Category Archives: Microfinance

Posts about the practice of microfinance

The Promise of Social Impact Bonds

Over the past few weeks, social impact bonds have received a lot of attention.  That is because New York City has partnered with Goldman Sachs to run a pilot program aimed at reducing recidivism among inmates at Rikers Island prison.  But first, a little background on social impact bonds.

There are many social problems for which there is no clear-cut solution.  Homelessness, foster care, inmate recidivism, and other issues are often expensive to control.  Programs designed to address them are often part of large bureaucracies and susceptible to the same inefficiencies and perverse incentives endemic in other government agencies.  And, despite best efforts to fix the problems, they will only get worse as social programs move closer to the chopping block.

Non-profits supplement government efforts by addressing specific problems.  Halfway houses, community health clinics, shelters, low-income housing developments, and soup kitchens are all examples of non-governmental organizations serving the homeless.  Many have developed innovative approaches that are effective in achieving specific goals – i.e. placing homeless in low-income housing, job-training, etc. – but are constrained by a lack of capital.  Without access to greater resources, non-profits will never be able achieve scale.

So the government has lots of money, but not enough dynamic programs to fund.  In contrast, non-profits run effective programs on a small scale, but lack the money to expand.  This is where social impact bonds come in.

In a social impact bond, the government contracts an intermediary to put together a social impact bond to address a specific social problem.  The intermediary then identifies non-profits with promising potential and connects them with investors.  The investors provide multi-year funding to the non-profit, allowing them to scale their intervention.  In return, the investor is reimbursed by the government based to the program’s success.  A monitoring-and-evaluation firm is brought in to assess the impact, which is based on a pre-determined set of metrics.  If the intervention achieves the targets, the investor makes a return on the bond.  If not, it takes a loss.

The best way to explain the mechanics of a social impact bond is to provide a real-world example.  In the case of New York City and Goldman Sachs, the city government wants to reduce the number of repeat offenders, which cost taxpayers money in the form of prison costs, increased law enforcement, and lost productivity.  Here is how it works:

The Goldman money will be used to pay MDRC, a social services provider, to design and oversee the program. If the program reduces recidivism by 10 percent, Goldman would be repaid the full $9.6 million; if recidivism drops more, Goldman could make as much as $2.1 million in profit; if recidivism does not drop by at least 10 percent, Goldman would lose as much as $2.4 million.

It seems like a win-win situation, if investors see social impact bonds as a viable means of earning a financial return.  I am mostly in favor of any programs that place greater emphasis on “outcomes over outputs.” But this emphasis is hardly new in the international development community, which has seen a surge in rigorous testing for interventions after economists like Dean Karlan, Esther Duflo, and Abhijit Banerjee popularized the use of randomized controlled trials (RCTs) to determine the efficacy of different approaches.  And I have the same concerns about social impact bonds that I do about RCTs.

Tying financial returns to outcomes creates two potential problems.  First, it risks incentivizing the wrong things, a la “teaching to the test.” Often, these problems are extraordinarily complex and difficult to address, and rarely lend themselves to a timeline that works with an investment.  In microfinance, for example, most RCTs occur over 2-3 years, and have shown little improvement in the well-being of recipients.  I would argue it takes much longer than 2-3 years to realize the fruits of microfinance.  If that is the case, which timeline will be used for the social impact bond – the one that shows progress, or the one that doesn’t?

For some issues, this is not a concern.  Recidivism, for example, is cut-and-dry.  Chronic homelessness, however, is not.  For social impact bonds to be successful, they will require metrics that truly reflect the success of the program.

The second problem is that the interconnectedness of institutions can mask success.  Mark Rosenman of Caring to Change explains both of these problems (h/t Democracy in America):

Where does a nonprofit get the funding to provide the services from which they are to later show a monetized gain to government? How far out in time does the performance metric need to go before quantifiable economic value can be shown and the charity repaid its expenditures? What happens when a nonprofit is providing superb and highly effective services to individuals, but other institutions and variables deteriorate and affect its outcomes?

These are very real concerns that the international development community has been forced to confront (or avoid) in its work.

I am not as pessimistic as Mr. Rosenman or Mr. Steinglass.  I think that social impact bonds are a pragmatic and innovative solution to a very real problem.  In addition to capital, investors will bring human resources and technology to bear on the problem, which will infuse the sector with new ideas and perspectives.  Social impact bonds are still in their nascent stages, but, if they can figure out a way to effectively capture success rates and avoid the pitfalls of “juking the stats,” I see no reason why they can’t be a game-changer in the fight to address social problems.

