Some years ago, as I sketched the first outline of what would become Due Diligence, I inserted a chapter that would survey the current microfinance landscape and explain how it reached its present form. The chapter would tell stories, such as how Yunus came to devise his form of microcredit, how John Hatch came to village banking. And it would show statistics—how many borrowers and savers there are, in what countries they can be found.
And the first section of that chapter would quickly review the pre-1970s history of financial services for the masses, which I had learned about from Hans Dieter Seibel.
But me being me, I wasn’t content to write a few paragraphs on the history, cite a few papers, and move on. I had to dig into the history before writing it. This I did, and was astonished by what I found. Thanks to the power of the web, especially Google Books, which made 200-year-old books more accessible than 20-year-old ones, I learned that over the centuries people have devised many ways to deliver financial services to the masses—for both charity and profit. In the second half of the 19th century there was in Germany something called village banking, which turned out to be ancestral to all the modern forms of microcredit, including the one for which John Hatch unwittingly recycled the old name. Around 1800, the Englishwoman Priscilla Wakefield inaugurated the savings bank movement with a tiny institution catering first to poor children, then their parents. Her idea leaped oceans almost as fast as microcredit did—not via video documentaries or web seminars, but by books on boats. In the 1720s, Jonathan Swift began making small loans to “industrious tradesmen,” who bound themselves to repay by offering cosigners rather than collateral. A century later, the Loan Fund system overspread Ireland.
Also remarkable was the resonance of the commentary from the time. Wakefield anticipated by two centuries Stuart Rutherford’s observation that financial services help the poor assemble usefully large sums:
It is well known to those who are conversant with the affairs of the labouring classes, that it is much easier for them to spare a small sum at stated periods, than to lay down what is sufficient…at once.
Of the happy effects of the working of our Fund, in almost numberless instances in this parish, I can bear testimony from ocular demonstration, and I know of no greater earthly disaster that could befal us than the suspension of its operation. The interest charged, and the trouble of paying the weekly instalments, are but as a drop in the bucket, or as the small dust in the balance, in comparison with the exorbitant demands of those into whose hands the poor must otherwise fall.
Hincks went on to enumerate success stories, that could be told with little change of microcredit clients today. “No. 1 and 2 had been embarrassed by several bad crops; were served with ejectment notices by their landlords; borrowed £10 each to pay rent; went to Scotland, where they got work; sent home money to pay the instalments on their loans, and are now free from difficulties.” “No. 7 came from a remote part of the country to this neighbourhood, and puchased land; had no stock, and let his farm to graziers; he has now two good tidy cows attained by loans from the Society.”
The discoveries I made as I Googled keywords and chased footnotes were like small explosions in my head, each leading, through a slow fuse, to the next. They reminded me of how Andrew Wiles compared proving Fermat’s Last Theorem to exploring a dark mansion. “One goes into the first room, and it’s dark, completely dark. One stumbles around bumping into the furniture, and gradually, you learn where each piece of furniture is, and finally…you find the light switch. You turn it on, and suddenly, it’s all illuminated.” My little section on history became its own chapter, whether I wanted it to or not. But because my search was at once haphazard and fruitful, I feared even after I had a full draft that I was missing much of the history. Why not post the draft and see if others could point me to more examples? That thought led to the launch “open book” blog, almost exactly three years ago. There you can still find a mature draft of the history chapter.
While I admit to a certain obsession with origins, I believe that my historical investigation illuminates the present as well as the past. The demand among poor people for tools to manage their money turns out to be nearly as old as money. Many of the techniques used today to meet it, including groups and joint liability, also go way back. (The Hebrew bible refers to cosigners.) But there is little sign that such financial services reduced poverty that much. If anything, the causal arrow points the other way: as nations industrialized their way of poverty, the demand for financial services grew, as did the ability to supply them. That is why so many of the paths of ancestry in financial services lead back to England, home of the industrial revolution. But this should not diminish our respect for the modern pioneers of microfinance, for they are the rarest of figures in the history, the people who had the adaptability, vision, and drive to develop and promote particular ways of mass-producing financial services for the poor.
