Transforming Lending in Emerging Markets: The Power of Local Stablecoins and the Microcredit Use Case
September 17 2024
by Markus Franke
Jessica Gaubert, Co-Founder & COO of Haraka
Markus Franke, CEO of Mento Labs
In recent years, we've witnessed a significant growth in the adoption of stablecoins, particularly those pegged to the US Dollar. These stablecoins have become increasingly popular for a wide range of transactions, including payments, remittances, and savings. This growth is driven by demand, more regulatory certainty and evolving infrastructure supporting it. We're seeing the emergence of more affordable on and off ramps, as well as the development of scalable blockchain networks, like the Celo blockchain, that are capable of handling rising transaction volume. On Celo, users can send stable transactions for a fraction of the cost compared to traditional methods. Users can pay transaction fees using stablecoins, making decentralized finance (DeFi) solutions easy to use. In addition to dollar stablecoins, it is crucial to recognize the importance of different local currency stablecoins and diverse markets to drive the next wave of global Web3 adoption. In many emerging markets, entrepreneurs and businesses still face significant barriers to accessing traditional financial services today. High-interest rates, lack of credit history, and geographic limitations often leave them without the necessary financial support to grow. That's where platforms like Mento come into play.
The Role of Mento
Mento is an open-source EVM platform that allows anyone to launch and operate decentralized, transparent stablecoins, with the mission to bring local currency stablecoins to every country of the world. Currently, there is a significant focus of the Mento community on users in Africa. We believe that local currency stablecoins offer a significant value, especially in Africa, as they not only enable payments and remittances in local currencies, but also facilitate micro-loans and borrowing. The Mento Platform includes AMM infrastructure (automated market making), which enables users to easily swap between different digital currencies. Recently the Kenya Shilling (cKES) was added to the platform, and the first micro-credit pilots with local partners in Kenya using the Kenya Shilling stablecoin have been kicked off.
Local Currency Stablecoins
USD or EUR stablecoins are used internationally, market participants mostly use these digital assets for trading and settlement use cases. Global stablecoins are also beneficial for end users / retail users in markets with medium to high inflation, like Kenya. If users want to save money and expect the Kenya Shilling to depreciate against the Dollar or experience high inflation, global stablecoins allow users to move into a Dollar or Euro, helping them circumvent inflation by saving in those terms. However, for small entrepreneurs or businesses in Kenya, accessing capital can be challenging without direct access to a bank.
On-chain loans present a fantastic use case of Web3, as they are more inclusive and easier to access. For this use case there is a need for local currency digital assets: Imagine obtaining a loan denominated in US Dollar-pegged stablecoins, while your business generates revenue in local currency. When the local currency depreciates against the US Dollar, repaying the loan becomes increasingly expensive. Therefore, facilitating loans in local digital currencies can substantially alleviate the entrepreneurial journey, especially for small businesses.
cKES Pilot Program in Kenya with Haraka
How does this look in real life? Haraka, in partnership with Mento Labs, Clixpesa, and Kotani Pay, has realized an innovative vision through a micro-loan pilot in Kenya. Launched in May 2024, this initiative leverages the Kenya Shilling stablecoin cKES to support local entrepreneurs. To date, over 1 million cKES have been disbursed to 150 micro-entrepreneurs, organized into 20 groups of 5 to 15 people, 85% of whom are women.
This pilot addresses a critical issue: nearly 2.5 billion people in emerging markets lack access to formal financial services, contributing to a global credit gap of $4.9 trillion, according to CGAP. A gap that keeps increasing because there is insufficient information to assess the creditworthiness of individuals without traditional financial transactions and credit scores. Consequently, around 510 million people rely on informal savings and loan associations (VSLAs) for essential financial services. While community finance mechanisms remain preferred in emerging markets for unserved and underserved individuals, their informal nature presents challenges. Accessing external capital and demonstrating good financial behavior beyond the community can be difficult. Traditional financial institutions often hesitate to lend to groups due to the complexities of assessing creditworthiness and managing joint liability. Group lending, however, is less risky as it relies on community reputation and joint liability.
Recognizing that valuable creditworthiness information resides within community insights and peer knowledge, Haraka leverages social reputation as part of its underwriting process. By doing so, it enhances targeting and repayment, improving access to credit for underserved populations while simultaneously building individual reputations. However, leveraging social reputation as an underwriting process is not the only innovation within this pilot. The use of cKES also brings significant advantages to this specific use case, including:
Familiarity and Accessibility: Borrowers can access a currency they know, reducing onboarding complications for last mile users and increasing local economic engagement.
Transparency and Efficiency: All transactions are recorded on-chain, offering transparency for lenders while minimizing overhead costs, enabling loans at lower costs for borrowers.
Mitigating Risk for Borrowers: Since cKES is tracking the Kenya Shilling, it protects borrowers from foreign exchange fluctuations, compared to global stablecoins pegged to USD, ensuring stability in loan repayments and financial planning.
This pilot represents a promising step towards addressing the global credit gap while contributing to the democratization of Web3. Haraka and its partners—Mento Labs, Clixpesa, and Kotani Pay—see the potential to scale this pilot where not only cKES will be leveraged by micro-entrepreneurs but also spread beyond the community into other new use cases to enhance financial inclusion and economic growth.
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