Understanding Context & Trust - Video 7

Summary

The script discusses the concept of microfinance, highlighting its potential to alleviate poverty through community-based lending. It delves into the social and economic challenges faced by rural women globally and how microfinance institutions like Banco Compart in Mexico leverage existing social structures to mitigate issues like adverse selection and moral hazard. The speaker emphasizes the importance of contextual intelligence in harnessing trust within communities to fill institutional gaps, contrasting the approach with tech-driven solutions like escrow systems and the need for adaptability in different settings.

Takeaways

• 🌐 Microfinance is a global phenomenon aimed at providing financial services to the poor, especially women in rural areas, who lack access to traditional banking systems.
• 🏆 Professor Muhammad Yunus from Bangladesh won the Nobel Prize for his work with Grameen Bank, highlighting the impact of microfinance in poverty alleviation.
• 🎯 Yunus' famous quote about putting poverty in the museum reflects the aspirational goal of microfinance, though it has not yet been fully realized.
• 🤔 The script discusses the underlying logic of microfinance, focusing on the social structure and trust within communities as a means to overcome financial barriers.
• 🏦 Traditional banks are often unwilling to lend to individuals without collateral or credit history, leading to high-interest loans and debt traps for the poor.
• 🔍 The adverse selection problem refers to the tendency of good credit risks to secure loans elsewhere, leaving those with less favorable profiles behind.
• 💡 Microfinance addresses the moral hazard problem by using social pressure and collective liability to ensure loan repayments.
• 👥 Groups in microfinance are self-forming and collectively liable, which helps to screen members and maintain trust within the group.
• 👩‍💼 The presence of a microfinance agent who collects weekly payments can create social pressure for repayment, using shame as a motivator.
• 🏘️ Microfinance leverages the pre-existing social fabric in rural communities, where people are known to each other and can police group membership effectively.
• 🌆 The script contrasts the challenges of applying microfinance in urban settings where social structures may not be as established or reliable.

Q & A

What is the concept of microfinance?

Microfinance is a financial service that provides small loans and other financial services to poor individuals or those who would otherwise have no other means of gaining financial services. It is designed to support entrepreneurship and business development in low-income communities.

What is the significance of the Grameen Bank in the context of microfinance?

The Grameen Bank, founded by Professor Muhammad Yunus in Bangladesh, is a pioneer in the microfinance movement. Yunus was awarded the Nobel Prize for his work in microfinance, and the bank is known for its innovative approach to lending to the poor without requiring collateral.

What did Professor Yunus famously say in his Nobel Prize speech about microfinance?

Professor Yunus famously stated in his Nobel Prize speech that microfinance will put poverty in the museum, expressing his belief in the transformative power of microfinance to eradicate poverty.

What are the two main problems that microfinance aims to solve in lending to the poor?

Microfinance aims to solve the 'adverse selection' problem, where conventional banks are reluctant to lend to those without collateral or a credit history, and the 'moral hazard' problem, which refers to the risk that borrowers might engage in riskier behavior once they have taken a loan.

How does microfinance leverage social structures to overcome the challenges of lending to the poor?

Microfinance leverages existing social structures by forming groups of individuals who are collectively liable for the loans. This means that if one member of the group defaults, the others are responsible for repaying the loan, creating a strong incentive for group members to ensure that loans are repaid.

What is the role of the microfinance agent in the process of loan repayment?

The microfinance agent is responsible for collecting weekly payments from the borrowers. They use social pressure and the threat of withholding future loans to ensure that the borrowers repay their debts on time.

Why is the concept of trust important in the context of microfinance?

Trust is important because it allows microfinance institutions to operate effectively in settings where traditional banking infrastructure is lacking. By relying on the pre-existing trust within communities, microfinance can facilitate lending and borrowing without the need for collateral.

What is the difference between the approach of microfinance in rural settings compared to urban settings?

In rural settings, microfinance relies on the close-knit social fabric where people know each other well. In contrast, urban settings often lack this social fabric, making it more challenging for microfinance to operate effectively as there is less community cohesion and trust.

How does the concept of microfinance relate to the idea of contextual intelligence?

