The verdict is in on microfinance

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And it's not pretty. The results from the first large-scale randomized trial of access to microfinance indicate that it comes up short in many areas of human development. 52 of 104 slums in Hyderabad were randomly selected to receive new branches of a microfinance outfit called Spandana. Abhijit Banerjee and the other randomistas from the Poverty Action Lab describe the results in The Miracle of Microfinance? Evidence from a Randomized Evaluation:

...microcredit does have important effects on business outcomes and the composition of household expenditure. Moreover, these effects differ for different households, in a way consistent with the fact that a household wishing to start a new business must pay a fixed cost to do so. Existing business owners appear to use microcredit to expand their businesses: durables spending (i.e. investment) and business profits increase...

...While microcredit succeeds in affecting household expenditure and creating and expanding businesses, it appears to have no discernible effect on education, health, or womens' empowerment. Of course, after a longer time, when the investment impacts (may) have translated into higher total expenditure for more households, it is possible that impacts on education, health, or womens' empowerment would emerge. However, at least in the short-term (within 15-18 months), microcredit does not appear to be a recipe for changing education, health, or womens' decision-making.

I have no doubt these findings will provoke strong reactions in the microfinance community - I expect a deluge of rebuttals. There's one thing that's worth noting right now, though. Unfortunately, this particular trial may not go that far in ending the debate around microfinance.

As the authors note, the impact of microfinance in education, health, etc. may not appear for quite some time. In normal times, we would just wait another year or so and take another survey. However, the financial crisis means these are not normal times. If, in a year or two, a new set of results appears to indicate no impact on human development, the randomistas could claim this as a failure of microfinance. In turn, the microfinance proponents will claim that the financial crisis invalidates the findings, arguing that the ROI for small-scale entrepreneurs was abnormally low due to the crisis. Unfortunately, we'll simply have no way to know for sure who's right.

Update: I wanted to respond to the criticism I've received regarding the the title I used for this post. In fact, I contradict the notion that the "verdict is in" in my own discussion of the findings: "Unfortunately, this particular trial may not go that far in ending the debate around microfinance." I was gently poking fun at the randomistas who authored this study - although they do include provisos, there is a bit of triumphalism in places: "Randomized trials, by deliberately effacing all ex-ante differences between the treated and non-treated group, make it possible to compare like with like and extract the true impact of microcredit." Surely, it will take more than one trial to figure out "the true impact of microcredit" - for the reasons I gave, and the many reasons offered by the smart readers of the PSD blog.

Update II: The Economist has just come out with its own review of The Miracle of Microfinance? Overall, the magazine takes away a positive view from the microfinance study. Money quote:

Tiny loans are unlikely to be enough to allow these businesses to grow to an efficient scale, of course. But the role of microcredit in allowing people to signal their creditworthiness is valuable, especially if their success makes banks more willing to lend them larger sums and leads to even more economic activity. By being willing to take a risk on entrepreneurial sorts who lack any other way to start a business, microcredit may help reduce poverty in the long run, even if its short-run effects are negligible.


Ryan Hahn

Operations Officer

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