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What Do I Think of Microfinance? Pt. 2

This is part two of a two-part post on microfinance.  Part one can be read here

In the last post, I gave a rundown of the mechanics of microfinance and explained the criticism of high interest rates.  Another criticism came from development economists like Dean Karlan, founder of Innovations for Poverty Action and pioneer in the utilization of randomized controlled trials for determining the efficacy of development interventions, and Jonathan Morduch, who, in his seminal book, Portfolios of the Poor, found that microfinance had limited impact in increasing incomes for clients.  They found that, contrary to conventional wisdom, microfinance was actually most beneficial in “smoothing consumption.” Most people living $2 a day do not actually earn $2 every day.  Instead, they might earn $10 one day and nothing for the rest of the week.  So the consistent capital offered by a microfinance loan actually allowed them to feed their families and pay school fees when no money was coming in.

My opinion on the effect of microfinance has largely remained unchanged.  First, I understand and recognize the necessity of charging high interest rates.  In order to maximize their impact, MFIs must be profitable to some degree and operated largely unsubsidized if they are to be sustainable.  If this means charging higher interest rates, so be it.

Regarding the criticisms from the development economists, a randomized controlled trial conducted over a two-year time frame is hardly a sufficient time frame to determine whether microfinance is an effective tool of poverty alleviation.  The effects are generational.  If a microfinance loan allows someone to keep their child in school consistently and maybe even graduate high school when they otherwise would have pulled them out to work on the family business, the impact on the community will not be felt until that child is grown and is sending money back from his or her well-paying job in the city in the form of domestic remittances.  This is a 20-year time frame, at the minimum.  To my knowledge, no longitudinal study comparing communities served by microfinance with those that are not has yet to been done.

Secondly, there are some incredible success stories of clients bringing themselves out of poverty as a direct result of microfinance loans.  I know because I met some of them – the ones who started with a loan to build a small stall to sell vegetables, and expanded to purchase a small restaurant, a piggery, and a motorcycle repair shop.  These stories cannot be discounted and, even if they were all that microfinance had to show for its efforts, that to me is enough.

Thirdly, microfinance institutions offer benefits beyond simply credit.  I have documented on this blog many times the different products offered by NWTF and other institutions.  Mass weddings for those who could never afford it, life and health insurance for families who are constantly in danger of falling deeper into poverty with a single illness, and financial literacy trainings to help them better run their businesses.  MFIs also act as a distribution channel for products that might never reach the base of the pyramid market.  Clean cookstoves, solar products, and other products can be sold to the hundreds of thousands of microfinance clients who, at least once a week, convene with a potential salesperson.

Lastly, and most importantly, I believe in the free market and the right for people to choose what they think is best for them.  Most recently, I worked for a company whose mission – to provide an affordable, low-cost alternative to public education – is fundamentally libertarian (namely, school choice is a good thing).  Criticizing microfinance institutions for misleading clients and offering a service that is flawed is, to my mind, patronizing to the clients who subscribe to the model.  If the women taking loans from microfinance institutions felt they were being exploited, they would cease to take them, just as parents would pull their kids from Bridge schools if they felt their child was not being educated.

People in the development world too often underestimate the ability of the people they purport to serve to make rational decisions.  I don’t, and, if I did, I might have the same criticisms.  But I do, and have stated my reasons for doing so many times on this blog.

To try to document all of the benefits I see to microfinance would take far more time than I would like to allot in this segment of my re-cap of the last three years.  In future posts, I will elaborate on other issues in microfinance.  But I am comfortable saying that, to this day, I feel the same way about microfinance as I did two years ago, when I extolled its praises all over this blog.

In my next few posts, I will talk about my thoughts on agriculture development.

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What Do I Think of Microfinance? Pt. 1

This is part one of a two-part post on microfinance.

Through Kiva and Negros Women for Tomorrow Foundation, microfinance became my entrée into this world.  I knew very little about microfinance prior to finding Kiva, other than what I had seen on an episode of Frontline highlighting the company’s early days.  Over the subsequent nine months on the ground in the Philippines, I learned as much as I could, and became a bit of a microfinance apologist, believing it could do no wrong.  I will do my best to step back with the benefit of hindsight and look at it objectively.

