Poor Economics: Takeaways, Thoughts, and Ideas
I recently finished listening to Poor Economics by Nobel Prize-winning economists Abhijit Banerjee and Esther Duflo on Audible.
Compared to other books I’ve read about economic development and global poverty, Poor Economics struck me as modest, patient, and ultimately optimistic.
A few key takeaways
As difficult as sweeping economic and political reforms are to implement, an assumption that systemic reforms are the only real solution to global poverty does exist among some academics, policy makers, and politicians. Those with this view argue that within existing broken systems, it’s difficult to make any type of sustainable improvements to the lives of the world’s poorest people.
At a high level, we can see the appeal of believing that sweeping systemic reform is the only solution to global poverty. After all, a variety of people and organizations have been working on global poverty within existing economic and political systems for decades… and poverty still exists. So it may be tempting to blame the framework we are working in, rather than the solutions we are attempting to implement.
Although Banerjee and Duflo may understand the appeal of positioning sweeping systemic reform as the ultimate solution to global poverty, they do not adopt this view in Poor Economics. They are perfectly willing to (and do) admit that some of the most effective ways to improve the lives of the world’s poorest people don’t require systemic reform. They simply require a better understanding of the lives the solutions are designed to improve, and a willingness to investigate all proposed and existing solutions (even — and perhaps especially — those solutions that seem obvious.)
With that being said, it is clear that the authors also recognize the importance of economic growth. In the book’s conclusion, they acknowledge that a “spark” of economic growth played a key role in ultimately improving the lives of the poorest people in multiple countries. However, they also admit that it is difficult to accurately predict when and where a growth spark may strike next. For this reason, we can focus on both improving the lives of the world’s poorest absent a growth spark and preparing people to benefit from and contribute to economic growth when a growth spark occurs. To meet either of these objectives, we need to ensure that people are educated, well fed, and healthy. While the measured approaches to improving education, nutrition, and health outlined in Poor Economics don’t promise the eradication of poverty within the next decade, the resolute belief that there are effective ways to improve the lives of the world’s poorest people — even within existing political and economic systems — strikes an ultimately optimistic tone.
A few thoughts and ideas about microfinance
Since it is arguably the most famous “solution” to poverty of my lifetime, there is a fair amount of discussion about microfinance in Poor Economics. As more research has been conducted about the impact and effectiveness of microlending in recent years, it has become clear that designing a microlending solution that works — sustainably and as intended — is challenging for a number of reasons. There are two particular challenges of microlending outlined in Poor Economics I want to discuss briefly. The first is the role of governments and regulation in the microfinance market. The second is the appropriateness of debt financing for entrepreneurs more generally.
While we can agree that there should be consumer protections in place for any individual that works with a banking or lending institution (including the world’s poorest individuals), Poor Economics paints a picture of inconsistent, unpredictable, and at times excessive regulations on lending in many developing countries. Unfortunately, it seems difficult to argue that all of these regulatory decisions are made solely for the benefit of borrowers.
While continued research on the effectiveness of microlending is necessary to design the best possible model, research about how microlenders work with the governments of the countries they operate in (and how they hedge against the risk of unpredictable regulatory decisions) also seems essential. If unbiased research proved a given microlender’s model effective at improving the lives of the world’s poorest people, that knowledge wouldn’t be practically helpful if the government of the country randomly opted to prevent that lender from collecting any loan payments six months after it began making loans.
If we think of microlending as a response to a need that was not being met by the existing governmental, banking, NGO, nonprofit, or other actors in a given country, it seems logical that those existing actors may (at best) not have the capacity to regulate microlenders and (at worst) may not have any incentive to regulate microlenders in favor of the poor. In lieu of a targeted, unbiased regulatory design that allows microlenders proven effective to operate while preventing predatory microlenders from operating, it seems that effective microlenders would need a very resilient model. While holding a significant amount of cash to hedge against the risk of a government preventing collection on loans for an unpredictable amount of time is unfortunate (since this is cash a microlender could be lending), unusually strong liquidity may simply be a required component of a sustainable microlending model in some markets.
Although it is presented within the discussion of microfinance, Poor Economics also brings up a challenge inherent in lending to entrepreneurs more generally. Entrepreneurship is arguably about taking risk (to establish a business, to expand to a new market, to grow sales, to establish a new product or service, etc.) Sustainable lending is arguably about minimizing risk (if you can collect all the money you lent out to one entrepreneur, you’ll be able to lend to another entrepreneur). While this is an oversimplification, it does touch on a general problem with debt financing for startups in particular: the entrepreneur’s incentives and the lender’s incentives don’t always align.
This fundamental misalignment has led to a variety of alternative sources of capital for entrepreneurs in developed markets. In the context of tech startups, venture capitalists and angel investors come to mind. For entrepreneurs that are unable to attract investment or are uninterested in diluting ownership, there are alternative lending products (such as various government guaranteed loans) and alternative sources that behave more like grants (such as crowdfunding) to help bridge the gap between the entrepreneur’s need for capital and the traditional lender’s appetite for risk.
Could any of the existing developed market alternative finance structures be applied on a micro level in a developing market? Are they already being applied? Is there a hybrid model or product we could create to supplement microloans (debt financing) specifically for higher risk/reward scenarios (like startup micro businesses) in developing markets?
I’ll add these to my ever-growing list of questions to research further. More updates to come, since I’m very interested in the topic of microlending in particular. In the meantime, if you haven’t already, I do recommend reading or listening to Poor Economics.
As always, let me know your thoughts (and thanks for reading).
Additional Resources
A few additional articles I read while writing this post.
