Ends and means
Microfinance was supposed to lead the poor out of poverty. Yet after a rash of borrower suicides in one Indian state, experts and governments question the industry’s success.
In the fall of 2010, Shobha Srinivas replaced Nobel Peace Prize winner Muhammad Yunus as the face of microcredit, and the industry went from panacea for the poor to wolf at their door. A 30-year-old mother of two boys, Srinivas set herself on fire in part because she could not pay the interest on a $265 loan. She was one of more than 14,000 people in India’s heavily agricultural, drought-ridden Andhra Pradesh state who committed suicide between January and September 2010—and one of more than 70 between March and November that year who allegedly killed themselves because of aggressive debt collection by microcredit institutions. Helping the poor avoid predatory lending was the reason microfinance as an industry had been born. Yunus, a former economics professor in Bangladesh, wanted to help some poor families he knew avoid the local moneylender, and in 1976 he lent them the equivalent of $27. After a few years of expansion, he formally established the Grameen (rural or village) Bank. The Grameen model was to loan money to groups of five women, who proved more effective borrowers than men because they focused on family and business. The groups added an element of peer pressure—if one woman missed a payment, the other four couldn’t get loans until it was paid. Srinivas headed several of these groups. To lend money you have to have money, or access to it, and for many years foundations interested in microcredit—the making of small loans, on average less than $600—helped fund its lending. Grameen, which became self-sufficient in 1983, has lent and been repaid billions of dollars. It’s helped millions of Bangladeshis move above the dollar-a-day mark, and in 2006 Yunus and the bank jointly received the Nobel Peace Prize. Today microcredit, and more broadly microfinance, which adds savings and insurance to microcredit, are their own asset class. Total outstanding loans for the industry were $52.5 billion in 2010, and microlenders that could accept deposits held $31.9 billion. More than 92 million people received microloans averaging $590 in 2010, according to mixmarket.org, a clearinghouse for microfinance statistics. Microfinance even exists in well-developed economies like the United States. It has been touted as a solution for poverty. Yet studies of microfinance’s performance suggests more modest results. “It helps [poor people] inch along and provides a service that is good for the poor,” says Dean Karlan, MPP’97, MBA’97, professor of economics at Yale and author of More than Good Intentions: How a New Economics Is Helping to Solve Global Poverty (Dutton Adult, 2011). Karlan’s research suggests that microfinance is not an economic development tool so much as a household stabilizer. Because microcredit encourages entrepreneurship at the same time that it emphasizes the empowerment of the poor, it appeals to both the political right and the left. But some academics have their doubts. “I am not a fan of microfinance,” says Chicago sociologist Richard P. Taub. He acknowledges that the practice makes some people’s lives better. But microfinance is not a good vehicle for economic development, Taub says, and the attention it gets allows governments to avoid investing in infrastructure and education, which would be of more help to the poor. Taub’s views are directly opposed to those of a student he advised on a dissertation, Vikram Akula, PhD’04. Akula founded Swayam Krishi Sangam (self-work or self-help society) Microfinance in 1997, while he was at Chicago. The firm, known as SKS, has become India’s largest and perhaps most controversial microfinance institution. Although Grameen had made inroads with the upper and middle poor, Akula believed that microfinance could improve the lives of even India’s very poor by freeing them from moneylenders, who might charge as much as 120 percent interest. Akula modeled his firm after Grameen, adopting its five-woman lending unit, but he believed that the only way for a microfinance firm to gain the scale it needed to help the very poor was to operate as a for-profit company. Akula also came up with a new approach to train loan officers, a simple, easy-to-replicate method modeled on McDonald’s Hamburger University. The for-profit model wasn’t unique to SKS, but because it involved profiting from the poor, SKS and other for-profit firms raised controversy, as did its acceptance of venture capital, especially as the company began growing rapidly. The firm zoomed from 276 branches and 2,381 employees in March 2007 to 2,379 branches and 22,733 employees in March 2011 (down a bit from its peak in September 2010). It typically loans between $44 and $260, at interest rates averaging about 24.55 percent annually. Since its inception SKS has made more than $2 billion in loans. In 2007 and 2008 profits and revenue grew more than 200 percent. In 