Microfinance is blind to aspects of inclusion

Inclusive Economy15 May 2013Hebe Verrest

The problems experienced by microfinance are a good example of what is needed to achieve an inclusive economy. For example, it tends to be blind to social and psychological costs.

I hope for another world. That may not be the kind of opening sentence you would expect from an academic, but I do. I dream of a world without inequality, poverty, violence or exclusion, where quality comes before quantity, where environmental concerns are valued more highly than economic growth, where we consume what we need and not what we can. When I think about how we can achieve such a world and what scenario we need, I come up with an ‘inclusive economy’ as the core pillar of such an alternative world.

To me an inclusive economy would be one that, at least in how it is conceptualized and measured, includes all people, all costs (environmental, social, psychological, economic and human) and benefits of economic production and consumption, and a wide, bottom-up understanding of well-being against which economic improvement should be measured. The term inclusive economy provides opportunities for addressing the widely varied failures of current mainstream economic thinking. Nevertheless, there is a danger too, a danger that inclusive economy becomes a container concept like sustainability, and that by being about everything, it will be about nothing. Yet the paradox, or catch 22, of inclusive economy is that if it is not about everything, it will achieve nothing.

I will illustrate this with an example. There have been attempts to make economies more inclusive in the past. We are all familiar with the work of Amartya Sen, Martha Nussbaum, Sabine Alkire, Allister McGregor and many others, focusing on understanding and measuring the benefits of development, including economic change, in much wider terms than economic growth figures. Another example is fair trade, which attempts to do justice to the social and sometimes the environmental costs of production and consumption. A careful evaluation of such attempts shows the immense complexity of achieving change.

I would like to take this opportunity to look more deeply at an attempt to make economies more inclusive, namely microfinance. In the first decade of this century microfinance became an extremely popular tool to increase the participation and inclusion of low-income groups in the formal economy. Firstly, it offered formerly excluded people access to formal financial institutions through savings accounts, credit opportunities and insurance. Secondly, it was expected to enable micro-entrepreneurs to transform their business from small, informal and ‘marginal’ activities into ‘productive’ and competitive businesses. These larger businesses would generate incomes that would lift the entrepreneur and his family out of poverty. Microfinance has been much celebrated in the development world and beyond, with Mohammed Yunus winning the Nobel Prize for Peace, the UN Year of Microfinance, and a substantial number of NGOs and commercial banks focusing on it. Yet microfinance has also been criticized and these criticisms help us to see the difficulty of achieving an inclusive economy.

I take as my starting point that microfinance can be seen as an attempt to include all people in an economy. Research has shown, however, that it often fails to reach the poorest and most vulnerable groups, who continue to be excluded (Hermes and Lensink 2011). Moreover, my own research among micro-entrepreneurs in the Caribbean (see Verrest 2013 and 2007 (pdf) shows that large groups of entrepreneurs are not interested in microfinance and consider it irrelevant to them. The research categorized micro-entrepreneurs according to their vulnerability and ambition, revealing four types with distinct patterns of organization, results and meaning for their businesses and the relevance of policies, including microfinance. By far the largest group consisted of those running a micro-enterprise alongside many other livelihoods activities, aiming at securing income through diversification rather than income growth. This group was not interested in microfinance as they had no ambition to make their businesses grow and avoided risk and debt. Many preferred being employed to self-employment and felt that more targeted and inclusive education, for example, would be more beneficial to them than microfinance. The emphasis on microfinance in poverty reduction at the expense of other policies made them feel more excluded. Microfinance may therefore have led to the inclusion of many but it has also reinforced exclusion.

Much of the reported success of microfinance is based on the very high repayment rate of loans and sustainability of institutions. A growing body of literature is focusing, however, on the actual impact of microfinance on poverty reduction and business development. This research shows that the loans have not been translated into structural higher incomes, more productive businesses or other classic economic improvement indicators (Banerjee, Duflo, Glennerster and Kinnan 2009; Armendáriz and Labie 2011). More often, they have been used to meet other pressing needs and repayment has been accomplished by taking out other loans. Microfinance has resulted in stress, social pressure and increased debt, outcomes which have not been reflected in any success indicators (Rahman 2004).

So, what is wrong with microfinance? I could have an elaborate political-economy-based discussion about why I think microfinance is wrong, but that is beside the point I want to make here. The problem with microfinance in relation to an inclusive economy is that, although it attempts to achieve an all-inclusive economy, it is blind to other aspects of an inclusive economy, like the costs and benefits of production and consumption, especially the social and psychological costs. It also ignores other, bottom-up ideas about what improvement is, most importantly that income growth is less important than income security and risk-aversion. Microfinance seems to be losing popularity, possibly due to increased understanding of the risk of debt, the financial crisis and the disappointing results it has achieved. Unfortunately, much of the core idea – that microfinance enhances financial inclusion and creates stronger economic actors – remains intact.

This example shows that any attempt to achieve an inclusive economy needs to address inclusion across the board. That makes this debate in The Broker both necessary and timely. We need to be specific about the ‘what’ and ‘how’ of an inclusive economy and engage in a discussion that includes academics, policy-makers and practitioners.


Armendáriz, B., & Labie, M. (2011). The handbook of microfinance. Singapore and Hackensack, N.J: World Scientific Publishing Company Incorporated.

Banerjee, A., Duflo, E., Glennerster, R., & Kinnan, C. (2009). The miracle of microfinance? Evidence from a randomized evaluation. Working Paper. Cambridge, MA: Department of Economics, Massachusetts Institute of Technology (MIT).

Hermes, N & R. Lensink (2011). Microfinance: Its impact, outreach and sustainability. World Development, 39 (12), 875-881.

Rahman, A. (2004). Microcredit and poverty reduction: Trade-off between building institutions and reaching the poor. In H. Lont, & O. Hospes (Eds.), Livelihood and microfinance: Anthropological and sociological perspectives on savings and debt (27-42). Delft: Eburon.

Verrest, H (2007). Home-Based Economic Activities and Caribbean Urban Livelihoods: Vulnerability, Ambition and Impact in Paramaribo and Port of Spain. Amsterdam: Amsterdam University Press.

Verrest, H. (2013). Rethinking Micro-entrepreneurship and Business Development Programs: Vulnerability and Ambition in Low-income Urban Caribbean Households. World Development (47), 58-70.