Outline of Why do the poor need financial services? With very small incomes that are often irregular and unreliable, poor people find themselves unable to find, out of current income, enough money to buy anything except the basics – food and cooking fuel. Sometimes, if the spending need is urgent enough, they sell assets: but this is an unsatisfactory strategy because their assets are limited and will need to be replaced. Often, they simply go without -- a common tragedy. The only sustainable way to find the money to buy the things they need, if they are short of current income, is to use past income or future income. Past income can be used if it is held in the form of savings, and future income can be used if a loan can be obtained (a loan is simply an advance against future savings). It is the job of financial services to make it possible to get access to past and to future income for expenditure today. Because poor people are, more often than others, in the position of not having enough current income to buy the things they need, they more often than others need to use financial services. The most urgent need they have for financial services is to use them to create usefully large lump sums of money. The sums are needed for small frequent day-to-day expenditures such as clothing, a visit to the doctor, or buying food when income is especially scarce. They are also needed for the longer term. There are life cycle expenses that need to be planned for, such as schooling, marriage, homebuilding and old age. Then there are emergencies: personal emergencies like ill-health and accidents, and impersonal emergencies like natural disasters.

Confirmation of this comes from a research called ‘financial diaries’, in which the financial behaviour of poor households is tracked on a regular frequent basis for a full year. I am part of a team that has looked at 250 households in this way in Bangladesh, India and South Africa. The diaries show that poor people are active money managers, constantly looking for opportunities to intermediate their savings into usefully large lump sums. They all use multiple instruments to do this, most of them informal, though they will use formal services whenever they are available and convenient. They pass a great deal of money through intermediation -- in many cases more than the total annual value of their income. They take this intermediation extremely seriously and regard it as a very important part of everyday life.

When the poor set up financial devices and systems for themselves they clearly show what they find to be most important: the creation of usefully large lump sums. Examples of common informal systems show how this can be done by ‘saving up’ (depositing savings until they have formed a usefully large lump sum), ‘saving down’ (taking a usefully large sum in the form of a loan, and repaying the loan out of a series of future savings), or ‘savings through’ (as in a rotating savings and credit association, where people come together to save regularly and at each meeting one member takes the full amount saved that day).

There are important implications for microfinance providers in these findings. You will notice that the basic demand -- to find ways of turning savings into usefully large sums of money that can be spent on a wide range of needs -- is not what microfinance had in mind when it got going in the 1970s. Grameen Bank, for example, thought that savings services would not be useful to the poor and that what they really needed was loans for investment in small businesses. But Grameen’s small business loans were repaid in weekly instalments over one year. This meant that each weekly instalment was very small. With a bit of a struggle the instalment could be found out of the household’s normal cash flow. This meant that the loan could be used for whatever purpose was most important for the household at the time. And that is indeed how Grameen members use their loans. Only a small minority use their loans fully for business investment. If you go to Grameen's website you will see that the bank still puts a heavy emphasis on small business lending. But in practice in the field it recognizes its customers demand for basic services that enable them to turn savings into lump sums. As well as these very convenient multipurpose loans, Grameen and other microfinance providers in Bangladesh and elsewhere now provide very convenient short term savings services, and also longer term ‘commitment savings’ accounts which allow customers to build much larger lump sums safely and easily.

Stuart Rutherford November 2008