In Search of the Global Customer

The success of micro-enterprise sectors is becoming increasingly important to developing economies. So I looked for the perfect ingredients for micro-enterprise in Colombia. All that’s missing are picky, fussy, disgruntled, hard-to-please global customers. (Continued from "How to Build an Entrepreneur".)

The only pieces of the development puzzle that seemed to me to be missing from the stalls of Ciudad Kennedy in Bogotá and the storefront shops of Armenia in Colombia's coffee-growing region were customers differing significantly from the micro-entrepreneurs.

There was no question the merchants and manufacturers I saw could handle the needs of the local markets where they were building their businesses — what I couldn’t see was how they would learn to serve the larger world of customers beyond the neighborhood.

Are all customers really created equal?

And that’s the problem with the vast majority of micro-enterprises — they stay micro. They reduce poverty — surely job number one — but they don’t ignite broader growth.

This is more ironic than it sounds. One of the buried assumptions of standard, neo-classical, equilibrium-based economic development theory is that customers are homogeneous.

What matters — according to a neo-classical explanation of the shockingly different results that poor and rich countries have achieved over the last 50, 100 or 200 years — is their combination of economic inputs. Customer reactions to what the producers in those countries offer don’t matter in the equilibrium model for the reason that they’re all rational consumers.

Suppose some customers are not so rational

But suppose we entertain one small deviation from the buried assumption. Let’s imagine, simplistically, that there are two kinds of customers in the world. One is the rational consumer of economic legend. To be more precise, she is a well-heeled, well-financed and well-informed consumer in a rich, developed country.

The other is less fortunate — short of cash, without credit, nervous and very, very risk-averse. In the case of business consumers among this second group, he may even be willing to take a bribe.

You are what your customer buys

Which kind of customer would you prefer if you want to grow your micro-enterprise into a small business — and from there into a large one and eventually a national corporation or an international contender? It depends on how competitive your business is.

The first kind of consumer is probably better for better businesses. So a micro-enterprise sector lacking access to that kind of consumer may not evolve particularly good businesses that can compete on an international playing field.

While this may be a shocking heresy for mainstream development economists, I suspect most business readers will readily grant that something about customers matters deeply to the results of an economy.

Networks can net bigger fish

The problem is practical — how do you bring the stall-owners of Ciudad Kennedy and shop-owners of Armenia to the world-class customers best able to guide businesses to competitive success?

And if it’s too hard to bring the micro-enterprises of the developing world to the markets of Europe, East Asia and the United States, who might help bring the customers of the world to the micro-enterprises?

The ready-made network of microfinance institutions

The answer, I suspect, is any network of micro-enterprises that understands the opportunity.

In some cases, microfinance institutions will shape or create those networks. It’s not that these little lenders are a kind of skeleton key to all the mysteries of development economics — it’s just that a lot of them are going to be in the right place at the right time.

The reason is that the simplest way to raise the profile of the micro-enterprises of Colombia — and the many emerging markets like Colombia in the world — is to aggregate them. Size matters.

Networks can make their members less risky

Moreover, an established group of micro-enterprises with diverse competences can greatly reduce the risks of a buying agent or procurement officer working for a company that is unfamiliar with the group’s home market.

Such a buying agent always faces a trade-off — whether to stick to tried-and-true suppliers even though they may be expensive or to try to find less expensive emerging market providers who pose larger risks to the completion of a project.

Bangladesh's example

Grouping together ten or 20 micro-enterprises in an emerging market can lower the risk that any one of them will fail to deliver its part of a client’s project. Groups large enough to build reputations will respond to incentives to monitor and help one another.

Call them solidarity groups in recognition of the groups of poor borrowers willing to provide cross guarantees on the loans Nobel-laureate Mohammed Yunus learned he could safely extend to them through his pioneering Grameen Bank of Bangladesh.

Just as Yunus’ solidarity groups of mostly female micro-entrepreneurs enhanced their creditworthiness by guaranteeing one another’s loans and monitoring one another, a solidarity group of more sophisticated micro-enterprises can monitor one another’s progress against contractual requirements for a set of shared clients.

