Micro Finance Institutions

Micro Finance Institutions (MFIs) are organizations that provide small-scale financial services, such as loans, savings, and insurance, to low-income individuals and small businesses who do not have access to traditional banking services.

Their main goal is financial inclusion—bringing the “unbanked” population into the formal financial system.


Key Features of MFIs

  • Target Audience: They primarily serve the poor and low-income households in rural and semi-urban areas, especially women.
  • Small Loan Amounts: The loans provided are of a very small ticket size, known as microcredit, often used for income-generating activities like buying a sewing machine or a cow.
  • No Collateral: Most loans are given without requiring any collateral (assets pledged as security).
  • Services Offered: While known for loans, MFIs also offer other services like savings accounts, micro-insurance, and remittance (money transfer) services.

How MFIs Lend: Common Models

MFIs use innovative models to lend to people who don’t have a credit history or collateral. The two most important models in India are:

1. Self-Help Group (SHG) – Bank Linkage Programme

  • What it is: This is the most dominant model in India, pioneered by NABARD.
  • How it works:
    1. A small group of 10-20 women from a similar background come together to form a Self-Help Group (SHG).
    2. They pool their small savings regularly.
    3. They use this pooled money to give small loans to members of the group.
    4. Once the group becomes stable and manages its funds well, an MFI or a bank links with them to provide a larger loan to the group as a single unit.
    5. The group then uses this loan to lend to its members. The collective responsibility of the group ensures timely repayment.

2. Joint Liability Group (JLG) Model

  • What it is: A model where a small group of individuals (usually 4-10) come together to jointly apply for a loan.
  • How it works: While the loan is given to individuals, the entire group stands as a guarantee for each other’s loans. If one member fails to repay, the rest of the group is morally obligated to make the payment. This social pressure ensures high repayment rates.

Importance of MFIs in the Indian Economy

  • Financial Inclusion: They are a powerful tool for bringing millions of poor people into the formal financial system.
  • Poverty Alleviation: By providing credit for small businesses, they help create sustainable livelihoods and reduce poverty.
  • Women Empowerment: A vast majority of MFI clients are women. Access to credit gives them financial independence, a greater say in household decisions, and improves their social standing.
  • Rural Development: They play a crucial role in promoting entrepreneurship and economic activity in rural areas.

In India, MFIs are regulated by the RBI to ensure they operate in a fair and transparent manner and protect the interests of their low-income clients.