Wednesday, August 26, 2015

Consumer Finance Research: Global Approaches and Methods - Taking On Debt (Part 2) Perspectives from across the Social Sciences

By Erin Taylor and Gawain Lynch

"Handing over the pot of money to the member" (Lucknow, India)
Photo Credit Aiman Raza/IMTFI,
Network Linkages and Money Management
In the previous blog post, we discussed how notions of “good debt” and “bad debt” often rest on assumptions about individuals' moral worth. In part 2, we argue that these assumptions are false. It is more accurate to see debt as a social practice, not an individual one. Looking at debt from this perspective not only changes how we view indebted people, but also how we approach it as a research topic. 

Collective behavior

While we often think of debt as being an individual or household problem, debts are by nature social or even have collective aspects. The people around us heavily influence our financial behaviors, and at times the debts we take on are explicitly a collective undertaking.

For example, social influence may lead to “good” debt, such as when friends and family share valuable financial information that leads to better product choices, or when a personal connection gives someone the confidence to approach a lender.

The anthropologist Caroline Schuster uses the term “social unit of debt” to explore how debts go beyond the individual. In her ethnographic research on microfinance in Paraguay Schuster describes how joint liability loans, in which the entire group is responsible for paying back their debt, uses social relations as collateral in the absence of other viable forms of guarantee.
Photo credit Caroline Schuster
Individuals are incentivized to pay back their share of a loan because failure to do so may jeopardize their connection with the other women in the group. Interestingly, this “social collateral” sometimes extends beyond the group itself. Given that many women have irregular incomes, the membership of a borrowing group may also take into account the incomes of members of a woman's extended family. If an individual woman does not have the money to meet an installment, she may be able to borrow from a family member rather than depend on her group to cover her share.

Community credit ties can provide an important safety net, but they do not provide immunity to “good” debts becoming bad ones. The anthropologist David Stoll, in his research on debt in a Mayan town in Guatemala, unraveled the puzzle of how an entire town became heavily indebted to lending institutions and to each other. Stoll discovered that residents were taking on large debts to send family members illegally to the United States. Many illegal migrants failed to make it across the border, others could not find work, and some who did find work failed to send money back to their indebted families, leaving them saddled with debt.

Stoll's research shows that, in an attempt to repay their debts, residents borrowed from as many sources as they possibly could, and in numerous cases lent their loans on to third parties at high interest rates. Essentially, a collective misunderstanding of risk led to over-indebtedness, and a collective struggle to escape from debt exacerbated the problem. In this scenario, the line between debtors and creditors was blurred because people were lending to each other within the community.

"The money will be used for a daughter's marriage" (Lucknow, India)
Photo Credit Aiman Raza/IMTFI
Network Linkages and Money Management
Experimental psychology and economics are also shedding light on how people in collectives make choices, especially with respect to risk. One of the foundational principles of early microfinance was joint liability , the practice of lending to a group of people rather than to an individual. The rationale of joint liability is that peer pressure leads to higher repayment rates. In many circumstances, this is in fact the case, although joint liability can also suffer from problems of bullying or defection from the group. As a result, microfinance organizations are increasingly turning towards individual liability.

A problem with joint liability that is rarely discussed is that, even in circumstances where it improves repayment rates, it may affect individuals’ financial decisions in negative ways. In the mid-2000s, a group of researchers working for the Financial Access Initiative and Innovations for Poverty Action carried out ten experimental games in an experimental economics laboratory in urban Peru. The researchers wanted to find out why group lending seems to outperform individual lending, given that group lending is vulnerable to free riding and collusion. The team set up a makeshift experimental economics lab in an empty room in a marketplace, figuring that this location would help them to attract participants whose profiles resembled those of microfinance customers.

Over seven months, the team ran games consisting of multiple rounds of borrowing and repayment in which experimental subjects were given “loans” of 100 points. Subjects were asked to invest their points into one of two projects: either a safe project with a certain return of 200 points, or a risky project that paid 600 points with a probability of one half. The researchers compared what happened when subjects were given individual liability and joint liability.

The researchers found that subjects were more likely to make riskier investments when they had joint liability because, in the event that their investment failed, the other members of the group would look after their debt. However, cutting off defaulting borrowers from future loans greatly reduced risk-taking behavior.

