Entry of Profit-Motivated Microfinance Institutions and Borrower Welfare

Abstract

In this paper, we model welfare implications of entry of commercial micro nance institutions (MFIs). We initially characterize equilibrium with a sole fund-constrained benevolent credit institution followed by equilibrium with only pro t-motivated MFIs. We show that entry of such MFIs can lead to an increase in interest and default and a decline in screening. However, it can still represent a Pareto improvement since: all agents previously denied credit can obtain loans, and existing clients have the option of seeking loans from MFIs. Finally, we model multiple group formation as an equilibrium mechanism, which allows more e cient risk diversi cation.