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An Overview of Microfinancing

What is Microfinance

The “micro” in microfinance. As the name suggests, microfinance is about small loan amounts that are granted for starting a business. The Grameen, as well as the Equity Bank (microfinance institute of the year 2009), mainly grant small loans, some of which are well below US $ 100. At the Equity Bank, for example, the smallest microfinance is around $ 10.

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As a huge number of small loan amounts are granted, the credit risks can be diversified accordingly. For microfinance institutions, this has the advantage that you keep the loan default rate for microfinance relatively low, despite the comparatively higher risks.

Maturities in microfinance

The microcredit is often only provided for a relatively short period. The standard microfinance has a term of 6 to 12 months, although terms of 3 or 18 months are not uncommon for microfinance.

Microcredits are typically repaid in installments, depending on the agreement, the first repayment can be due within a week.

Interest in microfinance

The following rule generally applies higher risk = higher costs (interest). This is also reflected in microfinance for start-ups from emerging countries.

Since microcredit is granted unsecured, microfinance institutions also charge higher interest rates in line with the higher risk. For microfinance, these are usually between 20% – 40% pa, depending on the respective creditworthiness.

Business model microfinance

The two large microfinance institutions, the Grameen Bank and the Equity Bank, each have a banking license and thus act as a bank. This has the main advantage that both microfinance institutions can accept deposits in addition to “normal” loans and microfinance in order to be able to refinance at such a low price.

Since the banks only pay a very low-interest rate on the deposits in relation to the interest income from microfinance, it is possible for them to earn a substantial interest margin of up to over 20% via microfinance. It is therefore hardly surprising that both banks are now worth several hundreds of millions of euros – microfinance could therefore also be called lucrative development aid.

Economic benefits of microfinance

The economic benefits of microfinance are undisputed. With microfinance building small businesses and even hiring more people, microcredit in emerging markets is a catalyst for economic growth. Small loans from microfinance enable business ideas to be realized and business start-ups made possible.

With the help of microfinance, for example, a mini kiosk can be founded, a washing drum bought, fertilizers to increase agricultural production financed and investments in the development of medicines can be made.

Microfinance, therefore, has the benefit of financing an offer that usually does not yet exist, but that meets existing demand.