Discussion in 'Announcements' started by Julia Kurnia, May 9, 2014.
You may be right. I nevertheless believe allowing lenders to propose the interest rates is worth trying, for a number of reasons:
Even the highest-interest Zidisha loan is far more affordable than most local alternatives. As a result, I expect the majority of applicants would prefer a loan at any rate under the maximum to the prospect of not being funded at all.
The information pages for new applicants now clearly state the maximum interest rate, and the sample repayment schedule with which applicants confirm agreement when posting loan applications assumes that the loan will be funded at the maximum rate. I therefore do not expect that many applicants would decline funded loans because the final interest rate is too high.
When borrowers set maximum interest rates, the rates they set do not usually reflect the maximum they are willing to pay. They simply reflect the reality that many lenders fund loans at the borrowers' proposed rates, such that the proposed rate becomes in practice the main determinant of the price to be paid for the loan. It is therefore in borrowers' interest to propose the lowest rates at which they are confident of being funded, even though they would be willing and able to pay higher rates.
In theory, allowing borrowers to propose the lowest rates at which they are confident of being funded should result in an optimal outcome for everyone. In practice, lack of information about which rates are needed to be confident of receiving funding causes most applicants to miss the mark, proposing rates that are not optimal: either they are higher than what they need to pay, or they are so low that their applications are not funded at all. Following the example of previous applicants has limited value because fluctuating levels of borrower and lender demand at Zidisha makes the optimal interest rate change continuously. Having a system where so many applicants were missing the mark caused delay and wasted opportunity, as applicants struggled to figure out the optimal rates to propose.
In theory, if borrowers proposed rates that were higher than necessary, lenders would simply bid at lower rates. In practice, I think many lenders regarded the offered rate as the "suggested" rate and set their bids accordingly. I have observed many times the same individuals lending at different rates to comparable borrowers, simply because the borrowers were offering different rates. The intent is that, in the absence of interest rate signaling from the applicant, lenders will simply choose a rate they believe to be fair, and this lender-directed rate will often be less than the maximum allowed.
Eliminating the ability to differentiate oneself by offering more interest than other applicants is intended to strengthen the incentive to compete instead on the basis of quality - better profile descriptions and photos, clearer business plans, and meaningful comment dialogue with lenders. One positive effect of the 5% interest rate cap, which we hope to maintain with the current rules, is a noticeable improvement in the non-financial experience at Zidisha. Those who have been following our comment feed will likely have noticed a substantial uptick in meaningful business updates, photo sharing, and responses to lender questions.
As I mentioned previously, none of these intended outcomes are certain to happen. Managing an online marketplace, especially one based on a model as unprecedented as ours, is inherently unpredictable. If allowing lenders to propose interest rates fails to advance our mission of making affordable loans available to more people, we'll explore other options. But we should give this approach a chance before declaring it a success or failure.
My experience, having made over 1600 loans on Zidisha, has been that I have been outbid regularly on loans where I proposed a higher interest rate due to increased risk. This may not be happening as much lately because of the severe imbalance between loan applications and lenders, but when they are in-balance the outbidding does occur. And my loan funds are used to help other borrowers when I get out-bid.
I would further respond to your concern by pointing out three facts:
1. Even at the maximum 15% rate that a lender may set (understanding this is a 20% rate to the borrower), Zidisha's cost of capital is generally far less than others like Kiva partners and,
2. Even at the maximum 15% rate, a lender is still quite unlikely to ever profit due to the high default rate of borrowers in Zidisha so it is not a for-profit enterprise for the lender and,
3. There are other advantages for the borrower to use Zidisha, such as not being required to attend unnecessary classes or be micro-managed by a "Field Partner" as a condition to the loan.
Therefore, I don't think Zidisha is in danger of becoming "just another microfinance organization" as a result of this change. I think Zidisha's long-term viability is more important, and this change seems designed to ensure that viability and keep lenders engaged and lending by allowing us to limit our already-substantial losses.
