Conflicts in Microcredit: The Battle over Mission and Sustainability Warner Woodworth, Ph.D., Brigham Young University
ABSTRACT Within the field of microcredit, a growing divide is occurring as proponents argue for or against its purposes, its sources of capital, and its methods. On the one hand are the early founders of the movement, many of whom feel that its thrust ought to focus on the “poorest of the poor,” and that their mission should always be humanitarian in nature. On the other hand, many becoming involved in the recent past criticize the slowdown of its growth, and claim that it is due to the lack of a profit motive and participation of the capital markets. In this paper I seek to explain these two paradigms, and argue for a resolution. KEYWORDS: microfinance, humanitarian, capital markets
INTRODUCTION Increasingly there is a brewing struggle between groups within the microcredit movement about ends versus means. What began as an intellectual conversation a decade or so ago now is becoming an ideological battle. On the one side are those seeking to channel the movement into capital markets which will fund the work much like any other investment which turns a profit. Their argument is that we should use traditional instruments of the banking industry to access greater sums of capital in behalf of the poor. At the other extreme are the humanitarians who want to retain the spirit of NGOs doing good, institutions that rely on donors who feel the best way to change the world is to mobilize the giving nature of individuals who act from a charity mindset. This paper attempts to highlight this growing schism, and articulate my criticisms of the capital market crowd while defending the humanitarian view. It raises critical issues on both sides of the debate, and explores if a resolution may be possible. My assumption is that we probably will not come to an agreement at this conference, but at least the two sides will be identified, and perhaps these controversial issues will be threaded throughout the conference discussions. The research dozens of my students and I have done over the years since I first began teaching a microcredit course back in 1989 has quite consistently led to concerns about microlending mission drift. Who should be the recipients? Those who are less of a risk? Clients who have decent credit ratings? The less poor who are literate and perhaps have greater potential to lift themselves? How is “success” calculated? By numbers of borrowers? Economic well-being? Social impacts? ROI? Conflicts in Microcredit | 25
The debate over MFI mission drift, for-profit strategies, and the gouging of the poor by unscrupulous lenders goes back quite a while. A decade ago two colleagues and I published a paper articulating the different perspectives of this emerging schism (Woller, Dunford, Woodworth, 1999). We tried to analyze practices of lending to the poor and what we perceived to be the growing conflict between non-profit humanitarian organizations vs. the “institutionists” in microfinance. Back when the movement began, it was a humanitarian strategy to provide tiny loans to the "poorest of the poor." With $30 to $80 loans, disenfranchised families at the bottom of the social pyramid could obtain credit without collateral, without a financial history, and do so at viable interest rates. With such practices, they would thus be able to feed their children two meals a day and perhaps eventually be able to send them to school. It was never intended to give the lower classes thousand-dollar loans so they could buy TVs, CD players, and furniture. Nor was it perceived as a tool for the wealthy to increase their capital holdings as an investment in poverty. Early sources by officials at Grameen Bank of Bangladesh, ACCION and its spread of microcredit services in Latin America, and the work of John Hatch, founder of FINCA International, all seemed to coalesce around central themes of tiny loans going to the poorest in a given village. For example, Muhammad Yunus, founder of the Grameen Bank in Bangladesh in the early 1980s, cites in his book that he always advocated giving loans to the very poorest (Yunus, 2003). The method for accelerating an NGO’s impact was to grow the nonprofit until it had enough clients to make it sustainable. By this, I mean reaching sufficient borrowers so that the organization could not only cover its overhead costs, but generate a surplus of new capital so as to distribute more loans. Questions about using investment tools, getting a financial return, moving up the ladder from the most impoverished to aid those who may be less risky were not part of the dialogue during those early years. As the Microcredit Summit Campaign (2009) was established in 1997 to mobilize more NGOs, governments and even corporations to join the cause, the explicit targets were focused on the very poorest, and a core value centered on women borrowers because credit for them was much harder than attempts by men to obtain loans. Indeed, to ensure microcredit was reaching the poorest, the Summit stressed the need to target 100 million adults worldwide who were trying to eke out an existence on less than $1 per day. This threshold was eventually picked up by the World Bank as an appropriate target. Yet as microcredit has gained traction and grown from a few million borrowers and a few hundred Microfinance Institutions (MFIs), the original emphasis on the poorest has morphed into a strategy for scaling up by entering the capital markets. The logic here is that if wealthy individuals, banks and other large investors were to embrace microcredit, MFIs could grow much faster, spread across the globe more widely, and instead of reaching a few million poor families, perhaps a billion could be reached. Such a business model would not only expand microcredit services, but create whole new markets who could benefit by additional financial services such as microinsurance, education loans for poor children, cheap healthcare, and such.
