Sometimes it does, however, that is not inherent to microfinance but economy in general.
The poor always get poorer in case of trade deficits and inflations. Keynes’ split production in three factors, nature, labor, capital. In general the “poor” have no land, no machines, no money, and low skills, experience and education. Nothing that is valued much in terms to contribution to production and community income. Their main contribution are labor hours.
Once something is less scarce, it is considered relative less valuable. It becomes less scarce by higher availability or less necessity (supply vs. demand).
One factor driving inflation are changes in the conditions of acquiring funding (enter micro-lending). With relative low contribution and income potential, the poor have a low pay-off potential and difficulty attracting funds. Often their loan requests are so small, registering and keeping account of the loan at a bank costs 70% of the nominal loan. P2P Micro-lending can make it easier for the rural poor to attract funds.
Another is introduction of new methods and technology allowing for changes in the mixture of addition of production factors in production. Once a community needs less labor for the same production output (relative to nature and capital) and income, labor is deprecated compared to nature and capital. New technologies allow for a switch from labor-intensive production to capital-intensive production and for the same output, less labor is necessary and unemployment drives up competition on the labor market which also puts the price under pressure.
That is of course all theoretical mumbo-jumbo, let’s make it tangible and talk about the Cash Cow.
The UrZeit Cash-cow
We have a fictional country, UrZeit. UrZeit recently emerging from the Stone Age and has 6666 inhabitants. The average wage in UrZeit is 2 million UrZeit Shillings (USh). As the country is still in the rural phase,there is little demand for their products on the global market, the entire systems output is valued at 800 US$ per capita, and 1 dollar is 2500 USh.
There is no such thing as a fixed “value”, all values are relative to one another and the value system depends on the type of culture. Beauty is in the eye of the beholder. A rural society has a different value set than an industrial or post-industrial services-oriented society.
To put things in perspective, compare UrZeit to the Netherlands : we are in a post-industrial phase and produce services, research, engineering, consultancy, accounting and on average charge 30US$ an hour. GDP per capita is 48000 dollars in the Netherlands.
|Country||GDP Pc U$||own currency||Cow|
If we compare the price of a cow between UrZeit and the Netherlands, a cow in UrZeit costs 12.5% of a years’ wage, in the Netherlands 3.2%. It is the same cow that gives the sae amount of milk, 30 liters per day.
We in the Netherlands are into design and engineering, regulations and rights, accounting, systems development. There is high demand for it on the international business and governmental market. Having a cow does not help much producing high yield services, so we value it relative less than people in a rural pre-industrial society would value it.
UrZeit rural milk production
UrZeit is a rural society, and has 20 farmers who works 1600 hours a year and have 10 cows he milks manually. Together they produce 2.4 million liters milk, so everyone can drink a liter a day. The cow costs 250.000 USh, lasts for 5 years and can produce 30 liters of milk per day, say 12.000 liters a year.
What does the milk cost them ? 12.000 liters of milk cost 200.000 USh for wages (they have 10 cows so they spend 1/10 of 1600 hours at 2 million), and 50.000 for the cow (1/5 of 250.000, they have to buy a new cow at 250.000 every 5 years), a total of 250.000 USh. That sets the price per liter milk at 20.8 USh, 16.7 USh for labor, 4.2 USh for the cow.
250.000 USh, 100 dollars per 120.000 liters, means 0.8 dollarcents per liter. Everything in our terms is dirt-cheap in UrZeit.
UrZeit Industrial Revolution
Let’s assume you can buy a milking machine on eBay, second hand at 50.000 dollars, it will still work for 5 years, and you can milk 200 cows a day with it.
For us 50.000 dollars is roughly 10 years savings (at 90% cost of living, on 50.000 wages a year, it takes 10 years to save 50.000). On 800 dollars sales and income per year a normal UrZeit farmer saves 10%, 80 dollars, and the milking machine at 50.000 equates to 600 year’s savings. Comparable to 3 million dollars for us.
If an UrZeit farmer went to the UrZeit bank to borrow the equivalent of 600 years savings, he’d better present one hell of a business plan. Chances they get the loan at the UrZeit bank are zilch.
But Santa Microfinance is in town, cheers all around, and one farmer can get the 50.000 dollar loan (125 mln USh). We get a combination of easier access to funding, and new technologies in the production process.
The machine lasts for 5 years so that means he has to redeem 10.000 dollars per year from milk sales, 25 million USh per year. Milking 200 cows he can supply 2.4 million liters, enough to cover the entire market demand. He has to cover 11USh per liter of milk, is he going to make it ?
Lets put the old and new situation next to one another, in capacities and in USh.
|machines||125 mln||25 mln||25.000.000|
Our entrepreneur is going to make it !
We can see a milk production cost price reduction by 25% at which he covers all business cost. That means he can take the whole market of 2.4 million liters milk. I’d say that makes it a viable plan, one farm with a milking machine can outcompete every farmer in UrZeit.
For the community, at 2.400.000 liters demand (1 liter per person per day, 6700 people) that bring savings of 13.000.000 USh, 5.200 dollars. They pay 25 mln USh more for the machine, and 38 mln USh less for labor.
However, the 38 mln savings on labor is the problem here.
Not for the borrower and lender, but for the community. They have one farmer at work and 19 others sitting at home. Their cost of living is not covered, unless you pay them welfare or unemployment benefits.
Where you can applaud the community having a farmer buy the milking machine that saves them 13 million and lowers their yearly spend on milk from 7.600 USh to 5.600 USh, the community also incur a 38 million bill for unemployment per year.
The community, including the entrepreneur, spend less inside the community (13 mln) and more outside the community (25 mln) and that gap (partly a trade deficit) is the 38 mln welfare check.
The entrepreneur does not notice because he has his farm and can cover his cost of living and loans, and the milk customers notice they have a 25% price cut on milk (2100 USh/year).
However, later they notice they have an extra 19 unemployed on the welfare line that cost 38 million USh. As usual taxes go up to cover it, 5700 per capita, and in reality they all pay (5700-2100) 3600 more. That is that 25 mln USh a year spent on the eBay second hand milking machine.
After that we get some side-effects, labor is less scarce, on a 6700 population with 55% labor force (3800 people), 19 unemployed means a 0.5% increase in unemployment. With labor less scarce, the price goes down (in wages or labor conditions).
Another effect, the cost of living went up by 3600 USh (0.18%) per year for everyone through taxation. The labor force will ask a raise, which in times of rising unemployment may run into a stiff “no”.
If the laborers do get a raise, the non-working faction (elderly, handicapped, etc. the usual suspects) will have to hope the government increase their welfare and unemployment benefits. Otherwise they can not cover the 3600 USh extra cost and effectively loose spend capacity, even double so because the 50% labor force get higher wages and these increased cost also end up in their corner, 7200 USh, an 0. 36% loss in spend capacity.
Based on the UrZeit Cashcow example, you can state that some forms of micro-lending can make the poor even poorer.
Over here in the wake of the industrial revolution and dawn of capitalism, around 1919, in western europe we made agreements on minimum wage, welfare and linked a social minimum to general price-level (and inflation) to prevent social unrest and allow for development of capital intensive production. In Russia the laborers overthrew the Tzarist regime and proclaimed the communist Soviet Union.