Also interesting are the ways that modern microfinance has broken with its past. One is the focus on women, which is clearly of a piece with the feminist revolution that started in the 1970s. The profusion of institutions, 95% or more of whose borrowers are female, was inconceivable not so long ago. Even the typical 46% rate for individual (as opposed to group) lenders far exceeds historical norms. (The Irish loan funds crested at 20%.) Another, big break with the past is the arrival of technology. Aside from the emphasis on women, the microfinance methods of circa-1980—based on cash and paper records—would not have looked out of place 100 years earlier. M-PESA is another matter, which is why are probably living through one of the greatest turning points in the history of financial services for the masses.
I ended chapter 3 by distilling lessons. Here they are in brief:
First, rich and poor alike want good ways to save, borrow, and insure. They find ways to meet the need, however rudimentary, through cooperation, charity, or commercial firms.
Second, the demands of the poor often can be met on a large scale only with limited and low-quality services…..
Third, if the need for services is a constant, the ascribed purpose is not. Swift wanted his loans invested in productive uses. Wakefield wanted to teach savers thrift, so they would not dissipate their incomes in gin. Schultz-Delitzsch was galled by famine. Raiffeisen’s vision was imbued with a dose of Christian fellowship. Gourlay saw the chief problem as helping people surmount major expenditures without falling into slavery to moneylending landowners. In medieval Italy, Carcano interpreted usury through anti-Semitism. Most of these figures saw some part of the truth and perhaps none saw all of it….The third lesson, then, is about the danger of ideology when it comes to understanding how those served use the services. If people across the ages have been that muddled about why they are banking the poor, we should be skeptical of the storylines currently in fashion.
Fourth, it is far more common to copy ideas in finance than to invent them….
A fifth lesson is about the role of government. Most of the historical success stories are of private initiatives. The British postal savings bank system and the German sparkassen are important exceptions, showing that sometimes government agencies can be made to operate in business-like ways while bringing to bear their strengths in scale and reliability. It appears that governments generally have done better by leaving room for private initiatives than by pursuing public ones….
A sixth lesson is that small-scale financial services for poor people tend to arise in countries in the early stages of modernization, such as the British Isles around 1800 and Germany a few decades later….On the other hand, economic success is the natural, happy enemy of financial services for the poor….Roughly speaking, as developing countries repeat the economic history of today’s rich nations, they are repeating its financial history, too. Finally, if history makes obvious that economic success affects the use of financial services, its verdict is muted on whether delivering financial services to the poor reduces their poverty. Thomas Dichter, a long-time evaluator of microfinance programs, has pointed out that no country that is today rich got that way through tiny loans for people with tiny incomes….Fundamentally, the kind of economic transformation that ends poverty involves combining labor and capital in ways that do not happen within poor households.
I close this way:
It would be overly dire in reviewing microfinance’s past to conclude that those who do not learn from history are doomed to repeat it. The new microfinance practitioners may have largely forgotten the history, but they have taken inspiration from the past more than they realize….And they have repeated the successes at least as much as any failures. A fairer caution is that the historical amnesia has fostered a simplistic popular understanding of modern microfinance as a novel solution to poverty that bypasses government. More accurately, it is ancient in lineage; it is more likely to be eclipsed by affluence than to cause it; and it meets a universal need for ways to manage money.
I am delighted that you have found the time to explore the vast mansion of microfinance history in way that respects the efforts of our ancestors, and acknowledges that our worst enemy is ourselves — our own ideological fixations carried forward in spite of unambiguous lessons tucked away in dark rooms we have not entered, but easily could.
Responsible professionals build on history and gather its lessons into science; they do not sweep it under the rug in an endless quest for ‘the new’.
I’m skeptical about your conclusion that modern microfinance practitioners “take inspiration from the past more than they realize” however. Raiffeisen made his opposition to flat interest rates abundantly clear in his account of the German credit union movement in 1889. “It is immoral to charge interest in advance, and also objectionable as a business method. Every member shall have the right at any time to pay back his loan. If interest has been charged for a full year in advance, the members who have made repayments ahead of time, pay too much interest, unless the Credit Union makes a refund. The first arrangement is unjust, the latter involves complicated bookkeeping.” With the help of Microfinance Transparency, we are gradually catching up with Raiffeisen, but it has been a slow and painful wait for all concerned.