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At one level, such ideas made a lot of sense. After all, as a founder and the first board chair of Unitus a decade ago, we started our new NGO precisely because our analysis of the MFI market indicated that the approximately 70 percent of such organizations had an average of only 2,500 clients (Unitus, 2001). They grew in their earlier years, but then leveled off because they lacked funding to reach a larger amount in which they might begin to obtain surpluses for giving more loans and truly scaling up. These social enterprises may have skilled managers, dedicated staffers, top notch technology, strong boards and so on, but they can’t grow very large or fast. Unitus’ research confirmed this problem and captured the problems of the old system (2009): “Without sufficient internal operating capacity, growth stops once a program reaches several thousand clients. Adequate internal operating capacity includes improvements in areas such as information technology infrastructure, internal controls, new product development, and human resources. “When MFIs rely on donor dollars, there is rarely enough money to make the necessary investments in these key areas to create an efficient operation that can grow on a sustainable basis. That's why most MFIs are built small and stay small. In other words, the bulk of such MFIs do not possess large-scale operating capacity, and thus remain on a borrower plateau of between 2,000-3,000 clients which they generally cannot grow beyond.” Having clearly identified barriers to the rapid growth and success of the MFI movement, the call went out to change the paradigm. Starting with a few microcredit advocates within the movement and soon joined by bankers, venture capitalists, and nonprofit experts with MBA degrees, the idea began to be propounded that microcredit ought to abandon its earlier mission and reframe itself (Rhyne and Busch 2006). Instead of being a humanitarian enterprise, microfinance, as it began to be called, ought to become a for-profit corporation. Instead of focusing on impoverished female clients who tend to have difficulty in obtaining financing from traditional banks, loans ought to focus on men or women who are most likely to pay back their borrowed capital with interest and on time. Rather than go to the worst urban slums to find potential customers, or travel out to the farthest villages where there is no banking system at all, MFIs should stay where there are more accessible and bankable clients, where giving loans will be quick and cost little to manage such portfolios. BANCO COMPARTAMOS Perhaps the most egregious case of the shift away from the earlier humanitarian model is that of Compartamos in Mexico. It originated in the early 1980s as a nonprofit MFI using grants from foundations and individuals. It was founded in a country with over a hundred million people, about half were classified and referred to as “asset poor.” The nation had gone through several economic crises in recent years, hoping to benefit from much-promised economic benefits of NAFTA, but the actual results were not so beneficial. Millions of the poor try to survive through underemployment in the so-called “black market” or “informal economy.” Conflicts in Microcredit | 27
At its inception the NGO was called Gente Nueva (“New People”), having broad objectives of providing a range of development services to poor families which would improve the quality of life in marginalized communities. It offered food programs and health services to those having almost nothing. Foundations provided the bulk of its funding for a considerable time. In the early years of Gente Nueva, multiple tiny microenterprises were financed by equally tiny microloans of a few hundred dollars. Clients used the monies for new start-ups, or, in some cases, to expand already existing income-generation projects. Then in 1990, the NGO was redesigned to primarily seek and channel capital to the poor, utilizing the increasingly popular notion of microcredit. The following year, it became affiliated with ACCION, a significant U.S.-based MFI with programs throughout Central and South America. A decade later the name was changed to SOFOL (in 2001), and several years after that it had grown to become the largest MFI of the many which by then were flourishing throughout the nation. Finally in 2006 it was restructured and became a regular Mexican bank, Banco Compartamos, subject to the traditional regulations the government enforced over all formal financial institutions, and it now had license to collect and manage customer savings as well. Shares were issued to the initial investors, including ACCION, the World Bank’s IFC, and some wealthy investors in Mexico. As its strategy shifted, earlier programs serving health and nutrition needs diminished, and lending became the primary thrust. Not only were new financial products generated, but the organization saw huge potential growth by