The Huffington Post has just published an article on "How Microfinance Lost its Soul" written by 1996 Puget Sound IPE grad Aaron Ausland. I'll copy the first few paragraphs below. You can read the whole article here.Microfinance has lost its soul. Six fundamental shifts in the practice of microfinance have left it operating more like a for-profit bank and less like an innovative pro-poor movement.
I don't have much against banks; they mostly do good things for people who can access their services. But, if you happen to lack title to property, a credit history, or official identification, as many of the world's poor do, banks are little more than sets of closed doors. Until recently, the only options for accessing credit and savings services were informal networks and local moneylenders. That all changed with the invention of microfinance -- a pro-poor social innovation that has provided access to financial services to millions of people previously thought to be "unbankable."
Over the past three decades, a massive scale-up has taken place as NGOs, banks, foundations, and private investors launched MFIs in every corner of the globe. Even I got swept up in the excitement and led a 1999 launch of an MFI in Bolivia. At some point though, a good part of the movement got hooked on the hubristic notion that we had to provide credit to every person on earth, and in order to do this we'd have to access the formal capital markets, which it was assumed (falsely) are driven solely by financial incentives. And so, without hardly a look ahead at what it would mean, profitability became the leading indicator of success. Instead of talking about how many people had been helped to move out of poverty, MFIs began bragging about low rates of portfolio at risk and high rates of ROI. Mission statements were revised to soothe investor apprehension. Healthy assets were prized over healthy borrowers. In short, microfinance lost its soul.
Here are six fundamental shifts in the practice of microfinance that accompanied us down this path.
1. Shift from targeting poorest of poor to the moderately poor.
There are two problems with lending to the poorest of the poor when you are concerned more about profit than poverty alleviation. One is that they are very vulnerable to external shocks. A late rain, a death in the family, a run-over pig -- these are economic catastrophes for the poorest of the poor. They don't have savings or other sources of credit to fall back on. When faced with a choice of surviving or repaying their loan, these will survive. Second is they don't have a huge appetite for credit. They generally don't need or want large loans. To make any money, a lender either has to charge very high interest rates, or have very low per loan operating costs. Many lenders began sidestepping these issues by abandoning the very poor and lending instead to the moderately poor -- a safer and more profitable lot.
2. Shift from rural to urban.
Other lenders pushed down operating costs by focusing operations in cities. With a high population density, the time and cost required for a loan officer to service his caseload is reduced. Simultaneously, the nature of the loans shifts from agriculture to commerce, which keeps capital cycling quickly through the loan portfolio, generating more cash for the lender. But, the rural poor, who already had the least access to financial services, were further abandoned.
3. Shift from starting businesses to growing businesses.
To decrease risk and increase repayment rates, MFIs began shifting away from start-ups and toward business growth. When they worked with the poorest of the poor, they were providing seed capital that gave the poor entrance to income generating activities. But, most new businesses fail, especially when led by inexperienced entrepreneurs, whereas established businesses have a better shot at profiting from an influx of additional capital. So, those who already had some capital and income generation were given access to more, while those who had none lost the opportunity.
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