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Aniket Dave

Ms. McMennamy

Capstone - Period 5

11 January 2017

Combined Fall Research

Boom-and-bust cycles of the free market are present across the world. Western examples

make the headlines -- the 2008-2009 market crash, European economies failing in the 2010’s, et

cetera. Entire economies stagnate, governments default on debts, foreign investment falters,

loans dry up, money goes out of circulation and into mattresses or safes. Every time the West has

faced a financial crisis, most countries find themselves in recovery not half a decade later. Poorer

countries are not so lucky. Nations across Latin America, Africa, and Asia have suffered crisis

after crisis, and the effects began to show on their populations. These regions house the vast

majority of those in poverty. There have been countless initiatives from the developed world in

the form of aid and charity, but they largely result in temporary solutions. They remain in

poverty for bigger reasons -- the economy is sluggish, money markets have run dry, and

entrepreneurs are discouraged. There is simply no room for growth; the result is a vicious cycle

of poverty. No one has the capital or the confidence to break the cycle and create their own small

businesses. They can’t draw out loans; they have no credit. The answer to this problem is

microfinance. Having begun in the absence of a credit and banking system for those with little

chance of receiving loans from traditional banking systems, microfinance has grown into an

important tool for relieving poverty in poor countries.

Since its birth with the Grameen Bank in 1983, modern microfinance has become a

highly recognized form of poverty alleviation and its function and evolution must be studied to

analyze the success of the industry. The father of the industry is Muhammad Yunus, the founder

of Grameen Bank. He believed that the poor would be able to create and sustain successful

businesses, given the chance. Banks were unwilling to give out loans to the poor and on top of

that, did not deal in small loans. Grameen began with the help of the Bangladeshi government

and the national bank, Janata (Yunus and Jolis). His focus on giving loans out to women was

successful, though widely opposed by conservative parties in rural areas. The bank, to this day,

has remained successful. But its real achievement is that it was the impetus for a whole new

financial sector; microfinance. Today, there are hundreds of MFIs on every continent. They all

differ in status and structure. MFIs come in many shapes and sizes; NGOs, subsidized banks,

charity funded, or sponsored MFIs all exist and function effectively. In all major respects, all

function the same way. They differ only in funding and area of implementation. One concern

raised recently is the issue of “trophy MFI investments,” which are donations and investments

given to the most profitable MFIs. This pushes some institutions to turn towards profit, rather

than poverty alleviation. Some MFIs have become giant financial institutions; “ProCredit, made

up of 19 microfinance banks in countries from Moldova to Ecuador, [is] wildly successful,

[boasting] over 2.2m customer accounts... So many of its banks make money that it could even

list its shares on the stock market” (“Cash Call”). ProCredit is an example of something

different: a pseudo-MFI, half rooted in its original intent to alleviate poverty and half motivated

by market forces by way of its public listing. This type of organization raises concerns about the
integrity of the industry. In order for microfinance to remain a charitable industry by nature, it

must drift away from this direction.

Traditional banking systems are infamous for their lack of empathy towards the poor as

their unbridled profit motive pushes the poor further into poverty. However, microfinance

provides a new investment philosophy which allows the poor to take out loans and use them to

better their lives. Banks’ focus on risk management necessitates accurate credit scores; they give

loans to those most likely to reliably pay them back with interest. Those who borrow more and

pay back are more likely to get loans. However, they tend to be the ones who need loans the

least. People who do need loans are unable to get any because they have no reliable credit history

for lenders to go off of. This is a problem around the world, but it hits hardest in LDC. Where

economic development is scarce, local markets thrive only through the creation of small

businesses. Entrepreneurship breeds commerce, and commerce breeds development. But the

poor are simply unable to take out loans without credit histories or collateral. ​“[Microfinance

reaches] out to people shunned by conventional banking systems - people so poor they have no

collateral to guarantee a loan, should they be unable to repay it”​ (“Profile”). Without that capital,

they have no way to start building businesses. Microfinance Institutions (MFIs) find ways to

provide the poor with loans in spite of their nonexistent credit scores. Surprisingly, MFIs get a

high rate of return: a repayment rate averaging around 98% (Yunus and Jolis). Keeping in mind

that the loanees in questions have no financial track records, this is an unusually impressive rate

of repayment, even by corporate banking standards. LDCs, however, have drastically different

business environments, so a high repayment rate can only be obtained using innovative and risky

methods. One such method has been created by the Grameen II model.
First conceptualized by the Grameen Bank, solidarity lending (or group lending) has

provided a community-friendly method of loaning, wherein loans are collectively made out to a

group as opposed to an individual, and they pay into a sort of ‘pool’. In the Grameen microcredit

model, the bank will not lend to individuals, only groups of at least 5 borrowers (Yunus and

Jolis). If individual borrowers fail to repay their loans into the group ‘pool’, the entire group

suffers because they won't receive loans in the future. Though the group lending model has been

criticized for its high potential for abuse, this social pressure is responsible for high rates of

repayment. Each borrower holds a personal stake in the others’ success as well as their own.