UPDATE: Here are loans that funded just this week on which I was outbid:
Here is a loan for a borrower with a great repayment history that just funded with less than 5% total interest after being bid down:
@Mike I love that you're very consistent at kickstart of new loans with first dollars.
What worries me is that most new lenders put up very high interest rates in view of 'likely risks', i can name a few. If this attracts more lenders to the platform, its a good thing for fundraising loans. However, I believe low interest goes a long way to humble a borrower to repay promptly. Low interest makes me feel favored therefore moves me to bond with lenders & repay promptly to 'my virtual friends'. High interest kills the personal touch & turns every loan into 'just another legal agreement'. I'll choose to honor it or make you work extra hard to make me honor it. I dont intend to sound negative but setting high interest in a platform guided mostly by mutual trust will likely disappoint in the long run. High interest will eventually require Zidisha to use police help to recover most loans. Most borrowers are in zidisha because of the platform's humanitarian appeal. Financial help with a human face! High interest borrowers will comment less & repay reluctantly. Soon before we realise zidisha' loans will be filled up with lenders' negative comments, VMs posts on reasons for non-repayment & the loan numbers!!! Your @Shehi.
In my next lifetime (i wish to get there fast) as a lender, i'll definately lend on zidisha for the lively comments, life experiences sharing & the feelgood of being of help in a world full of suffering. Amen
Thanks for responding Shehi. I'm always interested to hear the opinions of anyone from the borrower community, even if we sometimes disagree. Please see my specific examples in the edits to my last message. I think that evidence shows that borrowers with a good repayment history are getting a reduced interest rate, even in today's climate of more loans than lenders on the platform with many loans expiring. Therefore, this concern of yours seems to apply only to first-time borrowers or borrowers who have already shown that they will not consistently repay on-time.
For first-time borrowers, the loan amount is usually small and the loan term short. Therefore, even at the higher interest rate the difference in the interest amount we're talking about is very small. First-time borrowers should expect to pay more since they have not established their repayment ethics on the platform yet.
For borrowers with demonstrated history of not repaying as agreed, I would argue that their ability to get funded at all is a testament to the philanthropy of Zidisha and its lenders. Without the philanthropic component, I would never make a loan to someone that I knew was unlikely to repay as agreed, if at all. I think the higher interest rate in such cases is justified, because the borrower was in direct control of that repayment history and should be held responsible for it. The lender rightfully should saddle that borrower with more interest burden than those who repay as agreed, to compensate for the losses the lender is likely to take on the higher risk loan. Additionally, under Zidisha's current policy, a borrower who did not repay as agreed last time should not be taking out a large loan this time. Therefore, the actual amount in interest here should be small in any case because the loan will be small.
I found your comment about the bond between lender and borrower and the "virtual friend" concept very interesting. When I first started here, I thought that would be the case and looked forward to that bond. In practice, however, after more than 1600 loans where many of them were at low or 0% interest, I've found that the low interest loans are even more likely to default than the high interest ones are. I have no idea why, and I agree that this is not as expected.
Finally, since you are in the borrower community, would you please advise me as to what the other microfinance (or traditional finance) options are in your community, and what the interest and fees would be for those avenues by comparison? My own research has indicated that even at the highest 15% (20% inclusive of Zidisha fees) rate, Zidisha is still by far the best rate around without collateral. Therefore, when you say "high interest" I think perhaps it would be more correct to say "higher interest than before" because by comparison, Zidisha's highest rate is still quite low to my knowledge.
@Mike . I agree Z is still the best in low interest rates. In Kenya, we have many microfinance outfits due to rampant unemployment. Therefore need for small business is unimaginable;
www.yehu.org , www.imarika.org
The BOLD lettered are more pronounced in my area. They're offering an average of 25% annual interest rate with group funding.
Thanks Shehi! That confirms what I thought about the interest rate comparison and Zidisha still being the most attractive option. My experience on Kiva with group funding was that it was a better risk for the lender, because the group as a whole was responsible for the entire loan amount regardless of repayment by any one member. So would it be correct to state that if the going rate in Kenya is 25% for a group loan, then for an individual loan the rate would likely be higher than that?