2006, the year Yunus and Grameen Bank won the Nobel, SKS’s Akula made Time magazine’s 2006 list of the world’s most influential people. He had meetings with Bill and Melinda Gates and Warren Buffett, and in 2005 he had squired Rahul Gandhi around his operations. In July 2010 SKS had a spectacular initial public offering, in which the firm raised the equivalent of $350 million (Mexico’s Banco Compartamos was the first microfinance institution to go public in 2007). Akula reportedly cashed in about $10 million in shares. Earning millions was his reward for successful innovation, but it also made him a target. In news interviews Yunus, for one, has criticized the idea of people getting rich off the poor, and he debated Akula at Bill Clinton’s Global Initiative last year. Akula didn’t respond to questions for this article. But in his 2010 memoir A Fistful of Rice (Harvard Business Review Press), written before SKS went public, he said repeatedly that his for-profit model helps both lender and borrower. The book ends with Akula’s visit to a mud-brick store in a village two hours from Hyderabad, owned by a woman named Yellamma, a member of India’s untouchable caste. She started her store with an $80 loan from SKS, and its success “gives her a way to rise above her status, which used to be an impossibility for a woman in her position,” Akula writes. He takes off his sandals when invited inside her home. He is astonished to find that she has a color television—Yellamma is successful, but she still nets only a few dollars a week. The TV, it turns out, is courtesy of her son, who now works at SKS and has left poverty behind. The firm tries to hire from borrowers’ families, although to prevent conflicts of interest, relatives work in different regions from their families. “Am I not doing well?” Yellamma asks Akula. Yellamma’s narrative is part of the mythos of microcredit and microfinance, along with Grameen Telecom’s famous phone ladies, who used their loans to buy cell phones and then rented time to other villagers in Bangladesh, earning, in the early days of the program, three times the national average. These stories are qualified successes. Yellamma is doing better, but still scraping along—she couldn’t buy a TV on her own. The phone ladies have been overtaken by technological progress; as cell phones have spread among poor Bangladeshis, the phone ladies now struggle. The real story of these women—around whom successful microcredit is usually built—and occasional men is not that they get rich or even comfortable, but they get better nourishment and usually move beyond lives of bare subsistence. One recent study showed that microfinance in Bangladesh had raised income levels to about a $1.25 a day. But all that was before Shobha Srinivas set herself on fire and her husband died from the burns he got trying to save her, leaving their children orphaned. An early target of microfinance firms, Andhra Pradesh, in southern India, is one of the country’s poorest states. Its capital is Hyderabad, but many of the state’s 82 million residents, who speak a minority Indian dialect, Tegulu, are engaged in subsistence agriculture. Srinivas’s suicide and dozens of others were blamed on aggressive repayment tactics. Lenders in the region allegedly threatened borrowers with public humiliation, forcing daughters into prostitution, forcing spouses to become bonded laborers, and taking household goods. The microlenders are also accused of lax lending practices; many of the victims had multiple microloans, sometimes from both established microcredit firms and from traditional moneylenders. Akula’s SKS had 17 clients named on a list of 54 microfinance-related suicides compiled by the Society for Elimination of Rural Poverty. He told Bloomberg News that none of its clients were behind on their loans. Regardless, the general public’s perception of the microfinance industry seemed to shift after the media’s coverage of the suicides, says Jacob A. Haar, AB’02, AM’04. Haar is cofounder and managing director of Minlam Asset Management in New York, which manages a fund of less than $100 million in assets that lends money to microfinance companies. Although his firm has not made investments in India—managers were concerned about the rapid growth—Haar’s wife is from Andhra Pradesh. “It’s astonishing,” he says, “how quickly many perceptions have changed there of microfinance.” The most visible change in perception is from the state’s government, which in October 2010 began preventing firms from collecting payments and required government approval for borrowers to receive more than one microcredit loan. The “AP law,” as it became known, drove loan repayment rates down as low as 10 percent. The situation seemed bad enough in Andhra Pradesh that the New York Times wrote in November 2010, four months after SKS went public, that “India’s rapidly growing private microcredit industry faces imminent collapse.” Indeed, India’s second-largest microfinance firm almost shut down. SKS lost money the first two