The Income Augmenting and Budget Tightening Impacts of Microfinance: Theory and Evidence from Pakistan

• Published in: SAGE open Vol. 14; no. 3
• Main Authors: Khan, Wajid, Ullah, Ikram, Shaorong, Sun
• Format: Journal Article
• Language: English
• Published: SAGE Publishing 01.07.2024
• ISSN: 2158-2440; 2158-2440
• DOI: 10.1177/21582440241267368

Since the institutionalization of microcredit as the flagship poverty alleviation program, its potential has been under constant scrutiny by practitioners and researchers. This article extends previous work by analyzing two issues: (a) whether microcredit has the potential to alleviate poverty and (b) whether the conclusion drawn from the first issue is sensitive to interest rate variations. We first theoretically show that there is reason to believe that microcredit has the potential to change the fortunes of poor communities. However, the direction of the change in fortunes is uncertain and depends on how costly microfinance institutions’ financial services are perceived by the poor. We then test these theoretical assertions against data collected from 568 individuals from Northern Pakistan. By comparing various sub-groups using Ordinary Least Square and Binary Logistic regression analysis, our results reveal that higher interest rates more than offset the positive effects of microcredit on clients’ income. We also discuss policy implications of the findings. JEL Classification: I30, G21, C61, E64. Plain language summary This article addresses whether microcredit has the potential to alleviate poverty, and whether the conclusion derived to the first issue is sensitive to interest rate variations. For the purpose data were collected from six tehsil of Lower Dir Khyber Pukhtunkhwa, Pakistan and four MFIs. They are, Agricultural Development Bank/Zarai Taraqiati Bank (ZTBL), Bank of Khyber (BOK), Association of Behavioral Knowledge Transformation (ABKT), and Helping Hand (HH). The first two charge interest rate on loans while the later ones extend grants based on micro loan. Client of all these institutions are in thousands but 567 household received loan in the last 5 years. We found that the change in fortune can be in any direction, depending on how costly the financial services of the microfinance institutions are felt by the poor. Before closing, it is imperative to mention that the present study is conducted in one district of Khyber Pakhtunkhwa and do not cover the entire MFIs and NGOs of Pakistan. Moreover, the sampling method employed for data collection was convenient sampling and not random sampling. Hence further research with more sophisticated designs is needed to cover more MFIs and districts across Pakistan.