The global microfinance sector is proliferating, especially in the African and Asian regions. However, the challenges of microfinance operations remain a big concern, but technology can help overcome them.
Since the inception of the microfinance sector, the growth trajectory has been phenomenal.
According to ReportLiner, “The global market for Microfinance is projected to reach US$313.7 billion by 2025.”
The projected growth could even go higher if the African and Asian domains’ untapped market is accessed with the right kind of technology.
Reason Microfinance Came Into Action
The main reason that triggered the existence of the microfinance system is the massive disparity in income distribution. Low-income and developing nations are predominantly agricultural economies. Unlike businesses, farmers are deprived of formal financial services.
More than 61% of the population in Africa sustains on agriculture and related activities. (Source: McKinsey)
Similarly, 60% of the South Asian people are dependent on agriculture and allied activities. (Source: Rural Forum)
Since the majority population did not have access to traditional banking, microfinance came into action.
However, there are many challenges in microfinance operations while the industry continues to grow.
Critical Challenges Of Microfinance Institutions
In financial lending, business risk is relatively high. However, it is even higher in the microfinance sector. Let’s see the key challenges for operating microfinance institutions.
Insufficient Risk Management
Insufficient risk management is one of the most challenging situations in the microfinance sector. Microcredit institutions deal with marginalised communities, particularly in low-income and developing countries.
The lending process in microfinance does not require any security like the formal banking system. Thus, microfinance institutions are always on the edge of vulnerability.
On the other hand, clients often borrow from multiple institutions in a short gap, resulting in over-indebtedness.
According to a survey, 56% of the rural borrowers from India are over-indebted.
Unfortunately, India is not the only market that is facing this challenge. It is the actual scenario in the global microfinance market.
Although these issues continue to challenge the operations, institutions are yet to adopt any efficient risk management system.
Access to Quality Information
In today’s world, information is everything. Whether you want to access an untapped market or make your investment secure, there is nothing more important than quality information.
For every financial organisation, investment validation is crucial. However, the lack of quality information on clients affects the validation process significantly. Eventually, most MFIs ends up with bad investments.
Contrary to the inadequate loan disbursement, the lack of accurate information also affects profitable investment decisions.
Lack of Awareness on Financial Services
It is clear from the beginning that microfinance institutions deal with the impoverished segment of the population from developing or low-income countries. So we could expect the literacy rate to be limited.
The majority of the MFI clients are without proper knowledge of how microfinance works. Many of them do not even understand the procedure of borrowing.
On the other hand, many field-level MFI representatives are unaware of the rules and regulations.
As a result, the lack of awareness becomes one of the critical challenges of microfinance operations.
Usually, a nation’s central bank is in charge of monitoring financial institutions like banks and MFIs. But MFIs follow more strict rules than banks making it difficult to operate and sustain.
Besides, most countries have a microfinance regulatory authority responsible for monitoring the entire activity of MFIs.
Maintaining all the regulatory terms and conditions are challenging for the already toughened situation of microfinance institutions.
The constant changes in the microfinance regulatory create further ambiguity and difficulty in operations.
Cost of outreach and Operations
The cost of outreach and operations remains one of the main challenges of microfinance operations.
Unlike banks, MFIs needs to reach their clients in rural areas. Besides, microfinance institutions provide loans in a minimal amount. But the outreach cost and the operation are not less than those of banks.
Eventually, microfinance investment becomes dangerously unprofitable without the high rates of loan processing fees.
Lack Of Technology-Based Solution
Technological advancement and automation made banking more profitable. Along with banks, all the other businesses are also taking advantage of digitised services.
However, most microfinance institutions are still running their operations traditionally or partly automated. A Research on Microfinance solutions stated,
Of the MFIs that exist today, less than 2% are profitable. Most are very small. The transaction size of the loan is so small that transaction costs are a big percentage and interest rates are high, squeezing out room for profits. As a result, growth is difficult. It is hoped that technology can help reduce the high transaction costs and create the up-scaling required for greater outreach and financial sustainability. (Source)
But almost after a decade of the research published, the scenario did not change much. Those who have already adopted technology most likely lack scalability and essential features. A comprehensive solution could make their work more smooth and cost-effective.
To date, many microfinance systems used in the Asian and African domains lack diverse business models. And the majority of organisations are concerned by security challenges.
The solutions for the Challenges of Microfinance
No challenge comes without a solution. Thus the challenges of microfinance also have simple and effective solutions.
The challenges facing microfinance institutions are inevitable. Few of them are hard to eliminate, but most of them are within our grasp.
Challenges like over-indebtedness, regulatory issues and the lack of awareness of clients are few, over which we have very little control. However, if microfinance institutions would have a centralised database like all the banks, MFIs could overcome these challenges. For example, if there was any system to track client’s records, MFIs could have huge benefits.
A comprehensive microfinance solution can ease such challenges. With the technological advancement, many software companies came into developing cutting-edge financial solutions.
Furthermore, to make your institution more profitable, a microfinance regulatory authority compliant solution can be a great help.
Similarly, an online MFI management system can offer you a better solution for poor risk management and access to quality information. For example, an MFI system can detect any mismatch of client data. It can also show the client’s previous records if maintained from the beginning. Eventually, the software can help you process the information and help the investment validation process.
The struggle is still on for microfinance institutions even after a few decades. The challenges of microfinance operations include a lack of technological solutions and access to information. Moreover, the sector is also dealing with regulatory issues and the unawareness of clients. To streamline the profit margin, institutions must adapt to technological solutions.