Reimagining Development in Tanzania: A Critical Analysis of Microfinance

Nathan Wood

Natewood831@ucla.edu

December 7th, 2014

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At least 80% of the world’s population lives on less than $10 a day (Shaw, 2013). This

staggering statistic motivates alleviation and development efforts across the world. Most of them

are grounded in a neoliberal logic promoted through Modernization Theorists such as Robert

Solow. While acknowledging the pitfalls of this discourse, this paper takes the same stance

promoting substantial increases in finance through private enterprises to developing nations, in

particular, Tanzania. Tanzania’s government supports neoliberal development, likely driven by

external forces from multilateral institutions such as the IMF and World Bank. Further, its

agricultural economy suffers from inefficient and fragmented markets, as well as a lack of

capital. Microfinance Institutions (MFIs), most of which are non-governmental organizations

(NGOs), are failing to address the core issues and their investment strategies and are not driving

sustained economic growth. In reality, MFIs and other NGOs are restricted by, and subject to,

the state in Tanzania, and have few options for improvement (Mercer, 1999). This paper focuses

its analysis on a development organization called Cheetah Development (CD) in relation to the

existing forms of MFIs in Tanzania and around the world. CD has a unique organizational

structure poising it to stimulate substantial economic and social growth through

Transformational Entrepreneurship enabled by financial innovations created by CD (Schoar,

2010). These innovations, Metafinance and Micro Venture Capital (MVC), have the potential to

replace the faltering NGO system in Tanzania’s neoliberal economy by providing a foundation

on which Transformational Entrepreneurship can thrive due to sufficient capital injections,

market and value chain linkages, and business training.

To understand the potential of CD, a holistic view of the economic climate in Tanzania is

required. In the 1960s and 70s, Tanzania was Africa’s socialist experiment with most economic

activity under state control (Mercer, 1999). However, structural adjustment programs forced by

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the IMF and the World Bank, drove political and economic liberalization in the mid-1980s,

resulting in inflation below 5%, a 15% reduction of public sector employment, and a devaluation

of the currency (Vavrus, 2010). The liberal economic and political climate remains in place

today. However, it has not led to a substantial increase in the quality of life of Tanzanians. In

2012, the average per capita income was merely $570 with about 12 million Tanzanians living in

poverty (World Bank). Further, Tanzania is primarily an agricultural economy with 25% of its

GDP and 75% of its workforce attributable to agriculture; problematically, the agriculture sector

hardly grew from 2012-2013 due to lower commodity prices (World Bank).

The combination of decreasing profitability in and dependence on agriculture poses a

daunting problem to Tanzanian policy makers and individuals. This problem was historically

addressed by NGOs. The political and economic liberalization of Tanzania in the 1980s caused

the number of active NGOs to dramatically increase to replace the former state institutions

(Mercer, 1999) (Figure 1). However, the autonomy of these NGOs is questioned by Mercer. She

asserts that the NGO sector in Tanzania is merely a new mechanism for state control led by

Tanzania’s elites and reminiscent of the former socialist state, and in turn, exacerbates the very

inequalities the NGOs are designed to reduce (1999). Therefore, traditional NGO interventions

cannot meet the growing needs of rural, agriculturally oriented Tanzanians.

The theoretical groundwork of CD rests upon the work of an Indian Nobel Prize winning

economist, Muhammad Yunus, which is known as Microfinance. Microfinance is a micro

lending system theoretically allowing the poorest members of a population access to small

amounts of credit with no collateral guarantee. The lender hedges their risk by providing credit to

groups of mutually supporting individuals which has proven to be very reliable as over 95% of

credit recipients repay their loans (Rosenburg, 20009). Further, some large MFIs are more

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profitable than commercial banks in the most turbulent of times and help ease the economic

shock and smooth consumption when needed (Littlefield, Rosenburg,2004)(Figure 2).

