Community-based adaptation and microfinance: a win-win partnership?

Adrian Fenton's picture
Blog by 
Adrian Fenton
21 March 2011

Climate change adaptation may cost US$75–100 billion per year between 2010 and 2050. Where these funds will come from, how they will be channelled and how adaptation should be achieved is still being debated. I propose part of the solution is to go micro: linking microfinance with community-based adaptation.

I argue that:
• Microfinance can provide and channel funding to vulnerable communities for adaptation.
• Microfinance and community-based adaptation (CBA) are linked via the concept of ‘livelihoods’.
• Microfinance institutions (MFIs) are as vulnerable to climate change as their clients.
• Livelihood improvements will benefit both adaptation efforts and help secure the financial viability of MFIs.

Proposition 1: Microfinance can be a source of funding for community-based adaptation

If adaptation cost estimates are correct, we have to be creative in finding additional sources of money and be effective in delivering money where it is needed.

Microfinance could prove invaluable in channelling money for adaptation. MFIs operate at the same level that most adaptation will occur — the local level. Whether acting as intermediaries or directly supplying money, MFIs provide a tried and tested pathway for channelling money to low-income households via the supply of small-scale financial products.

If microcredit usage can be directed away from non-productive uses such as consumption and towards investments in adaptation efforts, the US$65 billion held globally in credit portfolios by MFIs would effectively serve as an additional source of funding. The industry also represents a medium for obtaining money from both public and private sources.

Proposition 2: Community-based adaptation and microfinance are linked via livelihoods

I believe linking microfinance and community-based adaptation would be mutually beneficial due to their connection to livelihoods — the assets and money-generating activities used by households for consumption, coping with uncertainties and responding to new opportunities.

Community-based adaptation is a community-led process based on communities’ own priorities, needs, knowledge and capacities. It combines poverty reduction with livelihood improvements, empowering communities to plan for and cope with the impacts of climate change.

Microfinance is the provision of small-scale financial products to low-income groups. It is linked to community-based adaptation as it can help low-income groups build income and asset bases and also help with managing cash, resources and dealing with risk. All of these aspects can help reduce vulnerability and risk to livelihood shocks and stresses — some of which may be caused by climate change.

Proposition 3: Climate change affects MFIs as much as their clients

Climate change may result in livelihood shocks and stresses for many low-income groups, affecting the size and stability of their incomes. These low-income groups are the very groups MFIs attempt to serve.

Climate change might therefore affect the ability of low-income groups to successfully pay back microloans. MFIs may also face mass withdrawal of micro-savings and increased insurance claims. So livelihood shocks and stresses can directly translate into financial risk for MFIs — meaning that MFIs can be as vulnerable to climate change as the livelihoods of the groups it attempts to serve.

Here is an example…..

Imagine a low-income household whose livelihood depends on rain-fed small-scale agriculture. They took out a micro-loan to help pay agricultural costs such as seed and fertiliser. They will repay their loan when they harvest their crops.

[flickr-photo:id=3964015326, size=m,class=right,caption=Mozambique farmer works in his maize field. Photo by Kate Raisz]

Too little rain may result in crops wilting, too much and crops may drown. Unpredictable rainfall means plants may be sowed too soon or too late.

The impact of the natural environment on the harvest affects the household’s income and consequently their ability to repay their loan. In this example the risk of MFI credit portfolios is strongly linked to rainfall patterns.

Although this is a hypothetical example I believe it is already happening.

The 1998 Bangladeshi floods can be linked to the evolution of the Grameen Bank’s lending model due to the imminent threat of mass loan default. The flood impacted on 71 per cent of its branches, but more importantly on 52 per cent of its members. A liquidity crisis ensued and it had to borrow from the government to recover. One multi-MFI assessment found that for the institutions covered, repayment rates dropped from 92 per cent to 60 per cent after the flood. After Cyclone Sidr struck Bangladesh, MFIs reportedly almost wrote off US$8.6 million worth of loans.

Livelihood improvements will benefit both CBA and microfinance

As livelihoods are central to both CBA and microfinance, any improvements in livelihoods would surely benefit both CBA and MFIs.

An ‘MFI-CBA’ partnership will not be a silver bullet for the problems faced by low-income groups. But if MFIs can try to ensure loans are used to support CBA practices then the vulnerability of low-income groups to livelihood shocks and stresses will be reduced.

This will decrease the vulnerability of MFIs’ credit portfolios and help ensure their financial viability. The result being a win-win partnership for both CBA and MFIs.

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