Borrowers must be trained in the rules of the bank for a week and then pass a test. Only then are

they given a loan. Although this process does not eliminate all possibility of cheating, it largely

reduces it. Under the first Grameen Model, borrowers were also required to deposit 5% of their

loans into a group fund which any member can borrow from interest-free (Yunus and Jolis). At

its inception, the Grameen model of group lending was criticized worldwide. However, its

method proved to be the most effective for loans in underdeveloped countries and worked

seamlessly in Bangladesh. The model l​owers the costs of assessing, managing and collecting

loans and eliminates the need for collateral. In place of collateral, borrowers are held responsible

by their peers, and so are bound to their payments through social pressure, as opposed to a fear of

losing their possessions to the bank. A lot of work on the part of the bank is eliminated by each

member of the group loan. As time and money is saved, MFIs are able to take on more risk and

give out more loans. As efficient as the group lending system may be, the MFIs conducting it

may not be so prudent. As a consequence, many countries have seen this gap filled by different

institutions, which loan in different ways, to the poor.

In many African countries, short term loans are transferred through mobile phone

systems -- this quickens loaning and significantly reduces overhead costs for MFIs. This has

opened an entirely new market; instead of MFIs providing loans, the mobile network operators

themselves have stepped into the arena to provide loans to the poor. The mobile networks seldom

compete directly with microlenders. Most of their loans are tiny and are generally paid within

two months, whereas MFIs and microlenders give larger and longer term loans (“Cash Call”).

These mobile network lenders are already stronger in presence than microlenders, which have

always been scarce in the continent. As they grow, they also begin to branch into larger and

larger loans, though these steps seem to be tentative. A huge advantage that mobile network

lenders hold is their accessibility to information about potential borrowers. They are able to tap

into information from phone calls, text messages, and records of money passing through clients’

‘mobile wallets’ to seek out good borrowers (Cash Call). Microlenders can only figure out

reliability of borrowers through their reputations: historical accounts given by neighbours and

their general reputation in their communities. This method of gathering information works but is

yet very unreliable and, most concerningly, subjective. The direct line to hard data gives these

new lenders an objective way to assess potential clients.

Though Yunus’s vision of microfinance has been highly successful, it has lost some of its

luster in the past decade. In the late 2000’s, the microfinance industry ran into trouble. Where

repayments rates were at first very high, the poor began to go delinquent over their loans, and

some even took advantage of the group lending system. Many were forced to sell their

possessions to repay loans -- losing valuable livestock and even cooking pots (“Inflexible”).

Microlending had improved business investment across Bangladesh significantly, but had an
adverse effect on the poor’s personal wealth. Far too much pressure was being placed on budding

entrepreneurs too early in the process. Erica Field and Rohini Pande, two American researchers,

found that “offering a grace period of just two months at the beginning of a microloan doubled

the rate at which new businesses were created” (“Inflexible”). Another method relies on a

‘holiday,’ in which borrowers pay very small percentages of their loans for two to three months,

and then begin paying larger sums back to lenders (Khavul). The idea behind both these methods

is that borrowers should be allowed to pay loans once their businesses start bringing in money.

This requires a delay by definition -- it’s a big break that significantly changes the livelihoods of

the poor and the growth of small businesses.

Most microfinanciers seem to agree that women are the ideal target for MFI loaning; not

only are they more reliable investees, but their activity in the workforce is linked to more rapid

alleviation of poverty. Similarities in cultures around the underdeveloped world dictate that

women are often low skilled workers; they are provided with little to no education and often are

forced not to work at all. The arrival of socio-cultural liberation of women in these often

male-dominated areas is speeded up as women become household earners. The value of women

becomes apparent when they’re able to make money to support their families, but they are often

subjugated on the basis of ideological standpoints anyway. MFIs work most effectively in areas

where women are able to work. However, microfinance relies on restrictive measures on women.

They are given independence, but it is limited. Loan amounts are therefore kept small, as loanees

can’t take risks with larger sums of money. Mohammed Yunus has always kept loan amounts

very small; “the first loans he issued had a value of $27 (£14.50). Their recipients were 42

women from the village of Jobra, near the university. Until then, the women had relied on local
moneylenders who charged high interest rates” (“Profile”). Often, their husbands and families

would not allow them to take out larger loans, either because they’re unprepared to face the risk

or because these restrictions enforce their control over the household. MFIs rely on this, though,

because even these institutions can’t give out large loans to people who are still only somewhat

reliable. This keeps MFI activities small scale.

In the 1980s, the Grameen Bank found that women generally take out smaller loans and

pay more reliably -- this inspired many MFIs to lend disproportionately to women because it

proves greater financial security and empowers women in heavily patriarchal LDCs. Even with

repeated proof that “Women have proved to be better savers and also loan repayers than men in

many contexts” (Mayoux, “Genfinance”), the Grameen Bank tried its best to lend equally to men

and women. Despite these efforts, women make up about 95% of the bank’s loans (Armendariz

& Morduch). It’s a result of natural market forces acting even in underdeveloped economies.

