Microfinance bridges the gap between the rural poor and the formal financial sector, as the collateral required by commercial banks renders the neediest people in villages unbankable. In order to pull people out of poverty, Yunus realised that there was a need to create a self-sustaining system of lending and borrowing with minimal default. He therefore initiated the idea of collective lending and borrowing in small communities. As poor people cannot provide physical capital or assets as collateral against their loans, Yunus helped to build social capital amongst them to act as a barrier against default.
Based on a great deal of research on the ground, Yunus and his team of students organised groups of women in villages to form loan communities. Rural women would deposit their money with Grameen Bank and could borrow from this fund for entrepreneurial activities. There was collective responsibility to ensure repayment of the loans: the incentive for repayment was knowing the funds were their own, and that defaulting would mean that the entire community would not be able to access such collateral-free loans again. Not surprisingly, repayment rates for Grameen Bank are as high as 97% on average.
While Grameen developed its lending operations to support individuals in income generating activities, it ended up promoting a wave of entrepreneurial activity at the rural level, effectively changing the structure of the Bangladeshi economy.
Bangladesh’s microfinance operations began in the 1970s in which the Grameen Bank – which won the Nobel Peace prize along with its founder Muhammad Yunus in 2006 “for their efforts to create economic and social development from below” through micro-credit programmes – and BRAC (earlier known as Bangladesh Rural Advance Committee) played predominant roles and were later joined by others likes the Association of Social Advancement (ASA), transforming the rural social and economic landscape completely.
