This post focuses on the demand for loanable funds in low-income and underserved communities. Impact borrowers typically have a specific social or environmental goal in mind and seek funding from lenders who support that goal. These lenders include Community Development Financial Institutions (CDFIs). According to a report published by the Opportunity Finance Network (OFN 2020), in 2019 CDFIs provided $22 billion in financing to small businesses in low-income and underserved communities. Given that total business borrowing (gross private domestic investment) was nearly $4 trillion (2019: St Louis Fed), CDFI lending represents less than six tenth of one percent of total business borrowing. (OFN 2020) However, unlike most social programs, as CDFI loans are paid back they can be reissued to more borrowers, creating a multiplier effect as funds are continuously recycled through communities to deliver greater social impact.
CDFIs are specialized financial institutions that provide financial services to low-income communities and underserved populations. They play a critical role in promoting economic development and financial inclusion for communities often overlooked by conventional financial institutions. Their goal is to offer affordable financial products and investment capital to promote economic and community development. To maximize their impact CDFIs often partner and collaborate with other community-based organizations, local governments, and private sector entities to leverage resources. Their focus is on communities excluded from traditional financial services, especially disadvantaged communities in high poverty areas with limited economic opportunities.
Impact borrowers typically use CDFI loans to finance small businesses, to generate job opportunities, to improve community facilities (schools, health clinics, community centers, etc.), to build affordable housing, or promote renewable energy and other social and environmental initiatives. The objective of most impact borrowers is to create positive social and environmental outcomes while generating sufficient financial returns to satisfy terms of a loan. Nearly 90% of CDFI borrowers are low-income, people of color, women, or reside in rural areas with limited access to loanable funds. In 2019 more than 53,000 small businesses borrowed money from CDFIs. (OFN 2020)
There is some debate over whether funding CDFIs is a better use of funds than government-funded social programs. CDFIs are specifically designed to promote economic development in underserved communities. Unlike social programs that often focus on providing direct assistance, CDFIs provide financing to individuals and small businesses that can create jobs and improve the overall economic health of low-income communities. By providing access to capital for small businesses, CDFIs help create new job opportunities and promote economic growth in these communities. This, in turn, can help to reduce poverty and improve the standard of living for residents of these communities.
CDFIs are also often self-sustaining institutions that can continue to provide financial services to low-income communities without ongoing government funding. This is because CDFIs operate as non-profit organizations and generate income through interest on loans and other financial services. This means that funding a CDFI can have a long-term impact on a community, as the institution continues to provide financial services and support economic development by continuously recycling its initial funding.
Funding a CDFI empowers individuals and communities by providing them with access to financial services and the opportunity to build their own businesses. Unlike social programs that often focus on providing direct assistance, CDFIs provide individuals with the resources they need to create their own economic opportunities. This can help to build a sense of pride and ownership in the community, as individuals and businesses are able to take control of their own financial futures.
Funding a CDFI can leverage private sector funding and investment in low-income communities. This is because CDFIs often partner with private sector institutions to provide financing to underserved populations. By providing seed funding to a CDFI, the government can help leverage private sector investment in these communities. This can result in a greater impact than government-funded social programs, which must often rely on continuing government funding.
CDFIs promote financial inclusion by providing financial services to low-income communities and underserved populations. This is important because individuals who do not have access to traditional banking services often rely on expensive alternative financial services such as payday loans and check cashing services. These services can be costly and trap individuals in a cycle of debt. By providing affordable financial services, CDFIs can help break this cycle and promote financial inclusion for these populations.
Funding a CDFI promotes financial sustainability. In contrast to government-funded social programs which require ongoing government funding, an initial investment in a CDFI can have long-term impacts on a community, as the CDFI continues to provide financial services and support economic development even after initial funding is no longer available.
In general, funding a CDFI may be a better use of funds and have greater impact than many government-funded social programs. CDFIs promote economic development, are often self-sustaining, empower individuals and communities, leverage private sector funding, and promote financial inclusion. By providing access to capital and financial services, CDFIs can create valuable economic opportunities and improve the standard of living for residents of low-income communities.