Fifteen years ago, I was often told I took the fun out of financial innovation. At the time, microfinance (the provision of small-scale loans and savings products to the economically active poor around the world) was in the early stages of commercialization. Many colleagues, bankers and the general public pooh-poohed the concept, viewing it either as merely a rebranded form of charity or a passing fancy that might get a few eclectic investors but unlikely more than that.
I was an analyst and, later, legal counsel to microfinance institutions (MFIs), investors, and governments in developing countries. My focus on the public policy needs and ramifications of what were effectively new financial services for the world’s unbanked was often seen as a wonky reality check on an otherwise half-baked idea.
Then, in November 2007, Muhammad Yunus won the Nobel Peace Prize for his pioneering work with Grameen Bank in Bangladesh. Almost overnight, microfinance heated up, and unprecedented amounts of capital began flowing into MFIs from India to Kenya, Peru, Bosnia and beyond. Investors began to see the economically active poor as bankable, and the power not only to alleviate poverty, but also to empower women (who represent the majority of microfinance clients) and develop emerging economies. They could return a healthy profit and social return as well. When the global financial crisis of 2008 struck, MFIs were largely unscathed, because their success was not tied to synthetic derivatives in London or Hong Kong, but rather hard-working, entrepreneurial individuals striving daily to build good businesses and provide for their families.
MFIs were the darlings of the day. Investors could not get enough of their “impact investment” promise, and before long, capital flows became a flood. MFIs who previously had struggled for growth capital found the new funding irresistible and began loosening their lending criteria and due diligence. Interest rates went from high (which is not inherently bad, so long as rates are appropriately risk-adjusted) to usurious. Loans were made to individuals who lacked financial (and sometimes foundational) literacy, so even a duty or promise to inform was often impossible to fulfill in reality. In many cases there was no effective legal or policy regime to regulate MFIs or protect customers; the rules were outdated, poorly enforced, and failed to account for the role of social capital within MFIs’ communities. Much of the industry that began as an act of generosity, enforced by group social norms, became a payday loan operation to consumers.
What happened next should come as no surprise. As MFIs made more loans while paying lip service to their broader responsibilities, more clients became unable to repay. Those clients faced enormous pressure and had limited alternatives to respond. We saw rashes of MFI client suicides and, periodically, a massive exodus when it became clear an MFI had put financial profits before social mission. High-profile MFIs that went public during this time, including SKS Microfinance in India and Compartamos in Mexico, saw their share prices sink and came under intense public scrutiny.
Five years later, as I began venturing into the (then very nascent) sharing economy—another much buzzed-about economic system—I couldn’t help but draw parallels to what I had experienced in microfinance.
Back then, the sharing economy was a term that usually caused people’s eyes to glaze over. “Oh, you mean like hippies?” “I would never share my car or home with someone; that’s creepy.” “Ownership is the American Dream!”
Needless to say, these skeptics have been soundly disproven through the meteoric growth of sharing economy platforms since then: Airbnb now hosts over one million people every week, bikesharing is the fastest growing form of transportation in the world, and it’s now possible to share everything from desks to dogs, clothing, and kitchen utensils.
We’ve also seen the emergence of a bewildering array of new terms to describe what’s going on: the collaborative economy, on-demand economy, peer production (and a non-trivial amount of “sharewashing.”) Perhaps no term has come to be more popular, or loaded, as the gig economy, which refers to the array of online platforms that now connect freelancers for work that is often short-term or temporary in nature (gigs). Not only is this version of the sharing economy increasingly defining new opportunities for income generation and flexible work; it also is revealing a series of blind spots and spurring debate—not unlike microfinance years ago.
There is no doubt that sharing presents distinct advantages over ownership, and flexible work arrangements are often preferable to fixed schedules. The reasons that people flock to these platforms are many: saving money, earning income in new ways, using resources more efficiently, and—ideally—building stronger community, relationships and social fabric. But just as with microfinance, these upsides are not guaranteed, nor do they exist in a vacuum. We have to look at the bigger picture and unexpected ripple effects.
When a driver who had seen his livelihood nearly decimated in recent years killed himself in front of New York City’s city hall last month, I stopped in my tracks. It was as though I was watching a rerun of a movie I’d watched many times before, albeit on the other side of the earth and within entirely different cultures.
The driver, Doug Schifter, blamed “structural cruelties,” politicians and new policy measures for his dire situation. With no hope and no solution in sight, he wished to bring the challenges of many others like him to the public conscience.
The set of dynamics faced by Mr. Schifter are remarkably similar to those at play in microfinance, when clients began committing suicide rather than face the penalties of loan default. Finally MFIs, investors and policy makers began to see the long-term devastation that lack of appropriate regulations could inflict upon society, and they began to make changes.
Worldwide, we saw new rules addressing financial literacy, transparency of loan terms, national credit and loan registries established to protect against over-indebtedness, and private sector initiatives such as the Smart Campaign and CGAP’s Financial Capability program. These efforts did not solve the problem overnight, but they represented a key first step. They helped clients to make informed decisions about whether to take on a loan, develop repayment (and contingency) plans in advance, and ultimately contribute far more to local economic development.
It is time for platforms and policy makers to take similar steps, both to ensure healthy, responsible economic growth and to mitigate potential downsides. Both carrots and sticks can be effective. A robust foundation for this includes:
- Transparency, literacy and long-term vision: Prevent obvious abuses of power and information asymmetries. With microfinance, financial services regulators eventually clamped down on usury with marked success, which led to greater MFI customer loyalty and superior long-term performance. Gig economy platforms should leverage this kind of thinking to protect against situations such as when drivers lack basic data about their earnings or expenses.
- Integrated support: Mr. Schifter had goals, dreams and responsibilities beyond driving, just as microfinance clients are more than smallholder farmers or market vendors. Platforms, policy makers and other key stakeholders in the gig (and sharing) economy should develop public-private partnerships, onboarding and support services that include workers’ broader needs, from tax planning to budgeting, insurance and access to further education. At a minimum, provide easy access to third parties that can help.
- Living wages: After myriad examples of learning the hard way, MFIs realized that they would ultimately fail if their customers could not afford their services or were forced into hardship as a result of taking a loan. Similarly, today’s platforms must realize that “race to the bottom” price wars will ultimately destroy workers, offend customers, and ruin their brand and goodwill.
- Planning and strategy for more challenges ahead: Small loans were but the beginning of microfinance; later, the advent of mobile banking was even more disruptive, as developing countries leapfrogged brick-and-mortar banks altogether. The gig economy today in some ways sidesteps social safety nets and protections that workers have taken for granted for decades. The trillion-dollar question is how to update policies, systems and norms for a 21st century workforce.
Moving forward, we must pay equal attention to the dynamics of “new economy” business models and their potential blind spots. In particular, flexible platforms for income generation can be incredibly helpful, even transformational, but they must be harnessed responsibly and with appropriate rules—and an eye towards the public good—in place.
Shortly before he took his life, Mr. Schifter said in a Facebook post, “The clues are all about you if you take the time to seek them.” Microfinance today is in a much better, more sustainable (and profitable!) place than it was ten years ago, thanks to a concerted effort by private, public and social sector stakeholders. Now it’s the gig economy’s turn to rise to the occasion. The clues—and solutions—are all around us.