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1-Page Summary of Portfolios of the Poor
Impoverished People Learn to Be Efficient Money Micromanagers
In 2005, the World Bank revealed that 2.6 billion people lived on less than $2 a day and about 40% of them scraped by on about $1 a day. You might expect these people to spend every penny as soon as they get it in order to keep a roof over their heads and food on the table. However, when you examine the financial lives of poor households, you’ll find something different: most use informal financial instruments like savings clubs or rotating credit associations (ROCAs) to manage their money better and build up savings.
It is important to focus on income, but we should also push for initiatives that help poor families manage their money. If they had access to reliable financial tools, the unpredictability and risk in their lives would be reduced.
The Poverty Study
A group of researchers tracked the financial activities of 250 households in Bangladesh, India, and South Africa. They spent a year in each country and followed up with a three-year survey in Bangladesh. Their study was different from other studies because it focused on day-to-day cash flow instead of just looking at end balances after one year.
The data was surprising. Every family studied managed their cash flow much more than the value of their assets. They all saved and borrowed money, regardless of how much they earned in a year. The families used at least four different methods to manage their finances, such as informal loans from neighbors or credit cards.
“The Triple Whammy”
The poor work hard on managing their money because they need to stretch it for three financial goals: 1. Providing food and shelter 2. Planning for emergencies 3. Insurance or social safety nets
- Many families need more money to buy household items, invest in property or business opportunities, and pay for weddings or other social occasions.
Financial Challenges
The poor face three main obstacles: low incomes, uncertainty about income and a lack of money. The first obstacle is the fact that their annual income ranges from $380 to $2,100 in Bangladesh; in India it’s between $171 and $2,611; in South Africa it’s anywhere from $238 to $49,982. They also encounter uncertainty as they don’t know how much money they’ll make on any given day. For example, farmers or traders may earn more some days and less other days for long periods of time without earning anything at all.
- Poor people rely on informal financial tools. These are convenient, but they are often unreliable. Potential transaction partners may not have the cash to offer aid and might be dishonest or poor at saving money. Loans terms aren’t dependable or clear.
Current Financial Tools
Most households use a variety of mechanisms to smooth out their incomes and save for emergencies or large expenditures. In Bangladesh, South Africa, and India, the average household uses almost 10 types of instruments. One Bangladeshi family used six different financial tools—a $40 loan to a relative, $2 hidden in their home, etc.—to make ends meet on just $70 per month.
Financial tools that are used by people in poor countries include:
- “Interest-free loans” – Relatives or neighbors give each other small, interest-free loans. These are sometimes repaid in the future. For example, a rickshaw driver took out five such informal loans in two months; they were for $4 or less and he repaid them quickly. * Moneylenders – Moneylenders charge an annual interest rate of as much as 200%. They’re used mostly for short term loans because households use moneylenders only when they need cash on short notice.
