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The Long Game: How Developing Countries Can Get Microfinance Right

In developing economies such as Myanmar, microfinance is often viewed as a means for lifting people out of poverty. As of 2015, small and medium enterprises (SMEs) comprised 99% of the country’s businesses, and many of those are micro-businesses.

Microfinance is often cited as an essential tool in helping women in particular rise from poverty. The theory goes that when you empower women to grow their businesses, they’re able to secure their families’ finances and create pathways toward education and improved quality of life for their children.

Despite this optimistic premise, however, NPR wrote last year that “based on the economic studies that have been done to date, it doesn’t appear that increasing access to microloans is an effective strategy for helping more women start businesses that will allow them to vault themselves out of poverty, at least not on a large enough scale to be detected.” That doesn’t mean that microfinance fails universally. But it does illustrate the complexities of getting microfinance right.

The challenges of microfinance

Microfinance options are often deployed to serve the underserved — people who lack credit or banking histories. These people are often poor and considered high-risk borrowers, too high-risk to interest traditional banks and lenders. In many cases, they turn to independent lenders who may charge extremely high interest rates on relatively small loans. Al Jazeerarecently chronicled the cycle of indebtedness that plagues many in Yangon and forces women to become prostitutes or borrow endlessly just to stay ahead of their interest payments.

Micro-loans from qualified lending organizations can provide alternatives, though these come with their own sets of problems. They, too, can charge high interest rates and the group loan approach often applied to high-risk, micro-entrepreneur communities obscures whether the financing has benefitted individuals on a long-term basis.

From a lender’s perspective, the tendency toward high interest rates is understandable. The borrowers are by definition high-risk, and their business ventures are susceptible to ruination by climate disasters and economic or political upheaval, said Phyu Yamin Myat, managing director of Myanmar Development Partners in Yangon. She noted that most microfinance institutions (MFI) apply a “template” approach to lending. The template includes group-guaranteed loan systems that rely on peer monitoring to ensure repayment.

Myat said many MFIs also emphasize quick scalability and cost-efficiency above allowing time for substantial economic change to take root. She said that the microfinance organizations need to work on longer time-scales, helping their borrowers become more financially literate and stable and accounting for cultural factors that have inhibited growth thus far.

“The operation should be in accordance with [the] client protection principle,” Myat said. She called for a strategy that ensures gradual improvement of creditworthiness, sustainable growth and avoidance of over-indebtedness. “It must understand very well that credit”] alone cannot bring development of the people and the country,” she said. “Know-how, patience and persistence are the keys.”

Sustainability over scalability

Smita Ram, cofounder of the Indian peer-to-peer microlending platform Rang De, also criticized the focus on scalability among MFIs in her country. “I think it’s about, ‘How can we cookie-cutter the whole thing? How do we bring efficiency in the business?,'” Ram said. “What the sector seems to have done is master that, but without taking a step back to analyze how it’s really impacted someone. Nobody wants to invest in that, because you’re talking about costs, you’re talking about ‘Who has the time to do this?’ and this means that we won’t be able to scale that quickly.”

For that reason, Ram said Rang De deliberately keeps its initiatives small so that it can work intensively with its borrowing communities. “For every sector we work with, we actually design the loan product to make sure that it works for them,” she said. “Over time, we’ve also realized that it’s not enough if we just give them access to credit. How do we actually work with them, hand-hold them, provide them access to financial literacy?”

 

Source: The Forbes

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