Is Microfinance A Schumpeterian Dead End?

Last month, Lant Pritchett, the invariably instructive scholar of development, had to sit twice through my spiel about the different notions of "development" I employ in my book to evaluate microfinance and my curiosity about extending this analytical thread beyond microfinance. Lant serves on both our Advisory Group, a group of leading academics, and our Board of Directors (ex officio).The thing bothered him. If you've ever seen him in action, you know what I mean, and I mean that in the best way. I had a good but truncated conversation with him during a break in the Board meeting. I'll represent his skepticism, or what I gleaned from it, as well as I can. First, the whole development as freedom riff rubbed him wrong. I think he sees the emphasis on outcomes such as health and education as ends of development as having led to muddy thinking: the Millennium Development Goals, the idea that development can be bought with more aid ($50 for each child in school, say), and the obscuring of the importance of industrialization in reducing poverty. I reply (or replied) by arguing with none of that, but saying that an intervention that is giving millions of people an increment of control over their financial lives is doing something right, not bad by the standards of foreign aid. Perhaps he would say that he holds aid to a higher standard: it is wasting its potential if it does not contribute to economic transformation---industrialization---which promises to not merely ameliorate poverty but reduce it. Of course, accelerating transformation with aid is easier said than done.Lant also disputed my characterization of microfinance as a Schumpeterian success, an example of aid building a thriving, disruptive industry that enriches the institutional fabric of nations. Rather, I think he argued, microfinance should be seen as an unfortunate work-around for the failure of mainstream financial systems to serve the poor. It's like the private water industry in New Delhi that sells water to slumdwellers at far higher prices than the rich pay for piped supply. I said, "So it's a Schumpeterian dead end?" He said, "Yes!" He told a story of visiting a self-help group (an example of a distinctively Indian microfinance) while working for the World Bank. After he and other visitors had finished asking questions of the members, all women, someone asked them if they had questions too. One member asked, "So how do self-help groups work where you come from?" The answer: we don't have them.It's an interesting idea, microfinance as a Schumpeterian dead end. It strikes me that the claim imposes a pretty high burden of evidence though. Economic developments often takes circuitous routes. I recall Jane Jacobs's thumbnail history of Detroit, I think in The Economy of Cities (I can't check my bookshelf because I am travelling). It began as a tiny copper mining town; then moved into flour milling; then, using its accumulated expertise in machinery, boat repair (it being on the shore, connected to America's internal maritime transport network); then boat manufacturer; then, in time, almost inevitably, the hub of the American auto industry. Only when it became a single-industry town, seemingly extraordinarily successful, did it economically stagnate. So the question is, how can you tell with reasonable confidence whether a new industry represents a dead end? Several big financial institutions today---Bank of America, Metropolitan Life, the Prudential (in the U.K. and its namesake in the U.S.)---started by serving the poor, arguably the microfinance institutions of their day. It's not clear to me that work-around-for-deviation-from-the-ideal is a useful criterion for Schumpeterian dead end. Maybe Lant or others can chime in to continue the debate.Update May 21: I just returned from Kenya, where I saw M-PESA, the mobile phone--based money transfer system with 9 million customers. It began as an idea: to use phones as an add-on to microcredit. Thus did a great new business start with a spark from an old one. More to come.