Microfinance is an umbrella term describing the provision of financial services to the unbanked.  That includes, but is not limited to, credit, insurance, and savings products.  The first one – micro-credit – is the most widely known, popularized by Muhammad Yunus and his Grameen Bank, founded in Bangladesh.  According to the apocryphal tale, Yunus lent money to a group of furniture makers whose margins were tiny due to high upfront cost of buying materials.  With a loan of only $40, Yunus was able to increase their profits by orders of magnitude and still get a return on his investment.  The poor, it seemed, could be worth of credit after all.

Yunus formed the Grameen Bank, which, while not the first, became one of the largest microfinance institutions (herein referred to as MFIs).  The group-lending methodology utilized by Grameen and other large microfinance organizations, like Accion and FINCA, came to be replicated by other MFIs around the world.  A while back, I wrote about the replication of the Grameen model, specifically.

The group-lending model was created to guarantee payment in lieu of collateral.  Typically, women self-organize into groups of four or five, and, in the case of the MFI I worked with, Negros Women for Tomorrow Foundation (NWTF) in the Philippines, up to eight of these groups come together and work with a single loan officer.  The money is distributed to each woman at the same time and none can receive another loan until each has paid back their own.  The threat of hurting the entire group, which implicitly agrees to guarantee the loans of each member, creates pressure on individuals to pay back.  Clients are predominantly women, since women are more likely to invest the money into the business or, at the very least, spend the money on the family rather than leisure activities.  As keepers of the house, women are also less mobile and, therefore, less likely to run off with the money.  Using this system, Grameen Bank and others consistently have repayment rates of 95-98% .

The wealth management Hawley Advisors says that because of the small loan sizes (generally less than $500 per loan), the cost of servicing the loan is high, necessitating what some might consider exorbitant rates.  NWTF, for example, charges ~30% interest on a 6-month loan based on a non-declining balance, which adds up to more than70% annually.  This seems high, except when compared with the alternative, which is commonly referred to as a “6-5” – receive $5 in the morning and pay $6 in the evening.  This equates to a 20% daily interest rate.  Annualized, it is several hundred percent.

This is just the cost of doing business in microfinance.  Back in 2008 and 2009, a schism developed between two camps in microfinance.  Some, led by Muhammad Yunus, saw microfinance as a mechanism for bringing financial services to the poorest members of society, and felt that making significant profit ran counter to the underlying philosophy.  Others, led by Compartamos, a publicly-traded MFI in Mexico, and SKS, the largest MFI in India which also IPOed, saw a huge untapped market that could only be served if MFIs had the capital to invest in expansion.  These MFIs charged even higher interest rates and expanded rapidly to reach the 90% of the poor that still lacked access to finance.

This schism reached a breaking point last year, when the Indian government placed new regulations on MFIs in response to a spate of suicides among microfinance clients who had become over-indebted to multiple MFIs.  Aggressive tactics on the part of loan officers was blamed, and the entire microfinance industry in Andra Pradesh – a state in India – and the rest of country suffered significantly.  Muhammad Yunus was then forced out as the head of Grameen Bank in what some people saw as punishment for his starting a political party in Bangladesh.  All in all, 2011 was not a good year for microfinance in South Asia.

In my next post, I will talk about other criticisms and sum up my thoughts on microfinance.

Global Diasporas Create Economic Prosperity

The book review in the Wall Street Journal this morning discusses the Robert Guest book, Borderless Economics, which details how global labor movement increases trade, informational flow, communication, and technology.  The topic of migration has been making the rounds, partly due to book reviews of Borderless Economics in all the major journals and magazines, but also because the time is right for a frank discussion about the realities of a global economy.

Develop Economies agrees with all of Guest’s points.  The economic benefits are vast.  With engineers and PhDs from abroad and a more nimble, low-cost workforce comprised of unskilled immigrant labor, the United States can compete for first place in the global economy.  Without it, we might be battling for second place.  But, in this post, I want to discuss the role of Diasporas in preventing conflict and promoting economic development.

The world would be a better place if international movement and migration were more fluid.  One of the reasons that Ghana is considered to be one of the successful democracies in Africa, while Kenya deals with upheavals every few years and corruption scandals every day, is that an internal diaspora through the country over the last half-century led to a blurring of tribal boundaries.  Both countries have dozens of tribes, each with its own language.  But, while Kenyans, as a generalization, maintain strong ties to their familial home and typically marry within the tribe, Ghanaians intermarry and bring the entire family with them when they move.  “That’s why we are so peaceful,” one coworker told me. “We all marry each other!” (This is also one reason why mobile money is pervasive in Kenya, but not Ghana – but that is for another post.)

