Loan Sharks, Microloans and the Highest Interest Rates Around (they aren’t on Kiva)
By Kate Bennett (KF15)'
Small business owners in Ecuador, like Marcia Suqui in the video above, can use their microloans to move forward with their businesses and improve their quality of life. After all, this is the idea driving Kiva- that small loans can change lives. But not all small loans can improve a business owner’s standing, because the darker side of the “little loan” market in Ecuador is dominated by loan sharks. Taking a loan out from a chulco, Marcia explains, is actually taking few steps backward.
A particularly infamous group of chulcos in Ecuador operates out of Guayaquil, where they’re known for their motorcycles, their Colombian origin, and their 20 percent compounded monthly interest rate. This group of chulcos is as efficient as any financially self-sustainable microfinance organization: they promote their services with fliers, divide up the city into quadrants, each with its own assigned chulco, and they police their quadrants on motorcycles for new or delinquent borrowers. They are much like any reputed microfinance institution… except for the fundamentally exploitative, violent, and illegal nature of their work.
Guayaquil is the biggest and most dangerous city in the country, and a high number of local crimes are attributed to this type of organized predatory lending. The trouble with illegal lending is that wronged borrowers are powerless to report chulco misbehavior to the authorities. And unfortunately, it’s more than a fear of reprisal that keeps these crimes from being reported: it’s a need for continued access to credit, at any price.
Just what is a loan shark? In short, an illegal moneylender who charges exorbitant interest rates to borrowers unable to obtain a loan elsewhere. And for lenders concerned about Kiva Field Partners’ high interest rates (which at Fundación Alternativa, for example, due to transportation and administration costs discussed in this article, top out at 21.09% percent annually), the reality is that the alternative is much worse. Here in Ecuador, loan sharks- or as they’re called locally, chulcos or chulqueros- charge annual interest rates as high as 150 percent (and in the case of our chulco friends in Guayaquil, 791.61 percent annual compounded), imposing truly unfair and abusive loan terms on borrowers.
The danger of borrowing from these loan sharks is twofold. First and foremost, they take advantage of vulnerable small business owners, simultaneously depriving them the benefits of lending from accredited institutions while engaging in exploitative and illegal practices. Chulcos lack all the benefits of legitimate microlending institutions, such as establishing a credit history to ensure continued access to credit in the future. Furthermore, the inordinately high interest rates tend to trap borrowers in a cycle of debt, borrowing repeatedly only to pay off their existing loans. Like Marcia said, lending from chulcos means a life of repayment; the capital never even pays off.
When starting a business, it can only expand “poco a poco,” as Marcia says- profits don’t come instantly, they only come little by little, until entrepreneurs get their businesses on stable ground. But the cycle of debt and usurious interest rates that come from chulco lending will only driving a budding business into the ground. Not to mention the inherent dangers of lending from loan sharks, who take drastic measures to ensure they collect on their money, whether through threats, public humiliation, leaving pigs’ heads on doorsteps, seizure of other family members’ assets (all of their assets), or outright violent and illegal actions.
Considering loan sharks’ interest rates and share of the market, their profits make up a considerable proportion (up to 40 percent) of the gross profits of the microfinance market. These illegally-obtained profits are untaxed and go directly and fully into the pockets of the often dangerous individuals that make them. But costs of loan sharks in a credit market end up being much more than the high interest rates: loan sharks can distort the market and in some extreme cases have crashed it altogether.
So why then would anyone borrow from a chulquero, when clearly microfinance organizations are the optimal choice? Ecuador experienced a series of economic shocks throughout the last decade, consequences of an unstable political system, an oil-dependent economy, and the adoption of the U.S. dollar. Extreme figures illustrate this downturn: between 1998 and 2000 alone, the number of families living under the poverty line rose from 35 percent to 68 percent, real wages fell by 40 percent, and unemployment jumped from 8 percent to 17 percent. During this period of severe economic crisis, the large percentage of the population who lost steady jobs really had only one viable option — to start their own small businesses.
At the time, there was not an availability of microloans to absorb this sudden demand. These days, approximately 88.8 percent of those microentrepreneurs, or 702,000 families, still are not serviced by formal financial institutions in Ecuador. Unfortunately, a large percentage of these entrepreneurs borrow and are in debt to chulqueros. Marcia explained that, though she personally has never borrowed from chulqueros, she knows a number of people that do- and that for them, the cycle of debt and repayment for this microentrepreneurs is perennial.
Loan sharks in Ecuador also have a massive market in immigrants, who make up a significant portion of the population. Immigrants tend to be lower-income, less financially-stable, and with no credit histories in their country of destination, and therefore are excluded from the traditional credit market. But the usual safety net- microfinance organizations that require little collateral and offer small loan sizes- are also inaccessible to immigrants in Ecuador. Why? Many Ecuadorian microfinance organizations, even large ones with 15-20 year histories like Kiva Field Partners Fundación ESPOIR and Fundación Alternativa, receive a considerable amount of their funding from the Ecuadorian federal government (anywhere from 30 to 70 percent). Non-Ecuadorian citizens, therefore, are ineligible for loans. But loan sharks are ready and waiting, and susceptible groups like immigrant populations have no legal redress for the often violent and extreme actions of loan sharks.
On the other side of the coin, Ecuadorian emigrants (migrating from Eucador) are also targeted by the chulqueros, who often work hand-in-hand with coyotes, or human traffickers. Since the 1980’s coyotes have charged emigrants fees as high as $6000 for their passage to the United States. To fund such an expensive (and illegal) activity, emigrants turned to chulqueros for loans in spite of their usurious interest rates. According to studies, up to 66 percent of illegal Ecuadorian emigrants to the United States turn to loan sharks to finance their undocumented migration. While most emigrants to the United States are able to repay this loan, should they default, their family in Ecuador pays an extremely high price.
Loan sharks will be continue to be successful in Ecuador as long as the microfinance sector is unable to absorb all of those borrowers who turn to chulqueros in their time of need. What can we do to counter this effect? Simply supporting existing accredited microfinance institutions in Ecuador, like Kiva’s five current Field Partners Cooperativa San Jose, Banco D-MIRO, Fundación ESPOIR, Fundación Alternativa, and the MicroEnterprise Development Fund (FODEMI), goes a long way. Empowering lawful and upright microfinance organizations with social missions can ensure that access to affordable and fair microcredit continues to spread far and deep into the sectors that need it. And instead of trapping borrowers in a cycle of debt and moving them further from success, microfinance institutions can help them move forward to a better quality of life.
Kate Bennett (KF15) is thrilled to be working in Quito, Ecuador with new Kiva field partner Fundación Alternativa. To support Fundación Alternativa in its pilot phase, check out its partner page, its recently created lending team, or its very first loans on Kiva! For more on Kate’s experiences with Fundación Alternativa or life in Ecuador, follow her work here.