Competition and microcredit interest rates

Abstract

In many countries, including Uganda, Bangladesh, and Bolivia, microfinance has become more competitive in recent years. Competition is generally expected to benefit consumers by offering a wider choice of appropriate products and providers, better service, and lower prices. However, in some countries where microfinance is considered competitive, interest rates on micro-loans have remained stubbornly high. Does competition result in lower interest rates to micro-credit customers? To address this question, this focus note analyses the experiences of Uganda, Bangladesh, and Bolivia. These three countries are home to some of the early regional and even global pioneers of micro-credit, such as Grameen Bank, Centenary Rural Development Bank (CERUDEB), and Proposed Multi-sector Demographic Program (PRODEM). The general expectation about competition's effect on pricing is qualified by the recognition that markets evolve, and that the competitive behavior of firms will evolve as well. The different experiences of these countries suggest that lower interest rates are not the inevitable result of market development but are more likely to result when certain conditions are present: there must be sufficiently large providers in the market, with sufficient incentive and sufficient ability to reduce their rates. This focus note will help microfinance institutions, policy makers, and donors assess the stage of development of competition in a particular market and determine whether appropriate conditions are in place to foster sustained interest rate reduction.

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