Now imagine that dynamic on a global scale.  Heterogeneous and multi-ethnic societies are less likely to adopt a herd mentality, because cultural exchange promotes empathy.  This, to me, is why the United States is probably the most integrated and least bigoted country in the world (seriously).  I am always amazed when I come back to the U.S. and look around the airport to see people of every color speaking different languages.  And, from a numbers perspective, it makes sense:

Mr. Guest concludes with the argument that, thanks to America’s immigrants, the U.S. is likely to remain for decades the richest and most powerful nation in the world. America has the largest foreign-born population by far—an astonishing 43 million people, 10 million more than the entire population of Canada. China, by contrast, has a foreign-born population of less than one million.

From an economic standpoint, Diasporas create global trade networks that move money and products around the world for a fraction of the cost it might cost otherwise.  I saw it in the Philippines, where the richest family in the country is Chinese, and West Africa, where the Lebanese control rice importation, and in East Africa, where the Indians control just about everything.  With greater economic integration, the cost of conflict increases drastically for both nations.  Create enough cross-border migration and trade, and the lines begin to blur completely.

Infographic from the Economist

In the WSJ article, specifically, the author examines the point purely from an international development perspective.  The author, Katherine Mangu-Ward, editor of Reason magazine, discusses the economic benefits, compared with foreign aid:

Infographic from the New York Times

‘As a tool for spreading wealth, open borders make foreign aid look like a child’s lemonade stand,” writes Robert Guest, business editor of the Economist, in “Borderless Economics,” a rapid-fire case for the free movement of labor from one country to another. [Economist Lant] Pritchett found that if developed countries slightly liberalized their immigration laws and increased their work forces by a mere 3%, the gains in remittances and other benefits to developing countries would amount to more than $300 billion.

Put another way, a Salvadorean man with a high-school education needs only to come to the U.S. to increase his annual earning power more than eightfold, from $2,700 to $22,611—a figure, by the way, almost identical to the earning potential for Americans with the same level of education. Compare the $300 billion benefit with the $70 billion spent annually on foreign aid by developed countries, much of which ends up in the Swiss bank accounts of corrupt politicians.

Sing it from the rooftops

I couldn’t agree more.  But I do have to address one point at the end of the article, in which the author feels the need to take down microfinance:

It is galling to Mr. Guest that many well-meaning people are more invested in promoting ideas like Third World microcredit than in clamoring for easier immigration. Lant Pritchett, the former World Bank economist, shares Mr. Guest’s skepticism about the importance of the much ballyhooed microloans that help the world’s poorest people to buy livestock or open a small business. The concept was pioneered by Muhammad Yunus, the founder of Grameen Bank in Bangladesh and winner of the 2006 Nobel Peace Prize. Mr. Pritchett tells the author that the average gain for a Bangladeshi from a lifetime of these loans is about the same as the earnings from working just eight weeks in America. “If I get 3,000 Bangladeshi workers into the U.S.,” Mr. Pritchett wonders, “do I get the Nobel Peace Prize?” No, but with luck Mr. Guest’s argument in “Borderless Economics” will be rewarded with serious attention in the places that count.

This is unnecessary.  Whether or not that Bangladeshi will make more in those eight weeks is completely irrelevant if he never has the chance to go to the United States.  I think that all countries should have freer trade agreement, reduce tariffs, and eliminate ethanol and farm subsidies.  That would certainly be more effective than the most successful anti-poverty strategies in lifting hundreds of millions of people above the poverty line.  Unfortunately, it will never happen.  Because supporting the elimination of tariffs, like open borders, is political suicide.  And, like most policies supported by purist Libertarians, it will never happen.

So, in the meantime, microcredit is doing something to fill the gap.  I am sure that the Bangladeshi would prefer that to waiting for his visa to the United States to process.  If Pritchett can make that happen for even ten poor Bangladeshis, then he should get the Nobel Prize.

