Microfinance: where altruism and capitalism collide
Before arriving in Bangladesh, I was familiar with the basics of microfinance: that it involved giving small loans to people who were too poor to qualify for normal loans from regular banks, that the model had been pioneered by Dr. Muhammad Yunus here in Bangladesh over 30 years ago and, that the repayment rates were incredibly high, and overall, the concept was seen as being highly successful in helping people climb out of poverty.
But after three months spent working for an organization whose core program is in providing microcredit to the rural poor, I've come to learn that the reality of microfinance is more intricate and dense than I'd realized.
But before offering my opinion about the industry (and make no mistake, it's a gargantuan, growing industry with over 30 million borrowers and 175 billion taka (about $2.8 billion Canadian), in loans outstanding in Bangladesh alone), I'll first state my disclaimer: In no way do I believe that a) a single blog post can do justice to the topic, and b) that the amount of time and exposure that I've actually had to the microfinance sector has been enough to give me a thorough understanding of this tricky topic. But luckily, I've had the chance to visit several villages that were populated almost exclusively with microcredit clients and interview some of them. On top of that, I've also been able to pick the brains of field staff and managers with years, sometimes decades, of experience in the field.
The biggest lesson I've learned is that microfinance is at least as much about business as it is about philanthropy. Although the microfinance institutions, or MFIs, take a risk by lending to people with almost no collateral, the high interest rates they charge - sometimes as high as 20% - can have the inverse effect of what's intended: Rather than giving the poor a hand to help them out of poverty, having to pay such high interest can prevent the families from being able to build their own savings, keeping them reliant on loans forever, or at least, for the foreseeable future. The longer they're on loans, the more money the MFI makes. The interest rates seem especially unnecessary when you consider the fact that some of the larger MFIs, such as the Grameen Bank and BRAC, had surpluses amounting to more than a million dollars in recent years. As one Bangladeshi man put it, the MFIs are often seen as doing nothing more than "drinking the people's blood."
There are other criticisms surrounding MFIs, including the fact that they receive lots of money from the government and international aid agencies but portray themselves as self-sustaining, along with the fact that not all poor people have the "entrepreneurial drive" that would allow them to use the loans they receive to build self-sufficient businesses (a key goal of microfinance).
But encouragingly, it appears that better models of microfinancing are emerging. As an example, Food for the Hungry (FH), another international NGO that has operations in Bangladesh, allows the poor to essentially borrow on their own savings. Participants of its program are organized into groups, which then decide how much they want its members to save every week (usually no more than a dollar a week per person). From these savings, the group can then disburse loans to any of its members. This innovative approach has several advantages:
1) Since it's the members' own money at stake, the group is unlikely to give loans that it doesn't think can be paid back, so the chance of default is low.
2) The members know that if they default on their loans, they're not just merely an annoyance to a bank that has seemingly bottomless coffers to begin with. More likely, they're taking food out of the hands of their neighbours, relatives or friends. Again, this makes the chance of default quite low.
3) The group profits from the interest that members pay on the loans. Eventually, the savings pool, supplemented by the profit from interest, can become large enough that either larger loans can be given, or the account can be closed out, providing a significant return for the group members.
4) Dignity and empowerment, for both clients and staff. Since the organization never touches the money, there's no need for debt collectors to chase down their clients and the self-determining nature of the groups (i.e. the group itself decides how much money to lend and what interest rate to charge) truly empowers the members, because it's exclusively their own money and effort that's allowed them to escape lives of impoverishment.
Despite the criticisms that it's received, I continue to believe that microfinance, while certainly having its fair share of drawbacks and glitches, is a critical part of Bangladesh's development and that the poor of the country are better off with it than without. After all, even if we agree that the MFIs are about business, not philanthropy, no business can survive without demand for its product, and the 30 million borrowers in this country represent a demand that's not going away any time soon.
Tagged with
poverty,
rural,
bangladesh,
development,
microcredit,
Bangladesh,
poor,
microfinance,
business,
philanthropy,
interest,
raksha,
vasudevan
| 
SASHA SEARS
ANTHONY LOTT
Comments
surpluses generally are required to lend more and especially to provide a more lenient form of collections during delinquency.
One million surplus does not sound like a huge surplus to me. BRAC's website says it spent over $500M last year! As a matter of fact, a change in the business will likely plunge them in debts.
The solution seems nice, but clearly, it's only empowering when things are going well in your village, and that you are esteemed by your peers. If they don't like you because you came from another village and married one of their boys, for instance, it's not all that good. Furthermore, if you happen to need more money than you cooperative can give you, you're screwed. And if you fail miserably, you're screwed.
You're not going to find a perfect system. But, for sure, having more options for loans is a good thing. So kudos to both systems.
some extra details about microfinance and why the interest rates are so high (it's to cover the transaction costs incurred):
http://www.kiva.org/about/microfinance/
I do research for my dissertation on microbiological drinking water quality in villages in Araihazar, about 25 km east of Dhaka.
