Microfinance Unit 2 Important Question Answer [Gauhati University Bcom 4th Sem]

 

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Unit 2 

MICRO FINANCE INSTITUTION

Short Question Answer :

1. Define Micro Finance Institutions? 2 marks

Ans: Amicrofinance institution is an organization that offers financial services to low income populations. Almost all give loans to their members, and many offer insurance, deposit and other services. Microfinance is increasingly being considered as one of the most effective tools of reducing poverty by enabling microcredit to the financial poor. Microfinance has a significant role in bridging the gap between the formal financial institutions and the rural poor. The Micro Finance Institutions (MFIs) accesses financial resources from the Banks and other mainstream Financial Institutions and provide financial and support services to the poor.

2. Mention two goal for MFIs?

Ans: The goal for MFIs should be :

• To improve the quality of life of the poor by providing access to financial and support services;

• To be a viable financial institution developing sustainable communities.

3. What is the difference between microfinance and microcredit?

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4. Are all MFIs non-profit?

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5. Define Associations Model?

Ans: This is where the target community forms an 'association through which various microfinance (and other) activities are initiated. Such activities may include savings. Associations or groups can be composed of youth, women; can form around political/religious/cultural issuesmposed of support structures for microenterprises and other work-based issues. In some countries, an 'association' can be a legal body that has certain advantages such as collection of fees, insurance, tax breaks and other protective measures. Distinction is made between associations, community groups, peoples organizations, etc. on one hand (which are mass, community based) and NGOs, etc. which are essentially external organizations.

6. Define Community Banking Model?

Ans: Community Banking model essentially treats the whole community as one unit, and establishes semi-formal or formal institutions through which microfinance is dispensed. Such institutions are usually formed by extensive help from NGOs and other organizations, who also train the community members in various financial activities of the community bank. These institutions may have savings components and other income-generating projects included in their structure. In many cases, community banks are also part of larger community development programmes which use finance as an inducement for action.

7. Define Bank Guarantees Model?

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8. Define Credit Unions Model?

Ans: A credit union is a unique member-driven, self-help financial institution. It is organized by and comprised of members of a particular group or organization, who agree to save their money together and to make loans to each other at reasonable rates of interest. The members are people of some common bond: working for the same employer belonging to the same church, labor union, social fraternity, etc.; or living/working in the same community. A credit union's membership is open to all who belong to the group, regardless of race, religion, color or creed. A credit union is a democratic, not-for-profit financial cooperative Each is owned and governed by its members, with members having a vote in the election of directors and committee representatives.

9. Define Group Model?

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10. Define Intermediaries Model?

Ans: 

11. Define ROSCA Model?

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12. Define Small Business Model?

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13. Define Village Banking Model?

Ans: Village banks are community-based credit and savings associations. They typically consist of 25 to 50 low-income individuals who are seeking to improve their lives through self-employment activities. Initial loan capital for the village bank may come from an external source, but the members themselves run the bank: they choose their members, elect their own officers, establish their own by-laws, distribute loans to individuals, collect payments and savings. Their loans are backed, not by goods or property, but by moral collateral: the promise that the group stands behind each individual loan. The Village Banking model is closely related to the Community Banking and Group models. This model is widely adopted and implemented by FINCA. 

14. Give two distinct features of SHGs?

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15. Mention the methods in delivering financial services by MFIs?

Ans: (i) Group Method: his is one of the most common methodologies for providing micro-finance. The group method primarily involves a group of individuals, which becomes the basic unit of operation for the MFIs. As we have discussed earlier, MFIs have to provide collateral-free loans, group methodologies help in creating social collateral (peer pressure) that can effectively substitute physical collateral. A group becomes a basic unit with which MFIs deal.

(ii) Individual method: MFIs are also increasingly providing loans to individuals. In the Individual lending method, MFIs provide loans to an individual based on his/her own personal creditworthiness. Individual lending is more prevalent with clients who generally need bigger size loans and have the capacity to produce guarantee and generate enough comfort to the MFI.

