Financial inclusion and the Potential of Linking Formal and Informal Financial Institutions

 Microcredit, microfinance and the vision of building ‘inclusive financial systems’.

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Figure 1: Financial needs and financial services for the poor
Source: Helms (2006)

Microfinance entails the provision of small financial services to poor and marginalized individuals who face severe barriers in gaining access to mainstream finance[1]. The assumption behind this revolutionary idea is that the poor have the willingness and the capacity to undertake income-generating activities, but the exclusion from formal banking channels prevents them to do so. Hence, the provision of microloans may allow the so-called ‘un-banked’ to reduce their level of vulnerability as well as to improve their living standards and their ability in coping with risks (Otero 1999).

Initially, the concept of microfinance was bounded to the idea of ‘microcredit’, i.e. the provision of small loans for the initiation/development of microenterprises operating in the informal sector of the economy. Loans were generally targeted at women and Microfinance Institutions (MFIs) relied on group-based credit methodologies to overcome information asymmetries by capitalizing on a set of pre-constituted social ties among members (Andreoni and Pelligra 2009).

Subsequently, individual lending schemes emerged and the scope of microfinance initiatives also expanded to a variety of microfinance services able to cater for the financial needs of poor individuals and their families (Matin et al. 1999). At first, this expansion resulted in the introduction of savings products, often regarded as ‘the forgotten half of microfinance’[2] which was accompanied by the emergence of commercially oriented and fully regulated MFIs able to attract deposits and convert them into loans (Robinson 2001; CGAP 2006). Then, many other financial services, i.e. microinsurance, money-transfer services, pension schemes have been added to MFis product portfolio (See Figure 1).

More recently, the vision of ‘inclusive finance’ has emerged. This vision conceives microfinance as an integral part of a financial system that is ‘pro-poor’ in itself (Napier, 2011) and where «…a continuum of financial services providers work within their comparative advantages to serve […] low-income people and micro and small enterprises» (UN 2006, 5) with a wide variety of cost-effective options. Moreover, since no single type of financial service provider can satisfy, by itself, all the needs of those who are ‘un-banked’ (Helms 2006), triggering financial linkages by establishing partnerships among different types of institutions is a key strategy for reaching more clients, providing access to poorer clients and increasing the variety/enhancing the quality of the financial products and services offered (Floro and Ray 1997; Pagura and Kirsten 2006; CGAP 2006).

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Table 1: Advantages and disadvantages of the various financial service providers

Table 1 summarizes the major strength and weaknesses of the various financial services providers that may operate in the financial of a country. Formal financial institutions (e.g. commercial banks) are those operating under specific banking regulations and supervision. These institutions may rely on extensive infrastructure and systems, availability of funds (especially public and foreign capital) and opportunities for portfolio diversification. Yet, traditionally, they provide large loans to well-established private and public government enterprises or direct their services to high net worth individuals positioned in the upper and middle income strata of the population. Instead, informal financial institutions are those operating beyond the scope of financial sector regulations and supervision, such as moneylenders, ROSCAs, pawbrokers, traders and even relative or friends. These institutions normally serve individuals and businesses with a financial need that is not satisfied by the formal financial sector such as traders, artisans, farmers, salaried employees and small enterprises in both rural and semi-urban area. Finally, across the boundaries of the formal and informal financial sector, it is possible to position semiformal financial institutions, i.e. organizations, such as credit unions or financial NGOs that are not subjected to banking regulation, but normally licensed and supervised by government’s agencies.

Financial inclusion and the ‘linkage banking model’,

Over the last decades, several ‘linkage banking’ schemes, based on the creation of strategic alliances between formal and informal financial providers have emerged. These arrangements are particularly promising in Sub-Saharan Africa, characterized by highly fragmented financial systems with a multiplicity of informal, semi-formal and formal financial institutions with low levels of intermediation among each other. Moreover, in this context, informal mechanisms for saving and borrowing are widespread, but are often inadequate to support enterprises growth and upgrading (Steel et al. 1997; Nissanke and Aryeetey 2006; Demirguc-Kunt and Klapper 2012).

