The Unknowns of Microfinance Microentrepreneurs and Their Money: Three Anomalies

1
The Unknowns of MicrofinanceMicroentrepreneurs
and Their Money Three Anomalies

• Discussion
• Bilal Zia
• (World Bank)

2
Summary

• Paper lists some interesting questions
• Why do people borrow so often and not save?
• Why dont people undertake efficient joint
  production?
• Why do people make sub-optimal investment and
  labor allocation decisions?
• and provides a list of possible answers
• and their take on the most likely answer

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Why dont people save?

• The puzzle
• Overnight borrowing rates are tremendously high,
  so why dont people consume less today, and
  invest their savings into working capital
  tomorrow Compounding these savings can help
  eliminate debt
• Reasons
• Self control problems more severe at low
  wealth levels
• Lack of savings instruments
• Intra-HH bargaining conflicts
• Complexity people do not understand
  compounding (some new work on this is being done)
  

4
Why dont people save?

• The puzzle
• Overnight borrowing rates are tremendously high,
  so why dont people consume less today, and
  invest their savings into working capital
  tomorrow Compounding these savings can help
  eliminate debt
• Reasons
• Self control problems more severe at low
  wealth levels
• Lack of savings instruments
• Intra-HH bargaining conflicts
• Complexity people do not understand
  compounding (some new work on this is being done)
  
• Agreed but why is this a Microfinance
  specific problem? (people borrow from payday
  lenders, daily banks, etc.)

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Why dont people jointly produce?

• My take
• Diversification of risks two cows are better
  than one.
• Hypothetical example assumes ex-ante knowledge
  of ex-post return! Not clear this is the case,
  especially in more complicated business
  transactions
• Tax based on social capital dont want to
  destroy social capital
• then why do people still enter joint liability
  groups?
• Gine and Karlan (2006) do show evidence of tax
• Also, amt. borrowed may not constitute the
  entire bread and butter of individual, whereas
  production typically does

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Non financial market imperfections

• Improving conditions in related markets can help
  alleviate poverty better than simply focusing on
  improving finance
• Agreed but again, why is this Microfinance
  specific?

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Further Anomalies (I)

• Pg. 3 of paper the picture is one of
  widespread and frequent short-term borrowing own
  capital is not sufficient to finance a minimum
  scale of business that appears invariant

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Further Anomalies (I)

• Pg. 3 of paper the picture is one of
  widespread and frequent short-term borrowing own
  capital is not sufficient to finance a minimum
  scale of business that appears invariant
• First Order Question Why do microfinance
  enterprises not grow?

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Microenterprise Growth Inhibitors

• Anecdotally, few microenterprises grow beyond
  subsistence Why?
• Is it lack of entrepreneurial talent?
• Is it contract structure?
• Microfinance institutions focus on minimizing
  default Yet, not clear that socially optimal
  investment allocation will have zero default
• If penalty for default v. high (socially
  ostracized, future borrowing disallowed, etc.) ?
  People might opt for safe investment rather
  than one that maximizes returns.
• Stuck in Safe Investment trap!
• Repayment begins immediately, but investments
  often take time to reap rewards. Credit
  constrained individuals may be unable to
  undertake high yield investments.

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Further Anomalies (II)

• If marginal returns are so high, why dont banks
  lend to them?
• HHs choose not to borrow (fear of formal,
  inflexible debt, etc.)
• Banks lend based on Average Product rather then
  Marginal Product (diminishing returns may set in
  pretty sharply)
• Although returns are high, variance may also be
  very high.

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Further Anomalies (II)

• If marginal returns are so high, why dont banks
  lend to them?
• HHs choose not to borrow (fear of formal,
  inflexible debt, etc.)
• Banks lend based on Average Product rather then
  Marginal Product (diminishing returns may set in
  pretty sharply)
• Although returns are high, variance may also be
  very high.
• This question particularly puzzling since Karlan
  and Zinman (2006) show that accepting marginally
  rejected loan clients IS profitable and welfare
  improving