Microfinance is the supply of small loans (as little as £20 / $30) and other basic financial services to the poor who do not have access to formal banking systems.
One of the benefits of microfinance is that the poor do not have assets but they can still acquire loans based on their reputation within their communities. Ideally, they can avoid high interest rates which sometimes force them to rely on loan sharks.
Therefore, to work, interest rates on loans need to be high enough to return the cost of the loan plus the cost of potential defaults and local administration.
Where microfinance succeeds is in regions where conditions and processes enable the loan repayment.
Microfinance is generally not the best tool in war zones, locations where there is much disease or communities are widely dispersed.
As a tool, microfinance is best used in conjunction with the establishment of local businesses in order to ensure that the venture is sustainable rather than just providing aid.
Microfinance has historically been for profit with local money lenders or loan sharks taking a large profit ensuring that the communities to which they lend remain in poverty.
