I’ve been a pretty big proponent of microfinance as a highly leveraged, self-sustaining way to help the poor, and one that’s underappreciated because of its lack of photogenicity. (A characteristically approving article from the Economist here.) All the more reason, then, to link to an excellent Volokh Conspiracy post promoting caution. The main point: it’s hard to optimize two things at once.
Microfinance tries to both subsidize lending to people who are very difficult to extend credit to, and subject the charity to market discipline so that people on the ground can fund projects that they believe most likely to improve their lives. But in some areas, an excess of capital has led to laxer attitudes towards piling up debt, and institutions who focus on signing up large numbers of people have the same bad incentives as subprime mortgage lenders – they lose their “market discipline” strength and fail to ensure that the people they’re lending to are the creditworthy ones.
Mostly, it’s simply a hard question of how to balance between ensuring that the aid is well-directed vs. maximizing the volume of aid; of course the tradeoff of too much market discipline is lack of penetration into the really remote poor areas. But bad incentives for the roaming lenders of some institutions are a serious concern.
