Big Banks Draw Profits From Microloans to Poor
In recent years, the idea of giving small loans to poor people became
the darling of the development world, hailed as the long elusive
formula to propel even the most destitute into better lives.
Actors like Natalie Portman and Michael Douglas
lent their boldface names to the cause. Muhammad Yunus, the economist
who pioneered the practice by lending small amounts to basket weavers
in Bangladesh, won a Nobel Peace Prize for it in 2006. The idea even
got its very own United Nations year in 2005.
But the phenomenon has grown so popular that some of its biggest
proponents are now wringing their hands over the direction it has
taken. Drawn by the prospect of hefty profits from even the smallest of
loans, a raft of banks and financial institutions now dominate the
field, with some charging interest rates of 100 percent or more.
"We created microcredit to fight the loan sharks; we didn't create
microcredit to encourage new loan sharks," Mr. Yunus recently said at a
gathering of financial officials at the United Nations. "Microcredit
should be seen as an opportunity to help people get out of poverty in a
business way, but not as an opportunity to make money out of poor
The fracas over preserving the field's saintly aura centers on the
question of how much interest and profit is acceptable, and what
constitutes exploitation. The noisy interest rate fight has even
attracted Congressional scrutiny, with the House Financial Services
Committee holding hearings this year focused in part on whether some
microcredit institutions are scamming the poor.
Rates vary widely across the globe, but the ones that draw the most
concern tend to occur in countries like Nigeria and Mexico, where the
demand for small loans from a large population cannot be met by
Unlike virtually every Web page trumpeting the accomplishments of microcredit institutions around the world, the page for Te Creemos,
a Mexican lender, lacks even one testimonial from a thriving customer -
no beaming woman earning her first income by growing a soap business
out of her kitchen, for example. Te Creemos has some of the highest
interest rates and fees in the world of microfinance, analysts say, a whopping 125 percent average annual rate.
The average in Mexico itself is around 70 percent, compared with a
global average of about 37 percent in interest and fees, analysts say.
Mexican microfinance institutions charge such high rates simply because
they can get away with it, said Emmanuelle Javoy, the managing director
of Planet Rating, an independent Paris-based firm that evaluates microlenders.
"They could do better; they could do a lot better," she said. "If the
ones that are very big and have the margins don't set the pace, then
the rest of the market follows."
Manuel Ramírez, director of risk and internal control at Te Creemos,
reached by telephone in Mexico City, initially said there had been some
unspecified "misunderstanding" about the numbers and asked for more
time to clarify, but then stopped responding.
Unwitting individuals, who can make loans of $20 or more through Web sites like Kiva or Microplace,
may also end up participating in practices some consider exploitative.
These Web sites admit that they cannot guarantee every interest rate
they quote. Indeed, the real rate can prove to be markedly higher.
Debating Microloans' Effects
Underlying the issue is a fierce debate over whether microloans
actually lift people out of poverty, as their promoters so often claim.
The recent conclusion of some researchers is that not every poor person
is an entrepreneur waiting to be discovered, but that the loans do help
cushion some of the worst blows of poverty.
"The lesson is simply that it didn't save the world," Dean S. Karlan, a professor of economics at Yale University,
said about microlending. "It is not the single transformative tool that
proponents have been selling it as, but there are positive benefits."
Still, its earliest proponents do not want its reputation tarnished by
new investors seeking profits on the backs of the poor, though they
recognize that the days of just earning enough to cover costs are over.
"They call it ‘social investing,' but nobody has a definition for
social investing, nobody is saying, for example, that you have to make
less than 10 percent profit," said Chuck Waterfield, who runs mftransparency.org, a Web site that promotes transparency and is financed by big microfinance investors.
Making pots of money from microfinance is certainly not illegal. CARE,
the Atlanta-based humanitarian organization, was the force behind a
microfinance institution it started in Peru in 1997. The initial
investment was around $3.5 million, including $450,000 of taxpayer
money. But last fall, Banco de Credito, one of Peru's largest banks,
bought the business for $96 million, of which CARE pocketed $74 million.
