Microfinance has a long history of success in providing financial access to the world's poor through small loans. It has been lauded as aiding the Millennium Development Goals, reducing poverty, empowering women, and supporting numerous other social benefits. Recently, however, public figures have questioned microfinance. One politician went so far as to say that microfinance is "sucking blood from the poor." However, recent setbacks in microfinance do not indicate that microfinance as an institution is extinct. Despite the recent problems, microfinance still serves a crucial role in international development. This paper explores some of the reasons that microfinance is currently struggling and provides potential suggestions for addressing them.
Summary of Paper
Microfinance has a long history of providing financial access to the world's poor through small loans. It has shown numerous successes throughout history, most famously through the Grameen Bank. It has been lauded as aiding the Millennium Development Goals, reducing poverty, empowering women, and supporting numerous other social benefits. Recently, however, public figures have begun to question microfinance. In fact, Bangladesh's Prime Minister went so far as to say that microfinance is "sucking blood from the poor." (1) A string of suicides in Andhra Pradesh (AP) was linked to the pressures of repaying microloans, further muddying microfinance's reputation. Microfinance, as it stands, is simply not working.
Despite microfinance's recent problems, it serves a crucial role in international development, in providing financial access to the poor, and in alleviating poverty. This paper explores some of the reasons that microfinance is currently struggling, and provides potential suggestions for addressing them. Section I explores the foundations of microfinance, explains why microfinance matters, and addresses programs Grameen Bank utilized to aid development. Section II addresses how microfinance affects international human rights, including many of the concepts scholars deem as successful, in part, due to microfinance. Section III analyzes the current state of microfinance institutions, explaining their prevalence and the recent suicides in AP. Section IV explores some of the difficulties microfinance institutions have had in alleviating poverty and the reasons that scholars say microfinance is floundering. Section V provides recommendations for improving microfinance and how to effectively use it to alleviate poverty and spur development. Finally, Section VI concludes that, though fawed, microfinance can still be effectively used to help reduce poverty and stimulate development.
Why Micro finance Matters
Exchanging hair for capital is not a novel concept; (2) however, the rural women building these businesses add a new face to the old idea. Sivamma, a 35-year-old woman from AP, took out her first $45 loan to build a business based on human hair. (3) She hired 250 women to collect human hair from villagers in exchange for items such as toys. (4) Then, "[t]he hair is collected and sold to a leading Indian hair exporter in Madras, from where it eventually finds its way to the United States and other Western countries to be used for wigs and hairpieces." (5) Now, Sivamma enjoys her earnings. She is proud of "the $3,000 home she built from the profits, the $700 motorbike she bought for her husband and her $1,000 savings." (6)
Jane found similar success in microfinance. Jane grew up in a Kenyan slum, dropped out of school after eighth grade, and became a 38-year-old single mother. (7) When her husband took a second wife, Jane was pushed out of the house. She was alone, homeless, broke, and trying to support her small children. (8) In order to survive, Jane sold all that she had left--her body. (9) After five years of prostitution, Jane joined an antipoverty organization utilizing microfinance and microsavings. (10) She left prostitution, learned to sew, and used what she saved plus a small loan to buy a sewing machine. When her sewing business flourished, Jane bought a "small home in a safe suburb" and focused on keeping her children in school. (11) Jane's children are equally a success story: her daughter was the first child in Jane's family to graduate from high school, and her son ranked first in his class. (12) When the New York Times author spoke to Jane's son, he said "that when he gets his first paycheck, he's going to buy something beautiful for his mom--and his eyes glistened as he spoke." (13) Jane literally sewed her way out of poverty. Because of the opportunities provided by microfinance, the image of a woman in an impoverished village having financial access and the opportunity to create a successful business is now commonplace.
