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Financial Innovation in Developing Countries: How Novel Savings and Loan Products Relax Liquidity Constraints and Improve Welfare

Paper Session

Friday, Jan. 4, 2019 10:15 AM - 12:15 PM

Atlanta Marriott Marquis, International 9
Hosted By: American Economic Association
  • Chair: Marcel Fafchamps, Stanford University

When Nudge Comes to Shove: Demand for Commitment in Microfinance Contracts

Uzma Afzal
,
University of Nottingham
Giovanna d'Adda
,
University of Milan
Marcel Fafchamps
,
Stanford University
Simon Quinn
,
University of Oxford
Farah Said
,
Lahore School of Economics

Abstract

We conduct a field experiment to test the demand for flexibility and for soft and hard commitment among clients of a microfinance institution. We offer a commitment contract inspired by the rotating structure of a ROSCA. Additional treatments test ex ante demand for soft commitment (e.g., reminders), hard commitment (e.g., penalty for missing an instalment), and flexibility (e.g., option to postpone an instalment). Our design is unique in the literature for allowing us to test — using the same respondent population — how demand for behavioral features differs between loan and savings contracts. We find substantial demand for both credit and saving contracts but no demand for any of the additional contract features, in isolation or in combination, in spite of their effectiveness in improving repayment. In particular, demand for savings is insensitive to behavioral features. Individuals offered loans actively dislike commitment and flexibility, unless the latter is combined with reminders. These findings complement a literature showing that commitment devices induce financial discipline, but suggest
that many commitment devices used in practice may be seen as overly restrictive ex ante, even for a population with a demonstrated demand for commitment products.

Pay Me Later: A Simple Employer-Based Saving Scheme

Lasse Brune
,
Northwestern University
Eric Chyn
,
University of Virginia
Jason Kerwin
,
University of Minnesota

Abstract

Workers in developing countries often lack good savings options. We study a no-frills employer-based savings technology that piggybacks on existing payroll infrastructure to provide a safe and convenient savings method. Partnering with an agricultural employer in Malawi, we randomize offers to defer part of worker wages for three months, at zero interest, and receive a lump sum payout at the end of the main season. We find that this savings product has high initial take-up, high usage, and high repeat take-up. Take-up of the product changes behavior and outcomes: total savings increase over the deferral period, as does labor supply. Large purchases increase immediately after the payout, and asset holdings are higher three months later. We show that the seasonal timing is not crucial for take-up. Similarly, restrictions on access to savings has limited impact on take-up at the margin. In contrast, disbursing savings in a lump sum and automatic regular deductions are key ingredients for the product’s success.

Knowing What’s Good for You: Can a Repayment Flexibility Option in Microfinance Contracts Improve Repayment Rates and Business Outcomes?

Giorgia Barboni
,
University of Warwick
Parul Agarwal
,
IFMR-LEAD

Abstract

Repayment flexibility in microfinance contracts can enable clients to undertake higher return projects that have more irregular payment streams. But there is the risk of increased default due to time-inconsistent or excessively risky borrower behavior. How severe is this default risk and can it be mitigated simply by using contract price as a screening mechanism? To examine this we implement a randomized experiment with microfinance borrowers in Uttar Pradesh, India. In treated branches, borrowers select between the standard, rigid contract and a more expensive flexible contract. In control branches, customers are only offered the standard rigid contract. Clients in treated branches have higher repayment rates than control branches. We also find higher business sales in treatment compared to control group. Selection is an important mechanism – in treated branches, time-consistent and more financially disciplined borrowers are significantly more likely to opt for the flexible repayment schedule.

Banking on Persistence: The Impacts of a Credit Guarantee on Bank Lending in Indonesia

Sascha Kerbert
,
University of Sydney
Russell Toth
,
University of Sydney

Abstract

Credit guarantees are a common policy instrument to increase access to credit for target segments such as small and medium enterprises (MSMEs). There are at least two premises to justify a guarantee. First, by lowering the risk on lending, a guarantee induces banks to lend more to the target segment while the guarantee is active. This is essentially subsidized lending, which may be consistent with the goals of the policymaker, however it can crowd out lending that would have occurred without the guarantee. Second, the guarantee can lead to greater lending than the incentives embedded in the guarantee alone would justify, including persistence in lending beyond the guarantee period, by inducing persistent improvements in banks’ capacity to overcome lending frictions. We present new evidence on these channels by estimating the impacts of one of the largest credit guarantee schemes in history on commercial banks: the Kredit Usaha Rakyat(KUR) launched in late 2007 to increase MSME lending in Indonesia. First, we show that the KUR generated additionality, resulting in KUR participant banks cumulatively expanding their MSME lending portfolios 320% more than non-participant banks over the period, while there are common pre-trends between the two groups. Furthermore, we demonstrate that the KUR generates minimal crowd out of counterfactual MSME lending. Second, we leverage a KUR program suspension in 2015 to provide evidence that the KUR led banks to build up persistent MSME lending capacity. A simple cost-benefit analysis based on these estimates shows that the KUR generated a 112% return in terms of MSME credit market deepening. More broadly, the results speak to our understanding of the process of credit market deepening in emerging markets.
Discussant(s)
Jack Willis
,
Columbia University
Marcel Fafchamps
,
Stanford University
Ketki Sheth
,
University of California-Merced
Giorgia Barboni Barboni
,
University of Warwick
JEL Classifications
  • O1 - Economic Development
  • G2 - Financial Institutions and Services