Memoire Online - The role of financial institutions in value chain finance in the global south

Financial institutions (FIs) are organizations that engage in the business of facilitating financial and monetary transactions. There are different types of financial institutions in a developed economy. Financial institutions cover also commercial banks, insurance companies, and brokerages firms. Furthermore, financial institutions can differ by size, scope, and geography. They offer a wide range of products and services such as transactions, deposits, loans, investment, and currency exchange.

In the agricultural sector, the main source of loans for smallholders' farmers and agribusinesses are other agribusinesses in the VC. However, farmers and agribusinesses can benefit from credit offered by FI. These providers of rural and agricultural finance can be broadly Banks (commercial, agricultural banks, state development banks), non-bank financial institutions (NBFIs, commercial MFIs, other non-bank lenders, and leasing companies), Not-for-profit MFIs, which tend to work with poorer clients, and Credit unions and agricultural cooperatives.

KIT and IIRR (2010) have shown that IFs have the capacity to develop new markets for all actors in the chain and make them bank customers. In the Global South, agriculture is the backbone of the economy, then the capacity to benefit the sector can significantly increase the actions of FIs.

2.1.3. Microfinance

Generally, the term MFI is given to non-profit organizations that depend on donations and grants to enable them to fulfill their primary social role of poverty alleviation (D'Espallier, 2012). Thus, in its limited concept, microfinance is the provision of micro-credit for small entrepreneurs who lack access to the formal financial system. Over time, Microfinance has developed from providing micro-loans for low-income people to collecting savings, micro-insurance, micro leasing, assisting with money transfer in relatively small transactions for disadvantaged people, and finally marketing and distributing client's products (Thai-Ha, 2020; Ferdinand & Asmah, 2012). MFIs play a key role to boost the social capital and the inclusion of disadvantaged populations and serve hundreds of millions of low-income borrowers (Morduch, 1999) because it allows access to credit to non-bankable people with all the advantages from banking services (Yunus & Jolis, 1999). The aim is to reduce poverty and develop economies, especially in Asia and Africa. Moreover, microfinance has enabled smallholders to improve the living standards of people, increase income and generate employment (Thai-Ha, 2020). A web-based report on microfinance shows a practical framework for understanding how MFIs function after a typical microfinance intervention using the illustration in Figure¹ 3. The main objective of microfinance is economic empowerment through the use of micro-credit as an entry point for overall empowerment.

	MFIs	State Banks

Concerning the differences between these stakeholders, microfinance is a financial service that caters to the needs of the poor and micro enterprises, and it is typically a collateral-free short-term loan. In contrast, commercial banks generally do business with corporate clients, SMEs and individuals with higher incomes, and offer financing mainly based on collateral and repayment capacity. Alternatives include central banks serving the banking system. They facilitate cross-border transfers of money between banks and government institutions, both domestically and abroad. This flow is required while MFIs are complementary, not substitutes for, banks, donors, and state banks (Miguel & Silvana, 2007). In the figure above, we can see how effective collaboration between social welfare programs, MFIs, state Banks, and commercial banks may lead to greater poverty alleviation.

According to Ferdinand & Asmah (2012), this reduced process depends on microfinance's use to create a sustainable environment and more opportunities. Success in implementing microfinance is mainly linked to the ability of MFIs to meet the objectives of Donors and Banks in facilitating credit approval and the increase in the percentage of borrowers' repayments.

MFIs are always adopting different innovations to expand the delivery of microfinance in rural areas, Meyer (2007) announced several new products, technologies, and institutional connections intending to target rural areas and make financial services available for rural households. Some moneylenders use standing crops as collateral for loans. Others take assets as collateral for short-term farm and non-farm loans (World Bank, 2007).

Gonzalez & Rosenberg (2006) compiled a database that includes 2600 MFIs with 94 million borrowers. This database encompasses several micro-credit providers that are granted by a variety of FIs. The following table² 1 shows the approximate share of each type of FIs in the approval of micro-loans.

State owned banks	30%
State owned Institutions	30%
NGOs	25%
Private banks and finance Companies	15%

Outreach Profitability and Poverty Findings from a Database of 2300 Microfinance Institutions

In the agricultural sector, various authors have concluded that microfinance boosts short-term agriculture investment, earnings, and consumption (Kaboski & Townsend, 2012; Mosley & Hulme, 1998). Unfortunately, while microfinance shows positive impact on Agriculture and Transformation, it has not solved the challenges r thatsmall-scale farmers face. Moreover, it has not shown a significant impact in terms of employment, increased income flows, and physical asset accumulation (Ferdinand & Asmah, 2012; Buckley, 1997; Coleman, 1999). In this context, some Scholars have enumerated several faults such as the high-interest rate, aggressive collection method, and driving people into debt (Thai-Ha, 2020). Besides, Diagne und Zeller (2001) have found following their study in Malawi that microfinance does not show any significant effect on household's revenue (Diagne & Zeller, 2001).

Hence, microfinance has its limitations and faces several challenges in lending to small-scale farmers. For this reason, continuous innovations are needed to enable MFIs to be more efficient in improving farmers' income, poverty alleviation, and economic empowerment while making service providers more sustainable over time.

The following section focuses on the Agriculture Value Chain Finance (AVCF) approach, which can complement and go beyond microfinance. The important difference here is that AVCF is linked to all actors and relationships in the chain in addition to transactions. Therefore, this concept can join several actors in microfinance. In addition, microfinance can be part of AVCF but must be with other financial services to address the different needs of the chain (KIT and IIRR, 2010).

The role of financial institutions in value chain finance in the global south

2.1.2. Financial institutions (FIs) in the Agriculture Sector

2.1.3. Microfinance