Debate on Microcredit

Foreign Policy In Focus asked the Microcredit Summit Campaign’s Sam Daley-Harris to respond to the question of whether microcredit is the solution to global poverty or whether its benefits have been oversold. Robert Pollin, who also provided this FPIF analysis of microcredit’s plusses and minuses, responds to Daley-Harris below. Finally, Felicia Montgomery also of the Microcredit Summit Campaign responds to Pollin.

Sam Daley-Harris

I believe we are asking the wrong question. Microfinance is not the solution to global poverty, but neither is health, or education, or economic growth. There is no one single solution to global poverty.The solution must include a broad array of empowering interventions and microfinance, when targeted to the very poor and effectively run, is one powerful tool.

Critics of the microcredit movement have raised a number of questions about the ultimate effectiveness of the model. For instance, in an article entitled Hype and Hope: The Worrisome State of the Microcredit Movement, Thomas Dichter argues that: 1) there is very little research that shows the impact of microfinance in a way that demonstrates causality; 2) microfinance may help with cash flow smoothing and boosting the confidence of women, but not much more; and 3) real lending should go to small and medium businesses capable of creating jobs and not to micro business and the subsistence activities in the informal sector.

It is fair for Dichter to question the quality of research, but that might be more a reflection of the research itself than on whether progress has been made. There can, of course, be a number of reasons for limited progress. In cases where an institution was not reaching the poor to begin with, progress out of poverty will not be relevant. In other cases, the institution might reach clients who are poor, but the interaction is solely financial, with little or no attention to social progress.

For example, an institution’s response to a client’s difficulty in repaying a loan can provide insight into its priorities. An institution focused on reducing poverty might determine the cause of the problem (for example, the cow that was purchased with the loan may have died) and then find a way to help the client back on her feet. The loan for the dead cow might be extended and repaid over several years and a new loan made to allow the client to earn other income.

The institution solely focused on financial performance can pay attention to having the loan repaid in full, even if that meant a hardship on the client and her departure from the program. In the first case you have a hardship and a second chance. In the second case you have a hardship and a drop out.

Does microfinance always bring social progress? No. It must be designed and implemented with great care to achieve both financial strength and impact.

But what about impact? It is a mistake to insist that microfinance alone produce the empowerment that families need. It is a critical intervention, but one of several that may be required.

When considering impact, it is very important to look to the world’s most saturated microfinance market, Bangladesh, not because it is an absolute predictor of what will happen in other countries, but because it is a predictor of what could happen elsewhere if developed with the same care that has been applied there.

In 1974, then-U.S. Secretary of State Henry Kissinger called the recently independent country “a bottomless basket case.” Indeed the country’s war of independence brought famine and devastation. Now, 32 years later, and 30 years since the first micro-loans were made to 42 desperately poor individuals, the 20 largest MFIs in Bangladesh reach 21 million clients affecting 105 million family members in a country of 140 million. Consider the following changes to that country:

  • By 2004, according to UNICEF, Bangladesh had already achieved the Millennium Development Goal on gender parity at the primary and secondary educational levels; the fertility rate in Bangladesh has fallen from 6.4 in 1970 to 3.2 in 2004; and the number of deaths of children under five per 1,000 live births has fallen from 239 per thousand in 1970 to 77 in 2004.
  • More than 13,000 women have been elected to local government positions.
  • Bangladesh has overtaken India in reducing its child mortality rate. Had India matched Bangladesh’s rate of reduction in child mortality over the past decade, according to the UN Development Program, 732,000 fewer children would die this year in India.

Shahidur Khandker’s in-depth study of three Bangladeshi MFIs found that microcredit accounted for 40% of the entire reduction of moderate poverty in rural Bangladesh and that microcredit’s spillover effects among non-participants reduced poverty among this group by some 1% annually for moderate poverty and 1.3% annually for extreme poverty.

This progress is not solely the result of a massive expansion of microcredit. But neither is it solely the result of highly effective government programs. BRAC, for example, created 35,000 schools for those students who never made it to first grade. Grameen Bank borrowers create schools for their own children when necessary. It is not likely that this progress would have been possible if microcredit programs never took root in Bangladesh or if only microfinance were available and nothing else.

So, what do we do with the charge that the research is weak and doesn’t show causality? Do we discard microfinance because we haven’t yet proven that it is the cause of the impact or do we acknowledge the synergies that combined to bring about such dramatic change? The latter is the most prudent course.

What about the charge that microfinance may help with cash flow smoothing and boosting the confidence of women, but not much more? When Christopher J. Elias, president of a Seattle-based global health NGO, was asked to describe the single most important action that could dramatically improve global health, his answer was: “Empower women.”

