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3ie-LIDC seminar sheds light on lending to poorest clients

Poor clients can benefit from microcredit, but tighter screening is needed if the aim is to ensure that the loans are commercially viable – argued Britta Augsburg from the Institute for Fiscal Studies (IFS) at the latest 3ie-LIDC seminar.

In Bosnia and Herzegovina microfinance was typically not offered to the very poor, rather, it tended to be concentrated on those slightly better off. Against this backdrop Augsburg, De Haas, Harmgart, and Meghir undertook a two-year experimental study to determine whether credit can improve the welfare of the poorer and underserved segments of the local population while still being profitable. Together with a local microfinance institution they identified a group of about 1,200 ‘marginal’ credit applicants: applicants who normally would have just been rejected by the institution. Out of those 1,200 they granted a loan to a random sub-set of 600 people in order to rigorously measure the impact of access to microcredit on these borrowers’ entrepreneurial activities, human capital investments, and poverty level.

They find that access to credit allowed borrowers to start and expand small-scale businesses, in particular in the agricultural sector. However, the impact on consumption and other outcome variables was heterogeneous. In line with a model of investment decisions developed by the authors, the study shows that borrowers needed additional resources to meet minimum investment costs. Households that already had a business and those that were highly educated could run down their savings. In contrast, less educated households had insufficient savings and needed to reduce consumption. Moreover, in the latter case young adults aged 16-19 started to work more and attend school less.

The findings do not allow to draw a clear picture on the overall and long-term welfare benefit of extending microloans to a poorer part of the population. However, an analysis of the lender’s repayment data showed clearly that loans to these ‘marginal’ clients were riskier and not commercially viable. Compared to regular borrowers, marginal borrowers were significantly more likely to repay late or to repay not at all. In order to address this, Augsburg suggested tighter screening of ‘marginal’ clients, changing loan conditions, and offering additional services, such as business or financial literacy training.

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The next seminar in the series will take place on 22 February 2012, with a presentation ‘Microfinance – a Comprehensive Evaluation’ by David Roodman of Centre for Global Development. More

More about the 3ie-LIDC Seminar Series