The distinction between microlending and microsaving is largely illusory, according to research by Uzma Afzal, Giovanna d’Adda, Marcel Fafchamps, Simon Quinn and Farah Said, published in the September 2018 issue of the Economic Journal.
Their natural experiment with poor households in rural Pakistan finds that participants value a mechanism for regular deposits and lump-sum accumulation, whether it is structured as a credit or debt contract.
With microfinance often heralded as a panacea for poverty in developing countries, the new study makes an important contribution towards understanding what demand microfinance is actually satisfying and designing more effective and more equitable microfinance products.
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Saving and borrowing are often considered to be diametrically different behaviours: the former is a means to defer consumption; and the latter, a means to expedite it. This study tests whether the distinction between saving and borrowing collapses under two conditions common in many poor communities: that individuals struggle to hold savings over time; and that they wish to incur lumpy expenditures.
If these two conditions hold, then the same individual may prefer to take up a saving product and, simultaneously, prefer to accept a loan product. Both products provide a valuable mechanism for accumulating the resources needed for a lumpy purchase.
The researchers test these hypotheses through a field experiment in Pakistan. They design a simple repayment structure loosely modelled on the idea of a ROSCA (rotating savings and credit association) and offer it as an individual microfinance product.
The product is offered three times to each participant, randomly varying the time of repayment and repayment amount, such that the product can take the form of a microcredit or microsaving product offering a positive, null or negative interest rate.
The researchers find that the same pool of respondents demand both microcredit and microsaving products. Indeed, of the participants who were offered both a credit and a savings contract over the course of the three experiment waves, 53% accepted both forms of contract.
Take-up is higher and sensitivity to the contract terms is lower among individuals who face many financial requests from family members, people who state that they would save or invest a hypothetical loan, and households that receive an irregular income flow.
The researchers use structural estimation to test whether behaviour within their experiment conforms to traditional models predicting that individuals should either demand to save or demand to borrow but not both; or to their model, which considers credit and saving as substitutes.
They find that of the participants whose behaviour can be rationalised through this methodology, two thirds behave as if they have high demand for lump-sum accumulation coupled with savings difficulties.
These results imply that the distinction between microlending and microsaving is largely illusory: participants value a mechanism for regular deposits and lump-sum accumulation, whether it is structured as a credit or debt contract.
These results have potential implications for future academic research and for the design of more effective and equitable microfinance products:
• First, the researchers observe significant demand for a product with daily instalments, which is consistent with having frequent and irregular cash flows, and finding it difficult to save at home – two conditions that are often encountered among the poor.
• Second, the distinction between saving and borrowing is irrelevant for many people. Financial products designed to meet the needs of the poor should take these results into account.
With microfinance often heralded as a panacea for poverty in developing countries, this research makes an important contribution towards designing financial products better suited to the poor and understanding what demand microfinance is actually satisfying.
Disguising commitment contracts as credit enables microfinance institutions to charge interest, thereby raising the cost of saving for the poor. These findings indicate that many poor households with a source of daily income would welcome simple savings contracts with a high frequency instalment schedule.
‘Two Sides of the Same Rupee? Comparing Demand for Microcredit and Microsaving in a Framed Field Experiment in Rural Pakistan’ by Uzma Afzal, Giovanna d’Adda, Marcel Fafchamps, Simon Quinn and Farah Said is published in the September 2018 issue of the Economic Journal.
