Contract Structure, Risk Sharing and Investment Choice
Few microfinance-funded businesses grow beyond subsistence entrepreneurship. This paper considers one possible explanation: that the structure of existing microfinance contracts may discourage risky but high-expected return investments. To explore this possibility, I develop a theory that unifies models of investment choice, informal risk sharing, and formal financial contracts. I then test the predictions of this theory using a series of experiments with clients of a large microfinance institution in India. The experiments confirm the theoretical predictions that joint liability creates two inefficiencies. First, borrowers free-ride on their partners, making risky investments without compensating partners for this risk. Second, the addition of peer-monitoring overcompensates, leading to sharp reductions in risk-taking and profitability. Equity-like financing, in which partners share both the benefits and risks of more profitable projects, overcomes both of these inefficiencies and merits further testing in the field.
|Date of creation:||Feb 2011|
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- Xavier Giné & Pamela Jakiela & Dean Karlan & Jonathan Morduch, 2010.
American Economic Journal: Applied Economics,
American Economic Association, vol. 2(3), pages 60-95, July.
- Xavier Gine & Pamela Jakiela & Dean Karlan & Jonathan Morduch, 2006. "Microfinance games," Framed Field Experiments 00150, The Field Experiments Website.
- Gine, Xavier & Jakiela, Pamela & Karlan, Dean & Morduch, Jonathan, 2006. "Microfinance games," Policy Research Working Paper Series 3959, The World Bank.
- Dean Karlan & Xavier Gine & Jonathan Morduch & Pamela Jakiela, 2006. "Microfinance Games," Working Papers 936, Economic Growth Center, Yale University.
- Xavier Gine & Pamela Jakiela & Dean Karlan & Jonathan Morduch, 2006. "Microfinance Games," Working Papers 2102, The Field Experiments Website.
- Giné, Xavier & Karlan, Dean S., 2007.
"Group versus Individual Liability: A Field Experiment in the Philippines,"
CEPR Discussion Papers
6193, C.E.P.R. Discussion Papers.
- Dean Karlan & Xavier Giné, 2007. "Group Versus Individual Liability: A Field Experiment in the Philippines," Working Papers 111, Center for Global Development.
- Gine, Xavier & Karlan, Dean S., 2006. "Group versus individual liability : a field experiment in the Philippines," Policy Research Working Paper Series 4008, The World Bank.
- Xavier Gine & Dean Karlan, 2006. "Group versus individual liability: A field experiment in the philippines," Natural Field Experiments 00253, The Field Experiments Website.
- Xavier Gine & Dean Karlan, 2006. "Group versus Individual Liability: A Field Experiment in the Philippines," Working Papers 940, Economic Growth Center, Yale University.
- Armendariz de Aghion, Beatriz, 1999. "On the design of a credit agreement with peer monitoring," Journal of Development Economics, Elsevier, vol. 60(1), pages 79-104, October.
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