Credit constraints
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Credit Constraints. A first approach to the “microfinance solution”. 1) Characteristics of credit markets in poor countries. Demand side : fixed capital, working capital, consumption ….. (not very different from those in developed countries) Supply side : -Institutional lenders

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Credit Constraints

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Credit constraints

Credit Constraints

A first approach to the “microfinance solution”


1 characteristics of credit markets in poor countries

1) Characteristics of credit markets in poor countries

  • Demand side: fixed capital, working capital, consumption ….. (not very different from those in developed countries)

  • Supply side:

    -Institutional lenders

    -Informal lenders in response to informational asymmetries

    In turn has led to:

    Segmentation, Interlinkage, Interest Rate Variation, Rationing, Exclusivity

    which in turn led to various “theories” of informal credit markets

  • But let us see the “big picture” first….


Credit constraints

2) Why credit does not flow from rich to poor

After all, Neoclassical theory would suggest….


At least two reasons why this may not be so first

At least two reasons why this may not be so:First


Credit constraints

Second


In either scenario the poor cannot pay high interest rates

In either scenario the poor cannot pay high interest rates

Moreover:

And interest rates faced by the poor would be exceedingly anyway for

2 Main Reasons:

  • High Risk

  • Huge Transaction Costs


3 can t the poor borrow

3) Can’t the poor borrow?

In principle, the answer is yes. As mentioned earlier, from institutional sources, and from informal sources

Institutional sources, mostly development banks, where credit was subsidized. Concerns:

Politics, corruption…

Pushed out informal credit suppliers

No incentives to collect poor individuals’ savings


Informal sources problems

Informal sources. Problems:

  • Astronomically high interest rates

  • Not enough savings to mobilize

    And subsidizing interest with outside sources of credit via institutional sources was inefficient

    In the mid – 1970s, in Bangladesh….


Microfinance

Microfinance

  • Building on informal credit institutions

    → Transaction costs ↓

    → Interest rates were ↓

    → Repayment Rates ↑

    In turn, a demonstration to donor agencies that lending to the poor could be efficient, and potentially profitable too!!

    → Next class: A-M (2005), Chapter 2


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