Question

a)Discuss how group lending mitigates adverse selection and moral hazard problems.

b)Explain four limitations of group lending.

c)"Formal service providers in the financial sector focus more on men than women." Justify the view that microfinance institutions should focus on women.

Answer 1

Group lending reduces adverse selection because the group is formed by all the members itself who know all the members in the group thus the members do not have any incentive to keep a bad member in the group thus adverse selection would be mitigated

After taking loan customer knows that if he/she does not pays the loan then the other group members will make her pay so none in the group has any benefit in not paying the loan.

The four limitations of the group lending are:

1. The customer quarrels can affect the repayment of the loans.

2. During a small event near the group area all the customers would have repayment issues eg. riots

3. The loan recovery becomes difficult if the group gets negatively influenced and takes negative actions

4. If the whole group breaks then it is very difficult to recover the loans as the time in collecting from each customer will increase drastically

c. When a bank or FI provide a loan they see the repayment capability. We live in a more male dominant society thus the earning member is generally the male so all the mainstream finance is focused on the male. This is true but women plays an important role in managing the household finances, especially in the lower Strata of the society. They manage the finances, they manages expenses and also save. They even have better cohesion in group rather than a male so in micro lending women plays a pivotal role in the household finances and group dynamics. They can also utilise this loans to earn additional income to house which would help them grow.