27 November, 2008
A Comparison of Village Banking and Solidarity Lending
by Tamsin Harriman
Two of the most popular micro-finance methodologies are solidarity lending and Village Banking. Solidarity lending is also sometimes referred to as the Grameen methodology, after Grameen Bank, who pioneered the method in the 1970s. The Microfinance Information Exchange (MIX) surveyed 890 active Micro-finance Institutions (MFIs) in 2007. Of those, 519 engaged in solidarity lending (either alone or in combination with individual lending), and 90 engaged in Village Banking. In Thailand, some MFIs using solidarity and individual lending are BAAC, the Government Savings Bank, and Step Ahead MED. Thai MFIs using the Village Banking method are SED and the Common Interest Foundation. The two methods have many similarities, but also some key differences.
In the solidarity lending method, borrowers each belong to a solidarity group, usually consisting of five to eight people. Groups select their own members, but none of them can borrow until they have formed a complete group. The solidarity groups, in turn, are arranged into larger groups (often called centers), typically consisting of five to eight groups. These centers meet regularly - weekly is most common. At center meetings, a representative of the micro-finance institution (MFI) collects repayments, makes loan disbursements, does the accounting, and decides who should and should not receive another loan. Many solidarity lending MFIs focus on credit alone, but some, including Grameen, also provide savings accounts, and occasionally other services such as micro-insurance. In those cases, the MFI administers the savings accounts, etc, and members can make deposits and withdrawals at center meetings.
The purpose of the groups is to utilize social dynamics and peer pressure to avoid the need for collateral. Each member of the group must guarantee the group's other members, and many MFIs have a policy that the group must repay the total amount it owes at each scheduled repayment, even if one or more members is unable to pay (hence the term, solidarity lending). This ensures that each borrower will encourage and assist her fellow group members to repay their loans, since no one wants to pay extra because another can't pay. In addition, borrowers are more likely to repay even without encouragement, since none want to lose face by not paying and having the other borrowers pay for her. In this way, the MFI is ensured of always getting its money back, and thus can make loans without the need for collateral, which the poor cannot provide.
The biggest difference between solidarity lending and Village Banking is that an MFI using the latter method sets up independent Village Banks rather than loaning to individual members itself. The Village Banking methodology also heavily emphasizes savings. At its formation, a Village Bank pools together any savings that its members may already have, and mobilizes those savings to make loans to its members. In many cases, the villagers do not have enough savings to make this possible at first, and so the MFI provides a loan to the Village Bank - not to its members individually. The Village Bank then lends out that money to its members at a slightly higher interest rate. Each member also has a savings account with the Village Bank. The Village Banks are member-owned, so they distribute a proportion of any profit they make from loan interest back to the members, based on how much savings they have and how long they have been saving.
With its use of standard microfinance practices, and the fact that it is member-owned, a Village Bank is like a hybrid of a one-village MFI and a credit cooperative. The MFI's role in Village Banking is to provide training, support, and initial loans (if necessary). The Village Bank selects a president, vice-president, accoutant, and secretary. The MFI then trains them how to operate a Village Bank - usually they teach the solidarity lending method - and how to maintain accounting records. Once training is complete, the MFI only interacts with each Village Bank once per month, to collect repayments on any loans the MFI made to the bank, to provide assistance with accounting, and occasionally to solve problems that the Village Bank cannot solve itself. The ultimate goal of Village Banking is that eventually each Village Bank will become independently profitable and self-sustaining, at which point the MFI will no longer be involved in its operation.
Both solidarity lending and Village Banking have their advantages and drawbacks. As we have discussed here before, an advantage of non-Village Banking methods is that the MFI can make sure that it is effectively targeting the poorest, because it is completely involved in the operations and interacts regularly with borrowers. One advantage of Village Banking, on the other hand, is the independence of the Village Banks, giving borrowers a sense of pride and ownership, and also ensuring that their fate is not attached to the fate of any MFI. So far, MFIs utilizing both methods have made significant progress towards bringing the world's poor out of poverty. It will be interesting to see which method has the best long-term success in the decades to come.
