IMPACT BLOG

Building Resilience: Using Microfinance to Fight the Climate Crisis

We have to face an uncomfortable truth. Although we must keep fighting to reduce the scale of the climate crisis, there is more and more evidence that some degree of change is unavoidable. Nearly all countries will suffer the negative effects of climate change, but there is a wide disparity in terms of how each country can adapt. More frequent rockslides in Switzerland or greater flooding in Miami are already affecting certain communities, but these are in countries that can more or less cope with them.

On the other hand, those most affected by climate change will be those who have contributed the least to it, namely low-income households in the developing world, especially in rural areas. Indeed, climate change could undo years of work in development, forcing as many as 100 million people back into extreme poverty and prompting tens of millions to flee their homes. To take one example, migrants from rural Guatemala, an area heavily hit by climate change, already constitute a large share of those currently trying to cross into the US.

At a more granular level, lack of resources means that the world’s poor are less able to invest in preventing and mitigating against natural disasters and other macro events. When shocks do occur – flooding, crop failure, a spike in conflict – low-income households often lose their main source of income. They are then faced with hard choices: sell an income-productive asset or be unable to pay for basic needs such as food, electricity or education.

Part of the solution will be to strengthen local governments, especially via improvements to standards of governance and adaptive capacity. Yet these are long-term projects, and the climate crisis is already underway. We also need to nurture bottom-up approaches that build resilience at an individual and household level.

Historically, microfinance has been viewed as a way of reducing poverty by increasing financial inclusion. Even if there is still some debate over the long-term effects of micro-credit in certain situations, the evidence is very clear on the social benefits of providing access to financial products such as savings, mobile payments and insurance.

Beyond this however, there is a growing field of evidence showing that microfinance can benefit low-income populations by building resilience. The World Bank and others have shown that micro-insurance and remittance products can protect low-income households against lost income. Microfinance can also provide a cushion against emergencies via micro-credits and micro-savings.

More specifically, the effects of natural disasters are mitigated by the mere ability to put savings in an account instead of keeping them at home, or in illiquid, perishable assets like livestock. Such products have been shown to significantly reduce the odds of households being pushed into poverty. One study in Kenya showed that low-income households are 43 percentage points less likely to reduce food intake as a coping strategy when they have insurance. Another in the same country showed that over a two-year period, households that did not use mobile money experienced a 7% drop in use of goods and services when hit by a negative income shock (i.e. agricultural losses). There was no significant drop for households that did use mobile money. Access to finance can also allow households to diversify revenue streams or invest in assets that provide better resistance to shocks e.g. homes with better standards of construction.

Supporting microfinance institutions also allows us to harness the power of private investors via investment solutions that finance and invest in microfinance and SME finance in the developing world. In 2018, impact investments in microfinance and other sustainable financial institutions stood at USD 31 billion, showing the maturity and size of this investor topic. However, with USD 5-8 trillion of unmet demand for credit among micro, small and medium enterprises in the developing world, there is clearly considerable room for growth.

Climate change will affect us all, but the impact will be hardest for the planet’s most vulnerable – poor people in the developing world. Microfinance provides a solution to build resilience from the bottom-up, complementing top-down initiatives from development agencies and local governments. Providing the support and investment needed for microfinance institutions to build resilience will be a key contribution to achieving the Sustainable Development Goals. More to the point, it could provide millions of households in the developing world with a lifeline amid the rising waters.

Paul Hailey

The author

Paul Hailey is Head of Impact at responsAbility Investments and the author of various publications and articles. Previous roles at the company include Senior Research Analyst for the financial sector. He has an MBA from École des Hautes Études Commerciales de Paris (HEC Paris), where he is also a lecturer, and a B.A. (Hons) from Pembroke College, University of Cambridge.