"Here was a sale that was good for Peru, that was good for our broad
social mission and advertising the price of the sale wasn't the point
of the announcement," Helene Gayle, CARE's president, said. Ms. Gayle
described the new owners as committed to the same social mission of
alleviating poverty and said CARE expected to use the money to extend
its own reach in other countries.
The microfinance industry, with over $60 billion in assets, has
unquestionably outgrown its charitable roots. Elisabeth Rhyne, who runs
the Center for Financial Inclusion, said in Congressional testimony
this year that banks and finance firms served 60 percent of all
clients. Nongovernmental organizations served 35 percent of the
clients, she said, while credit unions and rural banks had 5 percent of
Private capital first began entering the microfinance arena about a
decade ago, but it was not until Compartamos, a Mexican firm that began
life as a tiny nonprofit organization, generated $458 million through a
public stock sale in 2007, that investors fully recognized the
potential for a windfall, experts said.
Although the Compartamos founders pledged to plow the money back into
development, analysts say the high interest rates and healthy profits
of Compartamos, the largest microfinance institution in the Western
Hemisphere with 1.2 million active borrowers, push up interest rates
all across Mexico.
According to the Microfinance Information Exchange,
a Web site known as the Mix, where more than 1,000 microfinance
companies worldwide report their own numbers, Compartamos charges an
average of nearly 82 percent in interest and fees. The site's global
data comes from 2008.
But poor borrowers are often too inexperienced and too harried to
understand what they are being charged, experts said. In Mexico City,
Maria Vargas has borrowed larger and larger amounts from Compartamos
over 20 years to expand her T-shirt factory to 25 sewing machines from
5. She is hazy about what interest rate she actually pays, though she
considers it high.
"The interest rate is important, but to be honest, you can get so
caught up in work that there is no time to go fill out paperwork in
another place," she said. After several loans, now a simple phone call
to Compartamos gets her a check the next day, she said. Occasionally,
interest rates spur political intervention. In Nicaragua, President Daniel Ortega,
outraged that interest rates there were hovering around 35 percent in
2008, announced that he would back a microfinance institution that
would charge 8 to 10 percent, using Venezuelan money.
There were scattered episodes of setting aflame microfinance branches
before a national "We're not paying" campaign erupted, which was widely
believed to be mounted secretly by the Sandinista government. After the
courts stopped forcing small borrowers to repay, making international
financial institutions hesitant to work with Nicaragua, the campaign
A Push for More Transparency
The microfinance industry is pushing for greater transparency among its
members, but says that most microlenders are honest, with experts
putting the number of dubious institutions anywhere from less than 1
percent to more than 10 percent. Given that competition has a pattern
of lowering interest rates worldwide, the industry prefers that
approach to government intervention. Part of the problem, however, is
that all kinds of institutions making loans plaster them with the
"microfinance" label because of its do-good reputation.
Damian von Stauffenberg, who founded an independent rating agency called Microrate,
said that local conditions had to be taken into account, but that any
firm charging 20 to 30 percent above the market was "unconscionable"
and that profit rates above 30 percent should be considered high.
Mr. Yunus says interest rates should be 10 to 15 percent above the cost
of raising the money, with anything beyond a "red zone" of loan
sharking. "We need to draw a line between genuine and abuse," he said.
"You will never see the situation of poor people if you look at it
through the glasses of profit-making."
Yet by that measure, 75 percent of microfinance institutions would fall
into Mr. Yunus's "red zone," according to a March analysis of 1,008
microlenders by Adrian Gonzalez, lead researcher at the Mix. His study
found that much of the money from interest rates was used to cover
operating expenses, and argued that tackling costs, as opposed to
profits, could prove the most efficient way to lower interest rates.
Many experts label Mr. Yunus's formula overly simplistic and too low, a
route to certain bankruptcy in countries with high operating expenses.