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Two of the most popular micro-finance methodologies are solidarity lending and Village Banking. Solidarity lending is also sometimes referred to as the Grameen methodology, after Grameen Bank, who pioneered the method in the 1970s. The Microfinance Information Exchange (MIX) surveyed 890 active Micro-finance Institutions (MFIs) in 2007. Of those, 519 engaged in solidarity lending (either alone or in combination with individual lending), and 90 engaged in Village Banking. In Thailand, some MFIs using solidarity and individual lending are BAAC, the Government Savings Bank, and Step Ahead MED. Thai MFIs using the Village Banking method are SED and the Common Interest Foundation. The two methods have many similarities, but also some key differences.
In the solidarity lending method, borrowers each belong to a solidarity group, usually consisting of five to eight people. Groups select their own members, but none of them can borrow until they have formed a complete group. The solidarity groups, in turn, are arranged into larger groups (often called centers), typically consisting of five to eight groups. These centers meet regularly - weekly is most common. At center meetings, a representative of the micro-finance institution (MFI) collects repayments, makes loan disbursements, does the accounting, and decides who should and should not receive another loan. Many solidarity lending MFIs focus on credit alone, but some, including Grameen, also provide savings accounts, and occasionally other services such as micro-insurance. In those cases, the MFI administers the savings accounts, etc, and members can make deposits and withdrawals at center meetings.
The purpose of the groups is to utilize social dynamics and peer pressure to avoid the need for collateral. Each member of the group must guarantee the group's other members, and many MFIs have a policy that the group must repay the total amount it owes at each scheduled repayment, even if one or more members is unable to pay (hence the term, solidarity lending). This ensures that each borrower will encourage and assist her fellow group members to repay their loans, since no one wants to pay extra because another can't pay. In addition, borrowers are more likely to repay even without encouragement, since none want to lose face by not paying and having the other borrowers pay for her. In this way, the MFI is ensured of always getting its money back, and thus can make loans without the need for collateral, which the poor cannot provide.
The biggest difference between solidarity lending and Village Banking is that an MFI using the latter method sets up independent Village Banks rather than loaning to individual members itself. The Village Banking methodology also heavily emphasizes savings. At its formation, a Village Bank pools together any savings that its members may already have, and mobilizes those savings to make loans to its members. In many cases, the villagers do not have enough savings to make this possible at first, and so the MFI provides a loan to the Village Bank - not to its members individually. The Village Bank then lends out that money to its members at a slightly higher interest rate. Each member also has a savings account with the Village Bank. The Village Banks are member-owned, so they distribute a proportion of any profit they make from loan interest back to the members, based on how much savings they have and how long they have been saving.
With its use of standard microfinance practices, and the fact that it is member-owned, a Village Bank is like a hybrid of a one-village MFI and a credit cooperative. The MFI's role in Village Banking is to provide training, support, and initial loans (if necessary). The Village Bank selects a president, vice-president, accoutant, and secretary. The MFI then trains them how to operate a Village Bank - usually they teach the solidarity lending method - and how to maintain accounting records. Once training is complete, the MFI only interacts with each Village Bank once per month, to collect repayments on any loans the MFI made to the bank, to provide assistance with accounting, and occasionally to solve problems that the Village Bank cannot solve itself. The ultimate goal of Village Banking is that eventually each Village Bank will become independently profitable and self-sustaining, at which point the MFI will no longer be involved in its operation.
Both solidarity lending and Village Banking have their advantages and drawbacks. As we have discussed here before, an advantage of non-Village Banking methods is that the MFI can make sure that it is effectively targeting the poorest, because it is completely involved in the operations and interacts regularly with borrowers. One advantage of Village Banking, on the other hand, is the independence of the Village Banks, giving borrowers a sense of pride and ownership, and also ensuring that their fate is not attached to the fate of any MFI. So far, MFIs utilizing both methods have made significant progress towards bringing the world's poor out of poverty. It will be interesting to see which method has the best long-term success in the decades to come.
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