"Microcredit is the extension of small loans and other financial services ... to the ... poor." (14) The term is used nearly interchangeably with "microfinance." (15) Microcredit allows the very poor to become entrepreneurs and generate income, thus providing an ongoing source of income for borrowers and their families. (16) The microloans go to those who traditionally could not have access to normal banking because they lack collateral, steady employment, and a credit history. (17) Historically, the rural poor only had access to capital through usurious moneylenders, the equivalent of modern day loan sharks. (18) Microloans were initially meant to "provide a kinder, cheaper alternative." (19) Modern microfinance institutions (MFIs) do not have a uniform makeup--they can be nonprofit organizations, "credit unions, cooperatives, private commercial banks, and even non-bank financial institutions." (20) Since "microcredit" institutions have grown to include numerous types of financial access, (21) this paper will primarily use the term "MFI" to refer to microfinance and microcredit programs.
As microfinance borrowers are typically impoverished, they cannot offer banking institutions typical types of collateral. (22) Therefore, many MFIs loan money to groups of people in a community, so that borrowers "are jointly responsible if anyone defaults on a loan." (23) This "social collateral" among borrowers pressures them not to default, and has proved to be successful in urging repayment. (24) As the World Bank explained regarding a microfinance project in AP: "[k]ey to the management of risk for banks was the social collateral provided by poor women in self-help groups who guarantee each other's loans." (25) The situations where the social collateral method is used are often called "self-help groups." (26) Unfortunately, while the "social collateral" approach is successful in aiding loan repayment, the shame it causes borrowers is often difficult for them to deal with. (27) "Both proponents and critics acknowledge that the peer-pressure exerted by the group on the borrowers is often shame-based. The combined pressure from peers and loan officers can be intense, and studies have documented some early tragedies, including one woman who killed herself as a result of this pressure." (28) In the past few years, suicides attributed to the pressure of repaying microloans have increased. (29) The difficulties with this shame-based social collateral system are further addressed in the section on AP.
History of Microfinance
The idea of microcredit has a long and tumultuous history. Informal banking institutions have existed for centuries, including such industries as "'susus' of Ghana, 'chit funds' in India, [and] 'tandas' in Mexico." (30) As early as the 18th century, in Europe, charities and credit cooperatives have been extending small loans to budding entrepreneurs. (31) For example, 18th century author Jonathan Swift donated part of his wealth to be lent to poor tradesmen, in small sums, to be repaid weekly and without interest. (32) Similarly, the Irish Reproductive Loan Fund Institution was founded post-famine in 1822 to give loans under ten pounds to people in rural areas for the "relief of the distressed Irish." (33) Group microlending was documented as early as the nineteenth century in Germany. (34) Like the programs that Yunus' infamous Grameen Bank (35) would utilize in the future, the early cooperatives relied upon close groups of people that knew one another well, in communities where individuals were willing to be held liable for the debts of other borrowers in their groups. (36) Starting in the 1970s with the popularization of Grameen Bank, microcredit became an important tool in advancing development.
The Evolution of Grameen Bank
In 1974, Muhammad Yunus was a Professor and Head of the Rural Economics Program at the University of Chittagong. (37) He traveled through many rural areas of Bangladesh and was appalled by the poverty that villagers were suffering. (38) As he explains it:
The starving people did not chant any slogans. They did not demand anything from us well-fed city folk. They simply lay down very quietly on our doorsteps and waited to die. There are many ways for people to die, but somehow dying of starvation is the most unacceptable of all. It happens in slow motion. Second by second, the distance between life and death becomes smaller and smaller, until the two are in such close proximity that one can hardly tell the difference. Like sleep, death by starvation happens so quietly, so inexorably, one does not even sense it happening. And all for lack of a handful of rice at each meal. (39) Shocked at the poverty and looking for a way to help the starving villagers, Yunus used his background in economics to pioneer modern day microfinance. In 1983, Yunus established Grameen Bank to provide small loans to people for starting or growing their businesses. (40) Grameen began as an organization "with the belief that credit should be accepted as a human right," where a person "who does not possess anything gets the highest priority in getting a loan."...