How Micro-Credit Facilities Can Benefit the Developing Countries in the Reduction of Poverty

Published: 2021-07-19 08:11:17
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Boston College
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Research paper
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Scope of the Study

The primary concern of the study was meant to explain how micro -credit facilities can benefit the developing countries in the reduction of poverty. It also helped in the study of how women can be empowered to be small entrepreneurs in the society with the support of the micro-credit facilities. A lot of banks are not considering the poor people nor giving them a priority with their rising interest rates in loans in the modern world.

Literature Review

The literature review of this study focused on the various theories that affect the microcredit. It looked into detail the empirical studies concerning micro- credit, theoretical literature and the general literature that is of great importance to this study. The general research focused on the factors that affect access to credit facilities.

Theoretical Literature

The primary purpose of theoretical research of this study was to review the various theories that are related to the micro- credit sector. These theories helped in the understanding of the benefit of using external funds as a way of increasing one's finances in a situation whereby the internal resources are unable to meet the daily requirements. The theories looked at include Credit risk theory, credit theory for money, liquidity theory, and liquidity preference theory.

Liquidity Preference Theory

The liquidity preference theory states that investors tend to demand an interest rate that is high or premium on securities that have a long time of maturity. It, in turn, have a greater risk, holding all other factors constant investors will prefer to have cash or other material possessions that are of high value. According to the liquidity preference theory, short term securities tend to have a lower interest rate since the investors will, in that case, be sacrificing less liquidity as compared to when they invest in the long term or medium term securities. John Maynard Keynes was the first to introduce this theory. According to Keynes, the main reason as to why money is of value to people is because of the transaction of business and also to be a measure of their wealth. According to Keynes individuals will tend to relinquish the earning they get on the interest to spend their money in the present. The people will also keep the money on hand so as it can act as a form of precautionary measure. Keynes also adds that when interest rates that are higher are offered, people will be more willing to have less money on hand to get a profit from it. Keynes, three motives that can be associated with the demand for liquidity. That is the transaction motive, the precautionary motive, and the speculative reason. The transaction motive refers to the fact that people tend to have a liquidity preference to be a security for them having enough money at hand to conduct various transactions since income is not available always. The precautionary motive is the relation that exists between an individuals liquidity preference as an addition to their security when an emergency occurs, and a substantial outlay of cash is needed. The speculative motive is an investors general reluctance to invest due to the fear of missing out on better opportunities in the future in case they arise (Keynes, 2016).

Liquidity Theory

According to Emery (1984) firms that are rationed on credit, the sector tends using more trade credit as compared to those that have reasonable access to the financial institutions. When a firm is in a situation of financial constraints the offer of the trade credit tends to make up towards the reduction of credit offer from the financial organizations. Businesses that have access to capital markets are in a position of financing those that have been rationed credit-wise. When there is a reduction of money, small firms tend to increase their amount of trade credit. Institutions that are not financially constrained are more likely not to demand trade credit and are in a better position of offering it (Farhi, Golosov, & Tsyvinski, 2008)

Credit Theory of Money

The credit theory of money tends to show the relationship that exists between credit and money. According to this theory, money can be best understood as a debt even in systems that are known to use commodity money. Money is widely known to represent debt even before the modern era (Wray, 2004).

Credit Risk Theory

Credit risk is the risk that is considered to occur by default or the reduction of the market value that is as a result of changes in the credit quality of issuers. An attempt of compensating for the credit risk through increasing the borrowers interest rate tends to grow with the size of the loan that is given. Loans that are big pose more risks as compared to the small ones since they provide incentives for the borrowers to involve themselves to more risky behavior (Lando, 2008).

Micro-credit

Micro-credit lending is a development plan which mainly focuses on mostly giving small loans to the poor in the society. Credits are given to the women to enhance gender equality. The primary purpose of giving out loans is also to encourage the women to be able to start their small businesses (Robinson, 2001).Borrowers tend to pay the loan with a small amount of interest. This development plan aims at the creation of self-sufficiency rather than dependency (Yunus, 2013).According to Muhammad Yunus credit should be considered as a right to an opportunity for everyone and not as a luxury for the affluent individuals. Yunus further adds that even if people lack any form of collateral they can be held accountable to pay back the loan that they were given.

The era of micro-credit has been seen as a great way of helping in poverty reduction, development and ensuring equality since the 1970s.It is mainly based on the assumption that if more credit is given to the poor and the vulnerable populations in a country poverty, inequality and vulnerability will reduce significantly (Stewart & Harvard University, 2007).The evidence regarding such claims has not yet been fully established since the impacts tend to be context related (Hulme & Edwards, 2013).

The Grameen bank emphasizes on the idea that the poor can as well benefit from financial services just as the same way that people who are in developed countries get help (Pollin, Epstein, & Heintz, 2007).Grameen bank has different indicators of measuring accountability as a means of ensuring that the loans will be repaid.

According to Pollin (2000), micro-credit organizations use socially conscious borrowing groups to be able to regulate the repayment of a loan successfully. Those who take up the loans are small groups who hold each other responsible for the loan they are given, and this helps the poor to be in a position to get credit using social collateral rather than limited assets. According to Pollin (2007), the poor can easily get stressed up if they lose the few assets they have to a creditor as the poor are considered to have few assets to pledge. As the poor do not have a variety of assets to use as collateral the micro credits allows them to use their social creditworthiness to acquire the loan (Rahman, 2008). Social capital in the developing countries has been used as a measure of development, and the micro- credit sector is an excellent means of increasing the social capital in the developing countries (Awimbo & Daley-Harris, 2006).

Empowerment is also the reason as to why micro-credits give the loan to people. It focuses on the individuals who have been neglected in the society especially the women. Empowerment is a key towards human progress (Becker, 2005).The state also determines the level of development and empowerment as it either creates the opportunity or hinders the development. If the state formulates rules and regulations that will affect the human rights negatively, it will result in a low-level of development. Micro-credit is more prone to economic development because it stands a better chance of incorporating gender (Higgott, Underhill, & Bieler, 2000).

Factors that Influence Micro-credit Accessibility

In this subsection, the research will discuss the various factors that affect the credit accessibility to the poor. The factors that were considered include the demand for loan and loan conditions.

Loan Conditions

The accessibility of financial services by the poor or those people who are regarded as small holders are one of the limiting factors towards getting the credit facilities. In most cases, the lending institution formulates lending policies that tend to be so strict to the borrowers. It is the specification of the amount of loan that a person ca...

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