Research: Microloans boost risk-coping skills, decrease individual well-being

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WASHINGTON — Small loans, somewhere in the neighborhood of $100 to $500, are an increasingly popular weapon in the fight to reduce poverty.

Called microcredit, institutions dole out these monetary advances to help extremely poor people engage in successful entrepreneurship and improve their quality of life.

Does it really help?

While proponents extol its virtues, researchers look for evidence; they want to know if it works. Does it really increase financial development and help individuals make solid monetary decisions as its supporters claim?

“Microfinance works,” said Dean Karlan, economics professor at Yale University. “But it isn’t the Hollywood ending that we’ve been sold.”

Karlan is coauthor of a recent book, More Than Good Intentions, that also discusses research on this topic. He and Jonathan Zinman, an economics professor at Dartmouth College in Hanover, N.H., recently published the results of a 22-month study that examined how individuals make economic decisions over time and whether micro-lending policies aid economic development.

“Proponents argue microcredit mitigates market failures, spurs microenterprise growth and boosts borrowers’ well-being,” the researchers write in a report.

The National Science Foundation’s Division of Social and Economic Sciences funds the work.

Can cope better

The researchers found “microloans increase ability to cope with risk, strengthen community ties and increase access to informal credit.”

But they also found the subjective well-being of loan awardees slightly declined. In addition, they found awardees reduced their overall number of business activities and those in the study did not increase investment in their businesses.

“Enterprise growth is the canonical story that the microcredit industry promotes,” said Karlan about the amount of financial investment.

“This isn’t to say that microcredit never produces such an impact. But it should not be seen as the singular story. We need to know more about how people actually use their loans, and we should not be judgmental if the answer is not always for investment in enterprise.”

Equal opportunity

“Traditional” microlenders target women who operate small-scale businesses and use group lending mechanisms. But the expansion of microlending means it often ends up looking more like traditional retail or small business lending that has the same impact on women and men.

Optimism, calmness, worry and job satisfaction was about the same for both men and women in the study.

“We do not find any evidence that treatment effects are more pronounced for female borrowers,” the researchers write.

Bottom line

“We do find that microloans increase ability to cope with risk,” they write, “strengthen community ties, and increase access to informal credit. Thus microcredit may work, but through different channels often hypothesized by its proponents.”

Informal credit was loans provided by family members and friends. The researchers found awardees had greater access to these loans once they had been the recipient of a microcredit loan.

“Access to credit lowered the demand for risk mitigation tools elsewhere,” said Karlan.

“We also found a similar result in our earlier South Africa study, in which individuals with access to credit were more able to keep their jobs — more able to absorb some sort of shock, which if they did not absorb would have meant losing their job.”

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