Microfinance works! Loans better than fad of just giving poor money

9317040842_5dc5db8e6b_n
International AIDS Vaccine Initiative

The idea is simple, test what is the best way to grow microenterprise in Uganda: straight cash, loans, skills training or a combination of the three.

What happened? The results were, please forgive the overused Upworthy adjective, unexpected.

Just giving people money was not as good as giving them loans. Training combined with the loans did even better, but training alone and loans alone did not help. However the improvements were only in men-run businesses, not women-run ones. Finally, the people who got training and just cash actually witnessed a fall in profits.

Nathan Fiala, of the German Institute for Economic Research, published his paper earlier this month based on his research in Uganda. The just give people cash advocates scored a big win with the stellar results from the recent GiveDirectly study, but microfinance is making a comeback.

“The results suggest that highly motivated and skilled male-owned microenterprises can grow through fi nance, but the current fi nance model does not work for female-owned enterprises,” writes Fiala in the abstract.

A question that researchers still struggle to answer is how microenterprises can make the jump to larger businesses. Fiala hoped that offering a diverse set of financial offerings and trainings, he could understand what tools support business growth. A total of 1,550 Uganda microenterprises from semi-urban locations participated in the study. Most participants were young and women.

Fiala followed up with the groups six months after initiating the study and again three months later. The group of men who got a loan but no training were doing well at the six month benchmark, but regressed back to where they started in the ensuing three months. Men who got loans and training saw profits increase by 54%.

Why did the rest of the interventions fail? And why did women-owned businesses not grow for every intervention? In one word, family.

Women who are married and live close to family tended to do worse than the women who did not receive anything. Fiala hypothesizes that familial pressures lead to spending the money on non-business expenses. He says it is also why just giving cash did not have much of an impact on businesses. Without the need to pay the money back, business owners can spend the money on things that will not help the business, like health, education and food.

It becomes harder for women to invest in their businesses than their male counterparts.

“Family pressure in developing countries has long been a problem for women. Keeping cash in hand is difficult when there is pressure to spend money on school fees, health care and funerals,” concludes Fiala.

The findings are welcome respite for microfinance supporters. The reversal of previously championed research and newer, damning research, has turned people against microfinance. While limited to short term and impact on business, Fiala’s findings show some proof to the importance of loans. Though questions still linger.

“[T]here are many reasons to pause and reflect, not least the fact that so few microfinance interventions show evidence of investment and earnings growth,” blogged Columbia University researcher Chris Blattman. “I am still thinking deeply about the implications.”

Reuters financial blogger Felix Salmon expressed equal caution and optimism about the findings. The fact that the training helped to employ family members may be the most important discovery.

“If you want to help small businesses grow, then there is a case to be made for using loans rather than grants,” wrote Salmon. “But even then, I suspect, the really valuable resource is underutilized labor, rather than cash.”

Share.

About Author

Tom Murphy

Tom Murphy is a New Hampshire-based reporter for Humanosphere. Before joining Humanosphere, Tom founded and edited the aid blog A View From the Cave. His work has appeared in Foreign Policy, the Huffington Post, the Guardian, GlobalPost and Christian Science Monitor. He tweets at @viewfromthecave. Contact him at tmurphy[at]humanosphere.org.