quarters of 2011 and has accelerated a shift into other services and into markets outside of Andhra Pradesh, which makes up about a quarter of its loan portfolio. That shift had been on Akula’s mind for several years, says Lisa G. Thomas, MBA’06, cofounder of the Chicago Microfinance Conference. Thomas, vice president of capacity building and operations at CapitalPlus Exchange in Chicago, recalls that in speeches at the conference in May 2009, Akula discussed expanding his strategy, distributing cell phones, solar lamps, and the like through SKS’s branch network to boost revenues, increase market share, and provide products and services to the poor at a lower cost. “He was thinking of alternative revenue sources four or five years ago,” Thomas says, “and it may now be these strategies that save some of these MFIs [microfinance institutions].” The press coverage suggesting that microfinance caused suicides bothers Karlan, the Yale economist. Karlan, who studies the economics of poverty, says the microcredit industry has been scapegoated unjustly in India. “It’s just the natural flow of things to get hyped,” he says, “and whenever something’s hyped, odds are it’s overhyped. Likewise, we’re seeing the negatives overhyped.” The industry’s supporters were wrong when they claimed that microfinance would solve poverty, Karlan says, and its detractors are wrong to say that it causes suicides. Both analyses are “plagued with selection bias,” he says, referring to a phenomenon that happens when statistical samples are distorted. In the case of the Andhra Pradesh suicides, perhaps there would have been higher suicide rates if microfinance had not been widely available, or perhaps other forms of debt or despair were at the root of the deaths. Akula might remind critics that in the recent past SKS has been viewed as dangerous for helping people, not for killing them. After local gangsters spread rumors that SKS was a secret Christian organization trying to convert Indians, he writes in his book, the firm survived a fatwa against it in Nizamabad, Andhra Pradesh, leaving the area and writing off $250,000 in loans. In rural India guerrillas threatened an SKS loan officer. In response, several female customers went to the guerrillas’ camp to deliver a message: you have to go through us to get to him. Before Akula embarked on a PhD at Chicago in 1996, SKS did not exist. But he was already considering something like it. “In reality, I didn’t much care about getting a doctorate; I just wanted to have time to plot my move into full-time microfinance,” he writes in A Fistful of Rice. He probably spent as much time in Hyderabad as in Hyde Park. Gary Herrigel, who chaired Akula’s dissertation committee, says that after he finished his classes, “he disappeared as a kind of good but unfocused student. And then four years later he came back with this razor-sharp clear idea of what he wanted to do based on having been very politically and entrepreneurially successful in real life.” Herrigel and Taub both note that it’s unusual for a graduate student to write a dissertation about the business he runs, but then, Herrigel notes, it’s unusual for political-science graduate students to “be running businesses that involve issues of general significance for the study of the political economy of development.” When Akula started SKS, it was funded by donations. In Chicago’s student services office, Michelle Obama advised him on a grant proposal to Echoing Green Foundation back when her husband was a candidate for the Illinois State Senate. Yet for Akula, the traditional nonprofit model of microfinance had a fundamental problem: raising enough money to make a loan to every poor person who wanted one. His solution: SKS would be a for-profit firm. By the time he published A Fistful of Rice, he had refined the message: “The only place where MFIs can get enough capital to meet their lending needs is through commercial markets. And the only way to get commercial capital is by offering high profits in return. Investors won’t invest unless they see a very large upside potential, because they see microfinance as risky—as unsecured loans to poor women who have no credit history and who are often illiterate.” Microlending, he points out, is costly not only because of the perceived risk of lending to the very poor but also because it is labor intensive. Borrowers live in rural areas. They tend not to have telephones or Internet access, and they usually cannot travel far enough to reach a bank. Loans are made and must be serviced in person, by traveling to villages every week. If SKS could get access to commercial markets, Akula thought, his firm would reach “Google territory”—that is, making money through just a few pennies in profits from each of the millions of customers. He set up SKS to grow as rapidly as possible, eventually putting the firm in position to strike distribution deals with a variety of companies trying to gain access to the poor. As established by the late C. K. Prahalad in The