By Lalwani, Nishant
Kennedy School Review , Vol. 12
It's a hot Saturday morning in Ahmedabad, India--the last before the monsoons start--and Leeladhar Bhatt Hall is packed with visitors. Hundreds of people have gathered here to attend a two-day customer evaluation session by the Micro Housing Finance Company (MHFC). MHFC has partnered with a builder that is constructing apartments on the outskirts of the city that will sell for as little as US $7,000, and MHFC hopes to provide mortgages to these prospective first-time homebuyers.
Narendrabhai, MHFC's first customer of the day, is a rickshaw driver. He earns between $150 and $200 a month--just $5 to $6 a day--but he has no proof of this income. He has no income tax returns and certainly does not issue himself salary slips. In fact, he does not keep any accounts of his income or expenditure, and while he does have a bank account, he barely uses it. He has about $1,000 of savings and is applying for a loan of $5,000 but has no proof of his current address.
Most housing finance companies would have sent him back out to the street before you could say "bad asset," but MHFC is not one of those companies. MHFC has recognized the critical housing finance need among the urban poor and is attempting to serve it. Although the task is difficult, it is an important one; it holds the potential to change the structure of the mortgage finance industry while also transforming hundreds of millions of lives.
MORTGAGES FOR THE URBAN POOR
At first glance, Narendrabhai may seem like an unusual candidate for a loan. He is similar to hundreds of millions of urban slum dwellers across the world who live above the abject poverty line in that they earn enough to eat and pay for shelter but are still poor and have no feasible way to leave the slum. But he is also a lot like the vast majority of middle-class homeowners who require outside financing to buy their first homes. Narendrabhai has a regular income that will more than cover the cost of his monthly mortgage, and he is ready to make a down payment worth 20 percent of the cost of the total loan. The only identifiable difference between him and his middle-class counterparts is the amount of money on the line. Yet time and time again, banks say yes to middle-income customers and no to people like Narendrabhai.
Peruvian economist Hernando de Soto has argued that securing property rights is a critical and foundational step for poor communities to fight their way out of poverty and get into the mainstream financial and legal systems of their respective nations. Without a legitimate address, it is nearly impossible to have a legal identity or gain access to the vital economic markets that are prerequisites for services like personal credit. It is ironic that those individuals who most need housing finance--the urban poor--are the very citizens who are excluded from mortgage markets, while those who need it least--the rich and upper-middle classes--often secure the lowest interest rates from lenders.
Historically, housing finance companies have been geared toward people with higher incomes. This is in part explained by transaction costs: it is more expensive to issue lots of small loans than a few larger ones. But since processing fees tend to cover these costs, this cannot explain the entire reason behind the high-income skew. A more important reason for why lower-income customers have remained underserved is that a significant proportion of people in this group do not have documentation of their financial income or assets. This documentation is a prerequisite for every conventional mortgage company's loan application process. As the chief managing director of a large Indian bank told me in a research interview, "my staff can only interact with paper, not people."
A NEW WAY OF MAKING LOANS
How does MHFC overcome these barriers?
Ashish Kothari, a loan officer at the company, begins his assessment of Narendrabhai's application by "storyboarding" his life. …