An important means of exiting poverty is access to productive resources, yet many poor people lack the capital necessary to invest in higher education, smooth consumption or start a business. Expanding access to credit is a common means to enable participation in the economy, and there is a common assumption that expanding access to productive credit makes entrepreneurs and small business owners better off. There is less consensus however, on whether expanding access to credit to support consumption helps borrowers, particularly when loans are being extended at high interest rates to higher risk customers.
Poverty in South Africa is widespread; approximately 57% of individuals were living below the poverty line in 2001.1 While numerous impoverished areas could potentially benefit from increased access to credit to help smooth household consumption, there is evidence that South Africa’s microfinance institutions offer money to primarily working class and small-scale business people. Informal moneylenders dominate the highest-risk market segment, specifically the poor and uneducated, and typically charge 30-100% interest per month.
The cooperating Lender has operated for over 20 years as one of the largest, most profitable microlenders in South Africa. It offers small loans at high interest over short periods of time, frequently to the working poor who have no collateral and must make payments on a fixed schedule.
This evaluation examined the direct impact of small consumer loans on household consumption, investments, wealth, education, health, and well-being. The sample consisted of 787 rejected loan applicants deemed potentially creditworthy by the Lender. Applicants were eligible if they had been rejected under the Lender’s normal underwriting criteria but not found to be egregiously uncreditworthy by a loan officer. The motivation for increasing credit supply for a pool of marginal applicants is twofold. First, it focuses on those who stand to benefit most from expanding access to credit, namely the unbanked poor. Second, it provides the Lender with information about the expected profitability of changing its selection process to examine marginally creditworthy individuals more closely.
A random portion of the eligible applicants were then assigned a “second look” by lender staff who were encouraged but not required to approve a randomly selected portion of these applicants for loans. Ultimately branches made loans available to 53% of the previously rejected applicants who had been randomly assigned to be re-examined. Accepted applicants were offered an interest rate, loan size, and maturity per the Lender’s standard underwriting criteria. Nearly all received the standard contract for first-time borrowers: a 4-month maturity at 200% APR.
Following the experiment, applicants in the treatment and comparison groups were surveyed to examine behavior and outcomes that might be affected by access to credit.
Results and Policy Implications
Impact for Borrowers: Expanding access to credit is found to significantly increase well-being of borrowers. Economic self-sufficiency (employment and income) was higher for treated applicants than for those in the comparison group 6-12 months after treatment. Twenty-six percent of treated households report an improvement in food consumption. Subjective measures of intra-household control, community status and overall optimism are also higher for treated applicants. Negative effects are found on reported depression and stress, another measure of subjective well-being.
Long-Term Impact: Over a 13-27 month horizon, study results also indicate a positive impact from having a credit score: having an ordinal score thanks to their credit history increased the probability of future loan approval in the sample by 19%, though there was no impact on the score itself.
Profitability: Offering loans to marginal applicants, formerly rejected by the Lender’s usual screening process, is also found to be profitable for the Lender, although it is still substantially less profitable than offering loans to more credit worthy applicants.
1Southern African Regional Poverty Network (SARPN), “Fact Sheet: Poverty in South Africa,” http://www.sarpn.org.za/documents/d0000990/. (Accessed September 21, 2009)