Critical Dialogue on Microfinance

Chicago GSB Management Conference 2005


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To most people, the term "microcredit" evokes images of poverty relief in Bangladesh led by Grameen Bank's legendary founder, Mohammed Yunus. But microcredit (or more properly, microfinance) is much more than that. As the fantastic conference organized by students at the University of Chicago Graduate School of Business, the Harris School of Public Policy at the University of Chicago, and the Kellogg School of Management at Northwestern University has made clear, microfinance is becoming an important business of the future. However, the more socially minded should not panic. Business interests will not come at the expense of social goals, but rather will be the necessary enablers of these very goals.

This is the most important message this conference should promote in the business community at large. Not because business people feel more comfortable with profit goals than social goals, but because a profit goal is necessary if we want to transform microfinance from a successful, but small, cottage industry to a powerhouse able to lift hundreds of millions of people out of poverty. If we want microfinance to be the mechanism through which millions in Africa and South Asia receive access to credit and financial services for the first time, we cannot rely on charity alone. We have to show how microfinance is a profitable business and how it can be scaled up. For this to happen, all the different constituencies present in business schools can and should do their part.

As Robert Townsend, Charles E. Merriam Distinguished Service Professor of Economics at the University of Chicago, clearly stated during the conference, the role of academics is to understand why microfinance works in theory, because we already know that it works in practice. At least we know it has worked in many different situations: from Bangladesh to Latin America, from Samoa to Uganda. But not in all of them. As Mauricio Moura, Executive Manager, Microfinance, at Unibanco Brazil and another panelist at the conference, reported: "Group lending works pretty well in the countryside and in small towns, but functions terribly in metropolitan areas." Only when we understand the logic of what works and what doesn't will it be possible to scale up microfinance operations a hundred, a thousand, or a million times. We need more research on this issue and we hope that conferences like this will inspire many academics to work on them.

While the theoretical reasons why microfinance works may not be fully understood, we do not need to go very far to understand why microfinance represents a great business opportunity. One of the great lessons coming out of the Chicago school is that every inefficiency in the world creates a business opportunity. Since there is no greater inefficiency than the millions of motivated, hard working people stuck in poverty all over the world, there is no greater business opportunity than to address their needs. And access to finance is one of their greatest needs.

To many noneconomists this statement might appear strange. Among all the needs poor people have, access to financial services does not seem to rank very high. Isn't it more important to provide impoverished people with jobs, education, and decent homes? I think the answer is a resounding no. With access to finance people can create their own jobs (and not depend on the charity of international organizations), finance the education of their children (and not depend on the whimsical policies of their own governments), and build their own houses (rather than being forced to live in squalid government-built projects). As Raghuram Rajan and I argue in our recent book, Saving Capitalism from the Capitalists, finance is not only a real engine of growth, but it is also a tool of empowerment, which ensures individuals the maximumindividual economic freedom possible. In the words of Mohammed Yunus:

"If we imagine a world where every human being is a potential entrepreneur, we'll build a system to give everybody a chance to materialize his or her potential. The heavy wall between the 'entrepreneur' and 'labor' will be meaningless. If labor had access to capital, this world would be very different from what we have now."

Is it possible to transform this dream of universal access to finance into reality? When in the early twentieth century Henry Ford dreamed of providing a car to every American, he was deemed a visionary. But mass production turned this dream into a reality, with enormous profit for its inventor. Providing access to financial services to every person on the planet is no different. It is a dream, for which, at the moment, we do not have a clear blueprint, but it is a dream that we can achieve in our lifetime. We need a modern Henry Ford to invent a way to produce mass financial service as cheap (in relative terms) as Ford's famous Model T. Hopefully, conferences like this will inspire many people to pursue this dream.

The imagination of new entrepreneurs, though, is not enough. Microfinance cannot develop without a more favorable regulatory environment. As Vikram Akula, a McKinsey consultant and Founder and Chair of SKS India, noted during the conference: "When we take savings in India, it is actually in violation of the law. I have a structure with eight entities in order to sidestep enough of the law that it stays below the radar." Obviously, it is not conceivable to have a mass market outside of the law. Hence, a major push needs to be made to lift the roadblocks that regulation puts on the development of microfinance.

Once again, noneconomists may be surprised. Financial regulation around the world was designed to prevent fraud and to insure stability of the financial system, how did it evolve into an instrument that prevents innovation in financial services and broad access to credit? Unfortunately, it is no accident.Many intermediaries benefit from restrictions to competition and may see universal access as a threat. For this reason, the struggle to reform regulation in favor of microfinance is not an easy one. Hopefully, conferences like this will inspire many regulators to join the battle for a worthy cause.

Unlike the world imagined by John Lennon, the one outlined by Mohammed Yunus is no utopia: it is just around the corner. It is incumbent upon all of us to help make the turn.

Luigi Zingales
Robert C. McCormack Professor
of Entrepreneurship and Finance
at the University of Chicago
Graduate School of Business

53rd Annual Management Conference
53rd Annual Management Conference
The University of Chicago Graduate School of Business · Critical Dialogue - November 2005