spreading geographically south into new regions. Eventually it was operating in nearly 30 of Mexico’s states, managed by a staff of over 3,000 employees. Large institutional funding from CGAP of the World Bank, along with USAID and major U.S. foundations accelerated the MFI’s expansion. Over time, as its client base exploded, it began to generate surpluses and no longer needed to seek donations as its lifeblood. Through the decade of 1996-2006 it had impressive annual growth rates of above 30 percent. As the new firm, now called Compartamos, grew to over 600,000 borrowers, it became fully sustainable and had a promising future addressing the impoverished regions in which it operated. Gradually its reputation grew and it became known as one of the largest and most successful MFIs in all of Latin America (Compartamos 2006). The primary customer sought by Compartamos was female, and she received an average loan size of $446. A mix of services were offered including the use of Solidarity Group loans, individual loans, and loans to men or women. By the end of 2006 its total loan portfolio had grown to some $271 million, and the firm enjoyed a healthy Return on Equity (ROE) of 56 percent and an ROA of 23 percent ACCION 2007). These impressive results made the MFI appear more successful than most traditional Mexican banks at the time. Yet further changes were to come with this so-called bank for the poor. In April 2007 Banco Compartamos launched an initial public offering (IPO) of its stock. Some 80 percent of the shares were offered in New York, while 20 percent went public in Mexico City. During the single day of April 20, over 111 million shares were sold, starting at $3.65 a share and rising to $4.84 before dropping off a bit at the day’s end. The IPO was nearly 13 times oversubscribed 28 | Conflicts in Microcredit
and considered a huge success by most financial market standards. Pent-up demand caused the share price to mushroom 22 percent during its first day of trading. The original investors, ACCION, IFC, and the Mexican investors, saw a huge return in a single day. They received an average of some $450 per share, and the future of their investments looked even brighter (ACCION 2007). It was projected that the internal rate of return of selling shareholders would enjoy approximately 100 percent a year compounded over the next 8 years! CRITICISMS AND DEBATES For its advocates, demand for Compartamos stock was seen as driven by its exceptional growth and profitability, as well as other factors--dearth of Mexican investments for emerging market portfolios, strong management, and the appeal of microfinance in general. Some praised the spectacular success of the IPO, regarding it as a milestone not only for Compartamos, but for the microfinance movement as a whole. Mainstream international fund managers and other truly commercial investors, not primarily socially responsible investors, bought most of the shares. The transaction was hoped to boost the credibility of microfinance in commercial capital markets and accelerate the mobilization of private capital for the business of providing financial services to poor and low-income people. But for others of us in the microcredit field, it was a troubling development. While praised by the “Big Boys” of the formal capital markets, some were not so sure. Muhammad Yunus, the founder and managing director of Bangladesh’s Grameen Bank told Business Week (2007): "They're absolutely on the wrong track….Their priorities are screwed up.” This author and many others posted comments on the home pages of the Microcredit Summit Campaign and other sources, voicing our concerns (Lewis 2007). A few employed such words as “reprehensible,” a “flagrant violation” of ethics, and “outrageous.” Of course, other voices defended the IPO (Chu 2007), and many huge banks are entering the field such as Citigroup, Morgan Stanley, Deutsche Bank, ABN AMRO, the European Investment Bank, Societé Generale, and even the large investor TIAA-CREF. In observing all this, the flavor of many complaints seems to suggest that this shift toward forprofit microfinance is akin to allowing loan sharks back into the communities of the poor, only this time they wear the suits of Wall Street. The claim of certain parties that Compartamos is the ideal example of success calls to my mind how far the once-heralded idols of AIG, Enron, General Motors, Citigroup, Adelphia, Lehman Brothers, and Goldman Sachs, pushed a similar ideology. While some of these instances may not have engaged in illegal practices, their huge bureaucratic systems made them quite ineffective and they lost sight of their basic values of serving customers. Making as much money as possible came to override everything else. They were each lauded as huge successes before they collapsed. Their decline was not simply due to fraud or other illegal activity. Rather, in some cases they became too greedy, too focused on profit maximization, too full of pride.
