Impact of finance on poverty reduction and social capital formation: A review and synthesis of empirical evidence

Poverty in developing countries is often tied to imperfections of the enabling socio-economic environment, specifically financial market imperfections. However, financial markets are thin in most low-income regions of developing countries. Conditions are changing, nevertheless, more so for Asia and Latin America than for Sub-Saharan Africa. Financial innovations associated with microfinance appear to greately reduce the cost of financial intermediation at the agent and client level. But while strong claims are made for the ability of microfinance interventions to reduce poverty, this effect cannot be taken for granted. Often, however, the assumption that microfinance has a positive impact on welfare is adopted if a microfinance intermediary appears to be financially sustainable. Based on a comprehensive literature review, this paper discusses and analyses empirical studies that research the question whether the poor's access to and participation in microfinance interventions lead to positive welfare changes. It is not the purpose of this paper to critically discuss the methodologies of the impact studies reviewed. This is done elsewhere. Because the findings of an impact analysis at the client level of microfinance should always be fed back to improve the design and implementation of the intervention at the agent level, the most important performance indicators of microfinance are reviewed as well. The paper concludes with policy and research implications.