Microcredit is the extension of small loans to entrepreneurs too poor to qualify for traditional bank loans because they lack collateral. Microcredit lenders rely on trust and community peer pressure to maintain high repayment rates rather than on more traditional banking means such as collateral requirements and the legal enforcement of contracts.
Dr. Muhammed Yunus has been a major impetus for the successful establishment of microcredit arrangements in many developing countries. Dr. Yunus has won many awards for this work, including the 2006 Nobel Peace Price and the Presidential Medal of Freedom awarded by President Obama in 2009.
In 1976, Dr. Yunus founded the Grameen ("Village") Bank Project in Bangladesh for the purpose of offering microcredit to the poor in rural Bangladesh. At the time, Dr. Yunus -- a Ph.D. graduate of Vanderbilt University in 1972 -- was Head of the Economics Department at Chittagong University in Bangladesh.
Dr. Yunus organized this "socially conscious capitalist enterprise" in accordance with the following three principles:
In 1983 the Grameen Bank Project was transformed into a private independent bank --- the Grameen Bank (GB) --- by a Government Ordinance. According to the official Grameen Bank Website, the GB currently has 1,658 branches operating in 57,791 villages with a total staff of 14,989. The GB services over 7.5 million borrowers (96 percent women) and has a loan recovery rate of 98 percent. Borrowers of GB own 94 percent of the total equity of the bank, with the remaining 6 percent owned by the Bangladesh Government. Moreover, since 1995 the GB has not requested any fresh funds from donors but instead has relied on its growing amount of deposits to run and expand its credit program. Over 64 percent of these deposits come from the GB's own borrowers.
In addition, the GB has now expanded to include a family of GB enterprises.
The standard Grameen Bank (GB) loan process is as follows.
1. Long-Run Financial Viability of the GB:
Critics of the GB, and even some well-wishers, have questioned its long-run financial viability.
In November 2001, after extensive back-and-forth email correspondence with Muhammed Yunus, Wall Street Journal (WSJ) reporters Daniel Pearl and Michael M. Phillips published a rather negative article on the GB titled "Grameen Bank, Which Pioneered Loans for the Poor, Has Hit a Repayment Snag."
Yunus (January 2002) responded at some length to the criticisms laid out in the WSJ article. His reponse included an interesting exchange of email correspondence between himself and Pearl prior to the publication of the WSJ article.
(a) Repayment Problems Hidden by Non-Standard Accounting Procedures?
Pearl and Phillips (November 2001) criticized Grameen Bank's financial reporting procedures and suggested that repayment problems were being masked by non-standard accounting practices.
For example, Pearl and Phillips charged that the GB was simply delaying inevitable defaults and hiding problem loans by not reporting refinanced problem loans as loans at risk. Instead, under the GB's "flexible loan" program, delinquent loans that were refinanced were being treated as back on schedule as long as some regular payment was being made. Since the GB was not under any formal regulatory supervision, it was difficult to know with any certainty what percentage of the GB's current loan portfolio was actually at risk.
Yunus (January 2002) stressed that the repayment problems noted in the WSJ article were temporary, caused by mistakes made in response to a devastating flood in 1998 -- half of Bangladesh was under floodwater for over ten weeks. Fresh loans were made without requiring borrowers to pay back existing loans, and some borrowers were not able to handle the resulting loan burdens. The repayment rate then dropped, to around 90 percent by the time the WSJ article was written; but the repayment rate was once again rising and was expected to reach 98 percent by December 2002.
Yunus also stressed that the GB used non-traditional accounting procedures because it had had to create new systems to balance financial and human considerations. "Grameen is based on human-relationships, not on threats of penalty imposed by legal system or any other agency." The policy is to rehabilitate delinquent borrowers, not to punish them.
Finally, Yunus disputed the claim that the GB was operating without supervision. He stated that the Central Bank of Bangladesh "has the responsibility of audit and inspection over us. They check our books carefully. We have never heard any complaint from them about our (loan) provisioning criteria." He also noted that the GB "started to distribute widely its monthly statement containing all basic information about its operation from February, 1980, nearly twenty-two years back, when it was not even a bank yet."
The official Grameen Bank Website now includes a site devoted entirely to GB financial reports and performance indicators, including access to yearly financial reports. This suggests that Yunus has actively taken steps to increase the transparency of GB accounting procedures.
(b) Moral Hazard Problems?
Pearl and Phillips (November 2001) also gave anecdotal evidence that some GB loans were being used for consumption rather than for productive purposes, and that some borrower groups, rather than enforcing repayment discipline on their members, were instead bandeding together to force Grameen Bank to offer more lenient repayment terms to their members.
Yunus (January 2002) noted that various loans to women for home expenditures that would be considered as consumption loans under traditional accounting practices are treated as productive loans by GB since it is recognized that the women's homes are their workplaces.
Yunus also disputed that the GB was having increasing difficulties with borrower groups. He claimed that "85 percent of the 2.4 million borrowers are paying back their loans with clockwork precision. Only 15 percent of them are having difficulties in paying back." Moreover, he argued that these difficulties were temporary, caused by the flood problems outlined above and not by borrower resistance to paying back their loans.
The official Grameen Bank Website now includes the claim that the current GB loan recovery rate is 98 percent.
(c) Too Many Competitors?
Finally, Pearl and Phillips (November 2001) raised the possibility that increasing competition from other microcredit institutions had resulted in problems with overlapping loans from multiple institutions and less ability to impose effective discipline on borrowers.
In an email message to Daniel Pearl dated 26 August 2001, appended to his response, Yunus (January 2002) dismissed this as a minor issue. "Not even 5 percent of all (GB) borrowers are involved in multiple sources for their loans! In some location it may be high, but over-all it is not worth worrying about."
The official Grameen Bank Website provides an extraordinarily rosy picture of the current financial condition of the GB. If even a fraction of these claims are solid, the GB would seem to be a smashing success.
2. Potential Difficulties with GB Technology Transfer:
Some commentators have also raised doubts regarding the transferability of the GB microcredit concept to other countries. For example, Bornstein (1995) notes:
On a more hopeful note, Imran Matin (February 2002) provides a carefully documented study of available evidence regarding innovation in product design and organizational arrangements in the contemporary microfinance industry in Bangladesh.
Microfinance refers to savings, insurance, and credit instruments, and hence is a more general concept than microcredit.
Matin rejects the workability of a "one size fits all" approach to microfinance -- e.g., the global adoption of the GB type of microcredit arrangements.
However, based on detailed case studies of three microfinance institutions in Bangladesh (ASA, SafeSave, and Gono Bima), Matin concludes that the careful tailoring of microfinance products and arrangements to local demand and supply conditions can achieve substantial improvements in the daily lives of the poor while at the same time ensuring financial self-sufficiency.
The first microfinance program established in the USA was ACCION USA, founded in 1991 in New York. Currently ACCION USA is the largest microlender in the USA.
In January 2008 the GB officially established Grameen America, in New York City. An additional branch of Grameen America was established in Omaha, Nebraska (Summer 2009) and in two additional bouroughs of New York (Manhattan and Brooklyn) in January 2010.
The concept of microcredit has been strongly endorsed by both President Bill Clinton and Secretary of State Hillary Clinton; see the remarks of Bill Clinton on behalf of the Microcredit Summit Campaign.
However, in recent years strong new criticisms have been raised against microcredit lending. These criticisms stem from both political and economic considerations. For discussions of these criticisms, see the readings below by Ahmed, Bajaj, Lee and David, and Kristoff.