In a similar study at
On the other hand Adams and Pischke (1992) argued that lack of fund was always perceived as the most important problems for the microentrepreneurs rather than product price, modern input costs, low yield etc because it is easier for donors and government to give credit than providing other support. This is the dominant reason behind launch of so many microenterprise credit programmes. They also believe that reliable access to small and short term loan is more important for poor microentrepreneurs than large and long term loans and emphasized the role of expanding services to savings for formal financial institutions by two ways
In this respect evolution of microfinance and MFIs has been very useful because they are able to handle small transaction efficiently as well as they establish a long term relationships with the borrower. They focus on small and short term loans rather than big and long term loans. In this way it has the potential to overcome the problems of microenterprise finance programmes launched by government.
6.12 Credit may have negative impacts for the ‘Poorest’
Other school believes that microcredit programs can have a negative impact on the populations they are meant to serve (Adams & Von Pischke 1992; Buckley1997; Rogaly 1996). This group of scholar believes that while microcredit programs have the potential to create positive impact for the poor but, in trying to achieve sustainability they fail to reach the poorest people. However, they are able to serve poor but ‘poorest of the poor’ are left out in the process (Copestake, Bhalotra, and Johnson 2001; Hulme 2000; Hulme and Mosely 1996; Mosely and Hulme 1998; Navajas et al. 2000).
Christen (1997) believes that only with partial analysis, role of credit evolve as a determinant of success of entrepreneurial activity but deep analysis of an entrepreneurial activity shows that finance does not in itself create opportunities rather it is the entrepreneurial nature of the people which lead them to see the various ways in which they can generate income (Christen, 1997 c.f. Kuzilwa, 2005). But certainly, credit plays an instrumental role in enhancing the capability of entrepreneur to utilize the available opportunity.
studies which counter the positive effects of microfinance on the very poor. Recent
In a study
on NGO led microcredit programmes in several developing countries with the objective
of judging the performance of these programmes and institutions on the basis of
a set of four indicators i.e. Targeting the poor, increase in the assets of
poor, employment generation and skill improvement and financial viability in
comparison with the state-led credit-based poverty alleviation programmes and
institutions, such as, the Integrated rural development project (IRDP) and Regional
Rural Banks (RRBs) in India it was found that microcredit programmes have been able to bring about a marginal
improvement in the beneficiaries’ income. However, the beneficiaries have not
gained much by way of technological improvements, given the emphasis on
‘survival skill’. Also, in
In another study on performance of microenterprises in Botswana Anand reported that “A majority of MSEs enjoy sound financial status in terms of a large number of MSEs lending (75%) than borrowing (10%) and amount being lent than is being borrowed exceeds by 67%” (Anand, 1994). This study counters the need of microfinance for these microenterprises. The results here clearly indicate that finance is not a constraint for these microenterprises.
6.13 Saving as an important factor
Saving is an integral component of microfinance. Since long it was a misconception that poor can not save. Emergence of microfinance has proved that poor also has the ability to save. In fact it is their saving capacity which determines their lending capacity. Stemper stated that “Savings are an important means of establishing client history which is considered when evaluating the loan applications” (Stemper, 1996). These savings can also be used as a substitute for collateral.
Buckley (1997) viewed savings as the basis to achieve financial independence and self sufficiency for the microenterprise. Sinha (2005) considers SHG as important model for the poor and stated that “The performance of the SHG model is exceptional in providing a savings-based mechanism for internal group credit to meet household needs. This mechanism also serves (though not always) to facilitate access to credit by poorer clients, who are more likely to need small amounts of credit for immediate household purposes but appear less creditworthy for larger MFI loans”.
Rotating savings and credit associations (ROSCAs) are
one of the common forms of microfinance available in
Capital is a constraint in the expansion of business. Majority of these microenterprises fail to graduate from micro to small or medium enterprise due to lack of access to capital. Grosh and Somolekae (1996) considered lack of access to capital as one of the major constraint in expansion. For capital he emphasized more on the role of accumulated capital i.e. savings and stated that “The main factor that constrains entrepreneurs from accumulating capital that successive generations could use to enter business on a larger scale is the dearth of attractive saving vehicles”.
