Question

Group lending was the most striking innovation of the Grameen Bank, and it has been widely imitated by other microfinance initiatives.

(a). How does group lending address the problems that limit the supply of credit to poor households from traditional formal-sector lenders (e.g., banks)?

(b). A careful study of the operations of the Grameen Bank in the early 1990s concluded that each dollar of lending increased the consumption expenditures of borrowing households by 17 cents relative to what they would have been without the loan (repayment rates were almost 100% so this was net of repayment). Loans were very costly to administer, however, and at the interest rate charged on the loans, the Grameen Bank required a subsidy of 22 cents on every dollar of lending to remain sustainable. In your view, does this look like an effective use of public funds? Would it be better, for example, to reduce the subsidy (i.e., increase the commercial viability of the operation) by charging a higher interest rate?

Answer 1

Grameen Bank was develepod by an American-trained economist from Bangladesh to address some of the problems persists in credit market.

a). In the Grameen plan,entrepreneurs with seperate projects get together and apply for a loan as a group.If the loan is approved,two memebers of the group get their loan and commence their investment activity.If they are successful in meeting the repayment schedule,two or more members get loans.If they are also successful the last member,the group leader will get a loan.

Group lending address each of the problems successfully.Since the quality of the group influences whether or not individual members will get loans,potential members are highly selective about who they will join with.Since members of the group can only get loans if other members succeed in their investments,there are strong incentives to help each other out and share expertise.

Finally,these activities of choosing candidates for loans and monitoring the progress of the repayments are all done by the peasants themselves,not directly by the loan officers at the bank. The incentive to repay the loan is based on peer pressure,if one group member defaults,the other group members make up the payment amount.

The Grameen bank has been very successful. Their loan recovery rate is about 98% while conventional lenders in Bangladesh achieve a loan recovery rate of about 30-40%.

b). In my view, it would be better to reduce the subsidy by charging a higher interest rate because providing heavy subsidy make developing countries fall into inescapable debt. Since loans are very costly and that heavy subsidy pressure falls on governement which is not easy to carry in long run.