Henry W Wolff, the journalist-chronicler of the European microfinance revolution, drew numerous lessons from its history in his 1910 account, People’s Banks. Among the many salient points is one that rings very powerfully today: subsidized external funding – especially from government but also from well intentioned donors — usually results in the failure of member-owned institutions. I spent much of the last decade in Cambodian villages, often observing the post phase-out wreckage of many ‘member-owned’ village financial institutions created by many international brand-name NGOs that still don’t understand this. But this problem is not confined to Cambodia, as I have learned since in many parts of South Asia and East Africa.
More importantly though, we should recall that the problem here is not just that modern microfinance practitioners have ‘forgotten the history’. The more pressing problem today is that they have no respect for the legacy of that history still on the ground. Andhra Pradesh is noted these days for state action against microcredit institutions there, but it is also home to a network of hundreds of Raiffeisen-style ‘thrift cooperatives’ in the Warangal area that deliver both savings and loans, reaching several hundred thousand members. Organizations like this do not need subsidized external credit – but they desperately need good technical support – the kind that respects their initiative and their hard work and helps them to transform into a movement serving millions or tens of millions. Cooperative legacy institutions world-wide also need ‘tough love’ – the kind that roots out fraud and mismanagement and empowers the majority of managers who want to return the focus to delivering quality member services and building trust. The kind of technical support, in short, that we have lavished on centralized microcredit institutions that can’t even offer savings and don’t reach nearly as deeply into poor rural areas.
I am fascinated, like you, by the interest rate conundrum. Raiffeisen banks charged 5.5% per annum, declining – and were sustainable without subsidy. I don’t consider interest rates the most important issue – access is clearly more important. But even for me the contrast with modern practice is striking.
Finally, I’m not sure I would frame technology quite the way you do. M-PESA is very important, but technological change has been impacting microfinance for centuries. Remember that the greatest technology ever invented was human language, and much technology does not take the form of ‘devices’. When we force illiterate people to sign loan contracts with a thumbprint, we are ignoring far better options that have been used historically. We are not deriving inspiration from the past.
I offer these comments in a constructive, not a critical vein. Your initiative in opening up this mansion could be liberating for the whole sector, and I hope this is the beginning of a very fruitful conversation, not the end of one.
I agree with David. On the same wave length, I like to share a ‘quick’ MF history and lessons from Asian perspectives.
Pre modern zone – Barter system witnessed community profile with less social and economic inequality base for their community livelihood activities with equal sharing although with the exchange of limited goods and services. Subsequently’ Money’ intervention as a medium of exchange facilitated for diversified transaction saving time, labor . Consequently human needs multiplied with too many choices for goods with limited means ‘money’. Money lending phenomenon emerged with Landless labor and landed gentry (with productive asset) as ‘borrowers’ and ‘lenders’ and collateral based loans for risk existed. Despite high cost money lending became socially accepted profession. Credit functioned as more as palliative one and not as panacea for poverty. In fact widening further inequality and worsening poverty were only evident particularly in bottom . Servitude or bonded labor for clearing debt was also not uncommon.
Gradually collective action in the form of community banking , village banking, cooperative unions based on self help, self-reliant basis etc emerged . Saving oriented financial activates played an important role in the life of the people in general and the poor ‘also’ benefited but not significantly . The values of insurance were not adequately recognized. Unprotected vulnerability and covariant risks affected the health and livelihood severely. Eventually many lost their productive assets due to poverty ‘ratchets’ there by becoming more poorer irreversibly.