However, many scholars doubt the effectiveness of Microfinance when it comes to

poverty reduction (Elahi, Danopoulos, Hermes, Lensink, Rosenburg, Copstake, Miltin). Most of

the arguments stem from the incentive structure of microfinance. Firstly, MFIs need to return a

profit or continue to be subsidized to stay operational. This may push MFIs to lend to more credit

worthy applicants, which directly removes the poorest of the poor from their target customer

group. As a result, MFIs may reinforce existing inequalities (Hermes, 2007). Secondly, and

ideologically opposite to the first, MFIs have a social responsibility to reduce poverty as

identified in their mission statements. However, to do so they must forgo the formerly described

profit structure while simultaneously eradicating their customer base. Thirdly, the foundational

premise of microfinance rests on two assumptions, the latter of which does not inherently lead to

development. The assumptions are that poverty is endemic to human society and individuals are

naturally entrepreneurial (Elahi, Danopoulos, Yunus, Jolis, 1999). While the former is true,

according to World Systems Theory as defined by Immanuel Wallerstein, the latter statement

needs unpacking (Sheppard, Porter, Faust, Nagar, 2009). Individuals are naturally

entrepreneurial, but MFIs do not offer loans in large enough amounts for their entrepreneurial

activity to lead to substantial economic growth. In reality, MFIs promote Subsistence

Entrepreneurship – small companies with no aspiration to become a global business – as opposed

to Transformational Entrepreneurship – larger, more aspiring companies that generate economic

growth (Schoar, 2010). In summary, MFIs are largely successful in the sense that they help poor

people smooth consumption and develop Subsistence Entrepreneurship businesses, which are

both crucial to increasing living standards. However, MFIs do not lead to immense economic

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growth, may contribute to inequality, and may be unable to stimulate Transformational

Entrepreneurship.

CD’s approach and unique organizational structure addresses man of these issues. CD

USA is incorporated as a non-profit based out of the United States. However, CD Tanzania

(CDT), a subsidiary of CD USA, is a for profit social enterprise based in Tanzania. This

distinction is crucial because it separates CDT from the state, allowing for autonomous decision

making (Armendariz, Morduch, 2005). However, CDT is still subject to the pressures from CD

USA, and by default, international aid donors, such as USAID, that subsidize their efforts

(Roberts, 2014). Fortunately, these pressures are likely to be aligned with CD’s direction because

they share the vision of neoliberal development.

Further, CD’s innovative Metafinance and MVC programs solve many of the problems

experienced within MFIs. Both programs aim to serve “The Missing Middle” – a lack of

financing for Small/Medium Enterprises (SMEs) in developing countries ranging from $5,000 –

$500,000 (CD, 2014) (Figure 3). Loans/Investments of this size are the next progression of

Microfinance and development work (Banerjee, Duflo, 2011). Metafinance refers to the receipt

of notes from Farmer’s groups organized by risk tranches with catalytic first loss capital by CD

(Figure 4). In other words, it is Microfinance that is largely funded by Commercial Loans

without forcing the commercial bank to accept much risk, nor incur the applicant and evaluation

costs. In fact, CD places collateral within the bank on behalf of the farmers in order to receive

the needed funding. This collateral collects interest and is how CD returns a profit on this loan.

Through this channel, the conflicting motivations of Microfinance discussed earlier are

eradicated. CD’s other innovation is MVC and refers to the receipt of equity by CD in exchange

for funding (CD, 2014). CD utilizes their own capital, outside investors from developed

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countries, and local investors to pool capital. CD is the only investor that retains equity in the

company at the end, returning most of the profit to the Tanzanian company (CD, 2014) (Figure

5). Further, by having an equity stake in the company, CD’s executives, who have a successful

entrepreneurial background, are able to directly oversee the company. Further, they provide

advice through the CD Business Incubator which has proven to be effective in Tanzania

(Bjorvtan, Bertil, 2010). Lastly, CD utilizes local universities to provide support for their

companies as well (Figure 6). Both Metafinance and MVC improve the number and success rate

of Transformational Entrepreneurs, enabling them to become drivers of economic growth and

employment for poorer members of society.