A new life for microfinance

Microfinance institutions could discover a second calling in the organization of these kinds of second-generation solidarity groups. One can imagine finding such groups at some point in the future in every market of the world on websites that spell out their capabilities and even track records.

If microfinance can help bring the world’s customers to their micro-enterprises, they may help solve one of the thorniest development problems we face.

Copyright © 2000-2008 by The Globalist. Reproduction of content on this site without The Globalist's written permission is strictly prohibited.

How to Build a Micro-Entrepreneur

Rapidly rising food prices and a global economic slowdown have exacted an enormous toll on emerging markets — making the success of micro-enterprise sectors employing the working poor all the more important. A walk through the microfinance sector in Colombia suggests that small businesses are stalling because the world’s best customers cannot find them.

Build a better mousetrap,” goes the saying, “and the world will come to you.” So for the last 60 years development economics has tilted at the windmills of poverty by trying to help people build better mousetraps.

Small business stalls

A closer look at how markets actually support micro-entrepreneurs in developing countries today suggests the economists may have got it exactly wrong. The better mousetraps are there — but the customers are not. This article will argue small businesses are not stalling for lack of ingenuity, resources or even technical assistance. It’s because the world’s best customers cannot find them.

To begin, consider some remarkable evidence that markets are supplying just the right resources micro-entrepreneurs need to start to grow small businesses.

Tale of two lenders

Everything felt normal for a microfinance institution in Bogotá, Colombia. Witness the pretty adobe building, the scrubbed courtyard with cars pulling hazardously in and out among the children at play, the guard who pointed his alarming weapon at everyone in the entrance lobby as he nonchalantly picked something from between his teeth — even the contrast between the young loan officers rushing around and the bemused and confused micro-entrepreneurs wondering where to wait. Everything felt normal for a Colombian microfinance institution, that is, until a frumpily dressed woman walked up to me and demanded in German, “Auf wen warten Sie?”

I was at the newest of ProCredit Holding’s worldwide network of microfinance institutions (MFIs), the tiny banks that make micro-loans to the poorest of the poor. ProCredit coordinates its global network from a slick semicircular headquarters in Frankfurt, but the member institutions operate independently with local management.

The case of ProCredit

Opened only six months ago, ProCredit Colombia’s main office was already buzzing with borrowers, credit analysts and finance staff. Sector maps of Bogotá were plastered across the walls. You might have mistaken it for a very busy real estate agency. While the sense of mission at ProCredit Colombia is palpable, the sense of efficient processes and controls is even stronger.

For example, one manager showed me a map with a bright line spiraling from the center out to the edges. That was the walking path one of its loan officers was to take in a new neighborhood for the MFI.

“She’ll knock on the door of every building that might contain a micro-enterprise,” explained the manager. “And the route minimizes the need to pay for public transportation!” This company wants to make sure every last micro-entrepreneur in sprawling Bogotá knows it is ready to make loans. After just six months, its customer list numbers in the thousands.

The land of coffee plantations

Cut to the lush coffee-growing region west of Colombia’s capital. The local capital, Armenia, is a strange mix of tradition and reconstructed modernity. It is enjoying a boom from high coffee prices, a period of relative peace and prosperity across the country and a rapidly developing tourism industry. It’s also recovering from the effects of a series of earthquakes, including a severe one in 1999.

Like many Colombian buildings, the offices of Actuar Quindia surround an open central atrium on two floors. Small and over 20 years old, this quiet microfinance institution seems to have grown organically with the town. Some clients have been with it for a decade.

Government missions

Driven by a strong sense of social mission and his direct experience with the wave of mass displacements dating from Colombia’s 1948 conflicts, Luis Gabriel tells us he puts what time he can spare from his responsibilities as executive director into a series of projects run for government agencies ranging from youth employment camps to skilled craft workshops.

Government contracts fully cover the cost of his projects office. A bevy of admiring female staffers flutters around Luis Gabriel as he dashes from meeting to meeting. Charity never looked so good. It was all a far cry from ProCredit’s buzzing bureaucracy.

The perfect complexity cocktail

It may not seem all that surprising to find two institutions as different as ProCredit Colombia and Actuar Quindia in the same microfinance market. But the diversity is remarkable when you consider that the microfinance sector is scarcely two decades old.

