Microfinance: is it the answer?

Low Hansiong / New York, United States

In the vein of my last article on public service, I would like to expand on one method of actually bringing about poverty reduction. Microcredit has been around for the past 10 to 15 years. it was first formally pioneered by the Grameen Bank (based in Bangladesh: whose founder received a Nobel peace prize for his work).

As the name suggests, microcredit, in a nutshell, revolves around lending money to the poor. Unlike the situation in Singapore, where you could not escape the chance of obtaining credit even if you don’t want to, the poor (defined by people living under $2 a day) can never dream of being able to take a loan. It boggles the mind that a simple $100 loan could go such a long way in changing a household’s future for the better.

Financial Services for the Underprivileged

Traditionally, the poor can only access capital through moneylenders (colloquially known as ‘ah long’) or informal savings club i.e. ROSCAs (Rotating Savings and Credit Association) for financial transactions. The poor are ostracized by the banks because they were deemed high risk and have no collateral to back the loan, this is where the ‘ah longs’ and ROSCAs come in; they provide this niche that is essential to the daily financial balances of the poor.

So what banks like Grameen, BRAC and Bancosol are trying to do is to provide these services in a more efficient manner. Contrary to rational intuition, they are not around to drive the ‘ah longs’ out of business but they provide the poor with more access to capital. However, they also differ greatly from traditional ‘for-profit’ banks, which rely heavily on credit scores, collaterals and bank branches to adequately adjudge the potential borrower. Instead, these banks bring the ‘banking’ to the people and one of the most importantly innovation was the concept of group (joint) liability.

Without taking collaterals, Grameen initially had this condition: borrowers have to sort themselves into groups of 5. “Loans go first to two members, then to another two, and then to the fifth group member. As long as loans are being repaid, the cycle of lending continues. But, if one member defaults and fellow group members do not pay off the debt, all in the group are denied subsequent loans.”¹ (For a more in-depth explanation please read the textbooks referenced)

A Walk Down Memory Lane

Ok, the question is what has this got to do with Singapore? Well, you will be surprised. As early as the colonial days, ROSCAs were widely used in Singapore but it is just that most people do not know that they are in one. ROSCAs works by a group of people forming a savings club, a group of 10 (any number) will pledge an agreed amount ($100) each week. So one person will receive $1000 in the first week and proceed to ‘contribute’ $100 every week and each member of the group takes turn to receive the thousand dollars every week until the end of ten weeks and the rotating cycle begins again. You might recall examples of ROSCA in action on Channel 8’s period dramas on colonial Singapore.

A very similar arrangement would be the many wedding dinners we all go to. We complain about spending $100 dollars every time we attend one. However, assuming everyone gets married, this money spent is like money ‘saved’ because you will get the pool back when it is finally your turn, just that you are not quite sure of when your turn will come. Of course it is not an exact science in this example but it will do.

Getting involved in Microfinance

Although Singaporeans do not have a great need for microcredit, it does not mean that we cannot get involved. With repayment rates from loans to the poor being over 95% (Grameen Bank), it is showing promise of becoming one of the more reliable forms of financial intermediation. Do not mix these loans with the sub-prime mess that we are seeing now. Microcredit loans are usually less than $200 and are mainly given to mothers who have a genuine need for capital to build a better future for her kids. Though not 100% safe, it is a far cry from the reckless lending in the United States.

Hence, what we can do is to help raise capital for microfinancial institutions by venturing into the securitization of these loans. If the securities are packaged correctly and with enough information, Singapore can be part of the next wave in economic development. We are situated right in the middle of it all. Vietnam Bank for Social Policy (VBSP), Indonesia’s BRI (Bank Rakyat Indonesia), Cambodia’s Acleda Bank and Philippines’ PinoyME, among others, are extremely active in this field and with a little push; microcredit can go mainstream and bring more private capital to poor (the writer realizes that bringing in private capital changes the landscape of the field and therefore must be assiduously managed).

Another financial product that might work in Singapore could be a form of long term micro-savings account. Singaporeans have many channels to financial intermediation, services are wide and varied, however amidst these products the long term savings account is perhaps at once lacking in breath and too complex when available. Consider if a household wants to save long term with consistent contributions to the account. The only products I can think of are the trust funds and investment linked insurance. These products are usually too complicated to understand and too volatile for the average household.

The new product should be simple: a guarantee fixed return over ten years, with the household committing to contribute a fixed amount every month for the next ten years. It sounds a lot like the CPF but the main difference is that the account is flexible. Early withdrawal and renewal of contract must be made available.

An example could be as such: The Tan family wants to save $100 per month over ten years. This account will guarantee a fixed rate of, say, 5% per annum simple interest with no ATM facilities and no checking option. All you get will be a statement that updates your balance. The account will not be permitted to be withdrawn in those ten years, although it can be done in extenuating circumstances and there is no minimum starting amount. This sounds like a really simple product and readers must be thinking that ‘surely such products exist’, but a search on the internet finds that such a product do not exist and even when it does, it is laden with conditions.

What the account will do, more than anything, is provide households a commitment mechanism and allow household to better plan for the future in an easy package and eventually use that money for their children’s education and more.

The Future

There is a reason why I used microfinance and microcredit at different junctures of the article. Think of microcredit as the walkman and microfinance as discman, microfinance takes credit and adds micro-savings and micro-insurance into the industry. It acknowledges that despite the poor, well, being poor, there is a great demand for reliable and convenient savings accounts. With proper access to saving mechanisms, the poor can save themselves out of poverty.

Microfinance holds a lot of potential and it is easy to get lost in the brouhaha of it. It is not an end all and it will not end poverty but it has the promise of being the catalyst of bringing empowerment into the hands of the poor.

Note

¹Beatriz Armendarz and Jonathan Morduch “The Economics of Microfinance”, MIT Press, 2005, Pg. 13

Reference

Beatriz Armendarz and Jonathan Morduch, “The Economics of Microfinance”, MIT Press, 2005

Debraj Ray, “Development Economics”, Princeton University Press, 1998

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