I applaud the granting of the Nobel Peace Prize to Muhammad Yunus and the Grameen Bank. Sure, reducing poverty has at most an indirect connection with peace by encouraging democracy. Still, the Peace Nobel prize has often been so political- it is different from other Nobel Prizes since the Peace Prize is awarded by the Norwegian Parliament- and frequently of such dubious merit, that it is a welcome change to have the Prize given to someone who has really helped the very poor of the world.
Yet, all economists who have studied microfinance agree that it will never be more than a minor factor in ending poverty in any country. Economic growth requires secure property rights, encouragement of private enterprise, openness to international trade, stimulation of education, limited and sensible regulations, and reasonably honest government. Microfinance makes only a small direct contribution to any of these variables.
However, microfinance does accomplish something useful, and that is how it should be evaluated. So far microfinance has been mainly oriented toward women, although itthat is not necessary. It started in the primarily Muslim rural areas of Bangladesh, where women had great difficult borrowing money in any way to earn income as tiny scale entrepreneurs. Study of several of these programs suggest that in fact payback rates have been high since borrowers have been subject to great social pressure to repay, they have few alternative ways to borrow, and because of other factors. These studies also suggest that women who borrow gain bargaining power within their families. This shows up as an increase in the education of daughters and also sons, greater spending on medicines, and on women's assets, like gold, in families that have women who borrowed under one of these programs.
These programs are usually quite flexible, and sometimes approach the equity type loans that Posner advocates. If someone is having trouble repaying debt due to no fault of her (or his) own, microfinance lenders, as well as other lenders in these communities, often wait until times get better, instead of demanding all payments be made on time. In effect, microfinance often work out to be loans with returns that are quite sensitive to how well borrowers do.
Microfinance has spread to rural parts of non-Muslim countries, and these loans too are primarily given to women. Evaluations of the effects of loans in non-Muslim countries also show high repayment rates, and that female borrowers repay at higher rates than, and generally outperform, male borrowers. So loans in other countries appear to have similar effects as in Muslim countries like Bangladesh.
I do not believe there is much of a puzzle about why commercial institutions have not made such micro loans. For one thing, enforcement of repayment by any particular borrower from the group of all borrowers in a local area was originated by the Grameen Bank, and would not be easily copied by for-profit banks and moneylenders. But even if commercial lenders could have the same high repayment rates, these loans have not typically earned the rates of return required by commercial lenders in poor countries. The Grameen Bank and other groups active in making micro loans have had some financing from NGO's that do not seek to make commercial returns on their spending. So my belief is that despite the seemingly "high" interest rates on these loans, they have earned returns, adjusted for servicing, risk, and other costs, that are below market interest rates in their respective countries,
If private groups want to make gifts to rural women in poor countries, making them through micro loans is a much better way than many alternatives. Loans at considerable interest rates aid donors select among a huge number of persons who believe they deserve help. For by requiring recipients to engage in productive activities that yield enough returns to pay interest and repay principal, micro loans in effect choose to help those with ideas and a willingness to work hard. What is a better way to choose among too many people who are really poor? In my judgment, it is always better as far as possible to reward people who try to help themselves.
The focus on women may be a good starting point in many countries since they have entrepreneurial ideas, and yet often have great difficulty in borrowing commercially, or even from their families. Still, one risk here is that the apparent borrower is a woman, but the real borrower is her husband, brother, or father, and she is simply a front for them. Moreover, many men in poor rural areas also have great difficulty getting access to funds, so these programs should include many more male borrowers as they grow in scope.
Individuals like Pierre Omidyar, one of the founders of eBay, has made a $100 million contribution to Tufts University for that university to invest in profit-making microfinance programs. I share his apparent belief in the principle that competition among for-profit firms is the best way to organize and allocate resources in an economy. It may be possible to get a fully for-profit sector that has large resources, and makes the small micro loans pioneered by the Grameen Bank. I hope so, but the many for-profit moneylenders and banks in poor countries in the past did not manage to make such small loans at rates that were both profitable and appealing to borrowers. So I am not convinced that his vision and that of some other American entrepreneurs will be successful. But their vision of harnessing incentives from the for-profit sector is the right way to try to improve microfinance.