Microfinance in Africa
Is microfinance really the way forward for Africa?
Aid has, more or less, failed. The great Geldofian project to eradicate poverty in Africa by pumping donations into the region has proved itself unsustainable. After a net contribution of over $1trillion of aid in Africa in the last 50 years (which, incidentally, is only 5.6% of the US’s 2015 GDP), real per capita income in the region is lower than it was in the mid-1970s. Aid can, of course, have an important positive impact. Aid-funded hospitals and mosquito nets can and do save lives. Yet it is widely acknowledged that the money is not used optimally in the long-term. Aid alone does not create sufficient wealth.
Since the late 1980s microfinance has been seen by many as an innovative tool in the project to alleviate poverty. According to the Global Findex, only around 30% of adults in Sub-Saharan Africa have a formal relationship with a financial institution. The figure is around 95% in OECD countries. Microfinance attempts to set this straight. What is microfinance? In short, microfinance institutions such as Pride Microfinance and National Microfinance Bank give tiny loans to “the poorest of the poor”. In some cases, business training and insurance accompany this microcredit. The aim? To nurture micro-entrepreneurs, lead them out of poverty and create jobs.
Percentage of adults with a financial institution account around the world
Anecdotal cases demonstrate the potential power of such a scheme: women in poverty-stricken villages start flourishing businesses after receiving as little as $30. Peter Fanconi uses the example of Carmen, who took out a microloan of $50 while she was begging on the street. She used the money to invest in basic cooking and eating materials. Three loan cycles later, she is a proud restaurant owner, employing four other people and looking to open two new restaurants.
Market vendors are often targeted by microfinance institutions
Despite inspiring stories like Carmen’s, the reality of microfinance is often dark. Naïvely, it was assumed that microfinance banks and microfinance institutions (MFIs) would behave responsibly. They would seek out strong potential borrowers and help them along their way to entrepreneurship with advice, insurance, savings accounts and group work. This assumption proved to be “spectacularly wrong.”
Interest rates skyrocketed. In Zambia they reached 110%, and in Ghana 80% in recent years. Under the guise of development organisations, microfinance banks have profited off the backs of poor Africans. Borrowers frequently fall into a spiral of debt: they use pre-existing loan sharks and local lenders to repay their high-interest micro-loans.
Success stories are uncommon. Many borrowers are even allowed to use their credit to fund consumption rather than investing in stock or materials to get their business off the ground. In South Africa, 94% of microcredit use is on consumption. Needless to say, funding consumption with loans only increases poverty. Duvendack et al (2011)’s study of 58 of the most thorough analyses of microfinance’s effects concluded that “no well-known study robustly shows any strong impacts of microfinance.” The microfinance project in Africa has failed to alleviate poverty.
At best microfinance takes people out of extreme poverty, and into poverty. At worst, it exploits the poor to the benefit of the rich. Milford Bateman cites South Africa as a case in point: “a tiny White South African elite manages to quite spectacularly enrich itself by dispossessing millions of Black South Africans of their scarce financial resources, livelihoods and opportunities, all under the cover of ‘helping South Africa’s poor through microenterprise development.’”
In trying to understand the failure of microfinance in Africa, an important question stands out: who, exactly, does this project target? Which individuals are supposed to benefit from microfinance, to create wealth and prosperity in their communities? What does microfinance finance?
Proponents of the system state that microcredit should be awarded to the most financially disadvantaged, as well as those living slightly above the extreme poverty line, such as small market vendors or farmers in poor areas. Microfinance’s other main target, or sub-target, are women. Although drastically under-represented in the business world, women are reported to make better use of their loans. Unlike men, their profits are more often put towards food for the family, the education of their children, and other crucial expenses.
There are indeed cases where microcredit is given to the “poorest of the poor”. Homeless individuals are given a small loan. They might then start a micro-enterprise, for example selling fruit door-to-door. This is rarely successful: the potential customers of such micro-enterprises tend to be poor too. What little money they do have is spent on a small number of basic goods. With such a limited range of viable services to provide, “new businesses end up displacing already-existing ones, yielding no net increase in employment and incomes.” In worse, and more probable circumstances, the business fails. The would-be micro-entrepreneur ends up in a cycle of debt, and quite possibly even deeper poverty.
And this might help to explain why microfinance rarely does get to the poorest of the poor. Loans at such a level are so minuscule that now-profit-driven MFIs have no interest in issuing them. What’s more, the very poorest people in Africa tend to be less willing to take out micro-loans. They don’t want to be tied to formal institutions.
Nor have women been the victors of microfinance that they were painted as. In many cases, women targeted by microfinance banks end up taking out loans on behalf of their husbands or other male relatives. They are put under greater pressure in the home, often the victims of further domestic violence. Ilahiane and Sherry (2012) found that microcredit serves only to exacerbate, rather than eradicate, gender equalities and patriarchy in poor areas. While there are studies which purport to demonstrate that microfinance has a generally positive, liberating effect on women, these studies are based on “weak research designs and problematic […] analyses”.
Where microfinance produced success stories, it was a personalised service that sought out individuals with entrepreneurial potential. It taught them, gave them microcredit and helped them save. It guided them through the process of setting up a small enterprise. It continually checked up on them to make sure that they were using their credit sensibly. Such a tailored service has the potential to be effective on a small scale.
However, as microfinance became more popular, its scope was expanded, leading to obvious problems. Just as not every middle class European is a budding entrepreneur, neither is every poor African; a scheme that gives microcredit to any poor person looking for it is therefore unlikely to be effective. The MFIs must seek out appropriate, entrepreneurial borrowers. What’s more, the optimisation of scale goes hand in hand with the simplification of the service. For Tony Sheldon, “the danger is, if you’re optimizing scale, you are not optimizing something else. You are not optimizing the depth or complexity of services delivered to the end clients.” Borrowers with limited entrepreneurial skills are left with no advice or training. It should come as no surprise that, by and large, their businesses fail.
Who does microfinance target? A vast population of poor people, mostly women. But who can it really benefit? In reality, only the tiny proportion of this population with an entrepreneurial knack, living in the appropriate circumstances.
In a short but inspiring talk, Harvard graduate and founder of Golden Palm Investment, Sangu Delle, presents an alternative. He argues that macro-investment and the creation of large pan-African enterprises will boost employment and generate stability in Africa.
A survey in Nigeria revealed that, ahead of water, electricity, roads and education, the creation of new jobs is the most important issue for Nigerians. As Delle insists, rather than trying to turn every poor African into a self-employed entrepreneur, a more sustainable solution is to make large investments into pan-African companies. Such “titans” will create real wealth and provide much-needed employment for ordinary people. Microfinance could engineer small and unstable increases in profits for 500 different self-employed banana farmers with micro-loans. Why not invest the same total amount of money in “one savvy entrepreneur”? She can create a new banana factory that provides jobs across several countries, expands the market and makes greater profits.
The primary concern of Nigerians is job creation
Delle’s example of Eric Muthomi’s ‘Stawi’ is a prospective success story. This pan-African enterprise makes flour and nutritious baby food out of bananas. Its factories and headquarters are in Kenya. Stawi gives each of its workers a partial ownership in the business. Projects like this may not be “the sexiest approach”, and they may not “achieve the same ‘feel-good’ as giving a woman $100 dollars to buy a goat”. Yet, they have the potential to create massive wealth and much more sustainable solutions to the economic problems that Africa’s emerging economies face.
Originally published at FiftyFor.