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The Myths and Realities of Impact Investing

“[Africa] is a wonderful place to really make money. We have one billion people hungry for everything.” Mo Ibrahim

A friend posted an article on his Facebook wall titled “Why Social Impact Investing is a Crock,” leaving much to the imagination.  Here is an excerpt:

Over the last decade the world of do-gooding has seemingly been taken over by MBAs. Social entrepreneurship, a field encompassing both mission-driven businesses and entrepreneurial nonprofits, professes to bring the efficiency, rigor, and cold, hard metrics of business to the most important causes on the planet. Does it really? Not so much, says Dean Karlan, author of the recent book More Than Good Intentions. “The social entrepreneurship world is in a weird spot, to be honest with you. It’s a world full of rhetoric about impact investing, yet I have very rarely seen an investor actually take that seriously. When you look at the actual analysis it lacks rigor.” He distinguishes between the type of scientific research done by his lab, Innovations for Poverty Action, with trials complete with control groups, and the type of data collection done in the vast majority of the nonprofit world, which is nothing more than a “monitoring exercise.”

I think both Karlan and the author have the right idea, but for the wrong reasons.  Later in the article, Karlan explains why the cost of doing a rigorous impact analysis is cost prohibitive for an investor who is focused on financial returns, with impact studies accounting for as much as a third of the investment.  I think the title of the article is excessive and meant to be provocative, but the argument is defensible.

The other day I listened to a presentation from Kentaro Toyama, one of the eminent thinkers in ICT (information, communication, and technology) for development (ICT4D, for short), a school of thought that sees technology as the silver bullet in ending poverty.  His talk was titled “ICT or Development: Why it’s so hard to get rich and help the poor simultaneously.”  It was also meant to be provocative, but for a different reason.  Toyama’s point is not that the absence of verifiable impact makes impact investing a crock.  Rather, he contends that it is difficult, if not impossible, to get rich by providing socially-beneficial goods and services to the base of the economic pyramid.  You can get rich selling products to the poor, but they won’t necessarily be good (alcohol, tobacco, soda, etc.).  Conversely, you can sell products that will address a social need (solar lanterns, cookstoves, etc.), but you won’t get rich doing it.  He challenged the audience to come up with an example, and explained why his thesis holds in each case.

There is a myth of a fortune at the bottom of the pyramid, according to Toyama.  At least, that fortune is purely measured in market size and raw purchasing power.  It should not be confused with an opportunity to offer products that alleviate poverty and make a bundle to boot.  The rural and even urban poor are difficult markets to serve profitably.  A disparate and sometimes non-existent supply chain makes getting products in the hands of consumers a challenge even for the biggest multinationals.  Branding products for the poor, or subsidizing them, makes them less appealing to the middle class, who might pay more and create cross-subsidization opportunities (on this point, I think he is wrong, having seen the same solar lanterns we were selling to microfinance clients in the Philippines being sold in malls in Manila for twice the price).  Not to mention, selling products to the poor is not going to help them out of poverty.  Employment, in the form of manufacturing and labor-intensive work, is the key to growth.  In short, it is possible to serve a social cause, and it is possible to make lots of money selling products to the poor.  But to do both simultaneously?  Very difficult.

My friends and I discussed the talk over lunch.  Most felt that the talk was good, but thought  Toyama oversimplified a complex topic, creating a dichotomy that practitioners don’t really subscribe to.  Anyone who honestly thinks that you can make serious money – young-rich Silicon Valley money – by selling socially-conscious products and services to the poorest segments of the world population is clearly dreaming.  So that conversation should be a non-starter.  You can make money, sure, and you do a lot of good, but if you’re goal is to get rich, then you are in the wrong business.  For that reason, we all concluded that the talk wasn’t meant for people like us.  It was meant for the people in Silicon Valley who have become a little too excited envisioning that Venn diagram.

During the talk, I asked Toyama what he thought of social impact investing.  Basically, he thought it went through a period of irrational exuberance, where people thought they could make high returns and serve a social good, before dipping once people realized that was not the case.  It has made a slight resurgence, as people have checked their expectations and come to sacrifice financial returns for social impact. What Dean Karlan and Kentaro Toyama have in common is that they both believe that it is very difficult to both make good money and help the poor.  Karlan thinks the social impact of many investments is unproven, while Toyama thinks the social impacts are fine, but making money is a challenge.

