M. Yunis at the Skoll World Forum 2007

Dear Readers,

I will be writing several posts about the origins of Micro-Finance and one of the early leaders of this industry: Muhammad Yunis, founder of Grameen Bank in Bangladesh and Nobel Prize winner. Here is a good introductory video of his work from his appearance at the Skoll World Forum in 2007. It is a good primer to the concept of micro-finance. More videos and posts to come.

-Paul

High fences in Micro-Finance?

When does micro-lending become usury?

That’s a question the entire industry is wrestling with as it becomes a larger phenomenon in the banking world and intersects with local NGOs and governments around the world.

Many experts point out that interest rates of 15% to 35% on loans of $100 to $2,000 in places like India and Latin America are the norm. They point out that while those interest rates are higher than typical loans in Western markets, they are not much higher than credit card loans in developed markets. They say the higher rates are required because of the higher default rates and higher administrative costs.

“Young micro-finance institutions often need all that high interest margin to be able to implement their model,” said Brad Swanson, a partner in Delaware-based investment bank Developing World Markets, speaking to a recent class at Columbia Business School. “You can’t start off and be successful from one day to the next. You have to start up with bricks and mortar, sales, client base etc. it is a high-cost business on the operations and administrative side.”

In Mexico, some banks are charging as much as 80% to 100% to make loans to customers. Experts in microfinance point out that these loans are often not micro-finance loans at all but are consumer loans. Micro-finance loans are intended to help locals launch start-up businesses. They often involve applications, interviews and accountability with either a loan officer or a group of neighbors. Consumer loans with higher interest rates – by contrast — are similar to predatory lending practices in America. They don’t care if people are using the money to start a business or buy a TV.

The microfinance industry grows frustrated with media portrayals – such as a recent Business Week article http://images.businessweek.com/ss/07/12/1213_mexico/index_01.htm – that confused consumer lenders in Mexico with microfinance lenders. The consumer-lending bank gave the Micro-finance lenders a bad name. The key, they say, is communicating what Micro-Finance is all about and explaining how it works.
“The high interest rates are important in the early stages but it unwinds in later stages,” said Mr. Swanson, noting that an ongoing portfolio begins to return more equity and attract more entrants to the market. “As more people lend to the clients, competition will drive interest rates down for clients.”