Does restricting access to credit affect learning outcomes? Evidence from a regulatory shock to microfinance in India

We analyze the impact of a liquidity shock in the rural economy on children’s learning outcomes, leveraging a unique natural experiment that halted all microfinance operations in Andhra Pradesh (AP), India, in 2010. We utilize quasi-random variation in district-level exposure to the shock in states excluding AP, as the regulation affected lenders’ liquidity nationwide. Using difference-in-differences and event study designs, we find a significant and persistent decline in children’s learning outcomes. As plausible mechanisms, we find sustained negative effects on educational expenditure, private schooling, food expenditure, and livelihoods including mothers’ employment, though the magnitude and precision of these effects diminish over time. Younger children in their formative years show larger learning losses, whereas older children face substantial declines in education spending and years of education as costs rise at higher grades. Also, the adverse effects are more prominent for girls. This study contributes by documenting the long-term negative educational effects of a policy-induced financial contraction.