Long Question Answer :

1. Explain the Goals of Microfinance Institutions? 

Ans: Microfinance institutions have been gaining popularity in the recent years and are now considered as effective tools for alleviating poverty. Most MFIs are well-run with great track records, while others are quite self-sufficient. The primary goals of microfinance institutions are the following:

(a) Transform into a financial institution that assists in the development of communities that are sustainable.

(b) Help in the provision of resources that offer support to the lower sections of the society.

(c) There is special focus on women in this regard, as they have emerged successful in setting up income generation enterprises.

(d) Evaluate the options available to help eradicate poverty at a faster rate.

(e) Mobilise self-employment opportunities for the underprivileged.

(f) Empowering rural people by training them in simple skills so that they are capable of setting up income generation businesses.

2. Explain the Key Benefits Microfinance Institutions?(vvi) 

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3. Explain the Groups Organised by Microfinance Institutions in India?

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4. Explain the Difference between JLGs and SHGs?

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5. How are MFIs Funded?

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6. Explain the Challenges faced by Microfinance Institutions?

Ans: (i) Over-Indebtedness: The microfinance sector deals with marginalized sections of Indian society intending to improve their standard of living, and thus over-indebtedness poses a severe challenge to its growth. The growing trend of multiple borrowing by clients and inefficient risk management are the most significant factors that stress the microfinance industry in India. The microfinance sector gives loans without collateral, which increases the risk of bad debts. Fast-paced growth needs proper infrastructural planning, in which the Indian microfinance sector evidently lacks.

(ii) Higher Interest Rates in Comparison to Mainstream Banks: The financial success of MFIs is limited when compared to commercial banks in India. The centuries-old banking system has a strong foothold in Indian grounds and is slowly evolving to meet the needs of the times. Most Microfinance Institutions charge a very high rate of interest (12-30%) when compared to commercial banks (8-12%). The regulatory authority RBI issued guidelines to remove the upper limit of 26% interest on MFI loans. While many MFI sector players benefited from the RBI guideline update, the borrowers were left for the worse. A massive trend of farmer suicide in states like Andhra Pradesh and Maharasthra is the outcome of borrower indebtedness that resulted from the higher interest rates.

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7. Explain the Keys to Success in the Microfinance Market?

Ans: 

8. Define Trident Microfinance?

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9. Explain five models of Micro Finance Institutions?

Ans: (i) Associations Model: This is where the target community forms an 'association' through which various microfinance (and other) activities are initiated. Such activities may include savings. Associations or groups can be composed of youth, women; can form around political/religious/cultural issues; can create support structures for microenterprises and other work-based issues. In some countries, an 'association' can be a legal body that has certain advantages such as collection of fees, insurance, tax breaks and other protective measures. Distinction is made between associations, community groups, peoples organizations, etc. on one hand (which are mass, community based) and NGOs, etc. which are essentially external organizations.

(ii) Bank Guarantees Model: As the name suggests, a bank guarantee is used to obtain a loan from a commercial bank. This guarantee may be arranged externally (through a donor/donation, government agency etc.) or internally (using member savings). Loans obtained may be given directly to an individual, or they may be given to a self-formed group. Bank Guarantee is a form of capital guarantee scheme. Guaranteed funds may be used for various purposes, including loan recovery and insurance claims. Several international and UN organizations have been creating international guarantee funds that banks and NGOs can subscribe to, to onlend or start microcredit programmes.

(iii) Community Banking Model: Community Banking model essentially treats the whole community as one unit, and establishes semi-formal or formal institutions through which microfinance is dispensed. Such institutions are usually formed by extensive help from NGOs and other organizations, who also train the community members in various financial activities of the community bank. These institutions may have savings components and other income-generating projects included in their structure. In many cases, community banks are also part of larger community development programmes which use finance as an inducement for action.

