Group lending with correlated project outcomes (original) (raw)
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The Role of Group Size and Correlated Project Outcomes in Group Lending
Theoretical Economics Letters, 2017
This paper analyzes contract efficiency with regard to correlated project realization and the size of the borrowers in group lending. Firstly, I show that under the standard assumption of independent project payoffs, the expected group cost of default decreases with group size. Secondly, I show that small groups can also optimize group efficiency if individual payoffs and credit risks are correlated. The results outline that social cost minimization occurs due to a common interest in forming optimal borrower groups between lenders and borrowers.
Repayment Incentives and the Distribution of Gains from Group Lending
Journal of Development Economics
Group loans with joint liability have been a distinguishing feature of many microfinance programs. While such lending has benefitted millions of borrowers, major lending institutions have acknowledged their limited impact among the very poor and have recently favored individual contracts. This paper attempts to understand these empirical patterns using a model in which there is a single investment project and access to credit is limited by weak repayment incentives. We show that in the absence of large social sanctions, the poorest borrowers are offered individual and not group contracts. When both types of contracts are feasible, the relative gains from group loans are shown to be decreasing in loan size. We compare the role of bank enforcement with social sanctions and find that bank enforcement is more effective in increasing outreach while social sanctions raise the welfare of infra-marginal borrowers. Finally, we explore the welfare effects of group size and find that those req...
Dynamic Incentives in Microfinance Group Lending
SAGE Open, 2012
One of the most essential tools of poverty reduction would be the viable expansion of institutional credit facilities to large sections of the people who neither have adequate collateral nor credit history to secure a loan. In this backdrop, social collateral is popularized through the group lending programs to address the credit market problems. Microfinance through group lending is acting as a screening device; the joint liability mechanism creates incentives for internal monitoring. Hence, it has received a lot of attention from policy makers as well as academicians. It is playing an important role in delivering financial services to the “socially and economically excluded” poor, in general, and women, in particular. The group lending works with various dynamic incentives. One such kind is principle of progressive lending and it plays a vital role in sustaining the groups for the persistent delivery of microfinance services to its members. In progressive lending, a typical borrow...
Group Lending, Local Information and Peer Selection
This paper analyzes how group lending programs use joint liability to utilize local information that borrowers have about each other's projects through self-selection of group members in the group formation stage. These schemes are shown to lead to positive assortative matching in group formation. Faced with the same contract, this makes the effective cost of borrowing lower to safer borrowers: because they have safer partners, conditional on success their expected dues to the lender are lower than that of riskier borrowers. The resulting improvement in the pool of borrowers is shown to increase repayment rates and welfare. q
Micro-credit and group lending: The collateral effect
WORKING PAPER-UNIVERSITY OF …, 1998
Conventional banking practices do not easily accommodate the financial needs of poor persons. Group-lending, on the other hand, has found several advantages in the context of poor borrowers with no collateral to offer. An important advantage is that the bank's losses due to unsuccessful projects are dramatically reduced, because group members cover at least part of those losses. In effect, a kind of collateral has been created in the group even though each individual had no collateral to offer. This paper will analyze the collateral-effect in a model with two types of entrepreneurs (high-risk and low-risk) and a competitive banking system. We show that with individual lending, the typical situation for poor entrepreneurs in developing countries is likely to lead to a separating equilibrium where only high-risk borrowers are served (at a high interest rate). Allowing for group-lending, however, is likely to result in a pooling equilibrium, where all entrepreneurs are served at a considerably lower interest rate.
The Optimal Group Size in Microcredit Contracts
2015
We develop a model of a repeated microcredit lending and study how group size affects the optimal group lending contracts with joint liability, what should be the punishment for defaulting borrowers, and what is the effect of project correlation on the lending outcome. The story is that one benevolent lender gives microcredit to a group of borrowers to be invested in n projects that could be either disjoint or correlated. The outcome of each risky project is not observable by the lender. Therefore in case some of the borrowers default on their loan repayments, the lender is not able to identify strategic default. We characterize the optimal contract and determine the optimal size of the group of borrowers endogenously. We discuss that joint liability has positive effects on the repayment rate and borrowers’ welfare, although joint liability contracts are feasible under a smaller set of parameter values than individual liability contract. Our analysis also suggests that group size sh...
The Mediating Role of Group Lending Between Poverty and Microfinance
NICE Research Journal
Microfinance has become the main tool of poverty alleviation in the 21st century. The microfinance program in different countries has different lending approaches. The most common in the world is group lending and individual lending. Each lending procedure has its own merits and demerits. The present research is about the evaluation of the mediating role of group lending between microfinance and poverty. In this regard, the study was carried out in district Chitral. The data was collected from two local support organizations using a structured questionnaire. For the purpose of analysis structural equation modeling was used and Smart PLS was used as an analysis tool. The finding of the results shows that the group leaders have a positive role in mediating the relationship between microfinance and poverty and in reducing the moral hazards and proper utilization of funds.
Individual lending versus group lending: An evaluation with Kenya's microfinance data
Group micro-lending has been used successfully in some parts of the world to expand the reach of microcredit programs. However, our study shows that microfinance institutions in Kenya prefer individual lending which is associated with higher default rates compared to group lending. The study also shows that high interest rates increase the odds of client delinquency while loan size is inversely related to delinquency. Given these findings, policymakers need to work for stability in the macro-environment to ensure interest rates charged by microfinance institutions (MFIs) remain stable and affordable. Alternatively, MFIs can develop a graduated scale for charging interest rates in which credit is extended to groups at first to hedge the firm against repayment risk; following this, the firm identifies individuals within the groups whose credit risk has improved and issue progressive individual loans to them. Such individual loans would fetch higher returns in form of interest for MFI and boost their outreach, reduce delinquency, and enhance self-sufficiency.
Thisarticleaddressestheissueofpeermonitoringandchoiceofcontractsontherepaymentbehaviour of the subjects. The authors conducted a laboratory experiment using student subjects from the UniversityofSydney,Australiabyemployingprofitsharing(PS)andconventionalinterestbased (IB)microfinancecontracts.Inthefourtreatments,subjectsweregiventhechoicetomonitortheir grouppartnerandalsohadthechoicebetweenselectingoneofthesetwocontractsunderthegroup lendingscenario.Theresultsindicatedstatisticallysignificanteffectofmonitoringontherepayment rates.Interestingly,asignificantlyhighpercentageofsubjectsoptedforthePScontractsagainsttheIB contracts.ThesehighertakeupratesofPScontracts,however,werenotassociatedwithanincreasein repaymentrates.Notsurprisinglythough,astheexperimentwasconductedinAustralia,thelevelof religiosityremainedratheraninsignificantfactoraffectingtherepaymentbehaviourofthesubjects.