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To me genuine microfinance must maintain its true mission of microenterprise job-creation, such that the poor can move toward economic self-reliance. In its purest form, financing the poorest is about grassroots self-sufficiency, not banking for commercialization. With Muhammad Yunus and a few other pioneers of the movement, I oppose the growing drive for huge profits. Apologists claim such strategies are needed to channel the large sums of capital required to meet the demands of hundreds of millions of the global poor who are either ignored or underserved by the financial markets. A number of the defenders of today’s pro-capitalist paradigm attempt to justify their plunder by claiming all they seek is sufficient capital to channel funds from the Big Boys in order to get microloans to the millions who still can’t access needed capital through donations from those who care. But to remake microcredit into a for-profit strategy that primarily seeks bottom line results may not be any better than Freedman’s famous dictum that the sole purpose of the firm is to make a profit. This view has robbed recent free market practices from their spiritual underpinnings. Referring again to Compartamos, its initial public offering raised $467 million. One of its founders and early investors in 1990, José Ignacio Avalos, enjoyed an extraordinary return. His $250,000 borrowed to invest in back in 2000 grew to over $100 million, a quarter of which he sold in the IPO. Avalo still sits on the bank's board (Epstein and Smith 2007). Reaping such gigantic gains from working with the poor seems unconscionable to me. Such values are more akin to Herbert Spencer’s, he who complained about the poor and argued that they should suffer the natural consequences of their poverty, that they experience “survival of the fittest,” (his term, not Darwin’s). In fact, Spencer would be the forerunner of Darwin’s later explanation that evolution requires a “Law of the Jungle” system in which the strong live off the weak (Spencer 1866). We have seen much of this mindset in the actions and policies of traditional American financial institutions, both back in the day of the Robber Barons, and again in recent years with the emphasis on managerial greed and corporate power. In contrast, Adam Smith’s values in the late 1700s centered did not advocate a heartless society, but one of justice, sympathy, and generosity (Smith 1976). He sought a world based on altruism, not selfishness. He worried about the “love of domination and authority over others.” Rather than emphasizing a cold efficiency, Smith called for brotherly love. Whose microcredit values do we seek: Spencer’s advocacy of a mercenary-based system of exploitation, or Smith’s economic vision of altruism and love? I also wonder what the hurry is to reach hundreds of millions with loans, no matter what the human costs. The poor have survived over centuries in squalid conditions. They are tough, and have the capacity to overcome all odds. I don’t believe they want us to empower them at the expense of our own humanity and ethical values. Clearly, they would welcome a better quality of life, but at what price? That they cannot obtain capital from traditional banks is true, and it is wrong. Likewise, that they are exploited by 30 | Conflicts in Microcredit
unscrupulous loan sharks is also wrong. But it is equally immoral to claim one is concerned for the poor by offering high cost, exploitative loans by MFIs. This is especially egregious when we do this in the sacred name of “sustainability.” My decades of studying microcredit suggest that with humanitarian donations alone, it is possible for an NGO to become financially viable over the long haul after reaching a threshold of numbers of borrowers. After reaching that point, sufficient capital generated from even low interest rates will be significant enough to accelerate its growth without further outside donations. Witness the cases of Grameen Bank and BRAC which are both free from donors and the capital markets (Yunus 2003). The challenge is to get one’s NGO to scale up for this to kick in. I think it’s more appropriate to administer microcredit in ethical and socially responsible ways than to bury the poor in graves of onerous debt from which they will never be able to extricate themselves. We can see all around us the devastation which the U.S. capital markets created as they gained quick profits through irresponsible lending practices. This was all done in the name of serving the poor of so they could “own” hugely expensive homes which they could never afford. Such policies were driven by high-sounding phrases like becoming able “to own the American dream.” But these practices led to an ethical overhang that has pushed many families into home foreclosures. If you like Freddie Mac and Fannie Mae, you’re going to love these profit-driven MFIs. To a degree, MFIs appear to be trying to emulate Wall Street by eventually becoming giant financial institutions akin to Bank of America, Bear Sterns, and Merrill Lynch. They operate from an ethos that moves away from “Small is Beautiful,” to “Gargantuan is Great.” For various reasons, they seem to be imitating the giants that are now going down in flames before our very eyes. Freud might refer to such behavior as “identification with the aggressor.” That is, in the past we practiced microcredit as an alternative to oppressive exploitation by traditional banks, but now we have begun to try and be just like them. What’s worse, many MFIs that are engaged in such coping mechanisms appear to deny the objective reality which is quite apparent to the outsider. Why some in the movement feel that scaling up microfinance is the ultimate objective is really beyond me. We are witnessing the creation of huge, complex MFIs that are perhaps going to become impossible to manage. They are fast becoming bureaucratic, inefficient, and may eventually become corrupt. Perhaps they hope to grow “too big to fail,” as the swan song of contemporary loan institutions sings loudly each day. But I feel we need to go back to our roots by emphasizing human scale institution that focus on the poorest families, and provide personal, caring customer service. CONCLUDING ISSUES Where interest rates like those of Compartamos exceed 100 percent a year, the legitimacy of microfinance comes into question. Government officials in various countries are increasingly critical. For instance, the Prime Minister of Cambodia has called for lower interest charges in the microfinance sector, while the Bangladeshi Minister of Finance has criticized such practices as “extortionate,” and dozens of other national leaders are demanding cuts to the costs of capital for the poor. Conflicts in Microcredit | 31
