Reaching financially excluded populations: How interest rates play a role

As many readers of this blog likely know, Kiva lends zero-interest capital to microfinance institutions (MFIs) all over the world. Perhaps fewer of you know that the majority of those MFIs charge their clients interest on the loans they receive through Kiva - sometimes as high as 35% to 40% in my regions.

I’ll admit, I was disappointed when I learned that peculiar detail of the Kiva model. However, the fact that I’m writing this post should be proof enough that my on-the-ground work with Kiva’s Field Partners has changed me from a skeptic to a believer. Care to know how I got there?

I’ve spent the past 5 months visiting 4 Field Partners in Colombia and Peru. Much of that time has been spent in transit - on buses, in pick-up trucks and on the backs of motorcycles in search of Kiva borrowers. Each meeting with borrowers entails a cost for the Field Partner, both in employee time and transit costs. Consider 2 examples of real meetings I had with borrowers:

In a best case scenario for the Field Partner, the borrower lives close to town and a loan officer transports me there on her motorcycle in less than 5 minutes. She waits while I chat with the borrower for 15 minutes, and then we head back to the office. The loan officer only lost 30 minutes of her day, and gas costs were negligible.

Alternatively, consider a scenario where the borrower lives 2 hours away from the MFI’s office. The loan officer and I stuff our hands in our pockets as we wait wearily for the 3 a.m. bus. We try (and fail) to catch a few extra minutes of sleep during the 2 hour ride. As we pull into town at 5 a.m., the sun has not yet risen.

The borrower we are here to see won’t be awake until 7 a.m., so we head to the only restaurant in town for tea. I fall asleep with my head on the table. When 7 a.m. rolls around, we find the borrower, but keep it quick because he needs to get to work. We chat and snap a few pictures, wrapping up around 7:15 a.m.

As we walk back into town, I’m informed that the bus back to the city isn’t until 3 p.m. That’s almost 8 hours, or an entire workday, from now.

I can’t help but feel sorry for the loan officer. There is no internet and no cell phone service here, so he can’t even work remotely. He’s lost an entire business day to a single borrower visit.

It doesn't help that we get sidelined by a flat tire on the way back to the office.

The Field Partner absorbs all the costs for this very long day. That includes the bus fare to and from the borrower, plus a full day’s pay for the loan officer.

Neither of these examples are “normal.” The time, effort and cost to visit borrowers varies widely based on region, weather, mode of transportation, etc. “Normal” lies somewhere in between these 2 extremes. But imagine the cost of “normal,” and then multiply it by the hundreds or thousands of clients served by these MFIs. Those high interest rates don’t seem so ludicrous anymore, do they?

I haven’t even touched on the effect that defaults can have on interest rates, or the fact that these MFIs need to turn a profit in order to expand their reach. Suffice it to say that serving the underserved, especially in rural areas, is time-consuming and expensive. It’s also hugely impactful, and it’s central to Kiva’s mission: to include those who have been excluded from traditional financial services.

To be clear, I do not mean to blindly defend high interest rates across the board. There are no shortage of predatory organizations in the world whose interest rates are much too high for the market, or who goad their clients into taking out large loans that they can’t possibly pay back. Those organizations don’t get the opportunity to work with Kiva.

My point is that charging interest is, for now, what allows microfinance institutions to continue providing credit to the unbanked. The system may not be perfect, but it’s absolutely better than choosing to do nothing.