The impact of financial and social performance of microfinance institutions on lending interest rate: A cross-country evidence

Abstract

The present paper examines the impact of financial and social performance of microfinance institutions (MFIs) on lending interest rate. The paper has covered five-star-rated MFIs in all the six regions of the world individually and collectively for the period of 2006–2012. Data for 382 MFIs belonging to 70 countries around the world have been taken from the Microfinance Information Exchange (Mix Market). Financial performance is captured through return on assets, return on equity, and operational self-sufficiency, whereas social performance is measured through average loan size and number of credit clients. The lending interest rate is a weighted average of the interest rates actually received by the MFIs from their clients. The paper incorporated some control variables to capture variations in size, age, location, and infrastructure of MFIs. Panel data estimation techniques have been applied to find out the empirical association between the selected variables. Most of the results have shown that cost of funding, return on assets (ROA), and the number of credit clients have a significant positive impact on lending interest rate around the world. However, depth outreach as depicted by average loan size has significant inverse relation with lending interest rates. Moreover, results also highlight different factors that affect the productivity of MFIs around the world.

Keywords:

• lending interest rate
• microfinance institutions
• financial performance
• outreach

Public Interest Statement

The basic purpose of the microfinance institutions is to fulfill the demand of poor segment of the society by providing them credit facilities on affordable interest rates. This industry has a dual mission, that is to expand its social outreach and at the same time maintain its financial sustainability. The way microfinance institutions pursue their social and financial objectives has consequences on their interest rate determination. Thus, this paper helps MFIs, borrowers, and policymakers to understand this interest rate mechanism. The high interest rate signals more emphasis in attaining financial objectives on the cost of sacrificing the social outreach. The results suggest that MFIs required a tradeoff between social and financial objectives.

Notes

1. The results of GMM estimations are not reported but available from the author upon request. As the model includes endogenous variables, it can be possible that causality run from these regressors (ROA, AVGLS, and IF) to lending interest rate and vice versa. In this case, our regressors may also correlate with the error term. Another issue can be that time-invariant country-fixed effects may also related to the error term. Therefore, in order to deal with endogeneity issue and to eliminate the unobservable country-fixed effects, this study also employed GMM method. This method uses the lag value of regressors as instruments to deal with endogeneity problem. Through transforming the regressors by first differencing, the country-specific unobservable effects are removed. Tests of Hansen/Sargan are estimated to test the model specification validity. This test examines the lack of correlation between the instruments and the error term. And the p-value turn out greater than 0.05; therefore, the null cannot be rejected that the instruments as a group are exogenous. And also the results are consistent with random-effects method.

Additional information

Funding

This work is funded by the University of Twente, The Netherlands.

Notes on contributors

Afsheen Abrar

Afsheen Abrar obtained MBA degree from the Quaid-e-Azam University Islamabad and MS-Finance degree from Shaheed Zulfikar Ali Bhutto Institution of Science and Technology, Islamabad, Pakistan. At present, she is pursuing her PhD from the University of Twente, the Netherlands. Her broad research area is financial markets and institutions. Currently, she is on study leave from National University of Modern Languages, Islamabad, where she is working as an assistant professor. She has also attended various professional and research training sessions at domestic and international level.