Contextual intelligence refers to the ability to understand and adapt to the specific circumstances and environment in which one operates. Microfinance is an example of contextual intelligence in action, as it adapts financial services to the specific needs and social structures of the communities it serves.

What is the potential challenge for microfinance when transferring its model from rural to urban settings?

The challenge lies in the absence of a strong social fabric in urban settings, which is critical for the collective liability model of microfinance. Without a sense of community and mutual trust, it is harder to ensure loan repayment and manage the risks associated with lending to the poor.

How can technology help in the adaptation of microfinance models to different contexts?

Technology can help by providing data on individuals' behavior and habits, which can serve as proxies for creditworthiness in the absence of traditional credit histories. This allows microfinance institutions to assess risk and make lending decisions in diverse contexts, including urban areas.

Outlines

00:00

🌏 Microfinance and Its Socio-Economic Impact

The first paragraph delves into the concept of microfinance, a movement recognized by the Nobel Prize awarded to Professor Muhammad Yunus for his work with Grameen Bank. It discusses the challenges faced by the poor, particularly women in rural areas, who lack access to traditional banking due to the absence of collateral and credit history. The speaker highlights the innovative approach of microfinance in overcoming the adverse selection and moral hazard problems by leveraging existing social structures. The example of Banco Compart in Mexico is given to illustrate how groups of women form collectives to ensure loan repayment, thus fostering financial inclusion and community support.

05:01

🤝 The Role of Social Trust in Microfinance Operations

The second paragraph explores the operational mechanics of microfinance, emphasizing the importance of social trust and community in its success. It describes the process of loan repayment facilitated by a microfinance agent who collects weekly payments and uses social pressure to ensure prompt repayment. The speaker contrasts the microfinance model with the challenges of establishing trust in urban settings, where there is no pre-existing social fabric. The paragraph concludes by reflecting on the importance of context and the adaptation of financial solutions to fit the existing social structures and behaviors, drawing parallels with the strategies used by tech entrepreneurs like Jack Ma.

Keywords

💡Microfinance

Microfinance refers to the practice of providing small loans to low-income individuals or entrepreneurs who lack collateral, credit history, or access to traditional banking services. In the video's context, it's a movement that aims to alleviate poverty by empowering these individuals to start or expand their businesses. The example of Grameen Bank in Bangladesh, which won the Nobel Prize, illustrates the impact of microfinance.

💡Adverse Selection

Adverse selection is an economic term describing a situation where the parties with the most risk are the ones most likely to take certain actions, such as accepting a loan. In the video, it's mentioned as a problem in traditional banking where good credit risks are filtered out, leaving behind those who are less likely to repay loans, thus creating a challenge for microfinance institutions.

💡Moral Hazard

Moral hazard arises when one party has an incentive to alter their behavior in a way that is detrimental to another party, such as taking out a loan and then engaging in riskier behavior knowing they have less to lose. The video discusses how microfinance institutions address this by leveraging social structures to ensure repayment.

💡Collective Liability

Collective liability is a concept where all members of a group are responsible for the actions or debts of one member. In the script, it's used to explain how microfinance groups operate, where if one member fails to repay a loan, the entire group is held accountable, creating a strong incentive for group members to ensure repayment.

💡Social Structure

Social structure refers to the organization of a society or group, including its norms, roles, and relationships. The video emphasizes the importance of leveraging existing social structures in rural communities to facilitate trust and cooperation among microfinance borrowers.

💡Contextual Intelligence

Contextual intelligence is the ability to understand and adapt to the specific circumstances or environments in which one operates. The video discusses the importance of being sensitive to the social and economic context of potential borrowers to effectively implement microfinance programs.

💡Financial Capital

Financial capital refers to funds or assets used in the production of goods and services. In the video, the allocation of financial capital is a central theme, with microfinance as a means to distribute this capital to those who are traditionally underserved by the banking system.

💡Rural Settings

Rural settings are areas that are not urbanized and typically have lower population densities. The script mentions rural settings as common places where microfinance is practiced, highlighting the challenges and opportunities in these areas.

💡Urban Settings

Urban settings are densely populated areas characterized by infrastructure and human-made landscapes. The video contrasts the challenges of implementing microfinance in urban settings with those in rural areas, where social fabrics are less established.

