Laura Starita blogs about a J-PAL – CMF study that tested an innovative flexible repayment micro-credit product in West Bengal (an earlier working paper is here); where the implementing MFI, VWS has decided for now, not to adopt the innovation, due to the threat of higher defaults.
The results showed that clients with the two-month grace period on average enjoyed 25 percent higher profits than clients in the control group. They invested 10 percent more of the loan in the business, and increased inventories and outputs by two thirds. Household income also seemed to increase in the period
Those numbers imply that increasing flexibility in loan terms has positive effects for some micro-credit recipients. Yet the study showed some important nuances. Most relevantly is that the results varied widely—a group of recipients with grace periods did dramatically better, but some did dramatically worse (that 25 percent increase in profits is only the average). In addition, defaults for the bank increased, reaching 12 percent of the “grace period” group, compared with slightly more than 4 percent for the control
I was out in the field for a brief period of the said study and remember discussing with potential clients their impressions about such flexible repayment systems. They themselves were wary of the risk of higher defaults if they did not start repayments immediately. They also mentioned that in the plain vanilla micro-credit loans, having to repay from Week 1 usually meant that they had to keep a certain portion of the loan aside for the first few week’s repayments.
The study reports a significant distinction in the nature of investments made by the different groups. The variability in repayments poses an increased risk to MFIs, some of which may be covered by offering loans at higher interest rates. Given the present political climate though, may be not!
Takes me back to my favourite theme about microfinance: MFIs should help clients graduate to becoming bank clients. I am not sure how much of that is happening, but I would love to see an MFI report on how many of their clients have gone on to becoming clients of formal banks in their areas of operation, accessing the complete range of financial services on offer.