Financial Innovation for Smallholders: A New Priority for CGAP

After extensive external and internal consultations, the CGAP Board (ExCom) approved the next five-year strategic direction for CGAP at its annual meeting in Amsterdam. The strategic direction lays out five priority themes, desired outcomes, and activities against each priority. We're highlighting these themes in a special blog series. The first post of the series below describes CGAP's approach to advance financial services for smallholder farmers. 

At last week’s Annual Meeting of CGAP’s Council of Governors in Amsterdam, CGAP got the green light to pursue a new workstream centered on financial innovation for smallholder families. This new priority area is a natural extension of CGAP’s focus on clients. After all, as Her Majesty Queen Maxima of the Netherlands reminded the gathering, the estimated 500 million smallholder families represent the largest global segment by livelihood of those living on less than $2 a day.

Smallholder families are not only agricultural producers; they are also consumers who have diverse financial needs. Most smallholder families typically earn income from a variety of nonagricultural sources, including labor and off-farm enterprises. Indeed, evidence shows what many of us knew intuitively -- the poorer a farmer is, the more likely she earns a higher percentage of her income from nonagricultural sources. Consequently, as CGAP promotes financial innovation for smallholder families, CGAP will adopt a holistic approach to understanding the wide array of challenging financial services needs of these farming households.

A man and woman work with a small herd of sheep.

Photo credit: Reza Golchin

Central to those needs is finance for agricultural production. But this is challenging - agriculture is by nature seasonal, with time passing between cash outflows and inflows. Farming depends on the quality of the resource base, it is vulnerable to pests, disease and spoilage, and it is exposed to the volatility of weather and prices. Financial services providers face risk and liquidity management challenges because farmers in the same area generally borrow at the same time and often do the same activities, and therefore, they are often exposed to the same risks. And working in remote rural areas, with sparse populations and weak infrastructure, typically results in higher transaction costs.

As a result, traditional microfinance has not reached an estimated 90% of smallholders - those only loosely connected to value chains or noncommercial smallholders not connected to a value chain at all. (Read the CGAP Focus Note Segmentation of Smallholder Households: Meeting the Range of Financial Needs in Agricultural Families)

But smallholders have other financial needs. The irregular cash flows and risks of agriculture activities further complicate an already complex system of household cash management where agriculture is not always the only or most important source of income. Consequently, CGAP will also focus on identifying and meeting those financial needs of smallholder families that are not directly related to agricultural production, including off-farm enterprising and household consumption. While these needs are not unique to smallholder families, they often are uniquely impacted by family reliance on agricultural activities. For example, in smallholder communities in parts of western Kenya, school fees are due soon after the maize crop is harvested, forcing parents to sell off their produce when the market is still flooded with maize and prices are low.

Ironically, the financial product these smallholder families may need most is not tied to farming directly – what they need are financial mechanisms (such as a loan or a savings account) that would allow them to hold onto their harvest until market prices increase.

More needs to be understood about the financial lives of smallholder families – not only collecting the quantitative evidence on cash flows but also qualitative evidence of client aspirations, preferences and behaviors. What do smallholders really need - especially in light of social trends such as urbanization and migration, and the impact of climate change? CGAP, in partnership with others already active in this space, hopes to shed light on this question going forward.

The author Michael Tarazi is a Senior Policy Specialist at CGAP.

The next post in the series will focus on developing provider ecosystems to advance financial inclusion.