Fortune at the Bottom of the Pyramid (Prentice Hall, 2004), the poor in India and elsewhere represent gigantic growth markets for basic consumer goods, if companies can figure out how to distribute and market cost-effectively. But it is difficult to service the very poor, people who live on less than $1.25 a day. In his dissertation, Akula notes that SKS’s initial branch, in Narayankhed, Andhra Pradesh, was better at serving the very poor, making 97 to 98 percent of new loans to them, than its later branches, which fell off to about 90 percent. Akula argues that as microfinance firms grow, they face pressure from donors to become financially self-sufficient, which forces them to stop lending to those in extreme poverty. SKS ran into this problem as a nonprofit, prompting him to write: “As SKS scales, there is a greater chance that the key characteristics that kept SKS focused on the very poor will be lost.” To prevent that from happening, he wrote, SKS would train staff to focus on issues that affect this group, offering bonuses when at least 90 percent of new clients met an SKS-developed measure of very poor. Although his dissertation involved writing about himself, those who’ve heard him talk over the years say he consistently articulated that goal. When Akula spoke at events like the Chicago Microfinance Conference, Haar says, “he always talked about the poor and [microfinance’s] impact on them.” In January 2011 a New York Times story charged that multiple crises in the industry meant that “microcredit is losing its halo in many developing countries.” The suicides, in fact, were far from the first scandal of microfinance. In 1994 employees at El Salvador’s FINCA were found to have embezzled funds. In 1999 and 2000 excessive lending in Bolivia caused severe debt levels, and protesters waged hunger strikes demanding debt forgiveness. Before Nicaragua’s 2009 presidential election, Daniel Ortega supported a no pago (don’t pay) movement, which led to protests against interest rates considered too high (18 percent). The movement caused Nicaragua’s largest microfinance firm, Banco del Exito (Banex), to liquidate last year. Yunus, the father of microfinance, was forced out as managing director of Grameen Bank this past May, ostensibly because he was past Bangladesh’s forced retirement age and because, back in 1999, the Bangladeshi central bank did not give approval for him to hold the position. But in late 2010 the prime minister had accused microfinance institutions of “sucking blood from the poor,” ordering an investigation into whether Grameen evaded paying taxes on a fund transfer to Norway (the Norwegian government had cleared them). The investigation didn’t find anything. Yunus’s ouster was widely seen as an act of political retribution because he had called out Bangladeshi politicians for corruption and briefly flirted with the idea of setting up a political party. In general, problems in microfinance “are pretty insulated to the specific country,” says Simone Balch, AB’97, director of investor development at Developing World Markets, an investment firm in Stamford, Connecticut, with $850 million in assets, which has invested in 150 microfinance firms in more than 40 countries, including India. The no pago movement in Nicaragua, for instance, did not spread to its Central American neighbors. Nicaragua and Bolivia and even Bangladesh are relatively small countries. India is not, and the deaths there have already affected microfinance elsewhere. Regulations put in place by India’s national government (less onerous to microfinance firms than those of Andhra Pradesh) “could show up in other places,” says Lisa Thomas. Jacob Haar predicts that the situation in India will lead to positive reforms. One new initiative came from the United Nations Principles for Responsible Investment, which created Principles for Investors in Inclusive Finance, a set of guidelines for microfinance investors. Signatories included Developing World Markets and Minlam. Yet the recent events have also created operational challenges. “There’s a lot more questioning as to whether or not microfinance actually works,” says Tom Derdak, PhD’85, who founded and directs Global Alliance for Africa. The organization invests about $100,000 a year in microcredit and support services in African countries. So far, investments in microlending don’t seem affected. If the market for microfinance were going to fall apart, it should show up first at small operations like Derdak’s. “In terms of our own program,” he says, “our own lending and our own client base, it hasn’t hurt.” Whether Akula’s legacy remains unscathed is less clear. Reports in late September said he might be forced out of his position at SKS. Yet what he did there was groundbreaking. “The story of SKS is still remarkable,” says Haar. “The type of growth, the pace of growth, it’s remarkable.” In the end, Haar predicts, Akula will be proven right about the for-profit model; it can, they both believe, help billions of people out of poverty.