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Muhammad Cronus?

It may not have been as terrifying as Francisco Goya’s depiction of Cronus devouring his children , but the article by microfinance pioneer Muhammad Yunus in today’s New York Times had disturbing echoes of the story from Greek mythology of the titan who, fearing that his offspring will overthrow him, eats them instead.

“In the 1970s, when I began working here on what would eventually be called ‘microcredit’, one of my goals was to eliminate the presence of loan sharks who grow rich by preying on the poor.” Yet, he laments, “I never imagined that one day microcredit would give rise to its own breed of loan sharks.” Who are these loan sharks who have betrayed the great man’s vision? Mr Yunus goes on to name and shame microfinance providers like Compartamos in Mexico and SKS in India, which have tried to turn his ideas into a for-profit business. If his Grameen Bank can serve the poor by offering loans at an interest rate of 20%, those charging a rate of 50% or more are, surely, exploiting the poor, he argues, warning borrowers and regulators to beware anyone levying interest of more than 25% a year.

This is not a new argument. Mr Yunus has been campaigning against the for-profit school of microfinance since back in 2005, when he got into a spat with philanthrocapitalist eBay founder Pierre Omidyar at the home of Silicon Valley venture capitalist John Doerr. We discuss this incident in the book where we argue that the Nobel Prize-winning Mr Yunus has got this one wrong.

Even in wealthy countries, poor people are often excluded from the mainstream financial system because they are an expensive client group to serve. There is little difference in the administrative cost to a financial service provider of offering a loan for $100 or $1,000 but the interest rate required to cover those administrative costs (as well as the cost of raising the money to lend) gets lower the bigger the loan.  A $100 loan at 50% would pay the lender $50 over a year, while $1,000 lent at 10% would yield $100.)

For some microfinance providers, like Grameen, the way to keep down the interest rate is to take deposits from clients to fund loans. That is all well and good for Grameen but financial regulations in many countries stop microfinance providers taking deposits and the capital has to come from somewhere else. And, given the limited supply of the sort of philanthropic donations that helped Grameen get started, the only plentiful supply of capital is for-profit investors.

Of the billion people living in poverty about 150 million currently have access to microfinance, so there is still plenty of unmet pent-up demand. Providers like Compartamos and SKS have grown quickly and therefore helped more people because they have engaged the for-profit capital markets (and as they have grown, they have passed some of the savings from scale efficiencies back to borrowers in lower interest rates). If Mr Yunus has his way, this supply of growth capital will be choked off and hundreds of millions of people will be left waiting for financial inclusion.

It is true that some borrowers in India have got into financial dificulties, and a few have committed suicide, which has inspired local politicians to attack the fast-growing microfinance industry. There are some lessons for the industry here. But the idea that leading commercial microlenders like SKS and Compartamos are loan sharks is outrageous. They devote considerable resources to ensuring their borrowers are financially literate and capable of repaying their loans. Compartamos has a non-performing loan rate of under 2%, which suggests very few its clients are getting out of their depth. Nor, unlike traditional loan sharks, do these institutions rely on violence or other heavy-handed methods to get their money back. On the contrary, they are committed to the rule of law and promoting best practice throughout the industry.

Mr Yunus supports the idea that governments should impose caps on the interest rate charged by microlenders. He says this should be no more than 15 percentage points above the cost of raising the funds to lend. In the case of Grameen, he says, that would be an interest rate of 25% – a number that, it would be easy to conclude, is not far off what he thinks would be the right cap on interest rates elsewhere. Yet in countries such as India and Mexico, where interest rates are significantly higher, the consequence of a rate cap of anything close to 25% would be a dramatic decline in the number of poor people able to get access to credit, at a time when demand for credit is as strong as ever.

Although Mr Yunus has been criticising for-profit microlending for years, it would be easy to conclude that this latest article has been prompted by the ongoing attack on him by the government of Bangladesh. As we noted recently, this attack is outrageous, undeserved and alarming. Yet in his article, Mr Yunus is full of praise for Bangladesh’s prime minister, Sheikh Hasina – who has been leading the criticisms of Mr Yunus, even calling him a bloodsucker (aka loan shark).

Mr Yunus has inspired many of the leaders of the for-profit microfinance movement. They would have much to learn from his constructive criticism. Instead, it seems, he has decided to try to deflect the attack on himself by encouraging an attack on his children. It is unworthy of him and, if you take the lesson from Greek mythology, a strategy that is unlikely to succeed (the one son Cronus failed to deal with, Zeus, eventually killed and usurped him).

0 replies on “Muhammad Cronus?”

I agree with most of this post, but would grant Yunus the recognition that he is right that for-profit microfinance was out of control in India. Perhaps there is more evidence behind the defense of for-profit microcreditors than you share in the text, but it feels a bit facile as is:

They devote considerable resources to ensuring their borrowers are financially literate and capable of repaying their loans. Compartamos has a non-performing loan rate of under 2%, which suggests very few its clients are getting out of their depth.

What are these resources? What is “considerable”? Most of what I heard about in India in November was loan officers doing the absolute minimum to form groups and move on. And while I have no reason to believe that Compartamos’s portfolio harbors any difficulties, pointing to a non-performing loan rate is a week argument. Repayment rates always look good before bubbles pop.

But to repeat, I largely agree that Professor Yunus has missed the mark.

My own take is at:
http://blogs.cgdev.org/open_book/?p=5432.

