The Role of Financial Services in Reducing Hunger
For the majority of the 1.4 billion of the world’s poor living on less than $1.25 a day, agriculture is the main source of income and employment. According to the UN Food and Agriculture Organization (FAO), approximately 80% of the food consumed in the developing world is produced by smallholder farmers. These farmers are both vulnerable to food insecurity themselves, and at the front line of addressing the problem globally. Many live in areas lacking access to basic financial services, leaving them vulnerable to shocks and prone to low-risk, low-return investments that suppress production and income.
A recent paper by CGAP summarizes research supporting several mechanisms through which financial services can facilitate progress toward the Sustainable Development Goals (SDGs), including the second goal – reducing hunger and promoting food security.
Improving access to financial services can help farmers make profitable investments that increase their yields. At a macro level, higher yields increase the total global supply of food and directly contribute to the GDP of the predominantly poor and sub-Saharan African countries whose economies are based on agriculture. At a micro level, higher yields increase household income and food security for the world’s 1.5 billion living in smallholder households.
Research shows that financial products that are designed for the specific needs of farmers are effective in increasing input use and raising outputs. Farmers’ income comes all at once during harvest time, but they need funds at other times of the year, to purchase inputs like better seeds and fertilizer during planting season and to smooth their consumption between harvests. They are exposed to excessive rainfall and other shocks that can destroy their harvests and wipe out their investments. And many traditional financial products or even products designed for the urban poor may not suit farmers’ needs.
Researchers in Zambia addressed the seasonal variation in farmers’ income by providing access to consumption loans during the hungry season. The ability to smooth income enabled farmers to make bigger and, in some cases, more profitable investments that increased output and food consumption. A study in Mali found that input loans structured around the specific needs of farmers – to borrow a large lump sum at planting time and to repay the loan after harvest – helped increase investments in agricultural inputs and led to increased production. But as in other studies on microcredit, there was no measurable effect on profits. Still, the study demonstrates the potential of microcredit products designed to address the seasonal credit needs of farmers.
Similarly, weather insurance products can help farmers invest in riskier and more profitable input investments, again leading to increased production. In fact, a study in Ghana found that insurance was even more effective than credit in increasing investment.
However, take up of insurance products remains low, and the supply of credit is often constrained (considered too risky by financial institutions). When there are thin or missing markets, research shows that simple products such as savings accounts can also lead farmers to make larger investments in agricultural inputs. Savings accounts are also a cost-effective way for financial institutions to attract new clients.
A study conducted in Malawi looked at the impact of providing farmers with a way to automatically save some of their harvest proceeds in accounts with a local bank. The study found that farmers who were offered the option of directly depositing some of their revenue into these savings accounts increased investment in agricultural input by 13% and increased production by 21% compared to those who were not. Furthermore, researchers also found a positive impact on household expenditures, which leads to greater food security for the farmers themselves.
These and other studies of well-designed products clearly demonstrate that financially empowering farmers can increase income, investment in inputs, and production, potentially leading to improved food security. Yet not all financial services help farmers, and farmers, especially smallholder farmers, have limited access to formal financial services. One reason is that most of them live in rural areas, far away from most formal financial service providers. Another reason is that many financial products do not take into account the seasonal income and investment opportunities of farmers or the sources of risk they face, so farmers may not be eligible for or interested in adopting the products, and they may not benefit even if they do. Designing products around farmers’ specific financial needs can have big effects at macro and micro levels on increasing food security for the world’s poor.