Therefore, establishing linkages between formal and informal financial intermediaries may be a viable strategy for combining banks´ resources with the several advantages of informal agents for channeling the savings collected by informal intermediaries to productive areas of the economy via the banking system (Aryeetey and Fenny 2006; Aryeetey 2008). Through linkages, financial institutions can improve their competitive position, access to new markets and expand their outreach, reduce transaction costs and share the risks and costs of product development. Moreover, linkages allow to overcome the various institutional or operational obstacles faced by financial institutions, as well as those barriers related to physical infrastructure, geography, limited population density or regulation (Miller Wise and Berry 2005). These benefits originate from the synergies that result from the combination of the specific comparative advantages of the formal and informal actors involved in the partnership.

According to Seibel (1997), in the implementation of the linkage strategy two linkages dimensions must be considered:

  1. The institutional dimension: drawing on 12 case studies in Asia, Africa and Latin America, Pagura and Kirsten (2006) have grouped financial linkages into two categories, namely direct linkages and facilitating linkages. On one hand, in direct linkages «…the main purpose of the linkage is to help less formal institutions diversify their sources of funding, expand their loanable funds and/or balance liquidity shortages and excesses» (ibidem, 5). A case in point is that of a bank offering bulk loans to non-formal financial intermediaries for on-lending to their clients. On the other hand, in facilitating linkages the formal financial institution may employ local agents to take advantage of their information advantage and of their strong enforcement capacity.
  2. The financial dimension: this requires a product design based on the linkage between savings mobilization and credit allocation. This relation may be «…either in fixed ratios, with the amount of credit contingent upon the amount of savings, or in dynamic ratios, with the amount of credit increasing with the number of successful repayment cycles, ensuring a gradual growth of the balance between credit and borrower capacity to save, invest and repay» (Seibel 1997, 18). Financial linkages, in the two facets of savings and credit, are essential for effective integration. Yet, the prevalent tendency has been to promote the aspect of credit provision at the expense of deposit collection.
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Table 2: Examples of linking arrangements

Table 2, recalling the strength and weaknesses of the different typologies of financial service providers presented in table 1, reports some example of possible linkages.

This first chapter has briefly reviewed the concept of microfinance, inclusive finance and the potential of financial linkages among different types of financial institutions in expanding the boundaries of financial inclusion. In the next chapter, after introducing some data about the level of financial inclusion in the country, the Ghanaian financial landscape will be illustrated focusing on the various typologies of financial institutions operating within it. The analysis will suggest that, as many other Sub-Sahara African nations, the financial system of Ghana is very fragmented in a variety of formal and non-formal financial institutions, thus offering a fertile ground for a ‘linkage banking’ strategy.


Andreoni, A. and Pelligra, V. (2009) Microfinanza. Dare credito alle relazioni, Bologna: Il Mulino

Aryeetey, E. (2008) ‘From informal finance to formal finance in Sub-Saharan Africa: lessons from linkage efforts’, High-Level Seminar organized by the IMF Institute in collaboration with the Joint Africa Institute, Tunis, Tunisia, 4–5 March 2008

Aryeetey, E. and Fenny, A. P. (2006) ‘Promoting Access to Low-Cost Finance for Investment in Sub-Saharan Africa’, High-Level Seminar organized by the IMF Institute in collaboration with the Joint Africa Institute, Tunis, Tunisia, 28February-1March 2006

CGAP (2006) Good Practices Guidelines for Funders of Microfinance, CGAP; Washingthon DC

Demirgic-Kunt, A and, L (2012b), ‘Financial Inclusion in Africa. An Overwiew’, The World Bank, Policy Research Working Paper 6088

Floro, M.S. and Ray, D (1997) ‘Vertical links between formal and informal institutions’, Review of Development Economics, Vol 1, Issue 1, pp 34-56