The legacy of Mo Ibrahim

I happen to disagree with both.  Ten years ago, a telecom industry in Africa barely existed.  Today, most of the population, regardless of whether they are living in poverty, owns a cell phone.  When I brought up this point, Toyama says that the telecoms are entirely profit-oriented, and could care less about helping the poor.  Someone earning a dollar a day, for example, will think nothing of spending a quarter on a ringtone.  But to say that the development of a mobile network that connects the most remote parts of Africa to the rest of the world has not helped the poor by several orders of magnitude is crazy.  It is ironic to me that people interested in this developing products for the poor always leverage the cell phone revolution in Africa, but never seem to give it any credit for laying the groundwork for real, substantive change and improvement – moving the needle over generations, rather the 2-3 year time periods for the randomized control trials being used to measure impact.  (My intention here isn’t to write off RCTs – rather to say that maybe there is a broader way of looking at impact).

There is often a paternalistic attitude (not necessarily among people like Toyama or Karlan, but others less in the know) toward serving the poor.  People try to engineer outcomes, and are dismayed when someone spends the extra income from the dairy cow they bought with help from a microfinance loan on booze, cigarettes, and fast women. Judge not, I say, lest ye be judged.  After all, in the words of Devin the Dude, “you only get one ticket, might as well enjoy the ride.”

Creating more opportunities should be the barometer of success in serving the poor.  Microfinance was about providing access to financial services, which it did.  It has given poor people a place to save their money and borrow money to smooth their irregular consumption.  It created opportunities that did not exist.  In a much less outwardly altruistic example, connecting Africa to the world and putting a cheap cell phone in the hands of every African is helping the poor and making a killing.  If the poor then spend the school fees on ringtones, that is their discretion.  But creating opportunity – in the form of infrastructure or technology – is what moves the needle.

That is why, in my opinion, social impact investors need to move in one of two different directions.  They can either expand the definition of social impact beyond the “directly reach a million poor people” definition that exists today, and accept the fact that there is  highly profitable companies that serve a social cause and are specifically targeted at the poor are few and far between.  Or, they can accept the fact that the returns will be marginal, but the intangible social value created by the product will significantly exceed the financial opportunity cost.  Either way, the current narrative that you can make lots of money and serve the poor at the same time (rather than serially, like Bill Gates, as Toyama suggests) is dangerous.

But where's the impact?

It is dangerous because it breeds unrealistic expectations and creates resentment when they fall short (“Impact investing is a crock!  Those assholes lied to us!”).  Social entrepreneurs shouldn’t feel like they have to be 100% financial sustainable to be successful.  That is a nice-to-have, but there are billions of dollars being spent very poorly on development projects right now.  Money is not an issue (Kiva, for example gets money with 0% returns) – impact is the problem.  Similarly, investors shouldn’t measure success by the direct impact on the lives a certain number of poor people, or hitting specific targets in living standard improvement.  They should invest in Africa, but do it responsibly.  Stay away from oil, cigarettes, alcohol, or any other product that has a net-negative social impact, and focus on telecommunications, manufacturing, or even natural resources (so long as workers are treating well).  Investment will generate employment, which, as Toyama says, is the real engine of poverty alleviation.

Until people recalibrate what it means to a) make money, and b) have an impact, and convey these goals honestly, I’m afraid social impact investing will continue to fall short of the expectations and face the same circular firing squad that has plagued other “silver bullets”, like microfinance.  I think real social entrepreneurs and impact investors understand this push-and-pull.  But Toyama’s intended audience is probably less informed about the realities on the ground, which is why he was giving the talk in the first place.

Saving as a Group

The following is a guest post by Gemma North, an associate with Saving for Change, a community finance program run by Oxfam America.

?In 2009, I worked for a microfinance institution called CREDIT in Cambodia.  On a field visit, I met a borrower who sold clothing and knick knacks to tourists visiting the nearby Angkor temple complex.  She explained that her loan had helped her to expand her business and, as a result, she was planning on taking her kids out of school to work with her to continue increasing sales.  Sometimes the effects of providing the outcomes are not always ideal.  Microfinance expands the choices of the poor, and those choices are entirely their own.  Perhaps having the borrowers’ children involved in the business made the most sense for the household at the time.

The impacts of microfinance vary, but clearly a market for credit exists for the poor.  But there is also a need for savings mechanisms among the unbanked and under-banked (both internationally and domestically).  To generalize, in the developing world, the rural and urban poor have few formal outlets for savings.  They save money by investing in assets (livestock, jewelry, etc.), storing cash at home, organizing a savings club, keeping it with a “money guard” (a person who holds the money, usually free of charge), or a relative.  These savings are susceptible to theft, loss due to natural disaster (from fire or flood, for example), or demanding family members.  Perhaps the greatest temptation is to spend money on non-essential purchases.

