Microfinance is a third world term. It began there, in Bangladesh, and became spectacularly successful as a means of breaking cycles of poverty and debt in poor communities and enabling people to build their own futures, rather than remain dependent on predatory lenders or well-meaning programmes of help.
In the UK we have poverty. Some people still refuse to accept that we do – no one is starving, they say. True. But there are thousands of children going to bed hungry each night, turning up at school with no breakfast and in torn, over-used clothes. There are communities with high mortality rates, poor health, eating bad food because that’s all they can afford, with higher rates of domestic abuse, alcoholism, depression, drug addiction, worklessness. And all this in one of the wealthiest nations of the world, where we have the resources to change it but choose not to.
The reality is that many people in poor communities don’t want things done for them – they want an opportunity to change things for themselves and are perfectly capable of doing so. Their problem is money. If they have been unemployed for even a relatively short length of time, any savings they had will be gone (our benefits system does not allow anyone to have savings beyond a very small – and inadequate amount) and the levels of benefits are such that most people struggle to survive, certainly if they had commitments before they became unemployed such as mortgages or car loans – and so very quickly acquire a poor credit score. This will rule them out of all mainstream and even less mainstream or Government funders if they seek to raise money to start a business – all these funders require a good credit score and usually money to put in which is assumed to come from the individual’s savings (by now that individual has none) or from friends and family (likely to be in the same community with the same issues). This effectively traps many people who have entrepreneurial skills and aspirations in a cycle of benefits dependence and high cost debt (their only option to cope with crises, or even simply to buy food for their families). Exactly the position of the people in poor communities in the third world for whom microfinance has been transformational.
The current crisis will increase the numbers of people who find themselves in this position. It may, possibly, change the wider public’s perception of people on benefits which is that they are lazy scroungers, content to do nothing and to live off the State with no skills and nothing of value to add. I have even seen this attitude thinly veiled in requirements of well-meaning grant providers, who assume that if people are unemployed, they must lack skills or require training. Treating people as worthless encourages them to believe that they are. Microfinance – offering them a small loan on proper commercial (but ethical) terms to enable them to use their skills and start a business – recognizes their value and enables them to become positive contributors to their communities, which is what they want to be. Starting a business puts them on a pathway (albeit sometimes a slow and difficult one) out of the benefits system, away from the need to resort to predatory lenders, and into an independent income.
SO microfinance has a positive impact on the individuals who take it. There needs to be more studies on the health impacts of it – but there is ample evidence that money worries, debt and unemployment are the cause of depression, anxiety and worse for many people.
Is it a good thing for the wider economy? In the UK, there is only Purple Shoots offering microfinance in its purest form and this is because it is expensive to do and impossible to do profitably (unless very high interest rates are charged). Others have tried it and withdrawn – so can it really work in a developed world context? Our 7 years of operation and our many success stories indicate that the answer is “yes”. Its success depends on relational lending – direct interaction, preferably in person (although recently it has had to be online or on the phone) with each individual borrower – a practice long ago abandoned by banks as too costly. In addition, because borrowers have no funds behind them, there is no fall-back or cushion of funds if something goes wrong or not to plan in the business – this means that default levels are high (although ultimate losses are less high) and this is not something a profit-making business can sustain.
Purple Shoots is a CDFI (Community Development Finance Institute), a member of the Responsible Finance Association. There are around 20 others lending to businesses across the UK, not quite to the client group which is our focus, but still lending to businesses which have been turned down by banks and other funders. Their success is predicated on their local knowledge – they are all embedded in their local communities – and their skill in relational lending. Mostly not-for-profit, they are providing much needed finance in deprived areas across the UK but, like Purple Shoots, are constantly struggling to raise the capital they need to grow and expand what they do to reach more people. In Europe and the US there are many more CDFIs and similar institutions – 1,012 in the US for example – and this is because their Governments have recognized the value of what they do and have followed that recognition with significant financial support which has enabled them to scale. In the US, the Government enacted legislation which compels banks to use some of their profits to support the sector – not a bad idea for here, where bank profits are huge and the requirements of CDFIs tiny by comparison.
The value of this form of finance is not just to the people who receive it. The creation and support of small businesses is critical to our economic success. With 99% of all businesses in the UK being SMEs, accounting for a large proportion of employment and creating wealth in the communities in which they operate (rather than passing it all to shareholders), their contribution to the economy is huge. Their contribution to the Government in the form of taxation is also huge. Using a recognized tool for measuring it, the economic impact of UK CDFIs is between 4 and 10 times the money they lend – this measurement includes taxes generated, benefits saved, money spent in the economy etc. So for Purple Shoots, a small loan of £1000 can have an impact of £10,000 on the wider economy – even if that money was a grant, not a loan, it would be a net gain to HM Treasury, money well spent because it provides a good return. A study done 6 years ago established that for every £1 loaned by a microfinance organization, there was a net gain to HMT of £4.
At present many small businesses are under threat – but with the right support, many can survive. CDFIs are well-placed to be able to offer that support because of their local knowledge and their rigorous methodology and expertise which allows them to lend where others would not, and their focus on deprived areas and excluded populations. But all of them have insufficient funds to meet the growing need. A recent RFA research revealed the scale of the SME financing crisis
- Estimated 650k companies at risk, employing c.1.5 million (City UK, Recapitalisation, Aug 2020)
- 10% of UK SMEs expect to go into liquidation in the next 6 months (McKinsey Survey, Covid-19 & SMEs, Oct 2020)
- Total SME at risk debt from Government support schemes estimated at £10bn to £12bn. (City UK, as above)
- Banks block financing access to small businesses (FT 5th Oct)
- SMEs Loan Costs rising (Bank of England, Credit Conditions Survey, Nov 2020)
- SME Defaults expected to rise (Bank of England, Credit Conditions Survey, Nov 2020)
- Evidence of strong demand for credit amongst SMEs (BOE, Agents survey Q3, 2020)
- Evidence of increased insolvencies and restructuring (BOE, Agents Survey Q3, 2020)
CDFIs like Purple Shoots can be part of the solution but they need capital to meet the rising demand. Purple Shoots can achieve a lot with a little. With £7m over the next 7 years, we could replicate our Welsh model across many parts of the UK, create almost 4000 new businesses and an estimated almost 5000 jobs. Not all this funding needs to come from Government – if they would replace the loan guarantee scheme which we would have had from the European Investment Bank pre-Brexit (now increased to a 90% guarantee in Europe), we could raise private money for our capital needs. Any Government funds given to us would create a significant net gain to HM Treasury. This is a “no-brainer” for many Governments around the world – and we are currently trying to convince our Government to agree. A wider network of properly supported CDFIs around the UK would create a much more just financial landscape, and spread wealth to those who don’t have it.
