Social Collateral

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Social Collateral

• solution to the problems
• 1.How can I get credit if I have no collateral
• 2.How can I grow larger when I cant get a loan
  because my business is too small?
• 3.The success of each store depends on the
  success of every store on Main Street.
• ?

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Social Collateral Approach Peer Group of
Borrowers ? Collateral
Social Collateral approach Traditional
credit approach

• individual finds others to co-sign or guarantee
• banker must screen
• diversification is banker responsibility
• banker monitors borrower for repayment

• small borrowers self-select into group
• information
• diversification
• peer pressure ensures repayment

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Grameen Bank

• Founded by Professor Mohammed Yunus in 1976
• Dr. Yunus is the winner of the 1994 World
  Food Prize
• The largest rural finance institution in
  Bangladesh
• 1,128 branches
• 38,951 villages
• gt2.3 million
• 94 women
• Loan size 7,200T (relative to US income/cap
  3,500)
• Default Rate lt 2
• Interest rate higher than market rate

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Key Features of Group Lending

• 1.PEER PRESSURE
• 2. INFORMATION TRANSFER
• 3. MUTUAL INSURANCE
• 4. COOPERATION

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• PEER PRESSURE
• Joint liability every member of the peer group
  is in default if any member is.
• If peers can/will impose social penalties on each
  other, this adds an additional incentive not to
  default on ones portion.
• gt reduces moral hazard
• reduces the riskiness of the loans
• increases likelihood of obtaining the loan

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• INFORMATION TRANSFER
• Borrowers self-select into groups with people
  they know and trust.
• reduces incidence of adverse selection
• new or low income entrepreneurs more welcome
• increased value of the group loan as an asset (to
  the lender)

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MUTUAL INSURANCEThe group is a safety net
against default and its consequences for each
borrower and the lender. Members effectively
insure each other across project-specific
downside risks.gt Less credit risk.
gtApplications rates rise.gt Loan approval
rates can rise.
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• COOPERATION
• Cooperation allows for bundling of too small
  loans into one reasonable size loan.
• Cooperation coordination to simultaneously open
  the right mix of interdependent businesses.
• enhances lending efficiency
• enhances value of pre-existing collateral
• borrower group is self-diversified

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Peer Group Micro Lending in USA

• Womens Self-Employment 1986 Chicago
• Good Faith Fund 1988 rural Arkansas
• NC Micro-enterprise Loan 1989 North Carolina
• FINCA-USA 1994 HQ WDC

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Grameen ? Micro Lending in USA

• Grameen principle
• bottom-up
• bank is financially self-contained
• group members have prior relationships
• group will impose social sanctions on each other
• borrowers in one group undertake diverse projects
• social collateral mutual insurance

• USA Micro Lending
• top- down
• donations and grants are major source of funds
• group members previously strangers
• members will not impose on each other
• projects not mixed /selected
• 6. group activities are required- to deter
  frivolous borrowers

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LESSONS FROM USA EXPERIENCE

• The overall success of peer group microlending
  programs in the United States and Canada has not
  matched the success of many of the programs
  abroad.
• While the number of such programs in North
  America has increased, many programs have also
  failed and terminated.
• One possible reason for the limited success of
  current programs is that they do not realize the
  advantages of group self-selection, information
  transfer, peer-monitoring, peer pressure, mutual
  insurance and the other benefits from social
  collateral that the Grameen Bank participants
  enjoy.

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Social Collateral solutions to the
problems 1.How can I get credit if I have no
collateral Join a borrower group and offer
social collateral/mutual insurance
instead. 2.How can I grow larger when I cant
get a loan because my business is too small?
Join a borrower group and bundle many members
too small credit needs into one larger
loan. 3.The success of each store depends on the
success of every store on Main Street. Form a
borrower group that promises to simultaneously
open the critical mass of interdependent diverse
local businesses.