Microfinance raises fresh sub-prime fears
    Times Online, July 14, 2008

“Microfinance is supposed to offer a “’double bottom line’”: the financiers make profits while helping some of the world’s poorest people.” But as the market for Microfinance grows and more lenders appear, concern in growing that a scandal similar to the US could be created. There is fear that micro-borrowers could find themselves in similar situations to those American’s who were sold loans they couldn’t pay. But since Grameen’s birth (over 32 years ago) there has been an impressive repayment rate of 97%, which is far higher than repayment rates seen in traditional banking.
There is no need to equate microfinance with the sub-prime borrowers of the US. Also, in the grand scheme of things, microloans are far smaller than any sub-prime housing loan in the United States. Loans under $10 are of help to someone in a third world country who is looking to purchase the most basic capital to begin their own home-run business.
Sequioa (the venture capital firm that backed Google) recently took stake in SKS, India’s largest microfinancier.
There are estimates saying that $250 billion of microloans are demanded, which is going to encourage mainstream banks to get involved or open sectors that focus specifically on Micro-loans.
Microfinace is not a perfect system and, as with most fiscal operations, there is room for corruption. “Compartamos Banco, Mexico’s largest microlender with more than 840,000 customers, went public last year, raised $450 million for a group of backers that had originally invested just $6 million.” The bank did this by charging over 100% interest rates and although MF loan interest rates may be high, they are not nearly at this level. The returns this bank made were more than 3 times the 15% that Mexico’s traditional lenders received. The point of MF is to loan to those who would not be accepted at traditional banks and integrate them into society in this aspect, not to exploit these people who are not well-off to begin with.
In South Africa, loans are being misused to buy TVs and other electronics.
We cannot let these stories of corruption be the face of all MF banks. The grameen bank in particular has made great strides in the field and in alleviating poverty where it has gone and it is their model and reputation that should be imitated.
“Rapid growth… is now leading to accusations of aggressive collection or excessive profits” –Larry Reed of the Boulder Institute and in response, “we want to make sure [microfinance] doesn’t become a subprime case” Mr. Mahmood said.
Now microfinanciers are agreeing to a “do no harm” pact, which is in line with Grameens original rules of the institution.
For now, the postive aspects of microfinance must be promoted and the distinction between micro-loans and sub-prime loans made. Too many strides have been made in the field to allow the sub-prime crisis to ruin it.
 

*this article was written almost 1 year ago, so concerns now are likely higher than last summer.

Promoting Microfinance: Policy Measures Needed

Europe is far beyond the US in Microfinance efforts, yet the majority of European countries have populations much more similar to the population of the US than of third world countries. Because of this similarity in populations, I think it is important to study what projects have been implemented in Europe to find what will best work in the US.

This article addresses the need to integrate poorer populations into normal society and this is especially relevant to the experience of the refugees in Utica who are very separated from the rest of the Utica community.

Microfinance’s “role in integrating poor people and people at risk of poverty into the economy and society, particularly in developing countries, is seen as one of the development success stories of the past decade.” We can think of the refugee population in Utica as its own developing country or population.

Europe faces issues of (as a highly welfare based society) having well-trained people affected by long term unemployment and difficulties re-integrating into the working field because of their dependence on welfare benefits. Self-employment and microentrepreneurship are seen as ways to enable those well-trained people to begin again participating in working society.

This problem is referred to the “moving island effect,” once people begin working again they have to jump from the “island of welfare” to the “island of taxpayers” and this can be a frightening step, especially when one is accustomed to the support of the government. A bridge needs to be built between these two islands and the following suggestions were made to do so:

            -Entrepreneurial context:

                        Policy measures which promote the entrepreneurial context are:

1.      Awareness programs promoting self-employment as an income-generating option

2.      Reduction of legal, fiscal and administrative barriers to self-employment

The United States needs to do a better jobs with both of these policy measures. I believe that 1 has been made difficult by number 2 in the US. There are many restrictions (including licenses and fees) to starting a business that self-employment seems like to great of a hurdle to jump to generate income. The promotion of self-employment and minimizing restrictions to do so would greatly help the US economy. Not only would it lower the unemployment rate, but it would increase output and eventually create even more jobs.

