Friday, July 9, 2010

Capitalism vs Altruism

One of the fields in which the forces of capitalism and those of altruism come head to head is the unlikely field of microfinance. Microfinance as a concept was pioneered by the Nobel Laureate Mohammed Yunus in Bangladesh; it involves lending very small amounts to the poor, often as little as $50, for a very small business activity. The poor are untouched by the banking and credit system and microfinance stepped in to fill the breach. It has done wonders in terms of poverty alleviation, in Bangladesh and in a few other countries where it has achieved scale.

But should microfinance be a charity or a commercial enterprise ? Both models exist. Grameen Bank, Mohammed Yunus’s organization is more at the charity end of the spectrum than at the commercial end. But take the case of SKS Microfinance, India’s premier microfinance entity. It’s run as a commercial enterprise and ahs achieved considerable success.

Such an approach has brought benefits undoubtedly. SKS has brought in terrific processes on loan evaluation and disbursements. Standardisation and big efficiencies have been achieved in running operations. There is very little corruption, as they are not dependent on government grants. They have better access to capital. All very good.

But the problem is that interest rates are high as they seek a profit. Mind you, not as high as the village money lender who usually charges an extortionist rate. But still ….. SKS’s average rate of interest is 28%. SKS rightly says it could charge more – maybe 40%, but it does not as it has set its tradeoff between making profits and not exploiting the poor at this rate.

The high rates are because of the high costs of reaching far flung villages and administering such very small loans. But still, it is difficult not to baulk at interest rates like 28%. How do you run a business, however small it may be, when your cost of capital is so high ?

Yunus contends that any microfinancer who charges 15% more than the cost of capital, must either cut costs or profits and pass the benefit to the poor. SKS’s differential is about 18%.

The debate has been accentuated as SKS is now going in for an IPO. The founders say they need capital to grow and the market is the best place to access it. True. In the process they will make a lot of money. Normally , you would laud any entrepreneur who has achieved success. But in this case, the money making sits a bit uneasily, for, it has come from the very poor.

As microfinance grows in popularity, there is the risk of a “sub prime” happening with dire social consequences. Yunus’s Grameen Bank behaves extremely responsibly. Commercial microfinancers might not be so , and you could argue that social implications of debt is not their remit. The propensity in India for the poor to get into debt for non productive reasons – usually dowry for the daughter’s marriage - is legendary. Inability to repay, and therefore bonded labour, is endemic.

I can see both sides of the argument. Can you (Should you) make money from the poor ? Yes. And No.

I’ve often found Narayana Murthy’s, the founder of Infosys’, philosophy very appealing – you must be a capitalist in the head and a socialist at heart. But in this case I am not sure whether you should rule from the head or from the heart.