Frequently Asked Questions

What Is the Government's Role in Microfinance?

Financial inclusion today is about financial markets that serve more people with more products at lower cost. Developing such markets requires an ecosystem of different providers because different products present different risks and delivery challenges -- and it is unlikely that a single class of service providers will effectively provide all the products poor people need.

As governments become more actively involved in the financial inclusion agenda, a key challenge is defining roles for government in creating the market-based broader and interconnected ecosystem of market actors needed for safe and efficient product delivery to the poor. CGAP has identified three roles that have the potential for significant impact:

1. Promoter of front- and back-end infrastructure: Existing banking infrastructure does not adequately reach the world’s poor. Bank branches are too expensive to construct in low-income areas and, even when present, rarely offer affordable services. Automated teller machines (ATMs) and point-of-sale (POS) devices have wider penetration but have been of little use to unbanked customers without the cards and accounts typically needed to access such delivery channels. Poor borrowers are unlikely to possess the types of collateral typically pledged in collateral registries. Nor do poor borrowers borrow from the types of lenders served by most credit bureaus. And even where cost and distance are not barriers, access to formal financial services is often blocked by the lack of perhaps the most basic component of a financially inclusive infrastructure—a reliable means of customer identification (ID).
2. Rules maker with respect to infrastructure and its contribution to responsible market development: A government’s most obvious role—viewed by many as its primary role—is that of rule maker. As rule makers, governments determine not only what efforts may be undertaken to promote financial inclusion, but also by whom, how, and when. In addition to prudential and consumer protection rule making, this involves the potential to enable innovative financial inclusion business models, including permitting the entry of new actors into the financial service sector.
3. Driver of transaction volume: Driving transaction volume has the potential not only to bring more low-income individuals into the formal financial sector but also to lower the per-transaction cost of the retail/transaction infrastructure for various market actors. Perhaps the government’s most powerful tool to drive transaction volume is government-to-person (G2P) payments—the spectrum of social transfers, wages, and pension payments made by governments to 170 million poor people worldwide.

While each of these roles can have significant impact, the application of these roles in any given jurisdiction will depend on country-specific factors, such as customer demand, market structure and maturity, government philosophy toward the market, and supervisory and other governmental capacity.