Costs of doing business in Asia and the sheer size of the Grameen Bank
he founded in Bangladesh allow for economies of scale that keep costs
down, analysts say. "Globally interest rates have been going down as a
general trend," said Ms. Javoy of Planet Rating.
Many companies say the highest rates reflect the costs of reaching the
poorest, most inaccessible borrowers. It costs more to handle 10 loans
of $100 than one loan of $1,000. Some analysts fear that a pronounced
backlash against high interest rates will prompt lenders to retreat
from the poorest customers.
But experts also acknowledge that banks and others who dominate the industry are slow to address problems.
Added Scrutiny for Lenders
Like Mexico, Nigeria attracts scrutiny for high interest rates. One firm, LAPO, Lift Above Poverty Organization, has raised questions, particularly since it was backed by prominent investors like Deutsche Bank and the Calvert Foundation.
LAPO, considered the leading microfinance institution in Nigeria,
engages in a contentious industry practice sometimes referred to as
"forced savings." Under it, the lender keeps a portion of the loan.
Proponents argue that it helps the poor learn to save, while critics
call it exploitation since borrowers do not get the entire amount up
front but pay interest on the full loan.
LAPO collected these so-called savings from its borrowers without a
legal permit to do so, according to a Planet Rating report. "It was
known to everybody that they did not have the right license," Ms. Javoy
Under outside pressure, LAPO announced in 2009 that it was decreasing
its monthly interest rate, Planet Rating noted, but at the same time
compulsory savings were quietly raised to 20 percent of the loan from
10 percent. So, the effective interest rate for some clients actually
leapt to nearly 126 percent annually from 114 percent, the report said.
The average for all LAPO clients was nearly 74 percent in interest and
fees, the report found.
Anita Edward says she has borrowed money three times from LAPO for her
hair salon, Amazing Collections, in Benin City, Nigeria. The money
comes cheaper than other microloans, and commercial banks are virtually
impossible, she said, but she resents the fact that LAPO demanded that
she keep $100 of her roughly $666 10-month loan in a savings account
while she paid interest on the full amount.
"That is not O.K. by me," she said. "It is not fair. They should give you the full money."
The loans from LAPO helped her expand from one shop to two, but when
she started she thought she would have more money to put into the
"It has improved my life, but not changed it," said Ms. Edward, 30.
Godwin Ehigiamusoe, LAPO's founding executive director, defended his
company's high interest rates, saying they reflected the high cost of
doing business in Nigeria. For example, he said, each of the company's
more than 200 branches needed its own generator and fuel to run it.
Until recently, Microplace, which is part of eBay,
was promoting LAPO to individual investors, even though the Web site
says the lenders it features have interest rates between 18 and 60
percent, considerably less than what LAPO customers typically pay.
As recently as February, Microplace also said that LAPO had a strong
rating from Microrate, yet the rating agency had suspended LAPO the
previous August, six months earlier. Microplace then removed the rating
after The New York Times called to inquire why it was still being used
and has since taken LAPO investments off the Web site.
At Kiva, which promises on its Web site that it "will not partner with
an organization that charges exorbitant interest rates," the interest
rate and fees for LAPO was recently advertised as 57 percent, the
average rate from 2007. After The Times called to inquire, Kiva changed
it to 83 percent.
Premal Shah, Kiva's president, said it was a question of outdated
information rather than deception. "I would argue that the information
is stale as opposed to misleading," he said. "It could have been a tad
While analysts characterize such microfinance Web sites as
well-meaning, they question whether the sites sufficiently vetted the
organizations they promoted.
Questions had already been raised about Kiva because the Web site once
promised that loans would go to specific borrowers identified on the
site, but later backtracked, clarifying that the money went to
organizations rather than individuals.
Promotion aside, the overriding question facing the industry, analysts
say, remains how much money investors should make from lending to poor
people, mostly women, often at interest rates that are hidden.
"You can make money from the poorest people in the world - is that a
bad thing, or is that just a business?" asked Mr. Waterfield of mftransparency.org. "At what point do we say we have gone too far?"
Elisabeth Malkin contributed reporting from Mexico City.