Paper

Term Structure of Debt and Entrepreneurial Behavior: Experimental Evidence from Microfinance

Managing trade-off between risk reduction and enterprise growth
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This study uses a field experiment to estimate the short and long-term impacts of varying the term structure of microfinance loans.

Financiers often structure debt contracts to limit the risk of entrepreneurial lending. Certain debt structures that reduce risk may, however, inhibit enterprise growth, especially among the poor. Most microfinance loan contracts require clients to begin making small and frequent repayment instalments immediately after loan disbursement. In this study, conducted through a field experiment with an MFI in Kolkata, India, clients in the control group initiated repayments within two weeks of receiving their loans, while clients in the treatment group received a two-month grace period before they began repayments. Findings indicate that a shift in grace period contract:

  • Increased clients' business investments in the short run and profits and income in the long run;
  • Increased clients’ rate of default, indicating a shift towards investments with higher average, but more variable returns.

The paper states that the absence of a grace period reduces risk as well as the potential impact of microfinance on microenterprise growth and household poverty.