As the name implies, microloans are 'small' loans, sometimes as low as $100. Microfinance institutions disburse these small loans (along with other types of financial services) towards the entrepreneurial poor who rely on them to build up and expand informal businesses, which allow borrowers to typically increase profits. While increased profit doesn't directly translate into immediate and finish freedom from poverty, it does allow the poor to more effectively cope with and combat the suffocating realities of extreme poverty. Historically, poor people were written off by commercial banks as not 'creditworthy,' barred from use of important financial tools such as working capital loans, savings and insurance. However, since the first microloan was dispersed in 1973 in Recife, Brazil, by an ACCION-led nonprofit, the working poor around the world have proven to be excellent credit risks and prudent users of "micro" financial services - today, microloan repayment rates for ACCION's partners worldwide average 97 percent.
Most of the world's poorest people often cannot find steady work, and many that do aren't paid a living wage. To give their own families, the poor often use self-employment in any way possible - they offer fruit from our market, weave clothes, open small bakeries. For this vulnerable population of hard-working microentrepreneurs, microloans can be instrumental in breaking the cycle of poverty. A small loan can be used to buy raw goods in bulk or purchase important equipment like a sewing machine. Financing will also help poor people deal with health emergencies or afford larger expenses such as education, funerals or weddings. In general, these financial tools might help poor people to grow their microenterprises, save money and work at a much better quality lifestyle.
You should note that the "...notion that microcredit brings loans to people who previously had no access to them is widespread but mistaken" (CGAP). Poor people often do have access to informal credit channels - through moneylenders, loan sharks or family members; the task for microentrepreneurs in developing countries is finding access to reliable and safe credit. Distributed by microfinance institutions, microloans are a much more reliable asset for the poor - and for an organization with irregular and uncertain incomes, this financial constancy can be life-changing. Microloans assist the poor manage irregular incomes, smooth consumption and frequently enable them to work their way up the economical ladder with dignity and pride.
Are all microloans the same?
With larger loans reaching several thousand dollars, microloans vary in dimensions depending on multiple factors- including regulatory environment, quality lifestyle in the particular country, size of the microfinance institution and individual client evaluations. The evaluation process to find out credit potential is equally as essential in microfinance as it is in any other 'formal' financial practice. Like traditional banks, ACCION partner microfinance programs assess potential borrowers using measurements like business assets - which could be as small as a tin stall in the market, amount and price of goods sold, cost of raw materials and household expenses or collateral.
However, unlike traditional banks, our partner programs do not make loans based purely upon quantitative revenue or collateral. We send loan officers to satisfy potential borrowers within their workplaces, to weigh qualitative variables - including interviews with clients and references from customers and neighbors - to evaluate a client's character, understand their business and determine the microentrepreneur's willingness and ability to use and repay loans. This character-based lending allows us to go "beyond the numbers" and create a more truth of a potential borrower than a traditional credit rating. Otherwise as evidence for that success of microloans, then a minimum of as a small testimony to the effectiveness of microloan research, is always that borrowers often repay their first loans and return for increasingly larger loans inside a stepped-lending process.
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