Unlike Grameen, many MFIs cater exclusively to women. These organizations often contribute

full financial assistance, such as with health care because health contributes heavily to the

success of female borrowers. So what exactly makes women better borrowers than men? They

are generally more careful with their money, taking out small loans and paying them on time in

order to avoid accumulated interest. Men are more prone to taking out big loans and big risks

(Mayoux, “Magic”). In LDCs, women are often socially subjugated to men. They are not trusted

to work outside the home. With an inherent fear that they will be punished for losing the family

money, women take the extra step to be careful with loans.

Poor societies are often economically restrictive towards women, but since microfinance

emphasizes women’s financial independence, they are given more control over income; on top of
that, they become more involved in local economies, giving the latter more room to grow. As

was established before, women have higher repayment rates and are more responsible with their

family’s money. This prevents small economies from becoming too dependent on debt, which

could easily spiral out of control in small economies. MFIs and small banks benefit in a smaller,

but still important way. Promoting women's rights and socio-cultural development through

finance improves their brand image. Financial institutions are always regarded with suspicion

and mistrust -- both in poor areas and around the world. Their ability to conduct business is

limited in the “current environment of mistrust and scepticism about the financial sector”

(Mayoux, “Genfinance”). As their part in improving the situation of women becomes apparent,

they will be able to expand businesses and help more communities in good standing with the

governments under which they operate. Women are allowed to work, as they are the ones in

charge of money. Aside from making defining breakthroughs in women's rights, workforce

participation is good for burgeoning economies. When women are more invested in markets, the

size of the town’s market essentially doubles. With more participation, cash flow and volume

increases, and so business investment is heightened.

With greater workforce participation, women are given higher value in the household and

community, access to information and opportunities for growth, and wider experience of the

world outside their restricted circles. Most countries in which microfinance in implemented are

traditionally patriarchal countries. Women are expected to stay home, take care of the kids and

the house, and cook. Men are the sole breadwinners of the family. Lending to women gives them

an opportunity to control household money. More responsibility means more trust and

confidence. It allows women to demonstrate to males that they are capable of contributing to the
household income, therefore “​enhancing [social] perceptions of women's contribution to

household income and family welfare” (Mayoux)​. This gives them the confidence to begin

advocating for their socio-cultural rights. They contribute to their homes and to society, which

convinces men that they have earned their rights. Women are also able to network through their

trade, experiencing the world outside their otherwise small group of friends.

Microfinance is a niche industry, but its effectiveness is apparent. MFIs provide an

innovative and risk-reduced way to alleviate poverty in permanent ways. Instead of paying for

poor people like charities do, MFIs allow people to support themselves while simultaneously

contributing to their broader communities and/or economies. Microloans inject money into poor

localities in a steady and responsible fashion. The business is able to be conducted in many

fashions, tweaked and molded to fit different markets. The proof is manifested in the invention

of the group lending model, the usage of technology (mobile wallets), its ability to snap back

from failures with flexible rules, and women-oriented targets. And the best part is, the industry

remains profitable.
Works Cited

Armendariz, Beatriz, and Jonathan Morduch. ​The Economics of Microfinance​. Cambridge, MA:

MIT, 2005. 1-56. Print.

Bateman, Milford. ​Why Doesn't Microfinance Work?: The Destructive Rise of Local

Neoliberalism​. London: Zed, 2010. Print.

"Cash Call." ​Economist​ 8 Oct. 2016: 56. Print.

Khavul, Susanna. "Microfinance: Creating Opportunities for the Poor?" ​Academy of

Management Perspectives​ (n.d.): n. pag. ​Perspectives​. Neeley School of Business, 2010.

Web. 1 Sept. 2016.

Mayoux, Linda. "Genfinance." ​FinancialServices​. GenFinance, n.d. Web. 28 Oct. 2016.

Mayoux, Linda. "The Magic Ingredient? Microfinance & Women's Empowerment." Micro

Credit Summit, 1997. Web. 28 Oct. 2016.

Ojah, Kalu, and Thabang Mokoaleli-Mokoteli. "Possible effective financing models for

entrepreneurship in south Africa: guides from microfinance and venture capital finance."

The African Finance Journal​ Jan. 2010: 1+. ​Academic OneFile​. Web. 15 Sept. 2016.

"Profile: Muhammad Yunus, 'World's Banker to the Poor'" ​BBC News​. BBC, 2 Mar. 2011. Web.

22 Sept. 2016.

"Overcharging." ​The Economist​. The Economist Newspaper, 20 Nov. 2010. Web. 27 Sept.


"Small Change, Big Changes: Women and Microfinance." ​Multiple Meanings of Money: How

Women See Microfinance​ (n.d.): 26-67. ​International Labour Office​. International Labour

Office. Web. 28 Oct. 2016.

"Time to Take the Credit." ​The Economist​. The Economist Newspaper, 17 Mar. 2007. Web. 22

Sept. 2016.

"Your Inflexible Friend." ​Economist​ 8 Oct. 2016: 55-56. Print.

Yunus, Muhammad, and Alan Jolis. ​Banker to the Poor: Micro-lending and the Battle against

World Poverty​. New York: PublicAffairs, 1999. Print.