Today’s post is written by Zebra (James Glover), an occasional contributor to the Stubborn Mule, who turns his mind this time to microcredit, and the internet lending site Kiva.
Dolly lives in a mobile home and works in the fast food industry. I met her on the internet 5 weeks ago and almost immediately I lent her $500. She said she wanted the money to start her own business. Nothing too strange about that you might think. Single, lonely man meets woman online is a story as old as the internet. Nothing strange except Dolly’s mobile home is actually a tent. And when I say tent I mean a ger (or yurt), and Dolly lives in Ulan Butor in Mongolia not a trailer park in Baton Rouge. Perhaps this sounds like one of those internet scams but I didn’t meet her on MongolianWives.com either and she is a married woman with four children. In fact three of them go to university. Here is a link to Dolly’s profile so you can look and tell me if I am a sucker for an online scam.
You’ll be relieved to know that Doljinjav (her real name) has since paid back all of that loan. The website is kiva.org, dedicated to facilitating microloans to poor entrepreneurs in third world countries like Mongolia.
Microcredit works by making small loans to third world entrepreneurs like Dolly who would otherwise be unable to borrow from banks due to lack of credit history, assets and being female. It originated in Bangladesh in 1976 when Prof Muhammad Yunus set up a research project to better enable rural villagers to develop. He identified that it was lack of capital that was majorly inhibiting economic development. This is not surprising – imagine the sclerosis if financing was removed from the western economic system. In 1983 Grameen Bank (“Grameen” mean “villages” in Bangla) was set up to facilitate microloans. In 2006 Yunus and Grameen Bank were awarded the Nobel Prize for Peace. (Incidentally, Grameen Bank is the only business corporation to win a Nobel Prize).
Since then microcredit has been enormously successful. Part of the reason is that the default rate (1-2%) is negligible by standards based on historical criteria. This is attributed to the borrowers initially being collectives of women who borrow the money to set up small businesses. If one is unable to meet her obligations the others step in to support her. In practice these days, microloans are made to men as well as women, individuals as well as collectives and even in the US.
Microcredit turns around the banking paradigm that poor+woman = bad credit risk, which of course, on paper, they are. In fact it has been so successful that mainstream banks are getting in on the act themselves. Organisations like Kiva have also been set up to facilitate loans from charitable minded westerners who perhaps want an alternative to passive giving.
Kiva works by listing applications for funds by people like Dolly, which registered lenders can match in part or in whole. Typically the loans range from a few hundred to a thousand dollars. The lenders themselves have committed funds to the Kiva organisation for dispersal. Kiva don’t lend the money directly themselves but work with local partners who arrange the loans and collect the repayments. In practice the loans have already been made and the lenders are “backfilling” them. This has been a source of controversy (see below) but ultimately makes the whole process more efficient and from the borrowers point of more predictable.
It all sounds like a virtuous circle. Lenders get a more active giving experience, borrowers get access to credit they wouldn’t be able to normally access and as the loans are repaid lenders are able to relend it to others. While the lenders themselves aren’t paid interest the borrowers are charged interest. Theoretically the interest goes to pay any administration costs and any funds left over go to grow the balance sheet of the partner organisation.
But all is not well in Kiva land. Next to each applicant are posted statistics of the partner organisations and these reveal an uncomfortable truth. Typically the interest charged is 20-40% which is very high by western standards. Kiva also publishes the median interest rate of non-partner lenders in the region (ie. “money lenders”) but these are often twice as high. There has been an ongoing discussion online from dissatisfied lenders who would happily lend the money at a zero interest rate. After all they don’t get the interest themselves and besides they aren’t in it for the money. Kiva acknowledges these concerns but says the profits to the partner organsisation, after costs, are modest (typical ROA is 2-6%) and most of these are not-for-profit so goes to grow the balance sheet and increase lending. Here is a blogpost on the controversy and how Kiva responded.
The good news here is that the costs and profits are transparent and info is posted on the website. Kiva addresses its lenders concerns honestly and at the end of the day it is up to us to decide if we are happy with the process. Personally the question I ask myself is if the borrower is happier than the alternative – no credit or much higher interest. It makes you think about their situation. To consider the saying: “Walk a mile in my shoes” and then decide if you want to deny them this loan. This, in my opinion, is really the main benefit of giving, not the feel good factor. It is a privilege to be given this insight. To quote E.M. Forster, who himself lived for a long time in India, all we can hope for is “to only connect”.
I hope your interest in microcredit has been pricked. If you are already on Kiva or decide to sign up then we (the Mule and me that is) have set up a Kiva lending team called “Stable Hand” you can join. Lending teams don’t decide on how your funds are distributed but are a way to make contact with others with a similar interest. Please consider joining.