The Credit-worthiness of a borrower and the selection process in Micro-finance: A case study from the urban slums of India

Paul, Sohini (2013): The Credit-worthiness of a borrower and the selection process in Micro-finance: A case study from the urban slums of India.

Abstract

This paper examines whether urban Micro-Finance Institutions (MFIs) consider proxy/ hidden collateral in the absence of physical as well as social collateral to judge the creditworthiness of a borrower. Micro-finance institutes operating in urban slums adopt an individual lending mechanism in several cases since borrowers are not willing to bear joint liability due to the acute problem of migration. Therefore, such urban MFIs that offer individual loans become extra-cautious to minimise default risk. To be specific, we study whether an MFI considers ownership of a 10ftx10ft room in a slum as a hidden selection criterion in a loan programme. Room ownership, on the one hand, indicates stability in a particular location, but on the other hand, it infers income generation capability of an aspirant borrower. We use a primary survey database collected from an NGO, Navnirman Samaj Vikas Kendra that provides micro credit in four slums of north Mumbai in India. We find that the probability of getting selected in a micro credit programme becomes significantly higher if a loan applicant owns a room in a slum compared to one who lives in a rented room. MFIs appear to be more concerned about shielding themselves from default than fulfilling the broad goal of maximising social welfare by reaching the poorest of the poor. We present our study with the caveat that the results may not be generalizable, since they are based on a case study.

• Item Type: MPRA Paper
• Language: English
• Keywords: Micro-finance; Credit-worthiness; Financial Sustainability; Urban slums
• Subjects: G - Financial Economics > G2 - Financial Institutions and Services > G20 - General; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages

References

Alam, P. & Nizamuddin, M. (2012). Micro-finance and self-help-groups in women empowerment: A case study of district Mewat. International Journal of Entrepreneurship and Business Environment Perspectives, 1(2).

Besley, T. (1994). How do market failures justify interventions in rural credit markets? World Bank Research Observer, 9(1): 27–47.

Besley, T. & Coate, S. (1995). Group lending, repayment incentives and social collateral. Journal of Development Economics, 46(1): 1–18.

Brau, J. C. & Woller, G. M. (2004). Microfinance: A comprehensive review of existing literature. Journal of Entrepreneurial Finance, 9(1): 1–27.

Cabraal, A., Russell, R. & Singh, S. (2006). Microfinance: Development as Freedom. Paper presented at the Financial Literacy, Banking and Identity Conference, October 25–26, 2006. RMIT University, Melbourne.

Chowdhury, P. R. (2005). Group-lending: Sequential financing, lender monitoring and joint liability. Journal of Development Economics, 77: 415–439.

Economic Survey of Maharashtra (2002–03). Published by Maharashtra Government, India.

Ghatak, M. (2000). Screening by the company you keep: Joint liability lending and the peer selection effect. Economic Journal, 110(465): 601–631.

Giné, X. & Karlan, D. (2006). Group versus individual liability: Evidence from a field experiment in the Philippines. Working Paper 940. Yale University Economic Growth Center.

Goldmark, L. (2001). Micro-enterprise development in Latin-America: Towards a new flexibility. Journal of Socio-Economics, 30: 145–149.

Hoff, K. & Stiglitz, J. (1990). Imperfect information and rural credit market: puzzles and policy perspectives. The World Bank Economic Review, 4(3):235–50.

Kono, H. (2006). Is group lending a good enforcement scheme for achieving high repayment rates? Evidence from field experiments in Vietnam. Mimeo, Institute of Developing Economies, Chiba, Japan.

Matin, I., Hulme, D. & Rutherford, S. (2002). Finance for the poor: from microcredit to micro financial services. Journal of International Development, 14(2) 273–94.

Morduch, J. (2000). The microfinance schism. World Development, 28(4): 617–29

Navajas, S., Schreiner M., Meyer, R. I., Gonzalez-Vega, C., and Rodriguez-Meza, J. (2000). Microcredit and the poorest of the poor: Theory and evidence from Bolivia. World Development, 28(2) 333–346.

Patole, M. & Ruthven, O. (2001). Metro money lenders: Microcredit providers for Delhi's poor. Small Enterprise Development, 13(2): 36–45.

Pitt, M., Khandker, S. R. & Cartwright, J. (2006). Empowering women with micro-finance: Evidence from Bangladesh. Economic Development and Cultural Change, 54 (4): 791–831.

Ravi, M. N., Shetty N. S. & Mayya, P. S. (2012). Micro-finance as a tool for rural-women empowerment—a case study on women-based SHGs of Channarayapatna taluk in Hassan district, Karnakata, India. International Journal of Business Economics and Management Research, 2 (4): 22–31.

Rhyne, E. (1998). The Yin and Yang of microfinance: Reaching the poor and sustainability. Microbanking Bulletin 2: 6–8.

Rhyne, E. & Otero, M. (Eds.) (1994). The New World of Microenterprise Finance: Building Healthy Financial Institutions for the Poor. West Hartford, CT: Kumarian Press.

Ruthven, O. (2002). Money mosaics: Financial choice and strategy in a west Delhi squatter settlement. Journal of International Development, 14(2):249–71.

Woolcock, M. (2001). Micro-enterprise and social capital: A framework for theory, research and policy. Journal of Socio-Economics, 58: 17–42

Woolridge, J. (2003). Introductory Econometrics: A Modern Approach. South-Western, Thomson Learning.

Yunus, M. (1998). Banker to the Poor: The Autobiography of Mohammed Yunus. University Press of Bangladesh, Bangladesh.