Mr. Bishop,
I find myself conflicted by the ideas presented in your post, as I see merits on both sides. Dr. Yunus’ strict adherence to his principles undoubtedly limits his reach, but I’m not certain that’s a bad thing. I’ve read his books, seen him speak, and had the good fortune to meet him briefly and I can say unequivocally that I believe his intentions to be noble and his motivation to be outside of self. He takes a similar hard line in his approach to social business in which he advocates a pure model which does not allow investors to take profits. He sees approaches which open the door to opportunism to be slippery slopes. His inflexible stance appears to be intended to set a standard meant for others to gravitate towards. I believe it is our moral obligation to protect those who cannot protect themselves. Allowing for profit entities free reign in the microfinance sector is an abdication of this most basic responsibility. Whether the percentages favored by Dr. Yunus are too conservative is up for debate, but I think that a modicum of control seems prudent. Otherwise, I fear that this will lead to a spiraling problem for the folks at the bottom of the pyramid.
With that being said, I assure you I would like to see development spread like a wildfire. Further, I’ve not given your ideas a fair shake, as I’ve not yet read Philanthrocapitalism. I’ll pick up a copy soon and will give you the chance to convince me of your viewpoint through it.
Thanks for the thought provoking post!

Interesting take and a good framing of issues. In total agreement that a cap on rates is a non-starter.
However your claims that “Compartamos and SKS have grown quickly and therefore helped more people because they have engaged the for-profit capital markets” remains in part an empirical question, particularly in a world where there is quite a large supply of social investors (isn’t that what philanthrocapitalism is in part about?).
One of the harshest criticisms of the IPO was that in fact it raised no new capital, it simply allowed existing owners to cash in. They were also criticized for fueling growth mainly via retained earnings which was calculated to have meant significantly higher rates for their poor clients, when there was plenty of social investors on the sidelines willing to finance the same expansion for much less.
SKS is a clearer example of a microfinance institution expanding rapidly primarily through commercial private equity. Unfortunately it’s a bit premature to pass judgments on how important or well that has worked out. No doubt a great deal of SKS’s problems were brought down upon them by stupid politicians, but at least some part of its problems may have been brought about by too fast of an expansion without concerns about quality and systemic risk (sound familiar?). It seems valid to ask whether a different type of ownership structure (e.g. more social investors less keen to rush toward an IPO to cash in) might have led to a slower but ultimately more successful and sustainable expansion. I don’t think a ‘non-profit’ form is the only other option, but in emerging new markets like these I think it’s very reasonable to ask whether different ownership/governance structures at SKS might have led to better long term outcomes for commercial microfinance.

Matt,

Nice read on the situation, and for me rings true in many ways.

Where I think I am particularly bothered by his piece is in two ways:

1) His constant “ownership” of MFI.. that he himself started it, and it is his responsibility to define MFI… it arrogant, and in many way contradictory to his mission.

2) His belief in the non-profit model is the end all and be all is misplaced if for no other reason that you have alluded to. that it works. In the NYT article he says “Poverty should be eradicated, not seen as a money-making opportunity”, and I think this is a huge error in judgment on his own part as his own bank exists because others simply did not see the profit in lending to the poor. Had they had the same understanding and vision as Yunnus, then Yunnus would have remained a profession.. and one whose work would have probably revolved around studying the banks as they transitioned their portfolios to include the BOP

For me, I think Yunnus’s own “ownership” of this issue has gotten in the way, and he needs to expand his understanding of the model. Clearly, if SKS is able to operate at the size it does in HIS market, then that means that his own model has failed to meet a market need, and that there are always going to be different markets with different needs that require different organizations.

R

Have you made a field trip to Bangladesh?
http://www.macrae.tv/sitebuildercontent/sitebuilderfiles/considerb1.pdf The system designs of people like yunus and sir fazle abed have proved over 40 eyars to be 10 times more economical for communities aiming at ending poverty- all the value of the productivity in the community being reinvested in the community instead of being creamed out by rich people in global capitals; the founder of The Economist died before his time in Calcutta trying to reform empire economics; his son-in-law reformed the english constitution from centre of empire to commonwealth; I wonder how they would rate your piece

Hi, Im from Mexico, and I have been working as a kiva fellow in a microfinance institution, and I have heard of Compartamos, being a huge institution, and their working methods. Its not that Compartamos is a bad institution or that they are charging too much interests. As for Mexico the big problem is over indebtedness and the lack of education. Most microfinance institutions (not to say all) do not provide much financial education to its borrowers, including Compartamos, (giving these services will give less earnings at the end, something they do not want to sacrifice) and as I have written in some of my blogs for kiva

http://fellowsblog.kiva.org/2011/01/19/financial-education-and-the-mexican-dream-la-educacion-financiera-y-el-sueno-mexicano/

If they are only given access to credits without putting attention to educating them at the same time, its not fair for them. They are vulnerable because they do not know how the system works, what many of the concepts used mean, and how to really take advantage of the loans. At the end probably many mexicans with microcredits end up using this money to pay for other stuff because they do not have the skills to take advantage of the money to really use it for their business.

I agree with you that caps on interests is not the answer, and I also agree with Yunus that we can not forget that at the end it has to be a tool to help people, not to get them overindebted, more effort in educating them so they can really be at a level where they can understand the implications of a loan, push for better service from institutions, that will make it fair and then competition can really begin. Being in the field is so much different than the microcredit ideas in paper, is not as good as they say, is not as bad as other say.

LULA

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