Micro loans on macro scale reap returns. Third world and donors gain from funds to small enterprises

``It's the small producer that's going to save the developing world,'' says Rupert Scofield, with a touch of triumph in his voice. ``It's not government-run industries, not huge and costly public- works projects. The smaller guy is more efficient. We get a higher return when we invest in him. Now we can reach him - and we're going to reach him.'' Mr. Scofield is a leading expert on microenterprise credit, an innovative strategy for third-world development that extends small business loans to people at the very bottom of the world's economic scale.

He sounds triumphant because a bill became law last month, earmarking $50 million of United States foreign-assistance funds specifically for loans of not more than $300 each to the developing world's ``poorest of the poor.''

It's not the $50 million that has many development experts cheering: The amount is only 3 percent of the total nonmilitary aid budget of $6 billion. The law itself is significant, observers say, because it requires the US Agency for International Development (AID) to channel at least a tiny fraction of its foreign-assistance resources directly to the people who most need help.

At an average loan size of $50, that could mean a million small business loans over the next year or two. If allowed to expand, experts predict that this new policy will bring tangible benefits to the entire ``informal sector'' - the vast sea of under-employed and self-employed men and women who are the majority of many countries' populations, and the backbone of many local economies.

Reaching the world's neediest

``Focusing on the poorest means we reach many more people,'' says John Hatch, director of FINCA, an independent agency that already provides microenterprise credit in three Latin American countries. ``If you have a woman with no source of income who gets her hands on $50 and creates an income flow - say, by selling vegetables out of her house - that's the equivalent of 10 or 15 paid work days per month. That's a tremendous increase for her family.''

Scofield is a development consultant to AID and the United Nations Development Program, and a board member of FINCA. He says the traditional development approach has been to ``move as much money as you can as fast as you can.''

``The idea was, the bigger the project, the better,'' Scofield says. ``Large sums are lent to high-level people with political clout, and the understanding is they don't really have to pay it back. They design a project from the top down, and if they make loans to small farmers, they don't ... consult the farmers. The main concern is to find an institution that can move $5 million or $10 million. But the institution fails to move it because it doesn't have [grass-roots] contacts.''

``We feel our approach can be much more effective in its impact on the small farmers and entrepreneurs. And if we can set up national, regional, and village level organizations, we can move as much money just as quickly, with much more positive results.''

Small loans on a macro scale

Some observers, however, remain skeptical, dismayed by the logistical complexity of it all. How do you get a million $50 loans into the hands of Salvadorean street vendors, Ghanaian fishmongers, and Indonesian rice-farmers?

Robert S. McNamara, former president of the World Bank, endorses the principle of microenterprise credit programs, but points out the difficulties involved in implementing them on a massive scale.

``I guarantee you these programs will work,'' said Mr. McNamara in a telephone interview. ``The problem is how to do it. What's really needed is a much larger program to bring both capital - and in some cases technical assistance - to the poor. That requires some structure. Also, it's expensive to lend $50 or $100: the administrative costs are so high. You've got to get this into an institutional format that can extend across nations.''

Microenterprise credit programs of various kinds have existed for about 15 years now, mostly funded by AID, the UN, Scandinavia, and Canada. Such programs have produced impressive results from Costa Rica to Kenya, from Bolivia to Bangladesh.

Often the credit program has been part of a larger development project. Increasingly, development experts are promoting the credit component alone. They frequently describe credit programs as ``self-sustaining,'' citing excellent loan-repayment rates, often higher than 95 percent.

Now that microenterprise credit has become official US government policy, specialists see the coming months as a time to prepare to expand such programs into an institutional format.

``AID officials around the world will be responsible for administering this program,'' says Jeffrey Ashe, director of a study on microenterprise credit commissioned by AID.

``They need to be trained to identify effective projects and encourage them, to pull together experience worldwide, and make links with local banks. A good chunk of the $50 million should go to developing the capacity of local banks and development agencies... .''

Many experts on microenterprise credit do not feel that technical assistance need be an integral part of such programs. But virtually all these credit programs require borrowers to form small ``solidarity'' groups when they apply for loans. Support from such groups helps borrowers increase their productivity, and peer pressure encourages the prompt repayment of loans. Once loans begin to generate profits, groups of borrowers have organized, and paid for, ``technical'' improvements - such as irrigation or transport of produce to market - by themselves. Scofield even foresees the day when groups of borrowers will hire technical experts themselves if they need help with specific projects.

``The most important technical assistance we can give,'' says Ashe, ``is to provide a context where people give each other advice. The largest microenterprise programs provide no technical assistance - businesses prosper without it.''

How do credit programs work?

Credit is channeled to borrowers either through private voluntary organizations (PVOs) in the creditor's country, or through local for-profit banks established for this purpose. Leading banks of this type include the Grameen Bank in Bangladesh (300,000 borrowers), Badan Kredit Kecamatan (BKK) in Indonesia (489,000 borrowers), and Rural Banks of Ghana (30,000 borrowers, 300,000 savers).

``The best projects aren't implemented by PVOs,'' says Ashe. ``The way to reach very large numbers of very poor people is through local banks.''

According to Ashe, BKK's system of village banking ``units'' often consists of ``a box on the back of a motorcycle.''

``The scale of it has been astronomical,'' Ashe says. ``BKK banks have given out 2.7 million loans in thousands of villages. People pay back the money every week. It doesn't even cool off before it goes out again as another loan.'' BKK's repayment rate is about 98 percent, which is not unusual for well-managed programs of this type.

Ashe believes such banking systems work because:

They rely on borrowers' character references, rather than collateral.

They reduce risk by initially making very small loans - $50 or less. The size of loans may subsequently increase, but rarely exceeds $200.

The promise of repeat loans serves as the primary incentive for borrowers to pay off current loans.

The banks have highly decentralized organizational structures. The primary concern of the central office is the performance of the branch offices, where the actual lending takes place.

Loan facilitators, like the motorcycle ``bank tellers'' in Indonesia, are usually local workers hired by the PVO or bank. The facilitators often have backgrounds similar to the borrowers themselves. They are trained to educate people about the benefits of credit, interview prospective clients, aid in the formation of solidarity groups, and manage the accounting aspects of the loan system.

``Programs charge interest rates high enough to cover operating expenses and generate a profit - usually between 10 and 15 percent,'' says Ashe.

Savings are also crucial to microenterprise banking systems, since, in many cases, the borrowers' savings become the main source of funding for the bank. All such programs strongly encourage borrowers to open savings accounts; in some, it is required. FINCA's credit model calls for a village bank of 40 borrowers to be self-supporting in three years, with the initial loan capital paid back and available to start a bank in another village. The Rural Banks of Ghana finances their loans entirely out of local savings.

The microenterprise bill passed by Congress directs AID to encourage commercial banks in developing countries to extend small loans to the poor. A number of banks around the world are beginning to do this, thus disproving long-held assumptions that the poor must be excluded from mainstream business activities because they are bad credit risks. In fact, these borrowers have little trouble paying commercial interest rates, since for them the alternative is usually a money-lender who charges many times the amount a bank charges.

``Evidence worldwide is that the poorer the borrower, the better the pay-back rate,'' says Ashe. ``Many banks are ignoring two-thirds of their potential markets. Microenterprise loan systems can access this vast market and be the most effective single tool promoting development in the third world.''

Third of an occasional series. Previous stories were published Sept. 30 and Oct. 28.