No, the interest will lower or remain the same. However, rules of the game change. More proof of repaying ability is required.
For an individual loan, the applicant will have to provide collateral ( car logbook/land title deed/receipt slip of a machinery/supply tender agreement/bank statements/business records) OR a sound guarantor ( fat payslip/fixed asset ownership).
An individual loan applicant would enjoy even a lower interest (10% t0 16%) if she joins a savings society (SACCO) like;
& save some more or purchase some shares in the SACCO.
Of course some short term individual loans with higher interest (30% t0 40%) exist but I am reluctant to name them due to their negative impact they leave on families that utilise them on needy/emergency situations. They will declare their interest rate as 20% but have hidden charges that raise the cost to so high (loan application fee/loan registration fees/installment collection fee/loan insurance fee/legal fees) They leave them more worse off economically!
My problem with group funding is that it limits the honest borrowers at defaults of dishonesty ones. The group covers the losses of one dishonesty borrower. In Z, everyone has a shot at progressing on credit limit.
Thanks! So it seems like you're confirming that for a non-group loan with no collateral or wealthy guarantor, Zidisha is by far the best option because the only other options cost way too much. That is consistent with what I've found too.
@Mike , I hope you will be outbid here https://www.zidisha.org/microfinance/loan/charlesnderitu/7527.html too. You kickstarted at 15%. Dont you think it will give next lenders a higher risk indicator on his loan?
I'm always happy to be outbid; it means that the system is working. No, I don't think my 15% rate is what makes this a high-risk loan. It's a high-risk loan because it's a new borrower with no past repayment history. That's why I loaned as I did. As a borrower establishes a good history, I loan more and at lower interest on their later loans. My total losses on Zidisha thus far are more than 30% of loaned capital, much of that to new borrowers. Thus, my loan habits have changed over time in response. Why do you feel that a lower rate is warranted in a case like the one you cited?
I've never heard a lender say that they base their interest rate upon what other lenders are offering on a specific loan, though.
Interesting debate, guys. Thanks. For what it's worth, I'm happy to lend to new members requesting up to $150 at 'mid-rate' (8-12%) because such borrowers are strongly motivated to repay in order to access higher credit limits. There have been some exceptions to this, but they form a minority of my loans.
I find it unfortunate for the borrowers. The whole point was to help people out. You might take a loss, but a loss of $20 isn't that bad.
Big loans that pull in $20 in interest, along with five other people who are doing the same, adds up. My donation of $20 seems pitiful when that's the interest the borrower has to pay off to five other people. It's not a system I want to be a part of.
Point on @theshots !
Thanks @Shehi for the information. Group loans have the same potential problem as group work in a class - one person might not do his/her share - although in the case of a loan it might simply be bad circumstances that make a person unable to repay. At the same time, the saving accounts seem useful.
As for lender-proposed interest rates, to some extent it takes away freedom from the borrowers and gives it to the lenders, which is not what I prefer. I like the idea of borrowers setting their own interest rate cap (within reasonable limits) - but I think Zidisha's doing good work and it's hard to please everybody.
@KirstenShute I have a fear with lenders setting the interest. Eventually, zidisha will be a pure investing ground where profits are the most important. The "Comment system" will die, interesting loan updates will seize & crunching numbers will reign supreme. Ain't that what occupies executives in boardrooms of all banks?!
Zidisha is always making changes. I think if it moves too much in that direction Zidisha would rethink this experiment and changes the rules again.
I hope you're right the first time, @Evelyn !
I understand your concern, but trust me, that is NOT going to happen. Even at 10% to 15% interest rates for most loans, I still take heavy losses on Zidisha. It is not possible for lenders to profit here due to the substantial losses that we all take. The interest serves three purposes in my view:
1. To help stem the losses taken by lenders due to non-paying borrowers and,
2. (most important) to properly set the expectations of less experienced business owners (borrowers) that cost of capital is a business expense that must be budgeted for long-term and,
3. That lower interest rates must be EARNED by timely repayment of loan installments due over time.
Zidisha is not, and I don't think can be, a money-making enterprise for anyone.
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