(iv) Credit Unions Model: A credit union is a unique member- driven, self-help financial institution. It is organized by and comprised of members of a particular group or organization, who agree to save their money together and to make loans to each other at reasonable rates of interest. The members are people of some common bond: working for the same employer, belonging to the same church, labor union, social fraternity, etc.; or living/working in the same community. A credit union's membership is open to all who belong to the group, regardless of race, religion, color or creed. A credit union is a democratic, not-for-profit financial cooperative. Each is owned and governed by its members, with members having a vote in the election of directors and committee representatives.

(v) Group Model: The Group Model's basic philosophy lies in the fact that shortcomings and weaknesses at the individual level are overcome by the collective responsibility and security afforded by the formation of a group of such individuals. The collective coming together of individual members is used for a number of purposes: educating and awareness building, collective bargaining power, peer pressure etc. The Group model is closely related to, and has inspired, many other lending models. These include Grameen, community banking, village banking, self-help, solidarity, peer pressure etc.

10. Explain the Documents Required for a Microfinance Loan?

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11. Explain the Lenders Offering Microfinance Loans to MFIs?

Ans: (i) Reliance Money: Reliance Money offers microfinance solutions at great interest rates by partnering with microfinance institutions (MFIs). The documentation required for this is limited. Wholesale funding is provided to MFIs for on-lending. The lender also helps with guarantees so that MFIs are able to get loans from alternative sources.

(ii) ICICI Bank : ICICI Bank has been partnering with MFIs for at least 10 years to provide microfinance loans to these institutions. Currently the bank is focussing on the following:

Setting up a profitable and healthy lending business with select MFIs

• Investing that enables the healthy growth of the microfinance industry in India. The financing offered by ICICI Bank to MFIs are predominantly term loans. The bank also provides Pass Through Certificates. Other value-added facilities such as cash management services, salary/savings accounts, and customised current accounts are offered to MFIs for treasury and staff products.

(iii) State Bank of India (SBI): SBI offers loans to microfinance institutions and NGOs that act as intermediaries for financing the needs of eligible entrepreneurs in the lower segment of the society. These term loans can be repaid every month, quarter, or at intervals of 6 months. The total repayment period cannot be more than 3 years and cash credit loans should be renewed on an annual basis.

(iv) Axis Bank: Axis Bank offers loans to microfinance institutions that financially empower low-income earners and micro-entrepreneurs. The bank has partnered with several MFIs across the country. Term loans are offered by the bank to MFIs that extend this to the eligible borrowers.

(v) DCB Bank: DCB Bank offers two types of products as part of microfinancing. These are term loans and loans to MFIs for on-lending purposes.

12. Explain the Role of Microfinance Institutions (MFIs)?

Ans: Microfinance services are offered by the following sources: (i) Formal institutions, i.e., cooperatives and rural banks, (ii) Semiformal institutions, i.e., non-government organisations, (iii) Informal sources, such as shopkeepers and small-scale lenders Institutional microfinance encompasses the services provided by both formal and semiformal institutions. A microfinance institution specialises in banking services for low-income individuals and groups. These institutions access financial resources from mainstream financial entities and provide support service to the poor. Microfinance institutions are hence, emerging as one of the most effective tools in reducing poverty in India. While several MFIs are well-run with great historical records, others are operationally self-sufficient. The different types of institutions offering microfinance in India are: (i) Commercial banks, (ii) Credit unions, (iii) Non-governmental organisations (NGOs), (iv) Sectors of government banks, (v) Cooperatives. Microfinance institutions act as a supplement to the services offered by banks. Apart from offering micro credit, financial services such as insurance, savings, and remittance are provided. Non-financial services such as training, counselling, and supporting borrowers are offered in the most convenient manner as well.

13. Explain 5 key Features of Rural Economy in india?

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14. Explain the benefits of Microfinance?

