Access to finance and poverty reduction : an application to rural Vietnam

Providing access to finance to the poor has been proposed as a tool for economic development and poverty reduction. Our research aims to provide a deep analysis of how to enhance access to finance on a sustainable basis, focussing on rural Vietnam. It analyzes four main areas: (i) why access to financial markets by low-income households is severely constrained; (ii) how policy makers deal with the absence of financial markets for the poor; (iii) who are actually excluded from formal financial system; and (iv) the relationship between access to finance and poverty reduction. It is demonstrated that market imperfections (such as asymmetric information and transaction costs) can explain the lack of access for the poor. However, the development of financial technologies, such as joint-liability group lending or lending through partnership with social/information intermediaries may enhance information availability and reduce transaction costs. The poverty reduction approach that many policy makers have been following has failed to generate finance for the poor on a sustainable basis. We suggest that a mixed approach which combines the poverty reduction with financial systems approach (i.e. recognises a balance between social and financial goals) may be appropriate. This proposition is supported by empirical evidence from rural Vietnam where it is shown that the poverty reduction approach that the government has followed has not enabled financial institutions to achieve financial-self-sufficiency and this has reduced the outreach capacity. Moreover, we find that under the poverty reduction approach, the better-off households, rather than the very poor households, are more likely to gain access to formal financial sector. We also find that having access to finance has a positive impact on poverty reduction; but this impact is very small, suggesting that it may not be cost-effective.