Microfinance
Microfinance - and why it may not work
Microfinance has long been declared THE solution to the problems of the poor. Like a magic wand, it would lift the poor out of poverty by giving them credit to expand their horizon of opportunity. There seemed to be plenty of cases to back up theory. And it seemed to solve, very nicely, the problem posed by Hernando de Soto in The Mystery of Capital.
It is good to be skeptical of all things hyped, however. Back in Kenya, I learnt that Microfinance had some perverse effects too. The group lending model was creating pressures such that group members would force relatives to take on the debt of a dead member. Disturbing, but I had little else to doubt Microfinance’s efficacy.
I do now. Thomas Dichter argues against the many problems of the Microcredit movement. There is little hard ‘proof’ to his arguments. But he makes simple, convincing ones.
First, why is ‘formalized’ microcredit better than the informal credit systems that exist in all poor communities? These are not limited to moneylenders that charge high interest rates, but to foreign remmitances and rotating savings associations.
Second, he makes the point that much of the microcredit is targeted to the very poor. As he points out, they have neither the skills nor the market opportunity to create a viable enterprise. In contrast, those that really could benefit from credit are the people already established in some moderately successful venture. Yet, “The microcredit paradox is that the poorest people can do little productive with the credit, and the ones who can do the most with it are those who don’t really need microcredit, but larger amounts with different (often longer) credit terms.“
Most damagingly, does credit really initiate�economic growth? Probably not. “The development of the advanced industrial countries did not depend on the average middle class or poor person having access to credit.”
If the large majority of us in the advanced economies are not entrepreneurs, and have had in our past little sophisticated contact with financial services, and if most of us use credit, when we do, for consumption, why do we make the assumption that in the developing countries, the poor are all budding entrepreneurs; that they will use credit wisely for investment in income production, and are ready for all manner of financial services?
Hype makes it difficult to see clearly. I am thankful, therefore,�for this article to bring me back to reality. We cannot assume that simply because people are repaying those small loans that they actually benefitted (remember Kenya), or that they are indeed the ones most in need of that credit.
Credit is not an end in itself, but a means to generating economic opportunity and growth. Yet, in all the hype we have forgotten to question the basic premise. Is lack of credit really the problem? Or only one of many problems? If the latter, it must be delivered only after other barriers have been removed. At the very least, the hype should not prevent us from recognizing that the problem is substantially more fundamental.
Discussion
9 comments for “Microfinance - and why it may not work”
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[...] Yunus’ work shows that just the opposite is true. That solutions to poverty are complex, at best, and must fit the situation. Even microfinance, hailed globally as a solution that works, works differently in different regions and even fails in certain communities. There are other problems with microfinance. And as with all ideas that become holy grail in the west, the presumed success of microfinance has a downside. It prevents a true evaluation of the impact of this model. It also prevents us from questioning if the problem is a lack of finance, or something more fundamental. Most of all, it is ironic, unfortunate, and dangerous that ‘civil society’ proponents of microfinance take its apparent success to validate a simplistic solution to a complex problem. [...]
How does “Microfinance” works??
I do agree with many of the points here especially about ‘formalised microcreidt’. Formalised microcredit especially as done by NBFCs and MFIs are actually looting the poor in the name of development. For them repayment is enough, and they think that is development. I actually do not fully write off microcredit nor do I say it is a ’saviour’ but I certainly feel that if microcredit is still done in the informal way, where the management is by the poor and not by an outsider who taps the interest, I feel that leads to sustaibnable development of the poor. I am doing it. I dont believe in a assocsiation like BRACs controlling the show and take service charges or whatever. The poor should do it by themselves. I still appreciate the concept by Dr. Yonus but do not agree to his way of the structure of functioning.
Marie, See http://en.wikipedia.org/wiki/Microfinance for an introduction to microfinance.
Sunil, thanks for your comments. I particularly appreciate your comment that repayment is no development, a fact few people in the development field appreciate. Far too many times I have heard people say that since people are repaying money, it must be good for them.
However, I would not go as far as saying that formalized microcredit is looting, any more than traditional money lending might be. If anything, the oversight and attention MF gets is likely to reduce chances of egregious exploitation (see NextBillion). The benefit of formalized credit is that it can be managed and regulated better, and has more access to capital to expand availability, if necessary.
I suspect both mechanisms have pros and cons. However, what do you mean by ‘management by the poor’ of informal financing mechanisms? How is that different from community credit unions?
[...] I have been a long-time skeptic of Microfinance and my posts on the subject receive more than average traffic for this modest blog. I am disappointed, therefore, to have missed a CGD report titled “Microfinance as Business“, that seems to support, at first, my skepticism. [...]
Dear Sir/Madam,
Please avail me with information concerning the” Lending activities and Finacial Performance of Microfinanace Institution in Uganda.
Kind Regards,
Nabuli Miriam Lumu
I am working in the field of micro credit and from my experience (modest) i think microcredit benefits the lenders and merely keeps the micro borrowers busy generating income for the MFI’S. i think its the latest form of slaverly where the slaves (borrowers) are willing participants. Of course we know they do not have any other option other than accepting the loan. I visited one Sacco in Kampala yesterday and found a woman who wanted to borrow sh. 100,000 or US $60. She was asked to open an account with $12 and save collateral of $20. The net loan is $28 and she will pay $100 in the next 4 months.What is the actual cost of borrowing? This Sacco claims to lend at 1%pm but the real rate is above well above 15% per month.
i am student at the University of Education,Winneba and doing my project work.i have this topic <An assessment of the impact of micro Finance.A case study of Nwabiagya Rural Bank Limited Barekese Community.can u please give me some of the problems of micro finance or help me with the questinnires.
I believe that microfinance will always work. Wether it will work or otherwise depends on a host of factors. Government should not directly get involve in lending as it is happening in Ghana now. The sub-sector needs to be regulated since most microfinance institutions mobilse deposits. The model should be demand driven and not supply driven. Practitioners should really identify what their clients need. there should also be monitoring and evaluation. Not just credit but there should be other services to supoort the credit.