Challenges in other settings can be cultural or psychological: individuals come from countries where there is a general distrust of banks and financial institutions; or, because of their low-earnings, individuals do not always realize they may have some discretionary income that can be put aside.  Because the barriers to saving are numerous, there is an opportunity in providing a secure place for people to save.

Saving for Change, a microsavings organization started by a former microfinance practitioner, offers a solution to this problem.  The program, which is being implemented in Mali, Cambodia, El Salvador and Senegal, helps the rural poor to form and operate savings groups and provides training on financial literacy and basic accounting.  The groups elect their own officers; create participation guidelines and bylaws; and determine their weekly savings amount, loan interest rate and record-keeping mechanisms.  The program is adaptive – for example, some non-literate groups have devised an accurate oral accounting system based on group memory and counting sticks or rocks).  Participants in the program are able to save enough to purchase inventory for a store, pay for school fees, purchase seeds for planting or a cow for labor, or buy a plot of land to build a house.  If a member needs a large sum of money quickly, they can borrow it from the group’s fund.  By repaying the loan and added interest, they contribute to the growth of the communal savings, which is disbursed to the group members at the end of the saving cycle (which can be timed to coincide with a period when all the group members need more money, such as when food is scarce or before a major festival).

There are many advantages to this system. A communal savings organization based on mutual trust allows people to overcome the barriers to saving.  Women are able to accumulate funds independently of their spouse.  The model is similar to traditional savings groups (such as tontines), building on familiar and existing systems, which increases the speed and ease of uptake.  Expansion often occurs due to word-of-mouth, with groups forming spontaneously or with help from existing groups.

In order to expand the program, implementing organizations train volunteers to start new groups in other communities.  At an expense of $20 per client, the per-user cost is a fraction of what microfinance institutions spend to offer similar services.  As a result, Saving for Change and similar models are able to reach individuals that are underserved, if not completely neglected by MFIs.  More often than not, participants in savings groups, the poorest of the poor, live in areas that are too costly for MFIs to reach.

Providing credit is important, but providing a mechanism for saving is essential for achieving financial independence.  When individuals save on a regular basis, they are able to build up a large sum allowing them to cover larger expenses or make investments (such as a daughter’s wedding or fertilizer for the upcoming season), or create a cushion against catastrophic events, helping them to maintain and build on their existing assets.  Mechanisms to promote saving–communal loan funds or savings groups–can help expand financial self-sufficiency in less-served areas among the poor.

Kiva Launches Green Loans Category

A little more than one year ago, I was working with Negros Women for Tomorrow Foundation, a microfinance in the Philippines.  NWTF was distributing low-cost solar lanterns to its clients.  The clients were prone to constant brownouts due to the poor state of the electrical infrastructure in the rural areas, so the lanterns gave them a way to keep their businesses open after dark or let the children do work after the sun goes down.  Having limited access to light, or having to rely on costly alternatives (battery-powered lanterns and kerosene) can really rain on a person’s parade.  So, in conjunction with Kiva, we worked to get those loans for the solar lanterns up on the site. On Earth Day 2010, the relationship was consummated and celebrated with a blog post by yours truly on the Kiva blog, which you can see here.

Well, now it is official.  Kiva has launched a green loans category on its website (something we were trying to facilitate last year, and succeeded in developing a tool to lower the cost of putting low-cost lanterns on the site).  Here is the press release:

Help people live sustainably around the world. Green loans promote clean and renewable sources of energy by funding organic fertilizers, stoves, drip irrigation systems, solar panels, biofuels, and more.

In some countries, families are using solar panels to power their first light bulbs! However very little of the world’s solar production is in use in the developing world. Green loans enable you to invest in environmental sustainability while providing capital to those in need. Not only do these loans generate clean energy, they also promote a more sustainable lifestyle and environmentally friendly habits.

So sign up to Kiva today and do the Lord’s work by helping electrify the non-electrified and do you part to save the world (or something like that).

Microfinance Documentary: “To Catch a Dollar”

In an example of the relatively smallness of the world, a new documentary called “To Catch a Dollar” about the Grameen Bank and Muhammad Yunus’ good works has just been released. I hadn’t heard about it before, but my old man sent me a link yesterday to a news outlet called As it turns out, the director, Gayle Ferraro, hails from my hometown of Westwood, Massachusetts, a small suburb located 20 minutes south of Boston, on exit 16B off I-95. I urge everyone to go out and see the documentary, support Muhammad Yunus in his struggles right now, and support my hometown of Westwood.

