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Development economics > 5. Saving, credit and insurance > Flashcards

5. Saving, credit and insurance Flashcards

1
Q

What is microfinance?

A

Small amounts of money for savings, insurance or very often credit being offered in the form of group loans or sometimes with loans that can be built up over time.

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2
Q

What is the primary function of the financial system?

A

To allow the income and consumption streams of economic agents to be desynchronised - that is, made less similar using the components time and risk

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3
Q

When does consumption smoothing occur?

A
  • Over the short term (bank accounts)
  • Over the long term (savings and credit)
  • Over different states of the world (eg.insurance)
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4
Q

What are some of the challenges a financial system may face in low-income countries (4)?

A
  • Macro volatility (exchange rates, inflation, political)
  • Weak financial regulation (fraud, corruption)
  • Poor financial infrastructure (weak systems)
  • Limited access to banking services
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5
Q

Why do many people choose simply not to use banks in low-income countries?

A

For reasons such as a lack of documentation, distance from an actual bank and costs such as a minimum deposit. Many cases here have to pay an excess to save money

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6
Q

What are some common market imperfections that impact savings decisions?

A
  • Substantial savings constrains
  • Credit constraints and little formal insurance
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7
Q

Why is saving important?

A
  • Life-cycle consumption smoothing
  • Finance lumpy expenditures (school fees, medical exp)
  • Build up assets to use as collateral to obtain credit
  • Build up assets to respond to income shocks
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8
Q

What is the cheapest way of retaining risk?

A

Retaining risk through savings (or borrowing) is tyically cheaper than purchasing insurance for all but the most catastrophic risks

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9
Q

What are some of the key constraints on saving?

A
  • Financial and non-financial
  • Poor financial literary (interest rate comprehension)
  • Social constraints (informal agreements, reciprocity)
  • Behavioural biases (impatience for example)
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10
Q

What are some examples of financial costs and non-financial costs?

A
  • Set up charges
  • Non-monetary costs associated with access to formal banks can be extremely high: opportunity costs, lack of convenience, large distances
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11
Q

What are some of the example constraints that come from social constraints?

A
  • Pressure from husbands may reduce the savings abilities of women
  • Low incomes pressure savings with other households in a kindship network which may disincentives savings
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12
Q

What are time inconsistent preferences?

A

Setting plans to save in the future but not following these plans when it is time to do so

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13
Q

What is an example of how to overcome behavioural biases in the form of time inconsistent preferences?

A

The effectiveness of commitment devices, Duflo et al (2011) used fertiliser coupons in Kenya to help farmers commit to buying ferilizer for the following season

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14
Q

How can some constraints to formal saving be avoided/What are some examples?

A

Through informal saving such as buffer stocks, ROSCAs

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15
Q

What are buffer stocks?

A

What a way of saving money, not in money in cattle, for example, in India and gold and jewellery or other examples

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16
Q

Name, a paper that demonstrates informal saving?

A

Rosenzeig and Wolpin (1993)

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17
Q

What are the limitations of buffer stock saving?

A
  • Consumption may fall dramatically if a buffer stock runs out, for example in Ethiopian famines
  • value of assets might also drop when an income shock affects the large area
  • if assets are productive, the long-term losses may be higher than a short term gain
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18
Q

What is a ROSCA?

A

(Rotating savings and credit associations) pool a fixed savings amount from each ROSCA member at a group meeting

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19
Q

How is funding allocated in a ROSCA?

A

The pool of funds is allocated on a rotating basis. The order can be fixed, random or through bidding.

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20
Q

How are ROSCAs enforced?

A

Enforcement comes through social sanctions. This avoids members defecting.

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21
Q

Why are ROSCAs useful?

A

Pauline provides funds faster than serving individually (half the time on average)

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22
Q

Who often uses ROSCAs?

A

Often used by women to control savings, e.g. avoid pressure from their husbands

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23
Q

What are the advantages of a ROSCA?

A
  • the life of a ROSCA has a clear, beginning and end
  • the accounting is very simple
  • there is no need to store large amounts of money
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24
Q

What are the disadvantages of a ROSCA?

A
  • The contribution is fixed
  • the pot size is also fixed
  • ROSCAs cannot mobilise funds from the outside community
  • very reliant on social sanctions
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25
Q

Why is access to credit important?

A
  • Credit can be used for consumption, smoothing such as permanent income, hypothesis
  • Investment eg business or productive asset
  • work in developing countries is often very irregular
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26
Q

Why is access to credit important for women?

A

Women often face more significant barriers to accessing financial resources, providing credit can allow for greater financial independence

27
Q

What are some of the challenges that come with providing credit to the poor?

A
  • informational problems and risky projects
  • no collateral
  • enforcement of repayment is difficult (weak and regulation)
28
Q

What are micro finance institutions (MFIs)?

A

MFIs provide financial services, including microcredit to people who are otherwise we have no access or access only on very unfavourable terms

29
Q

what is the focus of MFIs?

A

The focus is often small loans for small scale. Enterprises were traditional lenders versus the issues of no collateral, poor information and or enforcement.

30
Q

Why does microcredit often use group lending schemes?

A

This joint liability provides a pressure for collateral of peer pressure to jointly repay

31
Q

How can repayments be increased?

A
  • dynamic incentives
  • targeting women
32
Q

what are dynamic incentives?

A

Borrowers are eligible eligible for a future loan if they repay

33
Q

Why is targeting women a good policy to increase repayments?

A

Women borrow as they repay at significantly higher rates due to more caution investments, more sensitive to public disclosure of default, less likely to have outside loan opportunities

34
Q

What is a prime example of micro finance?

A

The Grameen Bank in Bagladesh

35
Q

What are the limitations of micro finance?