The United Nations Development Program (UNDP) report chronicling Bangladesh’s superior social progress record cites four factors in transforming Bangladesh’s human development landscape: 1) active partnerships with civil society, 2) targeted transfers, 3) extended health programs, and 4) virtuous cycles and female agency. This last area is described as follows: “Improved access to health and education for women, allied with expanded opportunities for employment and access to microcredit, has expanded choice and empowered women. While disparities still exist, women have become increasingly powerful catalysts for development, demanding greater control over fertility and birth spacing, education for their daughters, and access to services.”

Empowerment or a boost of confidence can’t be written off as a trivial side effect of microfinance. Empowerment is at the center of human progress. The Hunger Project makes the distinction between failed development that is top-down service delivery without empowerment and development where the empowerment of people, especially women, is at the center. When you deliver vaccinations without empowerment, the parents are not likely to bring their children back for the second and third course of immunization, rendering the first round useless. When you deliver education without empowerment, parents are left unable to respond to the barriers: school fees, uniforms and books they can’t afford, or teachers who don’t show up for class.

Billions of dollars worth of top-down service delivery won’t get the job done without empowerment. We will face this deficiency whenever efforts in the field of microfinance to ensure “inclusive financial services” work to achieve that goal through service delivery models that ignore the empowerment of clients and the communities in which they live.

Perhaps the cruelest charge is that real lending should go to small and medium businesses capable of creating jobs and not to microbusiness and the subsistence activities in the informal sector. Certainly financial services should be made available to small and medium businesses, but to say that they should not go to microbusinesses is to sentence the poorest to a cruel life of waiting: waiting for the wage employment and economic growth that may never come or the charity that may bring momentary relief, but without dignity or empowerment.

We must improve microfinance where it fails to live up to its promise, not write it off as a failed, over-hyped fad. What is also needed is a powerful vision for outreach and impact, a vision that is laid out clearly in bold goals.

Robert Pollin

Sam Daley-Harris and I agree on two crucial points. First, we agree that providing accessible credit and other financial services to poor people can help reduce poverty. And second, we agree that, by itself, microfinance is by no means the solution to global poverty. In other words, we agree that microfinance can play some role in reducing global poverty. But this still tells us little as to how microfinance can play this role, and to what extent it can be a leading force in fighting poverty.

As I emphasize in my article, microfinance initiatives need to be embedded in a range of mutually supportive initiatives and institutions in order to have a significant impact on poverty reduction. To begin with, I think that credit access to the poor needs to be subsidized on a large-scale basis, just as, from the 1950-70s in particular, development banks successfully promoted manufacturing and export success throughout much of the developing world on the basis of major credit subsidies. Daley-Harris does not question whether charging poor borrowers interest rates of 30-50% on average is good policy. Indeed, he doesn’t mention the issue of interest charges on micro loans at all. However, when we refer broadly of providing “access” to credit to poor people, it should be a matter of foremost importance whether the credit is affordable. It is not plausible to expect that a poor country can mount a major attack on poverty by making credit available only at confiscatory rates. My article briefly describes how providing large-scale subsidies, which can reduce the level of risk to lenders and thereby the interest rates on microfinance loans by as much as 75%, is affordable for poor governments. The case I focused on to make this point was Kenya, one of the world’s poorest countries.

Daley-Harris makes clear that microfinance needs to be supported by other interventions in a broad fight against global poverty. But he is vague as to what these other institutions should be. I emphasized in my article the significance of the transition away from various “developmental state” models since the early 1980s to the currently ascendant neoliberal policy model in developing countries. Under neoliberalism, agricultural extensions, marketing support, and other forms of government assistance to small entrepreneurs have been greatly reduced; financial market policy is focused on liberalizing regulations and welcoming speculative finance; macroeconomic policy is focused on suppressing inflation through austerity; and governments make no effort at stimulating the expansion of decent wage employment. All of these measures operate powerfully against any efforts by microfinance institutions to significantly improve the lives of the poor.

The Grameen Bank was created in Bangladesh by Muhammad Yunus in 1976. Today, as Daley-Harris states, Bangladesh is “the world’s most saturated microfinance market.” Daley-Harris presents evidence on the advances Bangladesh has made in reducing poverty since the Grameen Bank opened. However, consider a few simple comparisons. In 1965, the average per capita income in Bangladesh was $269 (in inflation-adjusted 2000 dollars). In that same year, per capita income in Indonesia was $195, 28% lower than that in Bangladesh. As of 2004, Bangladesh’s per capita income had risen to $402 while that in Indonesia was at $906. In other words, Bangladesh’s per capita income had risen by 150% while Indonesia’s had risen by 460%. But more to the point regarding poverty reduction: in the most recent years for which the World Bank reports figures, in Bangladesh the $1 dollar/day poverty rate was 36% (2000) while in Indonesia (in 2002) it was 7.5%.

