Micro Loans, Macro Politics: WSJ editorial on microfinance controversies

• REVIEW & OUTLOOK ASIA
• DECEMBER 15, 2010

Micro Loans, Macro Politics

Bangladesh and India are playing populist with microfinance.

Politicians on the Indian subcontinent are poor at giving credit to those who give credit to the poor. In October, the Indian state of Andhra Pradesh imposed heavy-handed regulations on lenders to the lowest strata of society. Now the microfinance revolution is under attack even in its birthplace, Bangladesh.

Earlier this month, Prime Minister Sheikh Hasina lashed out at Grameen Bank founder Muhammad Yunus and microfinance institutions in general, accusing them of "sucking blood from the poor." Last month, Dhaka capped the interest rates MFIs could charge borrowers, lest they become overindebted. Such government intervention is counterproductive, since it restricts lenders from serving the most poverty-stricken areas, which are also the most financially risky.

Ms. Hasina's attack followed the release of a documentary in Norway late last month suggesting that Mr Yunus misappropriated $100 million from the Norwegian Agency for Development in the late 1990s. That organization clarified last week that "there is no indication . . . that Grameen Bank has engaged in corrupt practices or embezzled funds."

Mr. Yunus, the winner of the 2006 Nobel Peace Prize, is a popular figure in his country. In 2007, when Bangladesh was under military rule, he briefly entered the electoral fray, challenging the culture of Bangladeshi politics that is dominated by two rival families, of which Ms. Hasina's is one. So Ms. Hasina's demand for an investigation has raised suspicions that she is motivated by political considerations rather than the merits of microfinance.

In India, too, politicians are busy milking the issue for its populist worth. A rash of suicides by poor and indebted farmers, sadly a common occurrence in India, led one Andhra Pradesh politician to declare that borrowers should stop payments to MFIs. Besides granting bureaucrats undue power over MFIs, the new rules are already hurting loan recoveries.

If this keeps up, microlenders in Bangladesh and India will be unable to continue expanding their business. That would deprive the poor of access to microcredit, which they can use to start new ventures or even smooth out their weekly consumption, as research from MIT's Poverty Action Lab conducted in Andhra Pradesh shows. Note that the interest rates charged—20% to 50% a year—reflect the costs of disbursing small sums to people with little in the way of credit history or assets. The rates charged are far lower than the alternative: Informal moneylenders are known to charge 100% per year or more.

This doesn't mean microfinance is the be-all and end-all of poverty alleviation. There is a legitimate argument that in some cases MFIs have been imprudent in their lending. The pace of loan growth last year in India especially prompted concerns that standards were being left by the wayside.

If Bangladesh and India really want to put the microfinance business on a sounder footing, they could start by removing the politically mandated subsidy that microlenders enjoy. In both nations, MFIs can borrow from financial institutions at significantly lower interest rates than regular firms. This easy credit may fuel their rapid growth beyond the point of diminishing returns to society. Instead of demonizing microfinance, the business model could be subjected to the discipline of the market to see whether it is truly creating value.