Building an honest microfinance organization: Embezzlement and the optimality of rigid repayment schedules and joint liability
AbstractWe consider the agency problem of a staff member managing microfinancing programs, who can abuse his discretion to embezzle borrowers' repayments. The fact that most borrowers of microfinancing programs are illiterate and live in rural areas where transportation costs are very high make staff's embezzlement particularly relevant as is documented by Mknelly and Kevane (2002). We study the trade-off between the optimal rigid lending contract and the optimal discretionary one and find that a rigid contract is optimal when the audit cost is larger than gains from insurance. Our analysis explains rigid repayment schedules used by the Grameen bank as an optimal response to the bank staff's agency problem. Joint liability reduces borrowers' burden of respecting the rigid repayment schedules by providing them with partial insurance. However, the same insurance can be provided by borrowers themselves under individual liability through a side-contract.
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Bibliographic InfoPaper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number 893.
Date of creation: Jan 2006
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Web page: http://www.econ.upf.edu/
Microfinance; Group Lending; Joint Liability; Embezzlement; Hierarchy; Contract;
Other versions of this item:
- Doh-Shin Jeon & Domenico Menicucci, 2006. "Building an Honest Microfinance Organization: Embezzlement and the Optimality of Rigid Repayment Schedules and Joint Liability," Working Papers 272, Barcelona Graduate School of Economics.
- O16 - Economic Development, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- G20 - Financial Economics - - Financial Institutions and Services - - - General
This paper has been announced in the following NEP Reports:
- NEP-ALL-2005-10-15 (All new papers)
- NEP-IAS-2005-10-15 (Insurance Economics)
- NEP-MFD-2005-10-15 (Microfinance)
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