The take-away for our understanding of indebtedness is that looking at debt repayment rates in the short term does not necessarily tell us much about whether people are making sound economic decisions for the long term. If consuming debt and sharing in its overlapping obligations is essential for individuals and households, how then should regulators, lenders, and counseling services deal with debt?

Whereas the lab experiments in Peru demonstrate the effects of collective action on individual behavior, Schuster and Stoll's ethnographic studies describe the mechanisms by which collectives operate. These examples show that focusing on individuals’ behavior does not go far enough.

Dealing with debt

If debt is understood as social, how can consumer finance research and policy design approach debt as both individual and collective, in practices of fair lending, financial education, and alleviating problems of over-indebtedness?

Let's take fair lending, for example. What counts as “fair” differs from place to place. In the USA, fair lending might mean not giving mortgages to people who would not be able to pay them back if they were to experience an economic shock (such as job loss) or if the interest rates were to rise. Obtaining the information necessary to judge fairness would require different methods in different cases. Judging the fairness of mortgages in the USA would likely be more dependent on knowing things like how much money people earn and the fair application of credit scoring tools used to determine future interest rate changes. Quantitative data on systemic risk might therefore be more critical to judging fairness than qualitative data.

In countries with microfinance, questions have been raised as to how “fair” it is to give loans to women but not to men. This is a value judgment that requires knowledge of local values and behaviors as well as spending practices. Potential ways of gathering data include qualitative methods, such as interviews and participant observation, to understand cultural categories of creditworthiness. They could also include quantifiable methods such as field experiments, or could compare cases in which only women are given loans to cases in which men are also given loans and on what basis liability is assigned for each. Like the portable toolkit method mentioned in an earlier post in this series, study participants could show and talk about their record books, accounts, or credit statements, allowing the researcher to better understand how people map social obligations and re-payment strategies. In the US/Mexico transborder context, debt can even serve as a long-term savings strategy with pesos and dollars indexing distinct social domains and moral bonds. With any of these methods, we would be exploring the social context, not an individual's or even a household's situation.

Financial education is another important issue that goes beyond the individual. A study by marketing professor Kittichai Watchravesringkan, described in the Handbook of Consumer Finance Research, used interviews to investigate how Hispanic American college students learn financial behaviors from their family and friends. However, all social influences were not created equal. Overall, the data suggested that whereas the interviewees reported learning “good” financial behaviors from their families, they tend to learn “bad” financial behaviors from outside their families (peers and media).

While the study did not explore in depth what “good” and “bad” implied, it reminds us that formal financial education has a relatively small influence on our learning. When assessing the efficacy of formal financial education it would make sense to pay attention to informal learning scenarios. For example, a mixed methods project could be devised that compares the results of an evaluation of a financial literacy program with data from interviews with the program's participants. This could permit an accurate identification of the actual outcomes of the program, while providing sufficient data to contextualize the results.

Photo Credit José Ossandón
Finally, over-indebtedness cannot be measured the same way in all situations. Simply looking at an individual's total liability may tell you very little about their ability to pay their debt back. A clear example of this is in José Ossandón's research. Ossandón used interviews, observations, and network analysis to show how many Chileans will lend out their credit cards and store cards to their family, friends, and neighbors. This means that an individual may have a large personal liability on the books, but in fact owe very little of the money themselves. This is critical information for a government body or charity that conducts financial interventions, such as literacy programs or providing relief, who may otherwise be alarmed at levels of personal debt and prematurely judge the debtors to be incapable of financial management.

Every country is likely to have its own set of problems, and therefore needs its own particular solutions. However, shifting focus from over-indebtedness as an individual problem to viewing it as a social fact may well lead to better ways of managing its impact on individuals and society. Multi-methods research projects could fruitfully combine qualitative and quantitative methods to produce more comprehensive insights into the social nature of debt.

*P. 564; Schuster, Caroline E.  (2014) The Social Unit of Debt: Gender and Creditworthiness in Paraguayan Microfinance. American Ethnologist 41(3): 563-578)

Click here to read Taking on Debt (Part 1) Perspectives from across the Social Sciences.

This post is part of the IMTFI project Consumer Finance Research: Global Approaches and Methods, which seeks ways to build cross-sector and multidisciplinary collaborations in consumer finance. To read more about the project and for links to previous posts in this series, click here.  

No comments:

Post a Comment