The Economics of Microfinance

Abstract

Microfinance is one of those small ideas that turn out to have enormous implications. When Muhammad Yunus, an economics professor at a Bangladesh university, started making small loans to local villagers in the 1970s, it was unclear where the idea would go. Around the world, scores of state-run banks had already tried to provide loans to poor households, and they left a legacy of inefficiency, corruption, and millions of dollars of squandered subsidies. Economic theory also pro- vided ample cautions against lending to low-income households that lack collateral to secure their loans. But Yunus vowed to one day make profits—and he argued that his poor clients would pay back the loans reliably. Today, Muhammad Yunus is recognized as a visionary in a movement that has spread globally, claiming over 65 million customers at the end of 2002. They are served by microfinance institutions that are providing small loans without collateral, collecting deposits, and, increasingly, selling insurance, all to customers who had been written off by commercial banks as being unprofitable. Advocates see the changes as a revolution in thinking about poverty reduction and social change, and not just a banking movement.