Indonesia, moreover, is by no means a star in the firmament of East Asian Tigers. If we consider Thailand, for example, in 1965, its per capita income was about 50% higher than that in Bangladesh. By 2004, it had risen to almost 600% higher than Bangladesh. More importantly, as of 2002, Thailand had pushed the $1 dollar/day poverty rate down to only 2%.

What is responsible for the far greater economic achievements of Indonesia and especially Thailand relative to Bangladesh over the past 40 years? Without pursuing here an extended debate about developmental strategies, we can at least say that Indonesia and Thailand achieved their successes despite the far less extensive role for Grameen-style microfinance institutions serving their countries’ poor. This does not mean that we should gainsay the real contributions of the Grameen Bank that I cite in my article. But if we are committed to ending global poverty, it does mean that our attention should focus to a far greater degree on the overall development strategy in which microfinance institutions operate and less on microfinance per se as a tool of poverty reduction.

Felicia Montgomery

Microcredit is an effective poverty-fighting tool for various reasons, even within the context of the dominant neoliberal economic framework. Sam has already outlined some the extraordinary advances Bangladesh has made fulfilling the Millennium Development Goals. The contribution of microcredit to poverty reduction is undeniable.

Microcredit has notably been attributed to fighting poverty in Bangladesh and the case of Bangladesh has inspired the global microcredit movement. Grameen and other revolutionary microfinance institutions have offered much more than just “financial services to poor people.” It’s been a multifaceted approach to combating various obstacles shackling the poor to their conditions. It has included integrating health education with microcredit, financial literacy, technical training, and opportunity for self-determination.

In reality, microcredit can be implemented alongside many development projects already in place and is increasingly being discovered by new actors for the many benefits it offers. One example would be the Rural Development Institute that is now moving forward with a program of “micro-landowning” that reaches out to poor, landless families in India and now in Pakistan. The program especially seeks to reach the bottom one or two deciles of rural households with ownership of house-and-garden plots, as small as one-tenth of an acre in size, and with a special focus on the land rights of women. RDI’s mid-term goal is to catalyze a “global micro-landowning program” that will draw upon the lessons of, and complement, global micro-lending for the poor with global micro-owning for the poor. The accumulated evidence for what can be accomplished with such micro-plots appears to be very strong in terms of nutrition, income, and empowerment.

On another note, questioning the rates charged by microfinance organizations is not completely relevant to this debate. The Microcredit Summit Campaign and those who subscribe to our school of thought do not believe in charging interest rates high enough to attract investors solely seeking profit. We believe that microfinance institutions should be sustainable; they should improve the lives of their clients and expand to serve more clients. With more big commercial banks now being turned on to microcredit, we approach their interest with much caution. We welcome them and want to engage them in the dialogue about microcredit, but never want the main focus to be shifted or lost. It’s about lifting people out of poverty, not earning big profits.

While your proposal for Kenya sounds nice, what would make one believe that corporate banks want to lend to the very poor? It should be understood that we advocate especially for those living on below a $1 a day. Perhaps the corporate banks could be convinced to invest in the moderately poor, maybe. But in the very poor, that would be a very hard sale. Indeed the demand for microcredit is strong. One organization prioritizing the poor and having a positive social impact in the lives of its clients is Jamii Bora. With its innovative programs targeting thieves, beggars, the HIV positive, and slum dwellers, Jamii Bora is taking on the “banking untouchables” and giving them ways out of poverty.

I disagree with the notion that you cannot reach the very desperate with microfinance. It is necessary to be truly involved. The proactive and innovative approach of most microfinance institutions is the reason why many of them have been able to penetrate dangerous slums and expand out into vast rural communities. The idea of financial services has changed and adapted to people’s current realities. Even though the neoliberal economic model is most dominant in today’s society, it is important to understand that reverting back to the old system of banking will not yield desirable results. Microfinance institutions and other international development agencies have the mandate to keep adapting to the challenges of today’s poor. We cannot afford to shy away from the realities facing the poor because they are too hard to reach.

Sam Daley-Harris is the director of the Microcredit Summit Campaign. Robert Pollin is professor of economics and co-director of the Political Economy Research Institute at the University of Massachusetts-Amherst. They are both contributors to Foreign Policy In Focus (www.fpif.org). Felicia Montgomery is a development associate at the Microcredit Summit Campaign.