Impact analysis of the loan interest rate on the poor: the case of Tigray, Northern Ethiopia

Abstract

The main purpose of this study is not only to prove the impact of loan interest rates on the poor in the case of Tigray, Northern Ethiopia but also to recommend improvements to address the negative effects of interest rates that could benefit both the borrowers and the lenders. Combinations of quantitative and qualitative analytical tools were used; the data were collected through administration of a questionnaire to a sample of 471 respondents from three regulated MCIs, one cooperative enterprise, and one unregulated NGO. Results were analysed by using SPSS software. A multi-dimensional approach with respect to demand for credit, return on loan, loan repayment, savings, indebtedness, multiple loans, graduation process, and wellbeing was used and results were triangulated to obtain a full picture. The study has concluded that the interest rate in general, primarily charged by DECSI, eroded the envisaged profits that poor borrowers expected to gain. This caused diversified negative impacts on the poor, those who were entrusted to MCIs. It thus brings into question the efficacy of the social responsibility of MCIs. From a simple analysis, it is found that there is a trade-off between servicing the poor with a low loan cost and securing MCIs operational self-sufficiency. Furthermore, the poor are not only sensitive to the loan interest rate but also to the saving interest rate. Therefore, not only access but also the cost of credit and savings matters to the poor. Moreover, the study identified a positive relationship between the financial capacity of MCIs and lending interest rates. Institutions with higher profitability tend to offer lower interest rates on micro loans but not when commercialization is an issue. The study grasped that socially oriented and responsible MCIs can reach the poorest without compromising financial performances, a “win-win proposition”. Finally, the study offers comprehensive recommendations on policy and practice that address potential changes to how MCIs redesign their loan and savings interest rate. The recommendations also address how MCIs develop graduation processes and self-revolving credit scheme frameworks that strengthen pro-poor microcredit modality. Additionally, the study provides a way forward in the design of future microcredit that could help MCIs deliver on their core social mandate.