So what kind of market nurtures financial institutions as different from one another as ProCredit in Bogotá and Actuar in Armenia? The answer, I think, is a market that’s responsive to the complex mix of needs of real-life entrepreneurs.

Of course, every micro-enterprise is different — some sell fish, some repair bicycles and some build houses. But this kind of difference among micro-enterprises is not so hard for the market to accommodate. Fish sellers need inventory, repair shops need equipment and construction firms need materials — and you wouldn’t be surprised to see loans meeting all three of those needs on the books of a single bank.

Entrepreneurs need agility...

What makes entrepreneurs’ needs complex, I think, is the delicate mix of stubbornness and flexibility that successful enterprise requires. Overly stubborn entrepreneurs run into trouble, for example, as soon as markets prove more complex than their business models.

Flexibility, therefore, might seem to be an entrepreneurial virtue of unlimited value. But even truly visionary business plans will hit air pockets, and too much flexibility can lead entrepreneurs to abandon great ideas too soon.

...and a little stubbornness

The diversity of microfinance institutions within even relatively small markets like Colombia seems to embrace the delicate mix of stubbornness and flexibility that can give rise to the greatest collective growth.

The pre-fabricated approach of ProCredit to new microfinance markets caters to the micro-entrepreneur’s need for a little stubbornness. ProCredit loan officers not only write up estimated balance sheets and income statements for each little enterprise they encounter — but they also document carefully the entrepreneur’s expectations for every month of operations. Tracking expectations is important for a micro-enterprise because it gives the business plan a little spine.

Good news -- but not according to plan

For example, the reaction of a Pro-Credit loan officer to the empty cutting room of a borrower who manufactures jeans in the teeming Ciudad Kennedy barrio surrounding Bogotá’s central market was telling. Beaming, the relaxed owner told us he had sold out his entire inventory early — and would be happy to pre-pay his loan.

The loan officer smiled nervously — the loan was safe, but things weren’t going according to plan!

Entrepreneurial survivors

The customer relations of Actuar Quindia and its sister institution in nearby Caldas are looser and less formal. One borrower explained he currently was paying off a loan for his fruit and vegetable market. When we happened to ask him how he got to work, he proudly told us: “By taxi.”

“Aren’t taxis expensive?” we asked.

“Not as expensive as the parking lot across the street,” he replied, pointing at the entrance to a crammed lot. “And that’s what I’m doing with my next loan!”

He had taken out five or six loans from Actuar — never, if he’s to be believed, for the same business twice, but every one repaid with bells on.

Betting on the borrower, not the business

The little Actuar microfinance institutions in Colombia’s coffee-growing region seem to encourage something quite different from ProCredit Colombia — flexibility and survival rather than careful planning and the occasional doggedly pursued home run.

Actuar’s customers have been around for a long time, and often a lot longer than the business they’re currently running. Agility is key, which is probably good for making sure most micro-entrepreneur borrowers stay solvent — but not so good for unearthing a few business-idea diamonds encased in the mud of dozens of early setbacks.

Best of both worlds

But suppose you borrow from the likes of both ProCredit Colombia and Actuar Quindia or Actuar Caldas. Might the ProCredit loan officer’s push toward disciplined planning and the Actuar loan officer’s encouragement of market sensing and agility encourage just the right mix of stubbornness and flexibility that makes micro-enterprise sectors bloom?

If this is the entrepreneurial cocktail Colombia’s market is mixing up, it’s worth remembering the recipe — because the country is poised for an economic take-off.

Continued in "In Search of the Global Customer".

Copyright © 2000-2008 by The Globalist. Reproduction of content on this site without The Globalist's written permission is strictly prohibited.

Microfinance and the Food Crisis

Microfinance institutions around the world – the tiny banks that make micro-loans to the developing world’s working poor – face a significant challenge in even the best current global economic scenario. A political tide threatens them that could reverse much of the progress against poverty they have made over the past decade.

The reason is that the twin crises of world food price inflation and the US sub-prime mortgage meltdown may be linked at the hip. And as a result, the developing world’s working poor could well channel their anger toward some of the new links with global capital markets that seemed so beneficial to them until now.

