The Free Market 24, no. 11 (December 2006)
After World War II, American politicians had the idea that Europe could be rebuilt through billions in aid and loans. The Marshall Plan did go through but not without the very vocal opposition of Henry Hazlitt, whose book, Will Dollars Save the World? showed that prosperity comes through saving, capital accumulation, and enterprise—not through floods of money. While the myth survives that Marshall did save Europe, serious studies have shown that the aid was mostly misused and that recovery came only through the means Hazlitt described.
All these years later, the dream of saving troubled countries through floods of money is just as prevalent, if not more so. Foreign aid is as fashionable as ever but now a new institution is similarly greeted with hosannas and ridiculous claims about its amazing power to make everyone rich: microcredit and microbanking.
For this reason, the Nobel Peace Prize given to Muhammad Yunus and his Grameen Bank of Bangladesh was greeted by left, right, and center, and was a glorious moment in the history of mankind. Why? Supposedly Yunus discovered that the poor can be empowered by banks that give them loans so they can start their own businesses, which then gives them an economic boost to become real players in the market economy.
It sounds good at first, but think about it. Yunus opened his operations in 1976. Thirty years have gone by. If he had made an entrepreneurial discovery, might conventional bankers have caught on to it by now? Most loans to the poor take the form of high-interest-rate advances for consumption purposes. Business loans usually require collateral, a credit history, and a moderate income to sustain them. That’s market experience.
It’s still market experience. The Grameen Bank has lived off government subsidies and foundation grants from its very outset, along with some highly coercive tactics for eliciting repayment. His first pile of cash came from the United Nations. Then he went to the Bangladesh government. Then he went to US foundations. In the ’80s and ’90s, the Bank received nearly $150 million in grants. At the same time, he started borrowing at low interest rates from governments around the world, and lending out the same money at higher rates. The institution keeps the difference.
In 2001, the Wall Street Journal’s Daniel Pearl and Michael Phillips revealed that the repayment rate of their loans isn’t anywhere near what the bank claims, that at least one quarter of its loans were being used for consumption, that the bank delays defaults and hides problem loans, that the bank isn’t subject to any kind of serious supervision, public or private. The government owns 6 percent of its assets, while the rest is only superficially owned by borrowers who cannot sell or trade their stock, which isn’t ownership at all.
The bank says it no longer accepts outright grants—the grant money goes to a dozen or so spinoff “enterprises”— but it still borrows low and sells high, and since its books are under wraps and its stockholders are that in name only, we’ll never know for sure.
But this much we do know. The Grameen “foundation” received $1.5 million from Bill and Melinda Gates earlier this year. Meanwhile, George Soros has given some $12 million-plus to all sorts of Grameen spinoffs, including gifts to expand banking in other countries. Since Yunus and Grameen won the prize, many institutions have rushed forward to take credit for the success, by virtue of their vast giving.
The repayment tactics of Yunus are very disturbing. He assembles peer groups to lean on delinquent borrowers, and makes political-mental reconstruction a condition of the loans, which nowadays are taken out in order to repay previous loans and so on. His “Sixteen Decisions” that must be adopted by all borrowers read like a party platform for collectivist regimentation.
- “We shall take part in all social activities collectively.”
- “We shall grow vegetables all the year round. We shall eat plenty of them and sell the surplus.”
- “We shall build and use pitlatrines.”
- “If we come to know of any breach of discipline in any centre, we shall all go there and help restore discipline.”
A very strange “bank” indeed! And why would economists—and sophisticated free-market economists, of all people—fall for the line that more debt can somehow save the world? Vijay Mahajan, the chief of Basix, reports to the Guardian that Grameen’s tactics suffer from five fatal assumptions.
First is the idea that the poor should be self-employed rather than work for wages. That is contrary to the whole history of successful economic development.
Second is the idea that loans are the main financial service needed by the poor, whereas they really need savings and insurance.
Third is the idea that credit is what builds enterprise, whereas the truth is that entrepreneurship and management are more important.
Fourth is the idea that the non-poor don’t need credit, whereas the truth is revealed in market-based banking: higher incomes can handle higher debt.
Fifth is the idea that microcredit institutions can become self-sustaining, whereas all experience shows that new enterprises in poor areas that are built on credit alone rarely emerge from dependency.
What people seem to forget is that receiving credit means you owe something in the future. Hence you must have a viable plan for how you are going to repay. You have to have a business model, some kind of record of success, an income stream, some kind of collateral— something! It is for this reason that credit serves a particular market function. It is an advance made on the anticipation of future earnings. It is not a grant, not welfare, not a means of social reconstruction, and not a tool for lifting a country out of poverty. If you see a bank that claims otherwise, there is a good chance that it is not a real bank but a conduit for social planning.
Grameen will not save Bangladesh. It will not magically produce prosperity. Nor will microbanking, microcredit, or credit of any sort save the world. What Bangladesh needs is a radical economic reform that will sell off its state-owned enterprises, lower trade barriers, deunionize its workforce, and deregulate its economy in general. Then and only then will economic growth take off.
In the meantime, saddling the poor with debt is a pretty shabby plan for how to get from here to there. One might expect that the Nobel Prize Committee would be able to think through this. But apparently they are as vulnerable as anyone else to the oldest economic myth in history. Building wealth, not manufacturing money, is the key to prosperity.
