In a previous post, I mentioned that many clients of microfinance pledge real items not just their reputations as collateral on their loans. (Please see “A message from Uganda” for a more in depth discussion of the idea.) A comment was made that asked a few interesting questions. I started to directly reply on the post, but realized that the answers were long and that they might be interesting to others.
(As a side note — those of us who are writing on this Blog love hearing your comments on our postings. Please comment if you are so inspired, especially if you have questions, we would love to write about what you want to know about!)
Before attempting to answer the questions asked, I want to respond to a well-deserved critique that the comment made, which is that the situation that I described is potentially only relevant at Pearl Microfinance Limited where I work. This is totally true.
Kiva Fellows, as people who are trying to understand and evaluate Microfinance as a concept, write about our microfinance institutions and post them on the Kiva Fellows Blog so as to create a group of voices talking about the particulars of our respective institutions. Hopefully, reading this Blog in totality allows people to gain a sense for what Microfinance is like in different countries, and even within the same country at different institutions.
I forget to be careful in my posts to be clear that what I see and observe at Pearl Microfinance may only be the case here. Please consider that stated for the rest of the post.
Ok – on to the questions.
Where does the microfinance institution keep such collateral? I was describing clients who pledge things like sofa sets, cows, goats, and fridges so this is a very relevant question.
(I wish the answer was, “there is a corral in the back of the office where all the animals are kept and a very comfortable lounge with dozens of sofas,” that creates a very amusing visual.)
Pearl Microfinance only seizes the collateral if the client cannot repay. Under these circumstances the client’s bicycle, stove, dish set, stock of chickens, is sold, and the money made off the sale is kept by Pearl. The glitch in this plan is that if clients go into hiding because they are unable to pay, they know that the sale of their possession will be their punishment and thus they run away with all their possessions. This leaves the other thing that they pledged to serve as their collateral – their friends. In the case that the client goes into hiding, the remaining group members are required to pay on behalf of the defaulting client if the defaulting client’s collateral is in hiding as well.
(this is rephrased) Do the items pledged have worth that is actually equal to the loan amount?
This is something that is decided by the credit officers at the time of the loan request. When a group loan is requested a credit officer goes and sits with the members. Each member then comes and sits with the credit officer and tells him/her how much they are requesting and what the items they are pledging are. From there, it is up to the credit officer to determine if the value of the proposed items is enough. My impression from conversations that I have had with credit officers and branch accountants is that the worth of the collateral is usually equal to the amount of the loan. If the borrower defaults and the sale of the items does not cover the outstanding balance than it is up to the group members to cover the balance.
Hope that answers the questions!
I am currently pondering is the extension to all of this – Which is that since the microfinance institution that I work with does group loans primarily, the contracts they sign are essentially with groups rather than individuals. Since Pearl earns 10% interest (or 2.5% monthly) on any given loan, and most groups repay the full amount one way or another, Pearl seems in a position to make quite a bit of money off of their loans. It seems like an ugly, although perhaps necessary, set up for the borrowers. They have to cover all the loss but they receive no gain for the excellent credit rating that most of them as groups have./>