Monday, June 4, 2007

Interest for Kiva Lenders -- why maybe yes, and why maybe not

A topic on Kivafriends that doesn't want to die (which shows its importance), is whether to offer interest rates to lenders or not. And it's a topic that I can't stop pondering about-- I've often said that I support it, but that I prefer the "feel-good" interest-free loans that I give now.

So yet another brain-dump, this time looking at the players in the Kiva value chain and the influence of interest on them.

If you are interested-- get a cup of coffee. This post promises to become a long one :)

Before we start... since I do volunteer work for Kiva, I feel the need to give you this disclaimer:
I do NOT have inside information that gives me more insight in Kiva's finances, objectives, dreams, etc. anymore than any of you have. Some figures are projections that I make based on some research outside of Kiva (e.g., the 500 million microlenders that I mention). I definitely didn't discuss these numbers with Kiva, I have no clue if Kiva agrees and, although I would love for Kiva to comment on this in a public forum, there is no way I represent Kiva's or their employees' point of view. In short: this is my opinion and mine alone, my precious!

Let's take an analytical look at the players that are involved in Kiva's value chain (and this is extendable to other, commercial P2P microfinance value propositions):

The entrepreneur-borrowers
  • Generally poor to very poor
  • Microfinance is the one single shot that allows them to make steps towards better prosperity
  • Generally entrepreneurial, since that is the most common way of earning an income when the formal economy lets them down
  • The problem is not that they have to pay interest, but that the informal "village" lender's rates are exorbitant and the collection methods inhumane
  • Actually, repayment and paying interest gives a commercial character to the loan, a trust that is being extended, with a higher expectation of creating results than a interest-free loan or a gift.
  • As a result, the "moral hazard" should decrease and the probability that the money is used to increase the borrower's wellbeing is increased

The MFIs
  • There are small and large MFIs, for-profit and not-for-profit. Kiva works with all categories
  • Generally, smaller MFIs can better address a local need or an underserved area than a larger MFI. Their policies can be more flexible
  • Sustainability is very important. If the MFI is not self-sustainable, it cannot provide the service that allows the poor to better their living standards
  • Loans come first, education is second. As Mohammed Yunus already concluded, the poor already have the basic skills that is needed to provide a craft or service. What they lack is the means to make it possible. In second instance, the MFI can offer business education to enable the entrepreneur to keep on growing.
  • Only part of the loan money of an MFI comes from Kiva. It would be a bad decision for long-term sustainability to be dependent on a single source of funding
  • Generally, MFIs don't offer cheaper loans to those entrepreneurs that get their money through Kiva. The money that is saved, is invested in expanding the reach and programs of the MFI, or generally to create more sustainability so they can keep on serving the poor
  • Making a profit is NOT bad for the MFI. A reasonable profit (not: highway robbery over the back of the poor) will allow MFIs to be organized for efficiency.
  • Competition among the MFIs in a region is not bad. This will ensure that the interest rates stay reasonable.
  • Large, commercial MFIs profit the same way from Kiva as small, start-up MFIs.
  • Generally the need for microloans on a worldwide basis is about 10x the current availability of these loans.

Kiva
  • Kiva takes money from individual lenders and provides this to MFI, to be credited to a specific entrepreneur.
  • Kiva does not derive their income from direct interest over the loan money charged to the lender or MFI
  • Kiva's main form of income is currently through grants, charity, and voluntary lender contribution. This is a rather uncertain income stream.
  • Kiva's current contribution may be large ($6M in less than a year), however in the large scale of things, it's still only a drop in the bucket. Micro-summit Campaign data from 2006 shows that there are 500 million potential micro-entrepreneurs in the world, that are currently server by 3,300 MFIs.
  • In order for Kiva to make a real difference, it needs to grow drastically
  • Currently, Kiva seems (Ramón projection) to be more restrained on the loan offering than on the money offering: it's a buyer's market.
  • In order to grow to the size that Kiva will be a real world power against poverty, it will need to take on many more MFIs and loans. This will mean that it will need to linearly grow its infrastructure (and therefore, costs) with the amount of money disbursed
  • When Kiva grows to the point that it is this world power against poverty, it will need much more funding for loans than is available now. If they want to reach, say, 10% of the market, and each person wants to borrow $500 (less than current Kiva average), they'd need $25 billion.
  • If the average Kiva lender puts in (complete guesstimate) $100 total, this means we need 250,000,000 lenders. That's $100 by 83% of all the US population, including children. That seems unfeasible.
  • Therefore, to be a powerhouse against poverty, Kiva needs to find another way of funding these loans. Ideas: grants to Kiva that are used for actual loans (and not for operational expenses), or enabling commercial investors (banks, investment community, individual investors) to participate in a for-profit way.
  • Some of the additional benefits of Kiva would be eroded by this: although they probably will be able to compete easily with commercial microfund investment portfolios and mutual funds, some of the benefits for the MFI would decrease: the access to "free" money, where the lack of interest rate allows the MFi to become more stable or offer additional services.

The Kiva lenders
  • Current profile: western, middle to upper-middle-class, socially engaged, looking for emotional returns only
  • Most have more than a single loan (is that true? or do I just see the most vocal tip of the iceberg?)
  • Currently, they make up a small percentage of potential lenders that fall into this category. (There is still a lot of marketing to be done...)
  • They make up even a smaller percentage of the capital pool that would be available if we would also consider "commercial" individual lenders

So-- as you can see, I have intermingled lots of facts with some opinionated conjecture. I really want YOU to take your own conclusion about this.