Yunus founded the original Grameen Bank in Bangladesh in 1976, operating under a more basic but similar microfinance system for poor women in rural areas, who used small loans to generate income for themselves — by buying a goat to sell its milk or purchasing yarn to use for knitting salable scarves, for example.

Such microloans have proven widely successful, and through its decades in operation, Grameen has established centers in more than 40 impoverished nations around the world. The launch of its U.S. counterpart in 2008 marked a new experiment in microfinance: Can a system that works so well in rural pockets of developing countries be effectively applied to America’s urban centers? To Catch A Dollar explores this question, following the bank’s early days in the Bronx.

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The Battle for the Soul of Microfinance

Microfinance is going through some major growing pains right now, hitting its first major challenge since it hit the mainstream in 2005 after Muhammad Yunus won the Nobel Peace Prize.  The “silver bullet” of poverty alleviation that brought credit to those previously thought unworthy of a loan has seen an onslaught of criticism for failing to deliver on the lofty goals that its evangelists believed it could achieve (lesson: don’t overpromise).

Studies have shown that the impact of providing credit and Bridging Loans to poor women does not have a dramatic effect on poverty alleviation, and the success stories, at least in recent months, have been trumped by tales of aggressive loan-recovery tactics and suicides among poor borrowers in India.  Portfolios of the Poor, a book written by four development economists with a healthy skepticism about the transformative effects of microfinance but optimism about its marginal impacts, showed that access to credit is actually less important than savings – access to a safe place to keep your money.

The big schism in microfinance since 2008 has been about where to get the money for operations.  On one side, there is a group that believes microfinance must always focus on serving the needs of the poor and resist temptation to exploit borrowers with overly-exorbitant interest rates (I say “overly” because interest rates are, well, exorbitant).  This camp, led by Muhammad Yunus, the spiritual and, until recently, actual leader of the Grameen Bank, condemns a profit motive.  Instead, microfinance institutions (MFIs) should charge interest rates that will cover expenses and will finance expansion efforts.  In other words, MFIs should be financially and operationally sustainable, but nothing more.

Proponents of the other side believe that, for microfinance to achieve its true potential and reach the billions of poor people without access to credit, it must tap into the vast financial coffers of the capital markets.  To do so, microfinance needs to become attract investors with, at the least, a hybrid model focused on financial returns and social impact.  There are still only a handful of MFIs of adequate scale to access the same type of capital that a normal company might access, at commercial rates.

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Impact Investing: Venture Capital for Do-Gooders Takes Off

The other day a friend put me in touch with a friend of his who had just moved to Accra.  She works the Acumen Fund, a social venture capital fund that invests in promising  entrepreneurs in developing countries.  The use of the adjective “social” is a bit misleading, in the sense that the companies are purely for-profit and do not need to have an explicit social motive guiding the business strategy.  What distinguishes them is the market they serve, termed the base of the pyramid, or BoP for short.  The name is derived from C.K. Prahalad’s books “Fortune at the Bottom of the Pyramid.” These businesses typically serve the poor in some way.  Acumen has invested in agribusinesses and businesses in healthcare, water, and energy.   The broader term for the modus operandi of Acumen Fund and other investment funds is “impact investing.” The unfailingly reliable Wikipedia describes impact investing as “an investment strategy whereby an investor proactively seeks to place capital in businesses that can generate financial returns as well as an intentional social and/or environmental goal.” It is a relatively new concept, and it has taken off in recent years.

So we met up at one of the many Lebanese restaurants in town for a drink and talked about all things development.  There aren’t too many impact investors operating in Ghana, or West Africa in general.  A few local private equity firms and some U.S.-based venture capital funds are the only ones I have come across.  But it is the next big thing in development, which, in general, tends to driven by fads and has an often-changing flavor of the month.  For a few years, microfinance was the darling of the donor communities, as Dr. Muhammad Yunus took that Nobel Peace Prize and ran with it.  But now, microfinance is experiencing its own serious growth pains in its biggest and most dynamic market, India, and has been criticized for being, at best, ineffective, and, at worst, actively counterproductive in alleviating poverty.   Continue reading