“We hand out money” reads an advert for easy credit in Moscow, October 2017. Photo (c): Maxim Blinov / RIA Novosti. All rights reserved.
“Avoid multiple loans. With several loans you are at greater risk of over-indebtedness,” warns the Warsaw-based Microfinance Center in a recent education campaign directed at users of microcredits in Eastern Europe, South Caucasus and Central Asia.
Russia is rarely referred to when discussing modern microfinance, but here the business of old-school moneylenders has thrived for several years. The warning not to take multiple loans could be addressed precisely to clients of Russian payday lenders and loansharks. Companies usually offer loans from 1,000 to 5,000 roubles (£12-£62), and charge 732% per annum. Some of them have loans of tens of thousands of roubles available. With such enormous interest rates, clients of moneylenders often have difficulties repaying these apparently harmless sums. Taking one loan to pay back another or even incurring several loans from different organisations is a common strategy to deal with this. A typical borrower is likely to fall into a debt trap and become insolvent.
The issue of high-risk payday lenders and loansharks emerged in Russia following the 2010 law on microfinance organisations. The law legalised this kind of borrowing, but did restrain interest rate companies are allowed to charge. Many companies could now register as “microfinance organisations”, confusing the public. The law obscured the difference between responsible representatives of the microfinance industry and dubious moneylenders, of which the latter took advantage.
In the wake of Russia’s 2014-2015 economic crisis, Russians are increasingly inclined to take microloans to cover large expenses, or simply to survive until payday
Moneylenders fill a niche in the Russian financial system by lending to clients considered unbankable by standard commercial banks. Many clients of microfinance organisations turn to them after commercial banks refuse to lend. Unbankable individuals are equally the target group of responsible, socially-oriented microfinance organisations. Yet the latter are not only in the minority: they are much less well-known to the public, which means they can’t address the huge demand for microloans in the Russian economy.
Furthermore, organisations prefer to lend to owners of small businesses, including in agriculture — the main target of development-oriented microfinance. In the face of inflation and the fall in real incomes in the wake of Russia’s 2014-2015 economic crisis, however, Russians are increasingly inclined to take microloans to cover large expenses, such as visiting a doctor or paying for surgery, but also mortgage instalments that could not be covered from other sources or expenses for consumer goods. Many clients of microfinance organisations simply need to survive until payday.
Fake and real microfinance
Internationally, the microfinance industry has a remarkably positive reputation as an effective instrument to fight poverty. In Russia, however, this reputation has become abused by dubious business.
For example, the World-Bank-related microfinance organisation Consultative Group to Assist the Poor (CGAP) reported the case of a company called Aktiv Den'gi (Active Money) that pretended to represent the “good” microfinance industry, referring in its advertisements to microfinance inventor Muhammad Yunus. This company offered small consumer credits at supermarkets in provincial Russian towns that were mostly used to finance purchases of consumer goods such as televisions or mobile phones. Some customers used them to cover their everyday expenses, for which their salary was not sufficient. Yet, by doing this, Aktiv Den’gi did not really contribute to development, contrary to what it implied by pointing to Yunus. Moreover, this company charged much higher interest rates (732%) than any reputable microfinance organisation would do. The latter charge 20-30% at most, as far as Russia is concerned.
High-interest loans are particularly strongly promoted among people living on low incomes who are considered unbankable by other organisations
The economist and social entrepreneur Muhammad Yunus from Bangladesh, whose ideas Aktiv Den'gi pretended to represent, pursues in fact a different business model from that of Russian payday lenders and loansharks. In his 2011 New York times article, Yunus criticised microfinance organisations that behave like loansharks, pointing out that microfinance industry emerged to replace the latter. His Grameen Bank was established in the early 1980s to serve the rural poor in Bangladesh. Its goal was to enable the poor to set up micro businesses and to get out of extreme poverty by their own efforts. Initially, the Grameen Bank lent to groups of rural women to make sure that social pressure makes them pay the loan back.
