Question

Some people believe that solidarity lending is an important building block of microfinance. a) What does it mean by “solidarity lending” in microfinance? (3 marks) b) “The practice of “solidarity lending” may contribute to a lower default rate for loans” Discuss with not more than 120 words whether you agree it or not. (6 marks) c) Discuss with not more than 120 words that why it may be difficult to develop and extend solidarity lending to some economies. (6 marks)

Answer 1

Solidarity loans are made through' groups of solidarity.' Such classes are a distinctive network of banking delivery that is mainly used to provide poor people with micro-credit. Solidarity borrowing lowers the cost of evaluating, handling and collecting loans to a financial institution and can reduce the need for collateral. Since each loan is provided with a fixed cost, a lender which packages individual loans together and requires a team to handle individual relationships may make substantial savings in operating and management costs.

solidarity in developing countries has been successful but mostly failed in developed countries due to the difficulties in reaching the target market, the high-risk profile of customers, their general dissatisfaction with the joint liability requirement and high overhead costs made solidarity loans unviable without subsidies. however, the legal system offers little, if any, support for poor people's property rights in many developing countries. Secured transaction laws–a cornerstone of Western banking–may also be absent or unenforced. Instead, solidarity loans leverage different types of social capital such as peer pressure, mutual support, and a healthy repayment culture. These features make solidarity lending more useful in rural villages than in urban centers where there are greater mobility and weaker social capital.

Efforts in developing countries to replicate solidarity loans have generally not been successful. For example, an analogous peer lending model was tested by the Calmeadow Foundation at three locations in Canada: rural Nova Scotia and urban Toronto and Vancouver in the 1990s. It concluded that a variety of factors–including difficulties in reaching the target market, clients ' high-risk profile, their overall disappointment with the joint liability requirement, and high overhead costs–made solidarity lending unviable without subsidies. Discussions have continued, however, as to whether the subsidies required can be justified as an alternative to other subsidies targeted at the business poorly. Clearly, solidarity loans have had a positive impact on many borrowers. Without it, many would not have borrowed or had to rely on loan sharks. It was, however, the subject of a lot of criticism. A recent empirical research survey concludes that the search for alternative approaches must continue, highlighting issues such as "borrowers growing frustrated at the cost of attending regular meetings, loan officers refusing to sanction good borrowers in' bad' groups, and constraints imposed by group members ' diverging ambitions."