Aneel Karnani: Jobs, not microcredit, is the solution
Wednesday, November 22, 2006
Some clients of microcredit are certainly true entrepreneurs, and have created thriving businesses?these are the heart-warming anecdotes. But the vast majority of microcredit clients are caught in subsistence activities with no prospect of competitive advantage. Most studies suggest that microcredit is beneficial but only to a limited extent and the reality is less attractive than the promise.
The Nobel Peace Price for 2006 was awarded to the Grameen Bank in Bangladesh and its founder Muhammad Yunus, a pioneer of the microcredit movement. The Nobel Committee affirmed that microcredit must play ?a major part? in eliminating poverty. The United Nations, having designated 2005 as the International year of Microcredit, declares on its website, ?currently microentrepreneurs use loans as small as $100 to grow thriving business and, in turn, provide their families, leading to strong and flourishing local economies?. ICICI Bank plans to make loans of as little as $100 to 25 million rural clients in five years. Finance Minister P Chidambaram too is a supporter of microcredit.
Given this intensity of interest in microcredit, it is reasonable to ask whether it is really an effective tool for eradicating poverty. Microcredit often yields non-economic benefits such as increasing self-esteem and social cohesion, and empowering women. It also helps the poor smooth consumption over periods of cyclical or unexpected crisis. But, that is not enough; the key issue is whether microcredit helps eradicate poverty. The Economist magazine concluded that while ?heart-warming case studies abound, rigorous empirical analyses are rare?. A few studies have even found that micro-credit has a negative impact on poverty; poor households simply become poorer through the additional burden of debt. However, most studies suggest that microcredit is beneficial but only to a limited extent. The reality is less attractive than the promise.
Why is microcredit not more effective? The problem lies not with microcredit but rather with microenterprises. The United Nations? declaration that microentrepreneurs use loans to grow thriving businesses leading to flourishing economies is hype. A client of microcredit is an entrepreneur in the literal sense: she raises the capital, manages the business and is the residual claimant of the earnings. But, the current usage of the word ?entrepreneur? requires more than the literal definition. Entrepreneurship is the engine of Joseph Schumpeter?s dynamism of ?creative destruction?. An entrepreneur is a person of vision and creativity who converts a new idea into a successful innovation, into a new business model. Some clients of microcredit are certainly true entrepreneurs, and have created thriving businesses?these are the heart-warming anecdotes. But the vast majority of microcredit clients are caught in subsistence activities with no prospect of competitive advantage. In an insightful survey on the economic lives of the poor, Abhijit Banerjee writes that the self-employed poor usually have no specialised skills and often practise multiple occupations. Many of these businesses operate at too small a scale. Banerjee points out that the median business operated by the poor has no paid staff; most of these businesses have very few assets as well. With low skills, little capital and no scale economies, these businesses operate in arenas with low entry barriers and too much competition; they have low productivity and lead to meagre earnings that cannot lift their owners out of poverty.
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