💡Institutional Voids

Institutional voids describe situations where formal institutions, such as banks, are absent or ineffective. The video discusses how microfinance fills these voids by creating alternative structures that rely on social trust and collective responsibility.

💡Trust

Trust is the reliance on the integrity, strength, ability, or surety of a person or thing. In the context of the video, trust is a critical component of microfinance, as it is harnessed from the social context to facilitate financial transactions in the absence of formal banking infrastructure.

Highlights

Microfinance is a movement that has been globally recognized, with Professor Muhammad Yunus from Bangladesh winning the Nobel Prize for Grameen Bank.

Yunus' famous quote about microfinance putting poverty in the museum, highlighting the optimistic spirit of the movement, despite it not being fully realized yet.

The underlying logic of microfinance is to address the issues of adverse selection and moral hazard in lending to the poor.

The innovative approach of microfinance banks like Bankart in Mexico, which leverages existing social structures to overcome institutional voids.

The concept of self-forming groups in microfinance, where members are collectively liable for individual loans, addressing the adverse selection problem.

The role of shame and social pressure in ensuring loan repayment, which helps to mitigate the moral hazard problem.

The importance of context in the success of microfinance, as it relies on pre-existing social fabrics and trust within communities.

The challenge of transferring microfinance models to urban settings where social fabrics are less established.

The comparison between microfinance and online platforms like Alibaba, where trust is built differently based on the context.

The idea that microfinance should be sensitive to the local context and not attempt to recreate the US financial system.

The potential for technology to learn from and apply the principles of microfinance in new and innovative ways.

The discussion of how microfinance can be adapted to different cultural and social settings, such as in Southeast Asia.

The recognition that microfinance is not just about financial transactions but also about building trust and community.

The observation that microfinance can be a powerful tool for poverty alleviation when applied correctly within the right context.

The emphasis on the need for microfinance to be community-driven and not just a top-down financial solution.

The insight that microfinance is a practical application of contextual intelligence, leveraging the social structures and trust within communities.

