Impact of Microfinance : A Critical Survey

According to the United Nations (UN), in 2002 almost one-fifth of the world population (i e, 1.3 billion people) was living in extreme poverty, earning less than one dollar a day. In recent public debates microfinance has been mentioned as an important instrument to combat poverty. Therefore, microfinance has received a lot of attention, both from policy-makers as well as in academic circles. Especially during the past 10 years, microfinance programmes have been introduced in many developing economies. Well known examples are the Grameen Bank in Bangladesh, Banco Sol in Bolivia and Bank Rakyat in Indonesia. The Grameen Bank system of group lending (established in 1976 by Muhammad Yunus, a Bangladesh banker and economist), in particular, has been copied in other developing countries. Between December 1997 and December 2005 the number of microfinance institutions increased from 618 to 3,133. The number of people who received credit from these institutions rose from 13.5 million to 113.3 million (84 per cent of them being women) during the same period [Daley-Harris 2006]. To support the view that microfinance can be an important instrument to fight poverty, the UN declared 2005 to be the international Year of Microcredit. Recently, the attention for microfinance and its role in reducing poverty was further increased when Muhammad Yunus received the Nobel Peace prize. According to the Nobel Committee, microfinance can help people to break out of poverty, which in turn is seen as an important prerequisite to establish long lasting peace [Nobel Committee 2006]. This has led to an almost euphoric attitude among policy-makers and aid organisations about potential poverty reducing effects of microcredit. The question, however, is whether microfinance really will be able to significantly reduce worldwide poverty? In this article, we provide a critical evaluation of the discussion on the potential contribution of microfinance in reducing poverty. We do not deny that microfinance may potentially play an important role in improving the income of the poor. At the same time, however, we feel that recent discussions on microfinance have to be put into the right perspective in order to preclude overly optimistic expectations about the impact microfinance may have on reducing poverty. The remainder of this article is organised as follows. In the next section we provide a short background to the microfinance concept. This is followed by a critical review of the arguments made by proponents of microfinance as an important instrument to combat poverty. Next, we discuss measurement problems that studies on the impact of microfinance are confronted with, which is followed by a review of available evidence from recent empirical impact studies. We conclude this article by discussing our view on the potential contribution microfinance can make in reducing global poverty.