Why We Believe in 0% Interest
- Essential Common Future
This post was originally published by Community Credit Lab, which is now part of Common Future.
Before beginning our journey with Community Credit Lab, Sandhya and I asked a question: how should we set our interest rate on loans? In order to answer this, we reflected on our core problem: ‘people with fewer resources pay more to access credit.’ This well-documented root cause of inequality, often referred to as the poverty premium or the poverty penalty, ultimately leads to cycles of inequality because investors are primarily those with resources (i.e. shareholders of banks) and borrowers that pay more to access capital are inherently those without resources. We considered setting our lending rates at an amount less than “market rate” but above 0%. We defined “market rate” as the prime rate, the best rate at which money can be borrowed from commercial banks by non-banks (currently around 5% and generally 3% higher than the Federal Reserve’s lending rate). We debated whether setting fixed or variable interest rates between 1% and prime would be an effective solution to address our focus root cause of inequality and reverse traditional financial, economic and equity paradigms. Ultimately, we decided it was not enough for three main reasons:
We believe that equity is a human opportunity first and foremost. While we do value the growing rhetoric that perceived financial risk is overstated for underserved communities, the increasing rhetoric that underserved communities are an “investible” or “economic” opportunity makes us uneasy. In the long run, if we frame social problems as economic or investment opportunities, we may be working on disparate goals. If we set investment returns as our primary goal, building wealth for investors off the would-be earnings of those with fewer resources would ultimately contribute to sustained or growing inequality in the long term, not to reducing it. We believe that human beings are capable of supporting each other across networks, races, genders and communities without a mutual benefit requirement – if trees can do it across species, why can’t we?
We do not believe that win/win solutions are most capable of reversing existing inequalities.
Simply put, we seek to design for underserved communities first. If underserved communities said to us that 12% interest is what they need, then we’d reconsider our model, but for now, the message we’ve received loud and clear is that 0% interest loans and minimizing the burden of underwriting is a huge relief. We can see a pathway where our solution could evolve to a model that provides a minimal financial return to investors. But, if/when that was possible, we would seek to think creatively about what might be possible for cross-subsidization across our product portfolio. We would not subsidize this by extracting from underserved communities with a win/lose model that works primarily for investors. Rather than designing for a mutually beneficial, win/win model from inception, we seek to design to fill gaps and needs based on the perspectives of our partners and the communities we aim to serve.
We take guidance and feedback from those that have been working tirelessly to support underserved communities seriously. Nonprofits we speak to continue to reiterate the need for affordable credit. 0% interest loans are not a silver bullet, but they do spark excitement from many organizations that are used to working with their communities to get any financing, let alone affordable financing. Whether this excitement is a result of communities having access to products that meet their beliefs, historical challenges based on discriminatory lending and interest rates, the desire to remove barriers in existing nonprofit pathways, or simply because people in their communities are asking for it – 0% interest loans resonate with the organizations whose opinions we prioritize the most.
We are neither alone, nor first movers in implementing a lending model at 0% interest – we see ourselves as part of a growing movement focused on access to affordable credit. There are several models that exist informally and formally in the markets that we draw inspiration from: Kiva lends domestically at 0% interest, Mission Asset Fund implements lending circles and immigration loans at 0% interest, SheEO offers commercial loans at 0% from a community of activators, other nonprofits lend informally at 0% interest, and many financially underserved communities already lend to each other at 0%. The commonality across these models is that they are all focused on supporting people to access what they need to succeed, without putting them in a precarious financial situation.
Since our core problem is that those with fewer resources have to pay more to access credit, the simplest and most authentic solution to us is to charge them nothing to access capital and support them to build wealth over the long term. The people we aim to lend to have historically faced significant barriers to accessing credit and wealth: discrimination, lack of income/credit history in the U.S., and a lack of qualification based on the 5 C’s of Credit, etc. Access to affordable credit begets wealth and, if there’s one thing we agree with in economic theory, it’s that wealth begets wealth.
“Nonpredatory financial institutions, and the wealth-building mechanisms they provide, are critical.”– Courtney E. Martin, Closing the Racial Wealth Gap
On a personal note, Sandhya and I often discuss the points in our lives where we have had access to free capital or affordable credit. Thank you, mom and dad for 3 years of college payments – I couldn’t have done it without you even though I went to Canada to find more affordable tuition. Thank you to the anonymous scholarship provider for a portion of my graduate education. Sandhya thanks her parents for supporting her higher education goals, helping build her credit history at a young age by cosigning on credit cards and providing her with affordable credit to purchase her first car that got her to and from work every day. These points in our lives matter, especially in summation – we know that consecutive access to free or affordable capital has a compounding effect on the potential to access and build wealth.
Our decision to lend at 0% is meant to reverse traditional financial paradigms. Lending to people whose “perceived risk” is higher under traditional financial evaluation metrics should not mean our projected returns need to be higher as well. In fact, we believe the opposite:
- We anticipate that traditional perceived risk will not equate to actual risk if we are capable of building trust and relationships with our borrowers. As we seek to be a stepping stone for borrowers, we believe that if we begin our relationships from a place of mutual trust it is possible to end our relationships from a place of mutual trust and support future borrowers together.
- We hope that by making affordable credit repayments, our borrowers will be able to build their credit histories and reduce their perceived risk from external financial institutions. Most of our current borrowers bank with “the big 4”, therefore, credit scores, income history and traditional risk/return will likely be the primary evaluation metrics for our borrowers at external financial institutions.
- As a result of both of the above, we hope that by reversing traditional risk/return financial paradigms our borrowers will be able to access affordable credit at external financial institutions going forwards.
Our model involves implementing a loan loss guarantee to reduce risk, rather than a punitive interest rate. Although we don’t know what our expected loan loss reserve will need to be, we are not lending at 0% naively: we are lending at 0% deliberately based on our global experiences in finance, accounting, business, impact investing and community-based work. As a result of these experiences, we are lending at 0% because we believe it is fair and just – we seek to join a movement of organizations working collectively towards change that is framed with a lens beyond economic and investment opportunity. We hope that 0% interest loans will contribute to this change and, as we continue to explore product opportunities and partnerships, we plan to seek feedback from those we trust in the communities we serve and ask a simple question: does this help build equity or subvert it?
 Credit to Adrienne Brown for her work in Emergent Strategy and Mutualism
Credit to Anand Giridharadas for his vocalization of the challenges with Win/Win models