Ans: (i) ACCESS: Banks simply won't extend loans to those with little or no assets, and generally don't engage in the small size of loans typically associated with microfinancing. Microfinancing is based on the philosophy that even small amounts of credit can help end the cycle of poverty. Many women and girls have trouble accessing formal financial institutions as they don't have appropriate identification or certification of land and house ownership.

(ii) BETTER LOAN REPAYMENT RATES: Microfinance tends to target women borrowers, who are statistically less likely to default on their loans than men. These loans help empower women, and they are often safer investments for those loaning the funds.

(iii) EXTENDING EDUCATION AND HEALTH: Families receiving microfinancing are less likely to pull their children out of school for economic reasons and more likely to have resources to pay for school fees or health services.

(iv) SUSTAINABILITY: Even a small working capital loan of $100 can be enough to launch a small business in a developing country that could help the individuals pull themselves and their family out of poverty. These small businesses can help create new employment opportunities, which has a beneficial impact on the local economy.

(v) IMPROVED INCOME AND NUTRITION : Through small loans women are able to get needed agriculture inputs such as improved seeds and fertilizers to increase productivity and nutritional content of crops and generate more income from the market.

15. Explain the Group Approach of JLG?

Ans: (i) All members of the JLG should be active enough to assume leadership of the group to ensure the activities of the JLG. The selection of an effective /able/active leader for the JLG is essential as this will ultimately benefit all the JLG members. The leader fosters a sense of unity, oversees and maintains discipline, shares information and facilitates repayments. For the bank, he is the focal point for group activities, although all the members are liable jointly and severally, (ii) The JLG should hold regular meetings which must be attended by all the members regularly to discuss issues of mutual interests, (iii) The principles of self-help and group strength need to be emphasised. Group cohesion has to be ensured. Adequate emphasis should be placed on the roles, expectations and functions of the group/ members & the benefits of group dynamics, (iv) The JLG can easily serve as a conduit for technology transfer, facilitating common access to market information, for training and technology dissemination in activities like soil testing, training and assessing input requirements, (v) The JLGs for specific activity, e.g. production of pulses / vegetables/ fruits may be federated at village/ block level for development of the product. (vi) The JLG in the clusters on their stabilization could come together in the form of cluster federation or producers' companies with a view to contributing the entire value chain and thereby achieving economies of scale in procurement, processing and marketing of the produce, (vii) The JLGs and evolving JLG structures are expected to build up empathy and understanding and create responsive lending mechanisms leading to greater interaction and interdependence between the members of JLGs.

Very Long Question Answer :

1. Explain briefly the Features of Rural Economy?

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2. What exactly is microcredit? Since when does it exist?

Ans: The specific definition of microcredit differs from country to country. However, defined generically, microcredit refers to the provision of "small loans" to the poorer sections of the population without the surrender of any physical collateral. The definition of small loans, the eligible beneficiaries and the conditions regarding the utilization of funds and terms of repayment vary from country to country. Small loans to the poor on special terms has existed for a long time in many countries. There is evidence that the "Irish Loan Funds," which were inspired by Jonathan Swift in Ireland in the early 1700s, was one of the first forms of providing poor people with small loans without collateral. Across Europe, Africa and Asia, there were numerous savings and credit institutions in the 19th and early-20th centuries that could be regarded as the progenitors of today's microcredit institutions. These institutions also provided "small" loans to groups of borrowers without any collateral. In the 20th century, many developing countries implemented Integrated Rural Development Programs (IRDP), under which, public banks provided small loans to small farmers and agricultural labourers. While these early experiments are important, the modern form of microcredit is modeled on the Grameen Bank in Bangladesh founded by Mohammed Yunus in 1975. Over the years, the Grameen model of microcredit has emerged as a substitute for "formal" provision of credit to the poor through public banks. It has been argued that public banks historically neglected the credit needs of poor households on the grounds that they lacked collateral to surrender to the banks. As a result, the public banks left the poor "unbanked". This was where a bank like the Grameen Bank stepped in. Mainstream economic theorists argue that implementation of "formal" (public) lending programmes directed at the poor faces three important problems. First is the problem of exact targeting, which would ensure that there are no errors of inclusion (where the "non- poor" end up getting credit meant for the poor) and no errors of exclusion (where the poor fail to receive the credit designed for them).. Second, is the screening problem - distinguishing the good (creditworthy) from the bad (not so creditworthy) borrowers. This problem arises from the fact that poor borrowers do not generally maintain accounts of their past business activity and are unable to furnish any documented plan for the business for which they are seeking the loan. Third, public agencies may not be able to monitor and ensure productive usage of loans. There is also the problem of enforcement. 

