Does Microfinancing Really Work? A New Book Says No

Friday, January 6, 2012

Politicians from Washington to New Delhi have argued for years that giving tiny loans to poor people to help them start or expand their businesses is a sure-fire way to help millions improve their lot in life, and drastically reduce global poverty, especially among women. The idea has become such a central feature of foreign aid programs (USAID pours millions into such projects) that the microfinance industry has ballooned into a multi-billion-dollar business operating in virtually every country on the planet. The question is: Does it work?

Unfortunately, only sometimes. That’s the conclusion of an exhaustive new study of programs across the world, published on Thursday, which details how many loans leave poor people even more desperate than before – or at least, barely improves their circumstances. “On current evidence, the best estimate of the average impact of microcredit on the poverty of clients is zero,” writes David Roodman, author of the new book Due Diligence and a senior fellow at the Center for Global Development in Washington.

Roodman’s assessment is far different from the enthusiasm microfinance programs have generated since the first institution, the Grameen Bank in Bangladesh, opened in 1976. The bank’s founder Mohammad Yunus won the Nobel Peace Prize in 2006 and is probably the third world’s most celebrated economist.

The reality which Roodman found is far more complex than Yunus’s original idea that millions could be lifted out of poverty if they only had access to credit – something regular banks have always been loath to offer. Roodman gathered evidence over three years from hundreds of lenders and borrowers in microfinance institutions – some with loans as small as $2 – in part by blogging about the issue on the center’s website, and then posting his book online, chapter by chapter, as he wrote it, generating a furious global debate about the issue.

With his book now finally published in full, the findings are sobering. Although microfinance organizations have earned a reputation among U.S. and European aid agencies for having a remarkably high repayment rate on their loans – often a lot better than regular banks – Roodman found that some institutions’ impressive repayment records come with a tragic price to borrowers.

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Source: Time (link opens in a new window)