In the early 2000s, following a near insolvency, the bank refocused its activities. From now on, the Grameen Bank lent to individuals, it addressed moderately poor rather than extremely poor, but set up in addition a special lending program for “struggling members”. Those measures improved financial performance of the bank, making it more sustainable and therefore theoretically of greater benefit to the poor. At the same time, in other developing countries microfinance institutions still lend predominantly to groups of rural women and address the extremely poor. Furthermore, an approach called social performance management emerged within the industry to navigate microfinance institutions in their socially oriented lending activities.
Thus, the microfinance business did not yet renounce on its mission to alleviate poverty, instead of just gaining money at the cost of the poor.
Poverty à la russe
Russia differs from other countries where the microfinance industry is established. Particularly in the first 15 years of Russia’s transition to capitalism, the new poor were constituted by representatives of the former Soviet middle class who suddenly were forced to become petty entrepreneurs to make a living. And indeed, microfinance institutions supported by international donors emerged in the 1990s in Russia to serve this very group of the Russian poor. In spite of radical impoverishment those people experienced after the fall of the Soviet Union, their chances of getting out of poverty were still better than those of poor people in developing countries. Besides, they were much more financially literate and better educated so that many of them could become the middle class anew when the Russian economy stabilised.
These microfinance organisations are not only incapable of fighting poverty in Russia, they frequently deteriorate living conditions for people living in poverty
Not all Russian citizens became members of the new middle class, however. Many were left behind. Roughly 22 million people, or 15% of the population, live below the official poverty line. Dubious moneylenders address precisely this vulnerable group in Russian society. High-interest loans are particularly strongly promoted among people living on low incomes who are considered unbankable by other organisations. Most of the clients of those moneylenders live in small towns and use loans to cover unexpected expenditures. Access to those loans is easy: no collateral, guarantee or income proof is needed, which makes borrowers likely to disregard high interest rates payments that they will be exposed to when indebted. Currently about 5-7% of the Russian population is in possession of such infamous microcredits.
Residents of a panel building in suburban Moscow, 2007. Photo CC BY-NC-ND 2.0: Yury Kozyrev / World Bank / Flickr. Some rights reserved.
These microfinance organisations are not only incapable of fighting poverty in Russia, they frequently deteriorate living conditions for people living in poverty. One of the reasons for this is their use of debt collection companies to recover outstanding debts. In their practices, debt collectors resemble mafia structures of the 1990s. They like to symbolically refer to this legacy by using fake Muslim-sounding names that play upon a stereotype of men from former Central Asian republics or Caucasus being particularly brutal when contacting insolvent borrowers and trying to intimidate them.
Their methods range from persistent phone calls and threats to physical assaults. In April 2016, for example, the New York Times reported the case of Natalya Gorbunova who was sexually abused by debt collectors in Siberia. Gorbunova had borrowed initially as little as $75, but her debt grew to around $3,600. These appalling stories demonstrate a clear need for better regulation of the sector and for protection of borrowers' rights.
Unfulfilled demand for loans
Could responsible microfinance institutions replace dubious moneylenders in Russia? Russia is certainly an interesting market for providers of microfinance, since traditional banks are unwilling to lend to a great part of the Russian population. Not only the poor are excluded from access to finance, but so are owners of small businesses. Russian banks consider lending to these people too costly.
Responsible microfinance institutions united in the Russian Microfinance Center (there’s 400 of them for the time being) serve this group of clients, but their efforts are insufficient to cover the needs. Credit consumer cooperatives and agricultural credit consumer cooperatives are numerous (almost 2,500 Russia-wide), but not very well known. Modern providers of microfinance, such as Hamburg-based company Kreditech that uses data from social media to determine whether its clients are credit-worthy (which raises other issues), are opening up the Russian market as well, but there aren’t that many of them.
In the face of a huge unfulfilled demand for loans in Russia, moneylenders will persist — and their clients will continue to borrow unwisely.