The Mystery of Capital and MFIs on the Ground
Before I left for Bangalore, my Peruvian roommate gave me a book. The book was The Mystery of Capital by Hernando De Soto. De Soto is an economist from Peru who writes about property rights, poverty alleviation and public policy. I did not know at the time, but some of the ideas expressed in the book, I would later see and appreciate first hand during the fellowship.
During my second week in Bangalore, I was invited to go to a meeting in Bhopal where I was given the opportunity to see the inner workings and operations of an MFI (Micro Finance Institution). MFIs are for profit institutions that offer financial services to low income populations. They are based off of the model pioneered by the Grameen Bank in Bangladesh. Low income populations have historically been excluded from the financial system because they operate in the informal economy, they have no hard assets, they have no credit history and there is no profitable way for traditional banks to manage a large number of small loans. MFIs solves some of these problems in order to provide more people with access to credit.
Here is how they work: microfinance customers are often not financially literate so it starts with educating them on the basics of savings, budgets, debt, cash flows and investment. First, potential clients have to take a basic personal finance class. After the MFI educates them on the lending process, the groups are given access to small loans for approximately $50-100. This amount is enough to buy things such as an animal or sewing materials in order to start a basic small business. The borrowers do not have hard assets such as deeds to property and so the land that they live on is not documented legally. This means that they have no collateral to put up for the loan. So the loan officers work with and lend to groups of around 8-10 people, all from the same communities. Debts are repaid together and so social peer pressure helps ensure payment in the absence of collateral. Individuals build up a credit history with the MFI and are allowed to take out larger and larger loans. For the MFI that I visited, default rates were just 3% per year and interest rates hovered around 17%-20% per year.
The picture below is from a meeting with a lending group. The woman closest to the camera is the loan officer. She is taking roll call, collecting interest payments and disbursing loans. We also got to hear from these women about what it was like before the MFI came to their village and what they were using the loans for. They were all using them for different purposes. One was using it to buy a goat, one was buying raw materials to make and sell jewelry and another was buying a laptop in order to educate children in the village. Before the MFI entered their village, in order to get a loan, they would have to go to a wealthier landowner in the area. While most were not able to obtain any loan, those who were, were charged upwards of 30% interest per month. It was loan sharking/ predatory lending and the repayments were sometimes enforced by blackmail and coercion.
The women in these groups were proud of what they had been able to achieve with these loans. One of the lessons that I have learned in my time in the IDEX classes is that we often project our own world view on the struggles of people. We attempt to approach their problems from our perspective. This causes all number of well-intentioned misfires when it comes to policies to alleviate policy. The women that I met with were smart, driven and creative but they all faced their own specific problems. Only they can know what is best for themselves. The system put in place by this MFI empowered them to prescribed solutions for themselves and their community. The emphasis was not on helping them but it was a mutually beneficial partnership that helped them help themselves. They were not helplessness and they did not need saving. What they needed was the ability to unleash their potential. Access to credit not only helps them in a sustainable way but it gives them dignity.
Mr. de Soto describes a two-tiered system in developing countries where certain people have access to capital and protection under the law, and a second tier, where low income people are stuck in the poverty trap because they are not given the same legal protections, property rights and access to capital. He argues that the poor have more assets than people assume and giving them proper title to these assets, access to capital and legal protections allows them to express their entrepreneurial ideas and energy. MFIs include people from the 2nd tier of the economy, the informal sector, and give them access to capital, previously only available to people in the top tier, or the formal economy. When I was reading the book, I was impressed with the ideas and they made sense to me. However, on the ground I was even more inspired by the entrepreneurial energy that these people had when they were given the ability to express it.