On The Origins of Microfinance

By Damian von Stauffenberg, Founder and Chairman of MicroRate

The remarkable growth of microfinance is only the latest instance of a phenomenon that occurs fairly regularly in banking: Someone figures out how to provide financial services to a group of people that was hitherto considered “un-bankable.” The pioneer then grows rapidly as it tries to satisfy demand. Other financial institutions enter the new market, and eventually the pioneering activity becomes mainstream.

However, what makes microfinance so explosive is that in this case, the marginalized group that was considered un-bankable comprises a substantial part of mankind. There could well be a billion people or more who do not have access to financial services today, and who would be better off if they gained such access.

The beginnings of the microfinance industry can be traced to well-meaning enterprises in Latin America and Asia during the 1970’s and 80’s that developed independently of each other. ACCION in Peru and Grameen Bank in Bangladesh were among the first to appear. ACCION has since grown into a large federation of successful microfinance institutions (MFIs) and the Grameen Bank today has millions of clients.  In 1993 the first microfinance investment vehicle (MIV), Profund, was launched. Others followed in the late 1990’s and since then many more have appeared. At the end of 2009 there were 78 MIVs.

From a development standpoint, it should be considered a success that the industry allows large amounts of money to now flow from investors in rich countries via MIVs to MFIs in countries like India, Peru or Uganda. Ultimately these funds reach millions of clients as microcredits, through group lending or individual loans, allowing them to become productive and earn a livelihood. In 2009, the assets of MIVs grew by $1.2 billion to $6 billion. MIVs thus account for a significant share of funding flows from rich countries directly to the poor. Investor interest in microfinance funds and similar intermediaries remains strong despite the worldwide recession as MIVs grew by 22% in 2009.

Although the industry has grown tremendously, it still has a long way to go before achieving the ultimate goal of providing credit to everyone who needs it and can use it well. Strong interest in microfinance from investors is meeting much weaker demand for funding from microfinance institutions themselves. Microfinance assets – the part of a Fund invested in MFIs – grew only 11% in 2009, which left MIVs with rapidly increasing and ultimately unsustainable levels of liquidity. By the end of 2009, too many MIVs were chasing too few investment opportunities; rates had once again dropped to levels where they no longer could compensate fully for the risks associated with lending to some of the world’s poorest countries.