Q:

How does microlending work?

A:

Quick Answer

Microlending is a system that offers very small loans to impoverished people, often those without credit history or collateral. The small loans are seen as a way to alleviate poverty by promoting entrepreneurship. The small amounts also limit the risk for the lender, since any given default will not cost very much money. In some cases, a single individual may serve as the lender instead of a financial organization.

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Full Answer

Microlending is often facilitated by community lending sites, where users can sign up, read loan requests, and choose borrowers to fund. Many prospective borrowers are from third-world countries and are asking for small amounts to buy needed materials for a business. For example, the baker in a small village may request a few hundred dollars to buy an oven that will let him produce more bread. Repayment is usually on a weekly basis, and the interest charged can be steep. If a loan is paid off successfully, the borrower may request a new loan to further expand commercial operations. The risk on these sites is usually assumed by the lender, who may contribute small amounts to multiple loans in order to hedge against a potential default.

Many Western countries encourage microlending as a way to spread capitalism overseas and create interdependent economic networks between countries.

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