Microfinance has grown rapidly, but this article questions its impact on development. Microfinance may create mini-businesses, but it does little for real development. Ultimately, the emphasis on microfinance may simply be based on “populist appeal”. Microfinance is much less beneficial than commonly assumed.
By Adam Robert Green
The microfinance industry is expanding at breakneck pace, with more banks and private equity firms now entering the fray. Yet there is growing unease about the naive assumptions, and evangelical predictions, of its advocates.
In 2009, 128 million people received microfinance loans, according the Microfinance Summit Campaign. Such services are increasingly being used in untested settings, from post-disaster reconstruction in Haiti and entrepreneurship programmes in Iraq to consumption smoothing during seasonal famines in Bangladesh.
"Microfinance has a certain populist appeal," says Ha-Joon Chang, professor of economics at Cambridge University.
"(But) simply throwing money at people and hoping for the best, without extending complementary inputs to raise productivity, such as warehousing, fertilizer, export marketing, market research support and so on, means you reproduce poverty rather than eliminating it," he told IPS in an interview.
One issue is market saturation: "If you lend to one person to buy a phone and rent it out, she might make some money but very quickly many others enter the market, unleashing intense competition. There are a limited range of things that poor people can do in many of these contexts, and limited scope for productivity gains.
"How much more efficient can you get at frying food or raising chickens?" Chang asks.
While microcredit modestly raises rates of business creation, it is not clear that such enterprises grow. Professor Abhijit Banerjee from the Massachusetts Institute of Technology (MIT) has conducted a series of randomised controlled trials of microfinance and claims to have found scant evidence of enterprise expansion.
"We see lots of business creation, but little business growth. Of course, there is no solid proof that such growth could not happen, but none of the evidence is pointing in that direction at the moment," Banerjee points out.
One consequence of business creation without growth, warns Professor Aneel Karnani at the University of Michigan, could be the formation of "atomised" economies with many small-scale activities, and a "missing middle" of small to medium-sized enterprises (SMEs).
Karnani told IPS: "This is a zero sum game, in the sense that resources are limited. Microcredit is attracting a lot of money, human and political capital and energy and enthusiasm from NGOs (nongovernmental organisations) and government officials that could have been channelled into SMEs, the real engine of job creation."
Karnani also believes the poor overwhelmingly desire access to formal jobs, rather than the opportunity to be entrepreneurs. "Microcredit is based on a fallacy that people not only want to be entrepreneurs but have the will, ability and preference to do so.
"Most people are not like that. In the U.S. and UK, 90 percent of the workforce chooses to work for a salary rather than be an entrepreneur. If 90 percent of people in rich countries choose not to be entrepreneurs, with all that education and excellent public infrastructure, why do we think people in poor countries want to?"
Reports of fraudulent microfinance institutions and unwise investments, for instance in pyramid schemes such as happened in Tanzania in 2010, have led to calls for complementary training in financial literacy, but Dean Karlan, professor of economics at Yale University and co-author of a recent book "More Than Good Intentions", has reservations.
"I am concerned about the scalability of financial literacy programmes. Perhaps we should instead accept the state of people’s knowledge and work with that. The government can play a role on the consumer protection side, such as regulating for clear disclosure policies. We need tests, not assumptions and dogmatic rhetoric, to know the way forward."
Karlan, like Banerjee, is interested in building the evidence base to improve the evaluation of microfinance and describes ‘‘before and after’’ studies, used by both advocates and critics, as "analytically silly". The criteria against which successes are measured, such as whether a post-loan client no longer ‘‘sells assets at fire-sale prices during shocks’’, are impossible to prove.
Randomised controlled trials may be one way to rigorously establish impact. Yet, however impact is evaluated, some have fundamental concerns regarding the consequences of inevitable defaults, or the personal distress resulting from the fears of default, in large part due to the public shame associated with failure.
Kasia Paprocki of the Goldin Institute told IPS: "The claim that microcredit is collateral-free is false. Loan officers will document what you have – pots, pans, productive assets, a rickshaw and so on - and retrieve it if you do not pay. People have literally had their roofs removed for defaulting."
Paprocki cites evidence of physical and sexual abuse from loan officers, and claims that in Bangladesh some people sell government food aid during seasonal famines to pay off loans. She also claims that many women who struggle to repay become isolated in the community and cannot call upon social networks.
She expresses concern at donor enthusiasm. Some, she claims, are telling NGOs "they will not receive funds for their programmes unless they adopt microfinance".
Most critics acknowledge that micro-finance is here to stay. Some, such as Karnani, would like to see the back of it while more moderate voices, such as Chang, believe it can play a role in development, but in the context of broader development interventions.
Others, such as the so-called ‘randomistas’ at the likes of Yale and MIT, simply wish to improve the state of knowledge about impact before the industry expands on heightened expectations. One thing is clear: the honeymoon is over. (END)