Helms, B. (2006), Access for all. Building Inclusive financial system,Washington, CGAP, The World Bank

Matin, I., Hulme, D. and Rutherford, S. (1999) ‘Financial Services for the Poor And Poorest: Deepening Understanding To Improve Provision’, Finance and Development Research Program Working Paper Series, n. 9, IDPM, University of Manchester

Miller Wise, H. and Berry, J. (2005) ‘Opening markets through strategic partnerships: an analysis of the alliance between Fie and ProMujer’, Microreport 23, USAID

Napier, M. (2011) Including Africa – Beyond Microfinance, Centre for the Study of Financial Innovation (CSFI), United Kingdom, Heron, Dawson & Sawyer

Nissanke, M and Aryeetey, E. (2006) ‘Institutional Analysis of Financial Market Fragmentation in Sub-Saharan Africa. A Risk-Cost Configuration Approach’, UNU-WIDER Research Paper 2006/87, United Nations University

Otero, M. (1999) ‘Bringing Development Back into Microfinance’, Journal of Microfinance, Vol. 1, Issue 1, pp 9-18

Pagura, M. and Kirsten, M. (2006) ‘Formal-informal financial linkages: lessons from developing countries’, Small Enterprise Development, March 20006

Robinson, M. (2001) The Microfinance Revolution. Sustainable Finance forthe Poor, Washingthon, The World Bank

Rutherford, S. (2009) ‘The need to Save’ in Armendariz, B. and Labie, M. (eds), The Handbook of Microfinance, London, UK: World Scientific Publishing

Seibel, H. D. (1997) ‘Upgrading, Downgrading, Linking, Innovating. Microfinance development strategies. A system perspective’ Economics and sociology Occasional paper 2371, Columbus, Ohio, Rural Finance Programme

Steel, W., Aryeetey, E., Hettige, H and Nissanke, M. (1997) ‘Informal Financial Markets Under Liberalization in Four African Countries’, World Development, Vol. 25, Issue 5, pp 817-830

United Nations (2006), Building Inclusive Financial Sectors for Development, New York, United Nations


[1] The concept of microfinance is not new. Its origins are deeply rooted in the past and span through a variety of institutional formats, ranging from informal intra-community loans, individual moneylenders and ROSCAs (Rotating Savings and Credit Associations) to the more formalized credit unions and state development banks offering pro-poor financial products. Yet, the modern microfinance movement gained momentum over the 1980s with the pioneering experience of the Grameen Bank, a MFI established by Muhammad Yunus in Bangladesh. Over the years, the microfinance movement has grown though ‘cross-pollination’ and replications of the Grameen Bank model in all the five continents and microfinance has become a key pillar in various development strategies promoted by the World Bank, the United Nations (UN) and many international NGOs around the world (Armendáriz and Murdoch 2005; Andreoni and Pelligra 2009).

[2] The emphasis on ‘microcredit’ was based on the assumption that the poor cannot save because their surpluses are too small to let them save.  While, as claimed by Rutherford (2009) the great variety of saving technologies adopted by the poor, demonstrates that they can, do and want to save and if they do not save, it is just because they lack of a safe and reliable opportunity to do so.


Roberta is from Padua, Italy. She holds a Dual degree in Business Administration and International Business and a Master's Degree in Economics and Management for Nonprofit Organizations. She is passionate from microfinance and this interest has emerged when starting to collaborate in a microcredit project run by an Italian association. Last year, she also spent two months in Ghana researching models for linking indigenous financial intermediaries (Susu Collectors) with the formal banking system. Roberta is now collaborating as a Kenya Country Liaison Intern at Zidisha Inc, a peer-to-peer microlending service that offers direcy interaction between lenders and borrowers worldwide. She is willing to further her education in the field of Development Finance and she dreams of traveling across Africa to learn more about entrepreneurship and the use of financial services in the continent.

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