Competition and microfinance interest rates in Sub Saharan Africa

Abstract

This paper examines the competition effects on microfinance lending interest rates while also considering firm profitability and social outreach. The study, which covers microfinance institutions in 32 countries in Sub-Saharan Africa, is conducted across two cases. The first case clusters the microfinance institutions into three types: non- profit microfinance institutions, for-profit microfinance institutions and both types combined while the second involves clustering the microfinance institutions based on where their home countries rank on the global competitiveness index (Gel) by the World Bank. The Herfindal Hirschman index to measure the market concentration and panel data regression analysis is used in studying relationships. The findings show that the region is characterized by high market concentration with an inverse relationship between market concentration and lending interest rates only for profit microfinance institutions. Similar results are found in the less competitive / low productivity countries. In addition, for the profit microfinance institutions a positive relationship exists between interest rates with firm profitability and social outreach, which indicates that higher interest rates improves firms' profitability and attracts a larger number of risky borrowers. However, the borrowers are put at risk of over-indebtness. With these findings it is concluded that there is a need for improvement of institutional frameworks and higher penetration of nonprofit microfinance institutions specifically in low productivity regions for a more effective and efficient use of microfinance to achieve poverty alleviation.