An old man in one of the villages had his rickshaw stolen while we were there. He needed about 60 USD to replace it with a used one. I asked about microloans and was told by our field manager that this man would never make enough money to pay the loan back with the high interest.
Micro-loans seem to be only a partial solution to sustaining every human life in Bangladesh, not only the young ambitious lives.
FH...isn't that plan a basic credit union or coop? S&L; in the US. It's been around for a long time. The benefit of this system is that the cost of administration is lowered immensely when lower-paid locals handle the finances versus (realtively) high-paid NGO staff.
Sounds like a great life experience!
The "emerging" microfinance model discussed by the blogger is more aptly described as a "rotating savings and credit association" and is one form of the group loan methodology.
My problem with mircofinance is the lack of impact studies that are done. Are clients creating businesses that survive and grow? Only when this happens and additional employment is created will microfinance have larger impacts on poverty reduction and economic growth.
I like the Food for the Hungry spin on Grameen's approach, but I also think that the "criticisms" of Grameen that Ms. Vasudevan lists are misplaced.
First of all, many of the people to whom Dr. Yunus's Grameen Bank loans money, couldn't possibly save $1 per week, so while I like the FfH spin, it can only be delivered to people who are already doing well enough to be able to put savings aside. Many of Grameen's loans go to people who couldn't save a $1 per year on their current incomes, let alone $1 per week. Secondly, the FfH principles she listed above are identical to those of Grameen Bank, with the exception of the fact that the interest payments stay within the group. Thirdly, the fact that not everyone can be an entrepreneur in no way reduces the value of Grameen Bank. There is not and never will be a single silver bullet that will solve all problems. And, finally, while 20% sounds like a high rate, it is a fraction of the cost of alternative sources of capital for its clients and its tiny surplus indicates that it is the minimum rate that it is within the bank's financial means to charge.
A $1 million dollar surplus is miniscule for an organization the size of Grameen. It amounts to about 16 cents per active borrower per year or 1 cent per every $12 loaned. In fact, if anything, $1 million per year may be dangerously low, given that the stability of the bank and its ability to grow both require that it generate some surplus (to cover potential losses and fund growth).
Thanks for your post - it's attracting some solid attention!
I think your solutions describe a co-operative (or credit union), which may be a good solution. But a credit union isn't an MFI. An MFI requires capital to get started; it can't wait until the one-dollar-a-week contribution amounts to something worth lending.
And recall the roots of micro-finance (as Yunnus describes them): interest rates much higher than 20%, unjust lending terms (occasionally amounting to slavery), and unequal access to lenders. Even if a given MFI addresses only one of these conditions, many borrowers are still better off.
I'm surprised I'm advocating this, but an MFI that earns a net revenue (i.e. for-profit) is not inherently oppressive. Running an MFI is a high-risk business; historically, high financial risks are taken when there are high financial rewards.
Finally, my intuition is that most governments where MFIs are most prevalent are less ethical than even the least ethical MFIs. That might be a slight exaggeration, but I wouldn't trust a particular government any more than an MFI to deliver an access-to-capital program. And the government lending rates would likely exceed the MFI lending rates.
Grameen is owned by its members. There's nobody making profits from the organization. Grameen members do deposit their savings with the bank.
Perhaps the author of this article is not yet familiar with how Grameen has evolved over the years.
Some interesting parallels:
1) The author basically describes the fundamental principle of cooperative financial institutions such as credit unions. The concept of pooling members’ assets is nothing new. Members have a stake in the loans they underwrite. Borrowers pay interest on loans which in turn represents investment yields for depositing members. In this sense, it is interesting to see a fringe or ancillary benefit of the microfinance program: the infancy of cooperative ‘banking’.
2) The interest rate charged by MFIs – a stated 20% in the column above – must be sufficiently high to justify the allocation of capital by the MFI. That is, there must be sufficient incentive (payback) for the MFI to maintain current capital allocation if financial conditions exist that allow the MFI to earn a higher yield while shouldering lower risk in another market. To illustrate my point, an unsecured line of credit where the borrow DOES have the demonstrated (verified by a search of the borrower’s credit history) financial ability to repay the loan in twenty-one to thirty days costs about 20% in the North American market.(i) Therefore, the rate of interest must be at least as high – if not more – in higher risk allocations.
Footnotes: (i) http://canada.creditcards.com/best-canadian-credit-cards.php
The point here is not the interest rate charged but whether the community feels they have control (or at least a say) in how rates are set and how the MFI is operated.
We need job,credit card(s), home loan to meet demand of our life but poor mostly has nothing.Microfinance helps. Tiny and supervised loans administration cost is high, so 20% is not to much and 30 million borrowers number indicates that. Why not the interns try to stay live on one dollar per day for three months.Surely you will be in the long que for microfinance at 20% interest rate . Moni
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