3. Where does microcredit come from? Which country (ies) was (were) the first to use microcredit? And why?

Ans: As mentioned, the modern form of microcredit is heavily based on model of the Grameen Bank in Bangladesh. In the 1970s, Mohammad Yunus, the founder and until recently the head of Grameen Bank, was the Head of the Department of Economics at Chittagong University. The story of Grameen begins in 1974. Yunus previously worked in Jobra, a village surrounding the University at its Chittagong campus. In Jobra, he saw the dark face of poverty, worsened by that year's drought. Deeply moved, he and a few of his colleagues decided to help the villagers. Studies in the village led Yunus to the important recognition that the poor in Jobra, who were mostly engaged in bamboo- based small-scale self-employment, were caught in deep debt traps. Usurious rates of interest and oppressive terms and conditions set by the private moneylenders ensured a perpetuation of their indebtedness and poverty. Yunus concluded that credit was the major factor determining the economic position of people in this village. Yunus requested a bank in Jobra to provide inexpensive loans to the poor in the village. However, the bureaucratic ways of working of the public sector bank prevented it from providing loans without any collateral. Disappointed with their efforts to obtain inexpensive loans, Yunus and friends at the University finally decided to become moneylenders themselves. Thus was born Grameen, which was to spread later to other parts of Bangladesh and the world. Grameen's practices were to be different from those of the existing banking sector. According to Yunus, the requirement of lump sum repayments in banks made defaults a common feature. To help the borrowers "overcome the psychological barrier of parting with large sums", he instituted a daily payment program. When made daily, the repayment amounts would be so small that the borrowers would not find it difficult to repay promptly. For example, a 365-taka loan could be repaid in one year at the rate of one taka a day. However, Yunus found it difficult to implement this programme and later switched over to weekly repayments. In order to obtain loans from Grameen, borrowers were required to approach the bank in groups, each group consisting of five members. The loans were provided first to one member and sequentially to the remaining members in pairs. The prompt repayment of installments by members at every stage was a pre-requisite for members at the following stages to become eligible for loans. In Yunus's opinion, such sequential lending helped minimize the probability of default by imposing peer pressure. The target group of Grameen was women. Yunus justifies this targeting on two grounds. First, among the poor, women are socially and economically the most deprived. Second, they are more reliable than men in the repayment of loans. Moreover, women are more forthcoming and successful in improving the welfare of the household as a whole. Following Grameen's example, several other institutions were set up for providing microcredit in Bangladesh and other developing countries. Some of them are state-controlled, such as the Bank Rakyat Indonesia and Badan Kredit Kecamatan in Indonesia. Most others are primarily non-governmental (NGO) in nature, such as BRAC (Bangladesh), Banco Sol (Bolivia), SANASA (Sri Lanka) and Muzdi Fund (Malawi). These NGOs depend on international donors, such as IFAD, SIDA, OECF, OXFAM and CARE for funding.

4. How is it then that the concept has endeared itself to a wide range of international organisations and governments?

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5. Explain the various models of Micro Finance Institutions?

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6. Explain the sources of funding of MFIs in India?

Ans: (i) Shareholders' Equity: Many financial institutions are owned by wealthy individuals and corporate institutions. They put together the initial or seed capital of the business to kick-start the operation. This initial capital is used to get the license, to acquire offices, hire key personnel and help to start the operation of the business. On many occasions, just one individual could commence the funding until others would join later on. These individuals are called Founders of the organization.

