Semantron 2014

credit was misused. Idea of micro-credit was abusedÊ (BBC, 2011). Examples of this abuse are rife across the world. In Nigeria the ironically named bank Lift Above Poverty Organization (LAPO) was caught charging interest rates of up to 144% and in Tanzania a local bank was charging 150% (Sinclair, 2012). Few businesses could survive, let alone thrive, under this expensive Âpound of fleshÊ. The restrictive legal structure: In a study instructed by Hernando De Soto, a famous development economist and head of a leading think-tank, it was found that Âto create a new and perfectly legal business... [took] 289 days...and the cost of legal registration was $1,231, thirty-one times the monthly minimum wageÊ (Soto, 2001). Therefore the poor operate illegal businesses which, despite not paying tax, are not cheap. Corruption in these countries is rife and hence the cost of operating a business extra-legally includes paying 10- 15% of its annual income in bribes and commissions to authorities. ÂAdd to such payoffs the costs of avoiding penalties, making transfers outside legal channel and operating from dispersed locations and without credit, and the life of the extralegal entrepreneur turns out to be far more costly and full of daily hassles than that of the legal businessmanÊ (Soto, 2001). In addition, the illegality of their businesses forces them to sell in local environments, usually to other impoverished slum dwellers, and competing with a large number of identical vendors selling similar goods thus eliminating any economies of scale. In these cut-throat environments, profits either do not exist or, if they do, are minimal; this heavily restricts the potential for growth for these businesses. The suboptimal usage of loans: Not only does microfinance have a low uptake of 16% but also only 30 percent of Spandana borrowers reported they used their loans for starting a new business and 22 percent to buy stock for existing businesses (Banerjee, et al., 2010). With a limited number of loans being used for economic growth Âthe effect of the program on poverty reduction and

is the same in both treatment and control villages. This is very similar to the finding in Banerjee et al (2010)Ê (Crépon, et al., 2011). Thus despite the high expectations and reach of microfinance, research suggests it is not the fairytale solution some economists hoped it would be. To understand the discrepancy between expectations and reality we need to appreciate that access to credit is necessary but not sufficient. The microfinance industry, the restrictive legal structure and the suboptimal usage of loans each pose severe limitations to the growth of microfinance start-ups. The Microfinance Industry: Banks face the costs of assessing risk, setting up bank accounts and administering loans when they distribute loans to the poor. David Roodman, the author of Due Diligence: An Impertinent Inquiry Into Microfinance , emphasized this when he said ÂIt is not easy to make loans to lots and lots of poor people without going bankrupt. You can easily spend more than $100 collecting on a $100 loan.Ê (Roodman, 2013). To recoup this fixed cost from a low capital loan banks need to charge especially high interest rates. This is reflected by the fact that the most revered microfinance firm Grameen Bank charges an annual interest rate of 20% (Mitra, 2009) and although lower than those of loans sharks, these are far higher than UK high street banks which give loans at an interest rate of 7-8% (Bender, 2008). Microfinance banks therefore do not offer low interest rates the poor desperately need. Benevolent people are not the only ones to spot microfinance as an opportunity; many see it as one to profiteer from. ÂIt has attracted pure-profit motivated investors driven by metrics such as return on equity, profit margins, and accelerated growth ratesÊ (Sinclair, 2012) said the author of Confessions of a Microfinance Heretic . Even the founder of microfinance, Mohammad Yunus, concedes that Âthe idea of micro- Why has it failed to deliver?

48

Made with FlippingBook - Online Brochure Maker