Transaction Cost Reduction Models For Micro Finance Institutions

Abstract

During the past ten years, the microfinance industry has established itself as a dynamic and fast-growing segment of the region's financial markets. As a result, what once was a relatively obscure grassroots movement has become a topic of major importance in many national development strategies. In developing countries, the costs for supplying financial services for a Micro Finance Institution (MFI) are high in rural areas. Often, these costs cannot be adequately covered through interest charges because usury laws or traditions prevent charging high rate of interest to clients. Therefore, MFIs tend to reduce the quality and quantity of their services, which increases transaction costs for the clients. The article discusses several area specific collection models that can be adopted in the MFI operational strategies to reduce transaction costs. Collection risks are to be considered while adopting suitable collection strategies and in optimum utilization of resources. The reduction in operational cost can be transferred to the clients by reducing the interest rate on loan products; thereby the financial services for poor households can contribute to the achievement of Millennium Development Goals.