(ii) Venture Capital: A venture capital is defined as a capital invested in a project in which there is a substantial element of risk, typically a new or expanding business. In other words, a venture capital is financing that investors provide to start-up companies and small businesses that are believed to have long-term growth potential. Venture capital generally comes from well-off investors, investment banks and any other financial institutions that pool similar partnerships or investments.

(iii) Grants and Donations: The minority of the microfinance institutions get their funding from grants and donations. These donations come from foundations, NGOs, charities and some social enterprise organizations that will like to contribute to the development of micro financing in some specific areas. Some private organizations/companies also do it through what is called Corporate Social Responsibilities (CSR). These grants and donations are called Donated Equity in the books of the recipient MFIs. Others will also treat is as capital grants - grants towards the purchase of fixed assets or specific projects. In this wise, the grants are amortized over the period of the grant.

(iv) Bank Loan: Borrowing to augment the capital of the business is the normal thing in banking and financial services industry. Banks lend among themselves and lend to other institutions in their brackets other than outsiders. With this, MFIs do borrow from the banks to expand their loan portfolios and also meet critical fixed assets and operational needs. But the majority of these MFIs only borrow to fund their loan portfolios. This is done after they have exhausted their shareholders' capital or need a bridging finance. A Bridging finance is used when expected fund is delayed and a quick fund is needed to cover the gap between the shortfall now and the time of receiving the expected fund.

(v) Crowd Funding: Crowdfunding is the practice of funding a project or venture by raising monetary contributions from a large number of people. Normally this is internet based appeals or proposals for many - people to contribute towards a particular cause, for example, raising money to help flood victims or to provide social funding to a poor community. Funding of this sort could come in the form of donations or equity. Now, there are a number of websites promoting these kinds of funding for businesses and individuals alike. But these strategies of funding call for marketing and selling of the ideas to the wider public.

(vi) Private Equity Investment: A private equity is a type of equity and one of the asset classes consisting of equity securities and debt in operating companies that are not publicly traded on a stock exchange. A private equity investment will generally be made by a private equity firm, a venture capital firm or an angel investor. Referring to the points above on Shareholders equity and venture capital, the private equity is from private investment firms that have made an equity towards the business. An angel investor (also known as a business angel, informal investor, angel funder, private investor, or seed investor) is an affluent individual who provides capital for a business start-up, usually in exchange for convertible debt or ownership equity. While venture capital is a subset of private equity, there are differences between the two. The most notable difference is that venture capital funds raise capital from investors to specifically invest in start-ups and small- and medium- size private companies with strong growth potential. Private equity is generally interested in continuing businesses, not start-ups. Peer to Peer (P2P) Lending. Peer-to-peer lending, sometimes abbreviated P2P lending, is the practice of lending money to individuals or businesses through online services that match lenders with borrowers. Since peer- to-peer lending companies offering these services generally operate online, they can run with lower overhead and provide the service more cheaply than traditional financial institutions (Wikipedia). This also looks like the crowdfunding strategy. But there is a great difference. P2P is organised in such a way that, lenders and borrowers are put on a platform. Lenders give out their loans under specific conditions and the borrowers can choose to accept the terms or contact another lender. Alternatively, the platform has a set of agreed interest rates, repayment periods and other conditions. In the crowdfunding, however, the platform is generally for numerous individuals who could even contribute as little as US$1 towards a cause, and it is not for loan purposes. There is, however, an equity element introduced recently by some of the crowdfunding platforms. 

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Gauhati University BCom 4th  Microfinance Notes  2024 

UNIT	CONTENTS	LINKS
I	Microfinance Meaning & Concepts	VIEW
II	Microfinance Institutions	VIEW
III	Microfinance In India	VIEW
IV	Management of MFIs	VIEW
V	Legal and Regulatory Framework for Microfinance	VIEW
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