Competition and Microcredit Interest Rates

15 February 2006

In many countries, including Uganda, Bangladesh, and Bolivia, microfinance has become more competitive in recent years. Competition is generally expected to benefit consumers by offering a wider choice of appropriate products and providers, better service, and lower prices.

However, in some countries where microfinance is considered competitive, interest rates on microloans have remained stubbornly high. For example, in Bangladesh, interest rates on loans have averaged 15 percent flat for many years, despite competition among hundreds of microfinance institutions (MFIs). This situation has been criticized by politicians and some activists and has even led to interventions, such as interest rate ceilings, to address the apparent failure of market-based solutions. In Bangladesh, for example, the state apex body PKSF recently capped on-lending interest rates for its MFI clients at 12.5 percent flat.

Does competition result in lower interest rates to microcredit customers? To address this question, this Focus Note analyzes the experiences of Uganda, Bangladesh, and Bolivia. These three countries are home to some of the early regional and even global pioneers of microcredit, such as Grameen Bank, CERUDEB, and PRODEM. Combined, they constitute a considerable mass of microfinance clients—nearly 12 million active borrowers, although Bangladesh has the most active borrowers by far (10.6 million compared with 500,000 in Uganda and 400,000 in Bolivia). Considerable primary and secondary research has already been undertaken in these countries in recent years—another factor in their selection for this study. In addition, none of these countries has a formal legislated interest rate cap.