The Impact of Microfinance on Poverty Reduction at the Macro Level in Bangladesh Comparing with That of the Traditional Banking Sector

This paper conducts a comparative study between Microfinance Institutions (MFIs) and the wider banking sector in Bangladesh investigating their macroeconomic impact on poverty in the long run. Microfinance has received much international acclaim in recent decades, but it is debatable whether it has helped individuals break the poverty trap. Stiglitz’s theory on ‘Peer Monitoring and Credit Markets’ suggests the poor should have greater opportunities to escape poverty through loans with little/no collateral and low-interest rates. However, during the years 1983-2016, microfinance appears to have no significant impact on poverty in Bangladesh. First, a Three-Stage Least Squares Regression assesses the relationship between microfinance credit, banking credit, the poverty gap and GDP growth. Here, microfinance has a positive impact on GDP growth but no impact on poverty, possibly because of high-interest rates in practice or a saturated micro-business market. Conversely, the banking sector reduces poverty whilst not impacting economic growth suggesting the poor have been supported through other channels for financial development, including increased access to bank branches. A Vector Autoregression Granger-Causality test has been conducted to observe causality between the financial credit variables and the poverty gap. Results show the poverty gap Granger-causes both banking credit and microfinance credit, suggesting poverty leads individuals to take loans. But this is only expected for microfinance, not the wider banking sector, which raises concerns over whether MFIs are reaching the right individuals. Overall, this study questions the effectiveness of microfinance in reducing poverty, but it is important to acknowledge that this study has been limited by a lack of data from MFIs, and further research is needed with more data