In a study in
Quoting the importance of savings for microenterprise Schreiner and Woller (2003) stated that “For new microenterprises savings has some advantages over loans. Savings screen for skills and entrepreneurship where information is the least asymmetric- the self. The dilemma is that most microenterprise needs savings more than loans but microenterprise programs have no clear role to facilitate savings”. Using their own savings for start up of business reduces the risk of bankruptcy and helps them to avoid the debt trap. So it can be concluded from that savings should be an integral part of microenterprise development programmes.
6.131 Constraints in mobilizing savings
Policy is one of the major constraints for these microfinance programmes in supporting microenterprise development by restricting saving mobilization by MFIs. That causes a huge cost on the borrowed fund to these MFIs. It has also been reported that poor are more willing to save than to borrow. This keeps these MFIs in a disadvantageous position to mobilise poor people to join them.
Once the poor has demonstrated their credibility in terms of better repayment performance the scenario of microenterprise development is changing. Berger and Guilaamon (1996) stated that these microenterprises are no longer the means of a survival strategy for the poor rather they also have a potential to be an integral part of the economy. These microentrepreneurs are no longer a passive recipient of a subsidized credit but they are becoming valuable clients. So, their needs for the services need to be identified and a customer oriented services need to be provided. They demand for a comprehensive financial service and microfinance have the potential to meet their demand. But, this needs an integrated approach. Government and non government players need to come together to take a cumulative effort for providing support to these valuable clients to be converted as a self reliant and self sufficient entity.
7. GAPS IN LITERATURE
After reviewing the literature some of the prominent gaps which can be identified are
8. FUTURE DIRECTIONS OF RESEARCH
After reviewing the literature on Microfinance and microenterprise I strongly feel the need of research on the comprehensive impact of microfinance on promoting microenterprise development for poor in Indian context. A comparative study of various approaches of different organisations and their reasons of success as well as failure is another important and interesting area which can be suggested for further study.
Microfinance is often misunderstood and is taken in very narrow sense of microcredit. However, microfinance is quite broad and involves a range of services i.e. savings, credit, insurance and money transfers. In the above discussion it is clear that microfinance has an important role to play in microenterprise development. Microenterprise does not only need credit but they also need a variety of services for their growth and development. It is also true that credit alone may not be sufficient for promoting microenterprise but lack of credit certainly hinders the development of these microenterprises at various stages of life cycle. In the presence of lack of access to credit it is difficult for any non financial support to work. The role of various microfinance services i.e. savings, insurance and money transfer in promoting sustainable microentreprenurship need to be explored and given attention.
Additionally, both microfinance as well as microenterprise has the common objective of poverty alleviation and creation of employment opportunities for the poor and therefore there is a need for both of them to come together and act for the larger objective of poverty alleviation There are also shortcomings with respect to the policy support for these microenterprises that need to be addressed for long term impact on microenterprise development.. Microenterprise development is a self reliant development strategy but it need to be supported by enabling environment and proper infrastructure support. For creation of enabling environment there is need for government and non government entities to work together. Then only these microenterprises can grow and contribute efficiently towards the larger objective of poverty alleviation.
The scholar is thankful to MFMI for providing assistance.
Asian Development Bank.
§ Mosley, P. & Hulme, D. (1998). “Microenterprise finance: Is there a conflict between growth and poverty alleviation”? World development, 26(5), pp.783-790.
Schreiner, M. & Woller, G. (2003). “Microenterprise
development programs in the
§ Vincent, G. 2004. “Sustainable Microentrepreneurship: The Roles of Microfinance, Entrepreneurship and Sustainability in Reducing Poverty in Developing Countries”, www.gdrc.org/icm/micro/guy_sustmicro.pdf