A
  • Credit constraints are not the only binding constraints on the poor
  • Most poor people would prefer to have a stable job than entrepreneurship ‘reluctant entrepreneurs’
  • Much of the credit is used to support consumption, not investment, in South Africa in 2015 this rate was as high as 94%
  • High interest rates help cause over-indebtedness, Banco compartamos in Mexico had interest rates of over 100%
36
Q

What does the empirical evidence suggest about the effectiveness of Microfinance?

A

In some studies there are positive effects of microfinance and others no effect in reducing poverty

37
Q

What regions of a country do shocks happen the most and why?

A

More often in agriculture because it is very risky

38
Q

What are the two main sources of risk?

A
  • Covariate aggregate shocks
  • Idiosyncratic shocks
39
Q

What are covariate/ aggregate shocks?

A
  • Affect all members of a community or region
  • Formal or informal insurance transfers are needed from outside
  • Drought rain/ floods, crop pest, input or output price shocks
  • Difficult to protect from as a group
40
Q

What are idiosyncratic shocks?

A
  • effects only a particular individual household
  • can be insured within community
  • for example, theft, crime, job, loss, illness, death of family member
  • Very often related to health or theft and crime but can be protected by a group
41
Q

What are the two possible forms of insurance available in low income countries?

A
  • Indemnity insurance - payouts linked to a specific event
  • Index insurance - payouts linked to an index (eg.rainfall)
42
Q

Why is take-up of insurance low in poor countries despite high risk?

A

Indemnity insurance is very expensive so people prefer savings
Index insurance contains basic risk that if the loss occurs but payment is not triggered

43
Q

How do many people insure themselves in developing countries?

A

With social protection and income smoothing

44
Q

What are the implications with the lack of insurance for the poor?

A
  • Reduced investment due to a need to retain savings
  • Long-term damaging impact of large shocks on health
  • Household prioritising income smoothing activities
45
Q

What are the implications of income smoothing?

A

Reducing in income variance but also in mean income

46
Q

What is risk sharing?

A

Implies households insure each other by trading across different realisations of the world if one household experiences a shock, the others will support

47
Q

What are the intergenerational effects of shocks?

A

There is first the immediate cost from the shock but this may result in having to sell buffer stocks or infrastructure if you have no insurance but at the cost of future productivity

48
Q

What are the benefits of Government social protection programs?

A
  • Lower the need for precautionary savings - more investment
  • Prevent the use of detrimental coping strategies such as taking children out of school and selling productive assets
49
Q

What are the issues in providing social protection?

A
  • Targeting who is entitled to support
  • Crowding out
  • Distortionary effects - Why work
50
Q

What are some examples of self-targeting social protection programs?

A
  • The productive safety net program (PSNP) Ethiopia
  • The national rural employment guarantee act (NREGA) India
51
Q

What is an important thing to remember about policy?

A

It can only be as good as the institutions that implement it

52
Q

How many people do not use formal services to save or borrow?

A

2.5 billion

53
Q

Why are commercial banks not interested in loaning to small business in developing economies?

A

Because the sums involved are small (usually less than $1,000) but administration and carrying costs are high, and also because few informal borrowers have the necessary collateral to secure formal-sector loans, commercial banks are simply not interested

54
Q

Name some countries where ROSCAs exist?

A

Mexico, Bolivia, Egypt, Nigeria, Ghana, the Philippines, Sri Lanka, India, China, and South Korea, a group of up to 50 individuals form

55
Q

How much faster is saving through a ROSCA than individual saving on average?

A

Twice as fast

56
Q

What has been the impact of saving of ROSCAs in Kenya?

A

A study in Kenya found that participants did not increase savings when given access to savings accounts; but did when given access to a ROSCA. Such findings are consistent with the importance of external self-commitment devices, as emphasised by behavioural economists, or related social pressure for achieving savings goals

57
Q

What are some of the negatives of joint liability?

A

On the other hand, joint liability has the potential of being very costly to borrowers. First, in principle, having to repay for a defaulting group member can throw a good borrower into deeper poverty

58
Q

How has the use of microfinance grown?

A

The growth of microfinance has been dramatic—rising from an estimated 13 million borrowers in 1997 to 211 million borrowers by 2013

59
Q

How can access to credit be improved by governments going forward?

A

Until legal reforms are enacted, making it easier for small enterprises to gain access to the formal credit system, or more NGO- or government-supported credit programmes are established to serve the needs of the non corporate sector, the financial systems of most developing countries will remain unresponsive to the fundamental requirements of participatory national development.

60
Q

What are some of the limitations with microfinance regarding the idea of ‘reluctant entrepreneurs’?

A

Microcredit was first conceived and is still largely marketed as financing for microenterprises, but most people probably prefer a regular wage and salary to running a risky microenterprise

61
Q

Is there any evidence of reluctant entrepreneurship?

A

Although systematic evidence is lacking, interviews with factory workers in developing countries such as Peru and Bangladesh suggest that many are former microentrepreneurs who gave up their enterprises in favour of a regular job.

62
Q

Why may microfinance be seen as a transitional institution?

A

Thus, the primary problem may be the lack of available jobs paying a steady wage or salary—a problem compounded further when custom still prevents women from taking on outside employment that becomes available.24 To this extent, microcredit, as classically conceived, may prove to be in large measure a “transitional institution.

63
Q

What should you conclude on microfinance?

A

In summary, microfinance is a powerful tool, but it needs to be complemented with other growth, poverty-reduction, financial-sector development, human capital, infrastructure building, and—last but by no means least—conventional job-creation policies. In the meantime, hundreds of millions of people depend, in part, on microenterprises, so helping them to become more efficient is an important objective; and their provision of lending, saving, and insurance services can provide broad benefits for people living in poverty.

Development economics (17 decks)

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