Everyday, Sufiya Begum, a 22-year old mother of 3, borrowed 22 cents from local moneylenders to buy bamboo with which she made furniture. All of her profits went back to those same moneylenders as she had to borrow at interest rates of 10% a day. Lack of access to capital and financial services has locked hundreds of millions of the most vulnerable in poverty. Many have touted microcredit as an intervention that can pull these people out of poverty, but it is unclear how effective it is in fighting poverty. Today’s podcast will be exploring the effect of microcredit on global poverty, focusing on the success of the Grameen Bank in Bangladesh, the microcredit financial crisis of India, and an examination of the empirical evidence on microcredit.



Muhammad Yunnus, winner of the 2006 Nobel Peace Prize, began his career as banker to the poor in the village of Jobra, Bangadesh. He was inspired by the story of Sufiya Begum to make small loans to 42 women. To his surprise, all 42 women paid back their loans. Banks showed little interest in adopting Muhammad Yunus’s idea, so in 1983 Muhammad Yunus created the Grameen Bank. The Grameen Bank’s model centered on organizing groups of poor women. Each individual in a group is mandated to save small amounts of money everyday, and receives financial coaching from Grameen Bank employees. Average loans are small around $170, and generally intended for small business creation. While loans are made to individual members, liability for loans are share at the village level among groups of groups. The microlending relies upon social pressure by group members and the fact most members have few borrowing choices beyond microcredit to ensure extremely high levels of repayment, Microcredit has grown at a spectacular rate in Bangladesh. Approximately 25 million Bangladeshis, about one seventh of the population, borrow $5 billion from microredit financial institutes every year, and microcredit has been credited for one tenth of poverty reduction in rural Bangladesh.



The initial success of micro-credit in Bangladesh led to it’s rapid expansion. However, as is the case in Andhra Pradesh, India, the result was overexpansion. Vikram Akula, a long time admirer of the Grameen Bank, founded SKS Microcredit in 1995, quickly turning it into one of the regions largest microcredit lenders. Akula argued that microcredit needed to attract private, profit seeking capital if it was to reach all of the poor. Vikram Akula worked to attract venture capitalists such as Seqouia Capital, the venture capital firm behind Google and Apple. The company’s expansion accelerated in 2009, as the company moved towards an IPO. SKS added 100 branch banks, trained 1,000 workers and added 400,000 borrowers in just work. Loan officers were given incentives such as expensive watches and cash bonuses for signing up as many people as fast as possible. Unsurprisingly the quality of loans dropped rapidly, and SKS loan officers had to resort to drastic tactics to coerce repayments. SKS officers threatened borrowers with violence. Scores of suicides by desperate borrowers have been documented. The public turned against SKS bank, and it’s employees were attacked if they attempted to collect loans. Eventually, the government of Andhra Pradesh stepped in, dramatically increasing regulations on microcredit and effectively shutting the for profit microcredit industry down.



Given Bangladesh and Andhra Pradesh’s opposite experiences with microcredit, it is incredibly difficult to say if microcredit has a positive impact on fighting poverty. The original research on microcredit was highly promising. Studies consistently found large positive impacts on income, especially for poor women. However, these studies were observational rather than experimental. While economists try to control for education, income and other observable variables in their analyses, it is impossible to control for everything. As a result, developmental economics is coming to use experimental methods such as randomized control trials to understand what works. In 2005, researchers created a microcredit experiment in Hyderabad. They partnered with a local microcredit lender to open branches in 52 neighborhoods, and selected 52 other neighborhoods to act as a control and collected a series of survey over the next three years. The researchers found that although households in neighborhoods with a new microcredit branch borrowed substantially more and invested more in small businesses than control neighborhoods, the impact on poverty were modest. RCTs in Ethiopia , Bosnia ,Morocco and other places have consistently found disappointing results.



The best empirical evidence suggests that microcredit does not live up to the high hopes of the Grameen Bank, nor does it usually result in impoverishment as among many who borrowed from SKS Bank. It is instead a tool in the fight against global poverty that is useful in some circumstances. Unfortunately, there are no easy solutions to the problems of underdevelopment.



Selected Sources:



Grameen Bank, Microcredit and Millennium Development Goals, Muhammad Yunnus

The Creditworthiness of the Poor: A Model of the Grameen Bank , Michal Kowalik, David Martinez Miera

In credit we trust: Building social capital by Grameen Bank in Bangladesh, Asif Dowla

Beyond Ending Poverty : The Dynamics of Microfinance in Bangladesh, World Bank

Rise and Fall of Microfinance in India: The Andhra Pradesh Crisis in Perspective, Phillip Mader

The miracle of microfinance? Evidence from a randomized evaluation ,

