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Micro-entrepreneurial success: is capital the answer?

If poor micro-enterprise owners in developing countries get better access to capital, could it raise their incomes significantly? Christopher Woodruff and colleagues have explored this question through a field experiment in Sri Lanka, which, among other things, reveals notable differences between male and female micro-entrepreneurs.

A quarter or more of all urban workers in low-income countries are self-employed. The great majority work for their own account, without hiring paid employees. Microfinance has come to be viewed as a ‘silver bullet’ in development, in large part because it provides the capital that enables such self-employed individuals – particularly women – to become micro-entrepreneurs.

But how profitable are investments in micro-enterprises? Will incomes increase substantially if micro-entrepreneurs invest more capital in their enterprises? Our research set out to answer these questions through an innovative project in Sri Lanka.

Cash and equipment grants to small firms in Sri Lanka produced high returns to capital

Measuring the return to capital in micro-enterprises is complicated by unobserved factors, such as entrepreneurial ability and demand shocks, which are likely to be correlated with capital stock. We use a randomised controlled trial to overcome this problem, providing cash and equipment grants to small firms in Sri Lanka, and measuring the increase in profits arising from this exogenous (positive) shock to their capital stock.

After controlling for possible spillover effects, we find the average real return to capital to be 5.7% per month. This average return is substantially higher than the interest rates charged by micro-lenders, which are around 1-2% per month.

But the experiment reveals a surprising outcome with regard to who benefits most from the capital injection. The grants generated large profit increases for male micro-enterprise owners, but not for female owners. This finding has potentially important implications because most micro-lending organisations target women.

The grants generated large profit increases for male owners but not for female owners

We show that the gender gap does not simply mask differences in ability, risk aversion, entrepreneurial attitudes or reporting behaviour. We do find some evidence that the gender gap is larger in female-dominated industries.

The data suggest that intra-household dynamics have important effects on both the investment decisions and returns earned by women. Bargaining with spouses and other household members appears to be associated with inefficient use of the capital injections by women. The evidence indicates that this inefficiency is reduced in more cooperative households.

Publication details

This article summarises Are Women More Credit Constrained? Experimental Evidence on Gender and Microenterprise Returns by Suresh de Mel, David McKenzie and Christopher Woodruff, published in the American Economic Journal -- Applied Economics 1(3) (July 2009): 1-32; and Returns to Capital in Microenterprises: Evidence from a Field Experiment by the same authors, published in the Quarterly Journal of Economics 123(4) (November 2008): 1329-1372.

The authors

Suresh de Mel is at the University of Peradeniya in Sri Lanka. David McKenzie is at the World Bank. Christopher Woodruff is in the Department of Economics at the University of Warwick.