Here despite change in the medium of exchange using money – poverty and inequality status continue to remain undisturbed and these organizations serving more for general public with incidental benefit to the poor. However Saving based financial activities has some positive sign for protecting the society from severe debt trap. . Inadequate outreach of formal institutions has been by and large due to commercial considerations in a highly regulated environment. Credit therefore is utilized more as palliative and consumption smoothing and not as cure for poverty .In the pyramid, this credit facilitated mostly ‘transient poor’ giving false impression with much hype as a ‘silver bullet’ for poverty cure
Money with use for credit services dominated and facilitated market development with various types of institutions rather than concern with the welfare of poor client despite their claiming on social banking and social mission.. This stage witnessed Institutional adjustments , institutional linkages, institutional innovation, innovative products and services mostly in south east and south Asian countries. Yunus experiment with bamboo stool poor having traditional skill and marketing, proved (transient )poor are credit worthy if collectively organized with mutual guarantee and group cohesiveness as collateral substitute. Gramin bank with group concept emerged in Bangladesh. India in addition to cooperative system since 1969, after nationalization of private sector banks, saw social banking , rural banking , village adoption, Lead bank scheme, service area approach, potential based district credit planning, Regional Rural Bank(RRB) , Linkages between formal and non formal informal institutions. Credit flow accelerated rapidly facilitating more for institutional growth .and also more out reach in unbanked areas. RRB exclusively as champion of rural poor emerged but subsequently moved to urban area covering both poor and non poor and finally started getting amalgamated with sponsoring bank there by proving amply impracticability of poverty cure through formal credit alone despite financial intermediation. It is often quoted Cooperatives ( non poor +poor) failed but it should succeed.. With official patronage Bank-SHG linkage with non formal sector saw manifold increase in only credit flow to hither too unbanked and underserved. despite inadequate infrastructural development to ensure productive functioning of these financial services. Credit target achieved mechanically, growth profit accounted systematically keeping the poor still poor and widening inequality ironically. In South East Asian countries both public and private sector actors have made innovative foray into rural sector with innovative products and organic links not much flexible to the poor exclusively. Outreaching the rural people at large may be good but not necessarily to the pyramid since financing rural clients are by and large treated as micro financing with incidental benefit to the bottom pyramid. The greatest tragedy of common is micro credit alone has been allowed to enjoy monopoly position in this industry despite the fact MF defined a package of other micro financial services like savings , insurance which are equally essential for poverty cure. Further ignorantly or innocently these money lending institutions are called MFI (Pseudo)instead of Micro Credit Institution (MCI) damaging the reputation of social values based MF.
Over a period, rural financial landscape, besides informal actors, has been flooded with multi agencies from formal and non formal sectors with mushroom growth of MFIs fuelled by NGO foraying into MF sector mostly confining to credit service in the name of pastoral poverty cure as their social mission.. Despite claiming social mission, their trajectory is pellucid showing the path – NGO-MFI-NBFC-LAB-BANK- financially linked with capital market and the banks and investors who do not know the end use of their funds ultimately at poor client level. Simultaneous growth of money lender along with MFIs has also been reported thanks to innovative institutional linkages. Tech based conduits like M-PESA for MF is yet to reach the bottom and it should not lead to widen further intra poor inequality On the other hand, demand side witnessed multi borrowing, over indebtedness , (conspicuous) over consumption poor becoming chronic poor with incidental benefit to transient poor and frequent suicides (mostly in farming sector)with debt as one of the causes.. Poor are driven in a situation where they cannot live without debt?.
What are the Lessons?
Are we maneuvering correctly in trajectory for poverty cure through MF? Is the institutional linkages served its ultimate purposes? Is it possible to sustain social banking focused with bottom without social embarrassment or leakages ? Is credit alone adequate for poverty cure? While vision and mission in pro poor social money management are noble ethically in the system, why it doesn’t work for the said purpose? What is lacking ?Where ?
1) Barter economy witnessed with less inequality without any indebtedness problem. Community as whole irrespective of economic structure capable of meeting survival needs. However they were more facing unprotected vulnerabilities and risk in their livelihood.
2) Then ‘Money has become the first broker between two commodities. Ethics dominated in every economic life of people with consideration for equal sharing distributional benefits to all including marginalized.. Self help and self reliance approach focused more Savings based financial services for livelihood.
3) Local value based indigenous institutions emerged democratically at grass root level in the form of village banking , chit funds, merchant bankers, Credit unions, Cooperatives without any external intrusion. Although they are localized but not necessarily for the poor exclusively. SHG movement for the poor has become popular .Here the notion of ‘self help’ is very ambivalent and can be understood in may ways. In Indian context, this could be associated with Gandhian tradition of ‘swedeshi (reliance on own strength) reflecting self reliance and self esteem concepts and as political movement ended with great ‘ independence’ of Indian nation . Where as modern SHG has been much politicalised for micro credit related activities and quite contrarily led to a sort of persistent ‘dependency’ with provider of credit Further persistent drop out phenomenon in SHG/MFI system is a pellucid indication of failure of microfinance .This is ironical.
