This is the continuation of an earlier post about problems faced by microfinance institutions.

Microfinance Challenge 5: Mixing Charity With Business

Since credit without strict discipline is nothing but charity (Professor Yunus), if microfinance providers fail to protect themselves against loan delinquency, they will, in effect, prioritize social objectives at the expense of financial sustainability.

Improper delinquency management is a result of inadequate implementation of corporate governance principles, and formal as well as semi-formal microfinance providers often suffer from this. As a result, looser controls over microfinance deals will lead to higher default rates. Read more about the difficulty inmixing charity with business.

Microfinance Challenge 6: Lack of Customized Solutions for the Poor

Inappropriate targeting of poor households by microfinance programs is a common problem because MFIs fail to understand the varied needs of micro entrepreneurs. MFIs must spend time in the field with their clients and his/her business, and then use this research to develop customized microfinance tools for each micro entrepreneur.

Generalized solutions may work for large companies dealing dealing with large homogeneous customer groups, but microfinance providers need to serve the varied needs of individuals in each micro market segments.

Microfinance Challenge 7: Lack of microfinance training for Human Resource in Microfinance Institutions

Working in the microfinance sector is a different ball game compared to the traditional financial sector. For instance, microfinance officers and volunteers need to talk a different language, build lasting relationships with individual micro entrepreneurs, understand the unique needs of the poor, evaluate the borrower’s sustainability, and grasp the cultural nuances of the borrower’s communities (I’m sure I’ve missed a few).

Of course, all this needs to be done by large financial firms as well, but the needs and characteristics of the two markets are very different. It’s no surprise microfinance providers need special training to ensure they avoid problems such as intimidating or under-serving clients.

Read about developing a good human resource environment in microfinance institutions.

Microfinance Challenge 8: Poor Distribution System of Microfinance Institutions and lack of information about microfinance investment opportunities

There are over 10,000 MFIs across the world, but their reach is only 4% of the potential market.World Bank, 2001

Firstly, microfinance providers may be complacent with their client base in certain cities and feel no economic need (ignoring the social need to eradicate poverty) to spread out their distribution system to cater to the poorest of households. Secondly, micro entrepreneurs are sprawled over large geographical areas, often in remote places, which often makes them inaccessible to MFIs. This is a slight problem because even though there are over 10,000 MFIs around the world, they may not know about the existence and needs of certain micro entrepreneurs.

Microfinance Challenge 9: Dual mission of Microfinance Institutions to be Financially Sustainable as well as Development Oriented

Microfinance providers tend to forget their main objective is social development and not profit creation. The principle of ‘one micro entrepreneur – one micro loan’ is overlooked by profit-hungry MFIs who end up targeting the same individual for many loans and cause multiple borrowing (also known as credit pollution). This is a major problem because at the end of the day, that individual gets burdened by mounting interest payments and is pushed deeper into the folds of poverty. Poor governance on the side of MFIs as well as the micro entrepreneur are to blame for this.

All these problems can broadly fall into either financial and operational in nature and we can therefore see that they should not be impossible to solve as the microfinance sector moves towards it optimal performance level in the next several years. In other words, despite these problems, the prospects of microfinance are quite bright. In the coming weeks, we will look at potential solutions to all these problems, which aren’t difficult to adopt (a couple have been already been mentioned above).