Lastly, CD invests in companies/collectives solving value chain inefficiencies. These

companies intentionally, and unintentionally, unify fragmented markets solving the biggest

obstacle to agricultural economic success in developing countries (CD, Lightfoot, 2008)(Figure

7/8). As a result of the CD Incubator, the companies can be easily franchised to solve

inefficiencies in any village. Reservoir is one such company. It is solar food drier which allows

farmers to preserve their crops, over half of which rot in a typical year (CD, 2014). Reservoir

solves an access to markets problem for rural farmers by extending the shelf life of their crop,

either for later sale or consumption, and currently has 24 franchisees operating with at least 3

employees each (CD, 2014). Reservoir is merely one of several high impact companies backed

by CD.

Though CD is young, it is remarkably successful to date. Further, its finance innovations

are theoretically sound and solve the hindrances of MFIs while simultaneously unifying

fragmented markets. Further, the companies CD invests in are Transformational and will

generate jobs for Tanzanians, leading to economic growth in a dwindling agricultural sector.

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This is made possible through a public-private partnership exhibiting a broader shift in

development work (Fowler, 2005). The question facing CD is if its MVC investments will return

enough profits in the long run to prove sustainable. Lastly, it is regrettable that this paper fails to

analyze CD beyond the constraints of Modernization Theory due to space constraints. However,

I am confident that CD would prove beneficial in most theoretical frameworks.

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Figure 1: NGO Growth in Tanzania, 1994

Source :Mercer, Claire. "Reconceptualizing State-Society Relations in Tanzania: Are NGOs 'Making a Difference'?" Area 31.3 (1999): 247-58. JSTOR. Web. 07 Dec. 2014.

Figure 2: Profitability of Microfinance Banks

Source: Littlefield, Elizabeth, and Richard Rosenburg. "Breaking Down the Walls between Microfinance and the Formal Financial System." Finance and Development 41.2 (2004): 38-40. World Bank. Web. 7 Dec. 14.

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Figure 3: The “Missing Middle”. Created by too small of microfinance loans and too large of Venture Capital Loans. Cheetah places its operations in the “Missing Middle”

Source: "Cheetah Development | Teach Fishing." Cheetah Development | Teach Fishing. Cheetah Development, n.d. Web. 07 Dec. 2014. <http://cheetahdevelopment.org/cheetah/pages/teach_fishing.shtml>.

Figure 4: Metafinance Risk Tranches. CD absorbs 10% of the risk, freeing up capital to markets that were previously unreachable. This allows commercial banks to offer large sums of money under the “Senior Debt” Tranche without accepting much risk

Source: "Cheetah Development | Teach Fishing." Cheetah Development | Teach Fishing. Cheetah Development, n.d. Web. 07 Dec. 2014. <http://cheetahdevelopment.org/cheetah/pages/teach_fishing.shtml>.

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Figure 5: Investment structure followed by CD’s MVC

Source: "Cheetah Development | Teach Fishing." Cheetah Development | Teach Fishing. Cheetah Development, n.d. Web. 07 Dec. 2014. <http://cheetahdevelopment.org/cheetah/pages/teach_fishing.shtml>.

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Figure 6: University and CD Relationship

Source: "Cheetah Development | Teach Fishing." Cheetah Development | Teach Fishing. Cheetah Development, n.d. Web. 07 Dec. 2014. <http://cheetahdevelopment.org/cheetah/pages/teach_fishing.shtml>.

Figure 7: Solving Value Chain Inefficiencies with CD backed companies.

Source: "Cheetah Development | Teach Fishing." Cheetah Development | Teach Fishing. Cheetah Development, n.d. Web. 07 Dec. 2014. <http://cheetahdevelopment.org/cheetah/pages/teach_fishing.shtml>.

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Figure 8: Agricultural Value Chain Strengths and Weaknesses in Tanzania

Source: "Cheetah Development | Teach Fishing." Cheetah Development | Teach Fishing. Cheetah Development, n.d. Web. 07 Dec. 2014. <http://cheetahdevelopment.org/cheetah/pages/teach_fishing.shtml>.

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