Microfinance in Sri Lanka: A Household Level Analysis of Outreach and Impact on Poverty

Research team

Ganga Tilakaratna
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Upali Wickramasinghe
Thusitha Kumara




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Microfinance, one of the widely accepted instruments for poverty alleviation throughout the world, has been used in Sri Lanka spanning for over several decades. Despite the long history and the large number of institutions providing microfinance services particularly to the poor, there is limited knowledge on the impact of microfinance on poverty alleviation in Sri Lanka. This study fills this gap by studying some important issues related to the microfinance sector: outreach of microfinance, role of informal sources of finance and the impact on poverty and welfare of households.

Microfinance services in Sri Lanka have a wide geographical outreach but the extent of outreach of private operators including NGOs and commercial banks in rural areas is rather limited. Although the poor and the poorest groups have been reached by Microfinance Institutions (MFIs), a significant proportion of their clientele seems to be from the non-poor groups. Microfinance has helped households in middle quintiles to increase their income and assets; helped the very poor to increase consumption expenditure; has inculcated savings habits among the poor; has worked as an instrument of consumption smoothing among almost all income groups; and has helped women to increase their social status and improve the economic conditions. The study also finds that the informal financial market is pervasive across districts and among different income groups.

The study recognizes that financial services alone are not sufficient to raise the living conditions of the poor. To create sustainable micro-enterprise and other economic activities, it is important that MFIs facilitate or directly involve in providing ‘credit-plus’ services to their clients, particularly to those in low income categories. Development of rural infrastructure facilities is of prime importance to improve the outreach of MFIs in remote rural areas and encouraging the private and NGO sectors to involve more effectively in microfinance provision. The study also stresses the need to take into account the heterogeneity of microfinance clients and their needs in designing more effective microfinance instruments.

Table of Contents

List of Tables
List of Figures
1. Introduction
2. Survey Design
3. Microfinance Outreach
4. Informal Sources of Finance
5. Linking Microfinance and Poverty
6. Economic Impact of Microfinance
7. Microfinance and Household Vulnerability
8. Microfinance and Empowerment
9. Conclusions and Policy Implications

1. Introduction

In recent years, microfinance has been looked upon as an effective instrument for poverty alleviation by many governments, international organizations and donors. Today, there is hardly any donor agency – multilateral or bilateral – that is not active in the field of microfinance. The United Nations General Assembly, in recognition of the significance of microfinance in reducing poverty and achieving the Millennium Development Goals (MDGs), has designated the year 2005 as the International Year of Microcredit (Resolution 53/197). The Year aims at raising public awareness of the importance of microcredit and microfinance, supporting sustainable access to financial services and promoting innovation and new partnerships to expand the outreach of microfinance.

The term microfinance refers to “the provision of a broad range of financial services such as deposits, loans, payment services, money transfers, and insurance to poor and low income households and, their micro enterprises.” The idea of providing credit to the poor as a tool for increasing their income and thereby reducing poverty is not new. What is new in microfinance is the innovative methods of providing credit to the poor (e.g., the usage of social collateral such as group guarantee instead of physical collateral, progressive lending approach, peer pressure and peer monitoring), mobilization of savings from the poor and linking credit provision to savings, social mobilization process that involves awareness building and formation of self-help groups and provision of other services such as insurance to cover risks and distresses faced by the poor.

In Sri Lanka, provision of financial services to low income households has a long history dating back to the early years of the 20th century. Thrift and Credit Cooperative Societies (TCCSs), which were first established in 1911, were the pioneers in providing financial facilities to the poor. Nevertheless, it was only in the late 1980s, with the enactment of the Government’s Janasaviya programme that microfinance, in its strict sense, began to be widely recognized in Sri Lanka as a central tool for alleviating poverty and empowering the poor. In the 1990s, the expansion of microfinance activities embraced all sectors namely governmental, non-governmental and cooperative sectors. The establishment of the National Development Trust Fund (NDTF) in 1991 as an apex lending institution was also another turning point in the microfinance sector in Sri Lanka.

Currently, there is a wide range of institutions that are involved in providing microfinance services to low income groups. These include, Cooperative Societies (e.g., TCCSs), hundreds of local and international Non-Governmental Organizations (NGOs), commercial banks (both state-owned and private) and development banks such as the Regional Development Banks (RDBs) and the Sanasa Development Bank (SDB). In addition, the Government’s Samurdhi Savings and Credit Scheme established in 1996 is presently one of the largest social mobilization programmes in Sri Lanka, with over 32,000 village level societies and over 1000 bank branches operating island-wide. Moreover, the Central Bank of Sri Lanka (CBSL) is another key player, which functions as the executing agency of a number of rural credit programmes funded by various donor agencies and the Government of Sri Lanka.

Despite the large number of institutions involved in providing microfinance facilities in Sri Lanka, their impact on reducing poverty or improving household welfare is not very clear. Only a few studies have been undertaken to assess how microfinance has impacted on poverty and living conditions of the households in Sri Lanka. Even these studies, in general, are confined to one or few microfinance institutions (MFIs) /programmes, or to limited geographical locations (Colombage, 2004; Shaw, 2004; Gunatilaka and Salih, 1999; Gunatilaka et al., 1997; Hulme and Mosely, 1996). A comprehensive study covering participants from a wide range of MFIs and diverse geographical locations has been an important lacuna in evaluating the effectiveness of microfinance in reducing poverty in Sri Lanka. Hence, this study attempts to fill some of these gaps in literature related to microfinance by analyzing its outreach and impact at household level. The specific objectives of the study are:

  • To analyse microfinance outreach with regard to the extent, scale, spatial and depth of outreach in Sri Lanka
  • To examine the extent and the role of informal sources of finance
  • To analyse how microfinance has impacted on poverty and living conditions of households, particularly the poor households in Sri Lanka

In the next section, the study discusses the design of the household survey conducted in 50 G.N. Divisions to see the outreach and impact of microfinance. Section 3 looks at the outreach of microfinance in terms of extent, spatial and depth of outreach while section 4 discusses the extent and nature of informal sources of finance. Section 5 provides a conceptual framework on the link between microfinance and poverty. In section 6, the study analyzes the impact of microfinance on various economic variables such as household income, expenditure, assets, housing conditions and employment opportunities. Further, the impact of microfinance in reducing household vulnerability is discussed in section 7 while its impact on empowering the poor, particularly the poor women, is highlighted in section 8. The final section provides some concluding remarks and policy implications.