In Trust We Trust

| Business |

Grameen Bank, the brainchild of microfinance guru Mohammed Yunus,
lends money to the poorest people in the world. Its 7.5 million clients
are people who not only have no assets and no jobs, but in many cases
they have never even handled money before. Yunus himself describes
these borrowers as "sub sub sub subprime." The loans are based on
nothing more than trust, yet they are paid back an astonishing 98% of
the time, at rates of interest as high as 20%. This is not a charity.
Grameen is a business with a social goal–to eliminate poverty–and it

Grameen Bank, the brainchild of microfinance guru Mohammed Yunus,
lends money to the poorest people in the world. Its 7.5 million clients
are people who not only have no assets and no jobs, but in many cases
they have never even handled money before. Yunus himself describes
these borrowers as "sub sub sub subprime." The loans are based on
nothing more than trust, yet they are paid back an astonishing 98% of
the time, at rates of interest as high as 20%. This is not a charity.
Grameen is a business with a social goal–to eliminate poverty–and it
consistently makes money. The system works because Grameen understands
what motivates its customers, and it wants them to achieve their goals.

It is perhaps one of the world’s great ironies that, even as Yunus
was receiving the 2006 Nobel Peace Prize for finding innovative ways to
extend credit to the traditionally uncreditworthy, American bankers who
claimed they were doing the same thing with creative subprime schemes
were actually laying the groundwork for a global financial crisis. The
numbers are staggering: The bailout currently moving through Congress
earmarks $300 billion (U.S.) to rescue over 500,000 struggling
borrowers and home prices south of the border are expected to fall as
much as 25%. (By the way, Canada’s subprime market was growing at a
rate of 50% a year. Given a bit more time, we easily could have had a
similar blow-up here–we escaped a bigger crisis mostly because we were
slow and lucky.) Irresponsible borrowers, predatory lenders and greedy
investment bankers all played roles in the breakdown of the U.S.
subprime system, but perhaps the key thing that people at every level
forgot was the fundamental premise that sustains an operation like
Grameen’s: that the business of lending ultimately relies on character,
trust and community, none of which can be established unless the banks
spend some time getting to know their customers.

In today’s world of mortgage brokers, ATMs and Internet banking, we
are far more likely to have a personal relationship with our Starbucks
barista than with the person funding the biggest purchase of our lives.
Approving a mortgage once involved sitting down with a loan officer to
discuss our jobs, our families and our goals; now, it is accomplished
with a few clicks of a mouse and the automatic retrieval of our FICO
score. What used to be a personal appraisal of character is now merely
an equation. You are your credit rating; nothing more, nothing less.
This situation is bound to get worse as banks continue to get bigger,
abandon neighbourhoods and generally become more distant from their
customers. (Since 1990, Canadian banks have shuttered more than 2,000
branches across the country, mostly in poor or rural areas, and we have
the most ATMs per capita of any nation.)

The success of Grameen Bank, on the other hand, hinges on being
close to the communities it serves. Bank officers regularly visit
clients to check in with them and collect payments. More importantly,
most of Grameen’s borrowers belong to "lending circles" with other
people in their community. If one person in the circle defaults on a
loan, it puts the borrowing ability of other members at risk. Credit
unions, which are owned by their members, naturally foster a community
attitude: If Joe doesn’t pay back his loan, there might not be enough
money to help Bill remortgage his farm. That sense of solidarity could
help explain why, in the U.S., smaller banks and credit unions saw
fewer defaults than bigger organizations, even when the loans were just
as risky based on the borrowers’ FICO scores. Non-profit housing
enterprises, which have long focused on extending mortgages to risky
clients, see their subprime loans repaid nearly 95% of the time,
compared with less than 80% in the rest of the subprime market. When
Jim Rawson, a manager with Invis, Canada’s largest mortgage broker, is
asked why he thinks non-profits fare better, his answer is clear: "They
actually know who they are lending to." What a concept.

Maintaining a good reputation within a community for repaying one’s
debts has a long and storied history. In the Middle Ages, Italians who
were unable to repay their debts were required to present themselves
nude in public at the "stone of shame." They would bang themselves
against the stone three times while yelling "I declare bankruptcy!"
before being banished from town. In medieval France, the bankrupt were
forced to wear le bonnet vert (the green cap) wherever they
went, and townsfolk were welcome to pelt them with stones. As early as
the 17th century, Dutch writers lamented liberalized lending laws that
no longer demanded public displays of nudity as a prerequisite to being
granted bankruptcy.

No doubt, many subprime lenders now look back on the Middle Ages as
a time of enlightenment. It’s far too easy today to walk away from
debts or even houses, lenders complain. But who’s to blame? As the
example of Grameen shows us, the way that people respond to debt is
highly influenced by their relationship to the person or group that’s
lending them the money. If you treat people as nothing more than a
number, they’re likely to respond in a way that’s just as cold.

J.P. Morgan had this figured out. In 1912, he was called before a
congression-al committee to explain the lending practices of his bank.
The feeling at the time was that commercial loans were being extended
only to a tight cabal of insiders. Morgan denied this, pointing out
that he had lent $1 million to men on more than one occasion, based
solely on their character. When pressed by government lawyers to admit
that all he cared about was assets, the world’s most famous banker
restated emphatically that it was trustworthiness above all else that
mattered to him, "because a man I do not trust could not get money from
me on all the bonds in Christendom." Mohammed Yunus would probably not
use the same words, but the sentiment behind his bank is the same, and
it is something that all of us should keep in mind.