What are the risks?
The main risk is “default risk” - i.e. that the person(s) who you lend to will fail to repay it.
In reality this is far less likely than it may seem:
Microfinance borrowers may be poor but overwhelmingly they are also proud, honest and hardworking people.
Microfinance Institutions (MFIs) have also developed extremely robust strategies to ensure that the money they lend is repaid.
Firstly, most MFIs, including those with which we have links, have a policy of only lending to women - who it is widely recognised are more responsible borrowers and entrepreneurs than men.
Secondly, loans are generally offered for a much shorter period than is generally the case in developed countries - typically either 6 months or a year. Most borrowers will want to come back for more, so it is vital for them to build up a clean credit history.
Thirdly MFI have learnt to introduce or make use of a strong element of community interdependence; When there is not enough capital to go round most borrowers will have to wait their turn - they will only be able to borrow money for themselves once one of their group members has repaid what they owe. In a small, closely knit community the stigma of letting your family, friends and neighbours down acts as an extremely powerful incentive.
Fourthly, by having strong local supervision in Village Banks, any potential problems can be nipped in the bud quickly and, if there are real problems, can be worked on co-operatively - if necessarily by restructuring debts over a longer period in more manageable instalments. In practice default rates in Microfinance are a fraction of the levels we accept as standard in conventional commercial lending in developed economies.
During the 18 month pilot phase of the Electronic Loan Exchange Network, there was not a single default.
It is perhaps only a matter of time before it does happen, but it is important to get this in perspective.
For Example:
If you lend £3,000 this may be split between 10 individuals. IN the unlikely event that one of these borrowers runs off with all the money you lent them you will have lost that £300.
However as long as the other nine borrowers pay up, you will get back £2,700 in capital. Assuming an interest rate of 5%, you will also get a further £135, making a total of £2,835.
So in this case the net loss is only £15 - not the end of the world for most borrowers and a lot less than say a 10% fall in the stock market, which would equate to a paper loss of £300 - ten times as much.
A further risk is the failure of the electronic system itself. However this is no greater than with any other financial services provider and the system has been successfully tested for almost 2 years to date.