But over a period of time ‘leissez faire’ and industrialization economic and financial sector reforms have all enabled ‘ the actors in economies’ focused with more on market growth and institutional and materialistic development and started over ruling the life style without much ethical consideration to marginalized people at the end. Formal sector banks with policy support experimented social banking through commercial banking : but could not make a dent in poverty canvas as demonstrated by RRB. SHG has been politicalised and polluted with mere licro credit services.. Global market –based Microfinance has been established but for whose concern does the term ‘ Micro’ reflect? .Poverty remained undisturbed and inequality further widened. Asia , India in particular cannot escape this scenario with all latent sordid phenomenon in social front . Poverty and inequality witnessed no change .China’s problem is now not poverty reduction but one with growing inequality Rich –poor rural –urban divide.
. In this context should we rejoice or on the contrary lament over this ‘commoditization of microfinance ?
4) After the advent of modern micro finance human being behind MF usurped the broking power from the ‘money’ and turned class broker for money lending business moving towards capital market keeping ‘the poor’ and ‘SHG’ new market niche’ for their self growth.
5) Eventually the values self help and self reliant have been eroded, savings led financial activity comforting the poor is totally crippled and changed to credit dominated one pushing them into poverty ratchet due to investor induced and market driven MF
6) Thus the factors such unethical market , incipient competition, inappropriate products , multiple lending , glittering recovery rate over consumption fuelled by modern materialistic life style have all led known implications such as over indebtedness, NPAs , MF crisis.
7) Micro credit alone approach have done enough damage to poverty segment and has became a ‘ forbidden apple’. Development perspectives. At the most some transient poor got benefitted leaving other counterpart. Micro Financial system development has not anticipated that many of financially included are getting excluded unceremoniously in different manifestations like drop out and group mortality in MFI /SHG system. Contrary to our expectation of SHG as an instrument for promoting collective power for mutual gain, the present events suggest lot of risk in instrumentalzing the phenomenon itself, leave alone the credit risk in financing the poor. Because it is the question of instrumentalization design for various policy implementation of pro poor programme (both credit and welfare )
8 In fine, although much grass to water, MF industry is moving from micro credit as palliative one towards microfinance package of services integrated with value added other micro connections for addressing vulnerability in poverty sector and sustainable poverty cure. Promising innovations like CGAP pilot trickle up projects , BRAC integrated inputs models are encouraging. There are instance of emerging of community based institutions without external dependence. Ultimately resurgence of a green pastoral scenario with barter system ( accepting insurance premium in kind -food grains, all farm inputs in barter to the crop sales , ) indicates that barter still has more values than credit in the process of poverty cure.
11) The main hurdle for poverty cure through MF is lack of ethical and moral consideration in the process of internalizing the externalities in the supply side while (A Sen ) capability diversity retards the process of externalizing the internalities in demand side.
Peroration includes two appropriate quotes explaining the present status from historical perspetives
A sen (On ethics and economics) quotes “ Another surprising feature is the contrast between the self consciously ‘ non ethical character of modern economics and the historical evolution of modern economics largely as an off shoot of ethics” ( ‘Economics is a branch of ethics’ quoted Adam Smith father of modern economics)
Robert Chambers (‘Rural development-putting the last first’ -1983) “Outsiders have their own interests, preferences,
preconceptions, their own rationalizations, their own defences for excluding or explaining the discordant and the distressing” .Outsiders are often ignorant about rural poverty but do not want to know what they do not know”
Robert insists that ‘putting the last first ‘ that is the bottom in the pyramid should be primary focus in all rural development approaches. So it is not certainly the ‘micro credit’ as ‘first’ till enabling environ where it works, is created . How many modern MF experts and development economists would agree this?
Thank you far sharing my view and your valuable time
I was so glad to meet you in Beijing and lesson to your presentation on your new book – Due Diligence. I am quite interested in some research on social impact you mentioned. But I think some of the suggestions is not suitable, at least for China. As we discussed that the controled group can always borrow money from other resouces such as money lenders. That means, the reserch can not make the conclusion that credit service has little impact for the poorest. If we take use you analyse on the business building aspect, we can find that microcredit do provides more effective and sustainable credit service than the money lenders.
But I totally agreee to your conclusion: saving is more valuable than the credit for the poorest of the poor.
Let keep contact, especially for the Chinese version of the book.