Key Principles of Microfinance

DONOR INFORMATION RESOURCE CENTRE

Helping to Improve Donor Effectiveness in Microfinance
www.microfinancegateway.org
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July 15, 2004

 Overview

CGAP is a consortium of 28 public and private

development agencies working together to
expand access to financial services for the
poor, referred to as microfinance.
These principles were developed and endorsed
by CGAP and its 28 member donors, and further
endorsed by the Group of Eight leaders at the
G8 Summit on 10 June 2004.
 1. Poor people need
a variety of financial services
Meeting the Needs of Poor People

Savings
Loans

Cash Insurance
Transfer
Services
2. Microfinance is a powerful tool
to fight poverty
From Everyday Survival
to Planning for the Future
Access
Accessto
tofinancial
financialservices
services

Increase & diversify incomes

Build assets

Mitigate risk
Plan for the future
Make choices

Increase food consumption

Invest in education & health
Invest in housing, water, sanitation
 3. Microfinance means building
financial systems that serve the poor
 Taking a Financial Systems Approach
 In most developing countries, poor people are the majority
of the population but least likely to be served by banks.
 Microfinance is often seen as a marginal sector, not as part
of the country’s mainstream financial system.
 Microfinance will reach the maximum number of poor
clients only when it is integrated into the financial sector.

 Take a financial systems approach to microfinance

 Focus support on aspects of the financial system
according to comparative advantage
 Collaborate with other donors and stakeholders
 Customize support for the specific need
4. Microfinance can pay for itself, and
must do so to reach very large
numbers of poor people
 Achieving Long Term Scale and Impact

 To reach scale and impact, strong institutions must charge

enough to cover their costs.
 Cost recovery is the only way a financially sustainable
institution can continue and expand services over the long
term.

 Lowering transaction costs

ing  Offering services that are more

ie v useful to clients
Ach b il it y
t a i n a  Finding new ways to reach
sus ans more of the unbanked poor.
me
 5. Microfinance is about building
permanent local financial institutions
 Building Local Financial Institutions

Sound
Domestic
Financial Domestic
Institutions Savings

Less dependence on
funding from donors and
Financial governments
services
 6. Microcredit is not always the answer.
Microcredit is not the best tool for everyone
or every situation.
Using Other Tools When Necessary

 Destitute people with no

income or means of
repayment need other kinds
of support before they can
make good use of loans.
 Where possible, such
services should be coupled
with building savings.
7. Interest rate ceilings hurt poor people by
making it harder for them to get credit
 Enabling Microlenders to Cover their
Costs
 It costs much more to make many
AVOID INTEREST small loans than a few large loans.
RATE CAPS  If Microlenders cannot charge
When governments interest rates well above average
regulate interest bank loan rates:
rates, they usually  They cannot cover their costs
set them at levels
so low that  Their growth is limited by the scarce and
microcredit cannot uncertain supply of soft money from
donors or governments
cover its costs
 But microlenders should not pass
along inefficiencies to poor
borrowers
8. The role of government is to enable
financial services, not to provide them
directly
 Setting Sound Policy and Legal
Frameworks
Rather than act as direct providers of
financial services, governments need to:
 Set policies that stimulate financial services for poor people
at the same time as protecting deposits
 Maintain macroeconomic stability
 Clamp down on corruption
 Improve the environment for micro-businesses, including
access to markets and infrastructure
 Avoid interest rate caps
 Refrain from distorting markets with subsidized, high-default
loan programs that cannot be sustained
9. Donor funds should complement private
capital, not compete with it
 Building Capacity

 Donor grants, loans, and equity for microfinance

should be temporary and used to:
 Build the capacity of microfinance providers
 Develop supporting infrastructure like rating agencies, credit
bureaus, and audit capacity
 Support experimentation
 Donors should:
 Try to integrate microfinance with the rest of the financial
system.
 Use experts with a track record of success when designing and
implementing projects
 Set clear performance targets that must be met before funding
is continued
 Set a realistic plan for reaching a point where donor support is
no longer needed
10. The key bottleneck is the shortage of
strong institutions and managers
 Building Strong Institutions
and Managers
 Public and private investments in microfinance should
focus on building capacity, not just moving money
 Skills and systems need to be built at all levels:

Managers of microfinance institutions

Information systems

Central banks

Other government agencies

Donors
 11. Microfinance works best when it
measures - and discloses - its performance.
 Supporting Transparency and
Standard Reporting
Donors, investors, banking supervisors, and
customers need accurate, standardized performance
information to judge their cost, risk, and return:

 Financial information (e.g.,

interest rates, loan repayment,
and cost recovery)
 Social information (e.g.,
number of clients reached and
their poverty level)
 Summary
1. Poor people need a variety of financial services, not just loans.
2. Microfinance is a powerful tool to fight poverty.
3. Microfinance means building financial systems that serve the poor.
4. Microfinance must pay for itself to reach large numbers of poor people.
5. Microfinance is about building permanent local financial institutions.
6. Microcredit is not the best tool for everyone or every situation.
7. Interest rate ceilings making it harder for poor people to get credit.
8. The role of government is to enable financial services, not to provide them.
9. Donor funds should complement private capital, not compete with it.
10. The key bottleneck is the shortage of strong institutions and managers.
11. Microfinance works best when it measures and discloses its performance.
 Where To Get More Information

 CGAP DIRECT website: http://www.cgap.org/direct/

Contact: Nataša Goronja

1818 H Street, NW Washington, DC 20433
Tel: 202-473-9594 Fax: 202-522-3744
E-mail: cgap@worldbank.org
Web: www.cgap.org