I will go on lending as I do currently, but the hard question I have to ask myself is this one:
If Kiva would offer a 3% interest rate on my loans, would I continue to budget myself and loan for free as I am doing now, or would I -at once- put a substantial part of my savings against it? Really-- if my return is similar to the one at my savings account, what do I have to lose?

As the above is clearly my own opinion and thoughts, and I in no way hold a "lease on the truth" (Dutch expression), I welcome discussion and dissent. Who dares?

6 comments:

Luke said...

That's a great summary. Kiva's doing great things already, but $6M currently vs a target of $25B ... that's a big difference. I hope Kiva can get close to that target.

What I was wondering was, what about spinning off a separate company (charity) from Kiva, for loans that did offer interest? That way lenders would have a choice: either interest-free loans with Kiva, or interest-bearing loans with the new MFI "interface" ...? Current Kiva lenders wouldn't be affected/bothered, and the new MFI interface might attract new lenders ...

Norm said...

Ramon,

Here's a couple of things I think are important to consider in an analysis like this.

First, a Kiva loan frequently helps more than one person. In some cases it is very apparent, such as the entrepreneur who is seeking to hire more employees, or opening an additional store (I bet the hirees are in need as well), or the loans that actually go to a group of 3 to 5 borrowers where we only get to see the "front person" listed on the loan.

In some cases it is much less apparent. Consider, for example, a loan to a baker to buy raw ingredients so he can offer sweet pastries instead of ordinary bread. Who does he buy the additional flour, yeast, sugar, eggs and milk from? If they are struggling entrepreneurs as well, then when his business takes off, his suppliers may prosper as well.

A Kiva loan is more than simply helping an individual out, it is also a way of jump-starting economies by dropping "seeds" here and there with the hope they will grow, multiply and ultimately benefit an entire community.

Second, when you project that 250,000,000 Kiva lenders are needed to make a real impact, do you really mean lenders or do you mean 250,000,000 loans? An average lender who puts in his $100 and cashes it out at the end of the loan clearly won't have the same impact as one who keeps reusing that $100 over and over to help many borrowers.

I have no idea if I am a typical Kiva lender or not, but here is what I have been doing. I have been a member since Dec. 2006. By simply cutting back on wasteful spending, I manage to put in about $50/month to Kiva loans ($600/yr). I exist quite well on the normal income I receive, so when I get unexpected income (overtime or whatever) I put it into Kiva as well -- a struggling entrepreneur will put it to better use than I will. Since December, I have managed to put $800 into my Kiva portfolio. I project $1200 will be in my portfolio on my one year anniversary, and I intend to keep this up until at least retirement age (20 years from now). At the end of my Kiva "career" (if Kiva is still around), I expect to have $24-$30k in my portfolio, helping struggling entrepreneurs.

I am very curious, if this represented a more typical Kiva lender, and my first point were also taken into consideration, then what would it do to your calculations for Kiva becoming a world power against poverty?

I think Kiva getting to that point is certainly hopeful optimism, but not a far-fetched notion.

Ramon said...

Hi Like and Norm, thanks for your comments. It is useful comments like this that make the discussion going. My intend is to make people think, have them form their own opinion; and if they can do this pivoting around my posts: all the better.

Norm, you actually bring up a number of good points:

- I based my guesstimate on a reverse calculation: starting from the market size, I calculated what it would take for Kiva to do this on their own.
- I took current lending data (i.e., the amount a current lender spends on average at Kiva) and assumed that future lenders will follow the same pattern. You challenge that assumption, and you may very well be right!
- You also expand on the impact that the loans make. I absolutely agree with your assessment there; however, my presumptions were based around the amount of money that is needed to fulfill the need for microfinancing loans-this presumably includes the broader effects of extending micro-credit.
- Actually, I see a different kind of lender emerging on Kiva: group lenders. So in addition to group borrowers, there are group lenders. See this URL for an incomplete overview: http://wiki.kivafriends.org/index.php/List_of_Kiva_Group_Lenders
These lenders will proportionally lend more money than individuals, because they represent groups of individuals. But then again-- I could assume that this pattern is linearly extendable.

As for your method of contribution, we follow a very similar pattern:
- I only lend to Latin American (and Haitian) entrepreneurs. Not that there is anything wrong with the rest of the world, but the family heritage is from there and we decided that we want to make an impact in that part of the world.
- We restrict ourselves to 1 loan per 2 weeks. Sorry, gotta pace it. I also have to save for my kid's college, retirement, and for what I owe the IRS at the end of the year. I can't say that I see any difference in the family budget now we spend $50 a month on Kiva loans...
- In addition, we do apply some criteria to the loan. They are lined out in an older blog entry. We do this so we make sure that the loan will have the highest impact. We don't care if the entrepreneur is poor, but a good business proposition will have preference over a poor one. We also consider housing loans, but not anything that hints towards a personal loan.
- We committed to do this for at least a year, and then reassess the situation.

I'll cut it short here-- thanks again for your thought provoking comments.

Anonymous said...

Here's one way of looking at Kiva. Every year I donate to charity. Lets say its $2000, pretty reasonable for a professional. I hope and encourage most professionals make a similiar contribution.

Kiva is better than donating to a charity because you get your money back, and its more sustainable. The only thing you 'lose' is the interest you would have made in a bank account. Therefore if I were to convert my annual $2,000 charity contribution into Kiva loans, then this means that I could loan out $40,000 in loans. (My lost interest at 5% of $40,000 is only $2,000 a year)

song's webdesign said...

I am glad that I came by to your blog. I get a much better understanding on Kiva loan. "Emotional return" what great term ^^
Good Luck!

Anonymous said...

Launching Globefunder aims to be a "Kiva for profit" paying lenders interest. I recently interviewed the Globefunder CEO Brian Mullally for P2P-Banking.com