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Information and Enforcement in Informal Credit Markets

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  • Parikshit Ghosh
  • Debraj Ray

Abstract

We study the problem of loan enforcement in an informal credit market where credit histories of borrowers are not available to lenders, raising the possibility of serial default. We show that if there is critical minimum proportion of natural defaulters in the populatin, then there exists an unique equilibrium constituted by certain simple "behavior rules" for lenders and borrowers. This equilibrium always takes the form that lenders advance limited amount of credit (possibly at higher interest rates) to first time borrowers; credit limits are relaxed and the relationship continued, conditional on repayment. We call this phenomenon micro-rationing. We also introduce the possibility of macro-rationing - at every date, the exclusion of some borrowers from any source of credit (similar to involuntary unemployment, a la Shapiro and Stiglitz (1984)). We observe (i) if both kinds of rationing are allowed, an unique equilibrium in simple, stationary strategies always exists (ii) micro-rationing is always rpesent in equilibrium (iii) macro-rationing arises if the proportion of natural defaulters in the market is below a certain threshold. Some comparative static properties of changes in the composition of borrowers are also derived. Finally, we show that if lenders had the option of privately collecting information on the credit histories of new clients at a cost, multiple equilibria could arise for intermediate values of such costs. We thus interpret limited client information in informal credit markets as a possible outcome of coordination failure among moneylenders.

Suggested Citation

  • Parikshit Ghosh & Debraj Ray, 1999. "Information and Enforcement in Informal Credit Markets," Boston University - Institute for Economic Development 93, Boston University, Institute for Economic Development.
  • Handle: RePEc:fth:bosecd:93
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    Cited by:

    1. Brown, Martin & Serra-García, Marta, 2014. "The Threat of Exclusion and Implicit Contracting," Working Papers on Finance 1407, University of St. Gallen, School of Finance, revised Jun 2016.
    2. repec:ebl:ecbull:v:4:y:2007:i:37:p:1-7 is not listed on IDEAS
    3. Rosete, Alfredo, 2016. "Property, Possession, Incorporation: Another Look at Agribusiness Venture Agreements in the Philippines," UMASS Amherst Economics Working Papers 2016-09, University of Massachusetts Amherst, Department of Economics.
    4. Eva Terberger, 2005. "Die Struktur des Finanzsystems und der Finanzierungszugang für kleine Unternehmen," Vierteljahrshefte zur Wirtschaftsforschung / Quarterly Journal of Economic Research, DIW Berlin, German Institute for Economic Research, vol. 74(4), pages 75-91.
    5. Dean Karlan & Jonathan Zinman, 2009. "Observing Unobservables: Identifying Information Asymmetries With a Consumer Credit Field Experiment," Econometrica, Econometric Society, pages 1993-2008.
    6. Giné, Xavier, 2011. "Access to capital in rural Thailand: An estimated model of formal vs. informal credit," Journal of Development Economics, Elsevier, vol. 96(1), pages 16-29, September.
    7. Dorothea Schafer & Boriss Siliverstovs & Eva Terberger, 2010. "Banking competition, good or bad? The case of promoting micro and small enterprise finance in Kazakhstan," Applied Economics, Taylor & Francis Journals, vol. 42(6), pages 701-716.
    8. Pigini, Claudia & Presbitero, Andrea F. & Zazzaro, Alberto, 2016. "State dependence in access to credit," Journal of Financial Stability, Elsevier, vol. 27(C), pages 17-34.
    9. Alexander Tedeschi, Gwendolyn, 2006. "Here today, gone tomorrow: Can dynamic incentives make microfinance more flexible?," Journal of Development Economics, Elsevier, vol. 80(1), pages 84-105, June.
    10. Gine, Xavier, 2005. "Access to capital in rural Thailand : an estimated model of formal versus informal credit," Policy Research Working Paper Series 3502, The World Bank.
    11. Vogelgesang, Ulrike, 2003. "Microfinance in Times of Crisis: The Effects of Competition, Rising Indebtedness, and Economic Crisis on Repayment Behavior," World Development, Elsevier, vol. 31(12), pages 2085-2114, December.
    12. Brown, Martin & Serra-Garcia, Marta, 2011. "The Threat of Exclusion and Relational Contracting," Discussion Papers in Economics 12287, University of Munich, Department of Economics.
    13. Jain, Sanjay & Mansuri, Ghazala, 2003. "A little at a time: the use of regularly scheduled repayments in microfinance programs," Journal of Development Economics, Elsevier, vol. 72(1), pages 253-279, October.
    14. Hering, Imke & Musshoff, Oliver, 2015. "Dynamic Incentives in Microfinance – What about the Farmers?," 2015 AAEA & WAEA Joint Annual Meeting, July 26-28, San Francisco, California 204673, Agricultural and Applied Economics Association;Western Agricultural Economics Association.
    15. repec:dau:papers:123456789/13356 is not listed on IDEAS
    16. Marco Di Maggio, 2007. "Information sharing in emerging credit markets," Economics Bulletin, AccessEcon, vol. 4(37), pages 1-7.
    17. Shapiro, D.A., 2015. "Microfinance and dynamic incentives," Journal of Development Economics, Elsevier, vol. 115(C), pages 73-84.
    18. Brown, M. & Serra Garcia, M., 2010. "Relational Contracting Under the Threat of Expropriation – Experimental Evidence," Discussion Paper 2010-85, Tilburg University, Center for Economic Research.

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