Lately in conferences at a number of universities and business events, I have observed a hue and cry which grows ever stronger and more insistent that the microfinance movement depends on scalability, on “reasonable” returns for investors, etc. One seldom hears the story of a single mother’s life that is transformed by a microloan through a face-to-face relationship of trust and caring between her and an NGO staffer. Instead, the speeches are full of power point presentations consisting of business models, numbers, efficiencies, and statistics. I argue we need to re-focus on the individual, the precious human being who struggles to survive another day. One other idea may be worth mentioning. Early in my career, I focused a great deal of my time and energy on establishing such mechanisms as Employee Stock Ownership Plans (ESOPs). To build this movement in the U.S., we lobbied Congress and secured considerable legislation that gave incentives to banks and ESOP firms. We got funding to create the National Cooperative Bank, and, in general, developed a long-term strategy to empower blue-collar workers and rustbelt communities that faced factory shutdowns and de-industrialization. The result is that today there are thousands of ESOP firms employing millions of worker-owners, many of which now have seats on company boards of directors and considerable workplace democracy. Reflecting on those impacts, perhaps the MFI movement, which claims to be serving the poor, ought to put a few of their own clients on their boards, not to raise more funds as is typically the practice for board selection today. Instead, they would be the voices of the poor who would articulate their concerns, argue for their needs, criticize bad policies, and act as a buffer to prevent the organization from becoming too profit-driven. I call for countering the mission drift which had driven our movement off course in recent years. We need to reclaim the restoration of our original vision as tiny loans were first being given to suffering mothers and their children. My sense is that if we build more transparency into our MFIs, the light of the sun will foster better policies. But it needs to be real, not rhetorical. I don’t even prefer to use the term “microfinance” anymore because it sounds increasingly like just another tool of capitalism. MFIs ought to become pro-poor advocates for the world’s have-nots, not financial instruments which yield profits to their large, outside investors. Let me conclude with a few questions relative to Compartamos, but which raise issues about the broader shift toward MFI profit-taking: 1) Was the aid money granted to Compartamos in its early years used inappropriately to enrich private investors through the IPO? 2) Can these actions be justifiably challenged as unethical even though they are obviously legal? 3) Did the IPO alter Compartamos so that it will be harder for the company to balance stated social and commercial objectives? 4) How do such terms as “usury” and/or “extortion” apply in such cases, if at all? 5) Are exceptional profits such as these, and the high interest rates they are built on, defensible for pro-poor organizations and their mission? My personal belief is that what the microcredit movement needs today is less of profit-focused strategies, systems and structures. We don’t so much require greater efficiencies and the crazed growth of dehumanizing institutions like the World Bank and the IMF. What we really need is more heart and spirit in our practice.
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REFERENCES ACCION (2007) “The Banco Compartamos Initial Public Offering” InSight, vol. 23, p. 1-23. Business Week (2007) “Online Extra: Yunus Blasts Compartamos” December 13, Retrieved September 2, 2009, from the web site: http://www.businessweek.com/magazine/content/07_52/b4064045920958.htm. Chu, Michael (2007) “Profit And Poverty: Why It Matters,” Forbes, December 20. Compartamos (2006) Annual Report. Mexico City, Mexico: Compartamos. Danel, Carlos & Labarthe, Carlos. (2008) “Letter to our Peers.” Mexico City: Compartamos Banco. Epstein, Keith & Smith, Geri (2007) “Compartamos: From Nonprofit to Profit, “ Business Week, December 13, Retrieved September 4, 2009 from the web site: http://www.businessweek.com/magazine/content/07_52/b4064045919628.htm. Lewis, Jonathan C. (2007) “What Would Leland Stanford Do?” Speech at Department of Political Science, Palo Alto, CA: Stanford University, May 30. Malkin, Elizabeth (2008) “Microfinance’s Success Sets Off a Debate in Mexico” The New York Times, April 5. Microcredit Summit Campaign (2009) Retrieved July 8, 2009, from the web site: http://www.microcreditsummit.org/about/about_the_microcredit_summit_campaign. Rhyne, Elisabeth & Busch, Brian (2006) “The Growth of Commercial Microfinance: 2004-2006,” Washington, DC: Council of Microfinance Equity Funds, September. Smith, Adam (1759) The Theory of Moral Sentiments. Edited by D, D. Raphael and A. L. MacPhie. Reprint Oxford, UK: Clarendon Press, 1976. Spencer, Herbert (1866) Social Statics. New York, NY: D. Appleton. Unitus (2001) Retrieved April 17, 2002, from the web site: http://www.unitus.com/unitus-inaction/background-poverty-and-microfinance/why-the-poor-still-lack-access/why-cant-mfisgrow-faster. Unitus (2009) Retrieved August 13, 2009, from the web site: http://www.unitus.com. Woller, Gary, Dunford, Christopher & Woodworth, Warner (1999) “Where to Microfinance?” International Journal of Economic Development, vol. 1(1), p. 29-64.
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Yunus, Muhammad (2003) Banker to the Poor: Micro-lending and the Battle Against World Poverty. New York, NY: Public Affairs.
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