Microloans Boost Businesses, Communities and Lives

A microloan, typically an advance of under $100 made to an entrepreneur in an impoverished area, has become a more popular way in recent years for people to give, and received a big boost when microlending pioneer Muhammad Yunus won the Nobel Peace Prize in 2006.

Investors and donors had committed a total of $14.8 billion to microlending as of December 2008, according to research organization CGAP, which is housed at the World Bank in Washington, D.C.

Different ways to microlend

There are a variety of ways for individuals to support microlending, through either microloans or donations. You can lend through Web sites including Kiva.org and MicroPlace.org, which is owned by eBay. Or you can donate to organizations that support microlenders, such as Grameen Foundation and ACCION International.

The idea of microlending is to provide funding to a poor person who wants to start a small business in an area where capital isn't easily available. The stereotypical example is an impoverished woman starting a business that enables her to feed and school her children regularly for the first time.

"The popular perception is of small loans being made to poor people who then do some economic activity to better their lives," says David Roodman, a research fellow at the Center for Global Development in Washington, D.C.

But Roodman says it's very difficult to accurately measure the impact of the loans and compare the outcome to how the borrower would have fared without a loan.

Kiva and MircroPlace have been billed as examples of person-to-person lending, and their Web sites include pictures of entrepreneurs whom you can assist. But you aren't lending money to these people directly.

Your money goes to a microlender that lends to the entrepreneurs, and sometimes the entrepreneurs already have their loans by the time you see their pictures on the Web sites. Your loan is repaid after the microlender is repaid.

At Kiva, your $25 loans are returned without interest, and you can donate money to Kiva itself if you want. At MicroPlace, you can choose loans that return 1% to 3%, or 4% to 6%.

Microloans often carry interest rates as high as 30% to 40%, because microlenders need to do the same amount of work on the loans as they would for much larger ones. And that's still a bargain compared to local lenders who charge as much as 300%. The loans generally last for a year or less.

The loans have a 97% repayment rate, according to The Global Development Research Center.

Which organizations to support?

Experts say deciding which organizations to support isn't easy.

"For the average person, they often can't tell," says Keith Weigelt, professor of management at University of Pennsylvania's Wharton School. "Most of these microlending agencies are nongovernmental organizations, so they aren't regulated. I'm sure there are some dishonest representations."

You can always look through an organization's Web site, call them on the phone and see if they pass your sniff test.

Tim Ogden, editor-in-chief of West Chester, Pa.-based Philanthropy Action, on online journal for donors, recommends four steps in looking for the most suitable group.

1. Determine which geographical areas you want to support. For example, ACCION has an emphasis on Latin America and Grameen on South Asia and Africa.
2. Look for client protection mechanisms. Microfinance lenders should be making sure their clients aren't taking loans from multiple organizations.
3. Seek out organizations that are committed to savings programs as part of microfinance. Some organizations will match savings built by lenders. "Evidence points to the fact that people benefit more from savings programs than lending," Ogden says. "You help people not just in finance, but to build their own assets. Eventually they don't need to borrow from others."
4. Look for organizations that provide services to borrowers beyond just lending them money. "If you take an unskilled, illiterate woman, the likelihood that she's equipped to run a profitable business is not high," Ogden says. They can use assistance in business training, literacy, financial education, nutrition and health, he says. "Why not use that (the microfinance institution) to deliver additional services."

Roodman recommends checking how much of your money might end up going to an organization's overhead, noting. "You don't want them channeling all your money to themselves."