Microfinance institution and moneylenders in a segmented rural credit market

Abstract

PurposeThe effectiveness of microfinance institutions (MFIs) in rescuing poor borrowers from “clutches of” moneylenders has been a much-debated topic over the past few decades. This paper aims to contribute by presenting a model of competition between a socially motivated MFI and profit-maximizing moneylenders when market segmentation exists.Design/methodology/approachA principal–agent model is used to characterize equilibrium conditions under scenarios where only moneylenders operate, only MFI operates and when both co-exist to pose comparative results effectively.FindingsThe authors find unambiguous benefits arising when a welfare-maximizing MFI enters the market. However, there are benefits to having local agents like moneylenders on the ground who also have informational advantages.Originality/valueTo the best of authors’ knowledge, this study is the first to evaluate the competition between MFI and moneylenders under the framework of captive and noncaptive segments with a mandatory savings requirement.