Transcripts

so Kim let's um go from uh online

Commerce and the tech economy in China

to a setting very far away from it yes

speaking of things that are as old as

the hills phrase that you're now

familiar with

yes thanks to my erudition I know you're

such a such a such a scholar it was

incredible um let's go

to

Sensei I don't know the Japanese word

for student but yes okay um let's go to

um

typically poor women in rural settings

in every country in the world right

we've had this system in Africa in

Southeast Asia and Latin America Central

Asia you come across it everywhere where

people essentially pull their funds

somehow and they share it and they come

together in small communities right so

that's one notion to hold on to your

head and I want to talk about micro

Finance which has

been um which has been a move movement

that uh Professor yunas Muhammad yunas

from Bangladesh from Bangladesh won the

Nobel Prize for gramine bank which he is

rightly rightly lauded for and in his

Nobel Prize speech he famously said said

microf finance will put poverty in the

museum now that's not remotely true yet

but I think the spirit of what he was

saying was that it's an interesting

exercise

and

um what I'd like to focus on is the

underlying logic of that exercise for a

second and I'm going to illustrate it

with work that I did with Bano compart

which is a uh micro Finance Bank in

Mexico um the person who introduced me

to bankart is our colleague Michael Chu

yes and my classmate from HPS Alvaro Ori

who's now teaching here in the

entrepreneurship unit uh they introduced

me to uh Carlos and Carlos the two

Carlos who built the bank uh a long time

ago and the other image that you you'll

typically see when people talk about

microf Finance is a collection of people

mostly women yes um sitting around in a

circle either in an urban setting uh

like like this one uh or in a rural

setting this is a setting from India um

where they are basically engaging in the

process of allocation of financial

Capital but the way this works is that a

conventional Bank um is not going to be

willing to lend to someone on which they

have no information and who has no

collateral because when you have no

collateral if the loan goes bad there's

nothing that you can repossess and so

you're out of luck so they would price

the loan so high as to be effectively

unaffordable therefore poor people have

had to go to Money Lenders and sharks

and so on and they go further and

further into debt this is really a

problem all over the world um the the

genius of microf Finance is that uh so

economists call this the

adverse selection problem and the moral

hazard problem yes uh is worth saying

what these are yeah adver selection just

is that you go you go into a place and

the people who are good credit risks for

whatever set of reasons either they have

identifiable uh markers that certify

them as being educated and skilled uh or

they have property as collateral they

get their credit somewhere yeah the the

people who are left behind are those who

don't have any of this so you're

adversely selecting on an attribute and

bankers don't like that so how do you

solve that problem um and the moral

hazard problem has to do it uh has to do

with the fact that um that you by virtue

of taking the loan you start engaging in

even more risky Behavior got and you

become more of a dead beat cuz you can

go and take another

loan and so how do you resolve these two

problems when the

conventional institutions of information

and contract reliability are missing in

rural

Mexico um and the answer is you free

ride on the social structure that

already exists because in a in a rule

setting people at least know each other

and what they're good for or not exactly

so what you say is that these groups of

women who come together are self forming

yes so they don't admit dead beats yes

right they know that so and so is a good

credit risk yes you say that they are

all collectively liable for each

individual loan I'm simplifying there

many variations of this so in other

words I come and make a loan to uh lady

one uh and by virtue of being part of

this Collective group of women uh she

gets the loan and she's responsible for

paying it back in weekly installments

but if she doesn't pay then everybody

else is collectively Li so everybody has

an incentive to police the membership in

the group appropriately yeah so that

kind of gets around the adverse

selection problem to some some extent uh

the moral hazard problem which is how do

I make sure that she pays back yes is

solved by

shame a person shows up uh into into

into the village setting you can see in

this schematic here that there's a

person sitting there that's the micr

finance agent who's come to collect the

weekly payments and we go around we say

let's say kareim you a woman and I say

kareim it's time for you to Kima you

have to pay up yeah and you

say I I don't I don't have the money

have the money so the mic the the agent

basically says okay no more loans today

yeah right until I'm paid back yes and

the incentive is then created because

lots of other people need the loans yes

they then put pressure on her and her

family to pay up and if that doesn't

work they pay themselves right so again

they have an incentive to solve the

problem that it goes on so that in a

nutshell that's what micr Finance is um

and really what you're saying is that uh

you are not trying to conjure up the

fabric of trust out of nothing but you

should be sensitive to the context this

goes back to the idea of contextual

intelligence you to be sens II to how

people because trust is an old idea and

because people need Trust on a daily

basis you can harness them take that

trust from that particular setting and

apply to fin yeah and apply it apply it

and build small small structures that

amplify that trust in some ways so it's

very different from jackma essentially

introducing escro but it's not that

different from jackma realizing that

bargaining is the way people are

comfortable and so I'll just let them do

that so here the way that they're

comfortable is they know other and they

won't allow dead beats to come anywhere

near them so I'm just going to harness

that skill and use it to fill the

institutional voids and so interesting

so that so that so in the Jack my

example the the trust didn't exist

because you had people from around

China right so they have to do things

their themselves in this case the trust

exists in a different context in the

social context and they're saying let's

use that trust piggyback on that and

then apply it to the financial context

and appro the first that you made of how

do you do this micr Finance thing when

you don't have a pre-existing social

fabric many microf Finance firms have

had

trouble um transferring it to Urban

settings CU in urban settings like if

you live in New York City you may live

in an apartment complex you probably

don't even know anybody you just go in

the elevator and you go straight up your

apartment and there's no fabric being

buil other than through the doormen in

Manhattan right um so it is it is

predicated on the pre-existence of this

yeah you know it's so so interesting to

mention that because other other online

platforms like like a grab and so forth

what they're doing is they're saying

southeast Asia in Southeast Asia and so

forth they're saying like oh I'm seeing

your movement I'm seeing your your

habits in other settings I'm going to

use that to then as a as a proxy so the

idea becomes like what what is available

to me in the particular context and how

do I borrow that in instead of trying to

recreate you know the US system that's a

that's that's a great example because as

technology goes on right progresses we

can uh we can learn so much more and

apply it to to the to the oldest to the

old