“In an entrepreneurial society, self-employment is a respectable alternative to unemployment,” which I don’t doubt it the case in the US, but the barriers truly prevent self-employment from being a realistic ambition, especially for someone with little capital who knows not of microfinance.

            -Policy environment for microenterprises:

                        Measures, which improve the policy environment for microenterprises:

1.      Provision of business advice through flexible internet and telephone support desks

2.      Loans funds run by specialized NGOs/banks focusing on microenterprises

3.      Governments highlighting the importance of microenterprises.

NEW IDEA CLASSES TO QUALIFY FOR MF IN THE US:

The US certainly needs more government recognition and support for microenterprises. Their promotion of the option could greatly increase the field of microfinance. As for the first measure, I think offering classes for those interested in pursuing a self-employment track would be great. Classes could be offered by the government (although then they would probably not be well-organized and as productive), or microfinance institutions that offered loans could require classes before receiving loans and that could be part of the way the build “credit” in away. Someone’s attendance and dedication to classes about starting/running a business (perhaps they could be tested) would take the place of their lacking financial credit. It seems likely that if someone puts the time and effort into taking and performing well in a series of classes, they are serious about taking a microloan to start something on their own. This could be how the US runs microfinance where the group method may not be as successful as in third world countries. I especially think this may work because many of the poor in 3^rd world countries are just people stuck in an unemployment cycle, lacking opportunity whereas the poor in the US just often have not been exposed to the learning and opportunities necessary to start their own work. Poor in the 3^rd world countries are mostly restricted by geographical, health etc circumstances, whereas most in the US are not in this extreme poverty situation and really need education on how to perform tasks/ jobs.

            -Legal Framwork for microfinance:

                        Policy measures which create favorable legal frameworks etc:

1.      Specific legislations

2.      Reduced capital requirements

3.      Favorable fiscal status

Poland and the UK have very limited regulations-when it comes to microfinance there  are nearly none. There should be regulations that are specific to MF institutions so they do not have to follow the regulations of traditional commercial banks and can grow under their own specific set of requirements.

            -Financial Bridges

                        Policy measures, which enhance access to mainstream financial institutions

1.      Risk sharing loan instruments

2.      Tax nvesntives for investors

3.      Outsourcing of activities related to loan transactions

If specific mf banks are not going to be offered for those with little or no credit, these people need to be offered business from larger institutions or they will be stuck in the cycle of poverty. In Finland, Finnvera finances micro-clients and after they have successfully paid off the loans, they are transferred to become members of traditional banks. This is exactly what is meant by integrating the poor into normal society. If there is not incentive for the credit-less to gain credit, they will not. But if they are offered the opportunity to build up to receive loans from traditional banks and build credit like ordinary citizens, there is incentive for them to try to do so.

            -Funding and support for microcredit providers

                        Policy measures for mixed and long term funding of mf

1.      Tax benefits for investors

2.      Promotion of risk capital instruments for microenterprises.

Our economy clearly works off of incentives so if we want mf to flourish there needs to be benefits for the lenders to give their money to a lesser known field that could potentially be risky. In addition to attractive interest rates, tax breaks could give lenders greater incentive to put their money towards microfinance loans instead of into other high yield areas, expanding the funds base of mf support.

The EU has focused on implementing microfinance because of their emphasis on making their economy more dynamic and inclusive. There are major divides between the poor and the wealthy and that gap is widening in the US. The implementation of many of these recommended policy measures would help mf grow and help the poor help themselves move up in society to become part of the society that they are excluded from socially and fiscally-in terms of not being able to receive traditional banking services.

Article by: Jan Evers and Stefanie Lahn of Evers and Jung (research and consulting in financial services, Hamburg)