Not only would microfinance institutions be the primary victims of an angry reaction against a financial system that is now delivering unaffordable grain bills alongside credit. In many cases, they are also the only institutions positioned to help productive people avoid calamity as food prices wreck their budgets.

Before looking at the immediate steps these institutions should take, consider why the two crises may be related and why this poses such a threat to microfinance in even the best imaginable scenario.

Twin crises

What joins the two crises at the hip is the possibility – already under discussion in some of the earliest post-mortem analyses – that a general inclination in the US to tolerate inflationary policies after the dot-com bubble burst just shifted that bubble to the housing sector. And the further pursuit of inflationary policies in the US to stave off a countrywide recession in an election year following the bursting of the housing bubble may have broken the few remaining bonds restraining commodity prices in the world’s reserve currency – the US dollar.

In other words, the prices of local bread around the world – whether of a tortilla in Mexico, injera in Ethiopia, or naan in India – may all partially reflect policies pursued by the US government mainly to deal with its own domestic economic and political problems. If people around the world determine this is true, they will attack the financial links that subject them to the vagaries of the US political economy.

Given these risks, a recognition by the US and many developing countries just how intertwined their fates have become would not be a bad thing. Such a realization could drive governments to harmonize their policies – and avoid the worst effects of the twin crises. And yet even this, the best-case, scenario poses risks to microfinance.

Best-case scenario

A best-case scenario for the global economy looks something like this. The US would dismantle the subsidies that have diverted grain from food to ethanol production. It would also balance its national budget to reverse the inflationary thrust of recent deficits.

Many developing countries would respond by letting their currencies rise – at least temporarily – against the dollar. Doing so would break the link that transmits US inflation to their markets. As their currencies rise, they would be able to dismantle barriers they have erected to agricultural trade that are starving people.

Such a rosy scenario, if it came to pass, would be a significant step toward solving deep problems for developing countries. A tide of US grain would reduce food prices – despite Australian drought and the rise in the cost of petroleum-based fertilizers. And it would be even more cost-effective in currencies rising against the dollar. As a result, many developing countries would be able to provide restored levels of staples without export barriers that have infuriated and alienated their farmers at a time when they most need them.

This scenario also starts to solve deep problems for the US The resulting export earnings could start to reverse foreign indebtedness that has shaken global confidence in the US economy. And that would lay a basis for an eventual restoration of dollar exchange rates before inflation becomes endemic and baby boomers retire.

Yet despite all of these positive effects, the scenario poses risks for microfinance. What microfinance institutions must do to manage this best-case scenario may therefore represent the minimum contribution they have to make to deal with global threats.

The microfinance contribution

Even the best-case scenario fails to address one challenge to microfinance – and gives rise to another. First, it cannot address the pain of individual microfinance borrowers hit hardest by the food crisis.

People who work 12 hours a day have seen 40% price rises in food that used to consume 35% of their budget. So instead of having two thirds of their income for everything else, they are down to half.

Second, it involves increased foreign exchange volatility with an initial further drop in the value of the US dollar before a longer-term rise. This matters strongly in a sector where stability in the exchange rate of the dollar has let growing institutions focus on credit risk and liquidity more than currency risk. They must prepare for a foreign exchange environment more like 1998 than the quieter years since then.

The immediate imperative for microfinance institutions is to find creative ways to balance the health of food producers in their portfolios against the distress of food consumers. Institutions that can vary the rates on their loans to these sectors should do so.

And all microfinance institutions – even those in dollarized economies – need to improve their management of foreign exchange risks. They must not take dollar stability for granted when even the best-case scenario implies greater volatility.

The fortunate thing is that many microfinance institutions have the dexterity to adjust the rates on their loans to different borrowing segments and the skill to manage volatile exchange rates.

We must not delude ourselves into thinking they can mitigate the effects of the gathering inflation on their own, however. They will need help from policymakers in developing countries and the US to avoid having to manage a scenario less benign than the best case sketched here.

David Apgar is the author of Relevance: Hitting Your Goals by Knowing What Matters (Jossey-Bass, 2008)