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Interest rates in microfinance: What is a fair interest rate when we lend to the poor?

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Abstract

This paper analyses how much is fair interest rate when lending to the poor. Empirical works of literature on microfinance interest rates are investigated to explain the basis of the exigent ethical debates. To further understand the fairness of an interest rate in microfinance, theoretical investigations were also conducted. The findings suggest that providing financial services to the bottom of the pyramid is costly, but feasible. A fair interest rate is affordable to the poor, and, at the same time, could enable microfinance institutions to be sustainable and allow them to provide a permanent financial service to low-income households. The findings also suggest that microfinance institutions are charging a high interest rate to cover operational costs rather than a profit orientation. The studies reviewed in this paper also show that a high interest rate has both a positive and a negative significant effect on microfinance institutions’ financial performance and social mission respectively. However, there is an interest rate threshold level that would balance the interests of all stakeholders in the microfinance industry. Indeed, looking for an optimal interest rate that makes microfinance institutions self-sufficient and sustainable, at the same time affordable to borrowers’ requires stakeholders’ collaboration.

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Data availability

The data that support the findings of this study are available from the corresponding author upon reasonable request.

Notes

  1. Not including a 15% tax paid by clients, (Rosenberg, 2007).

  2. Institutions like The Consultative Group to Assist the Poor (CGAP) (Hudon et al. 2011).

  3. Proponents such as Nobel Peace Prize Laureate Muhammad Yunus (Hudon et al. 2011).

  4. Interest rate has a significant positive relationship with loan delinquency rate (Sun et al. 2015).

  5. The multi-theoretical approach is ‘to help compare and integrate diverse theories and to increase the explanatory power of research efforts’ (Monge and Contractor 2003).

  6. Formed by companying entrepreneur theory and stakeholder theory (Sun et al. 2015).

  7. A proxy to interest rate.

  8. Stakeholders are customers, employees, donors, governments, investors and other beneficiaries.

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Acknowledgements

In presenting this review, I would like to express my gratitude to my collegues for their helpful ideas, and kind responses to my questions during the entire phases of my study.

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  1. College of Business and Economics, Bahir Dar University, Po.Box. 1054, Bahir Dar, Ethiopia

    Hailu Abebe Wondirad

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HAW is a corresponding author who major wrote the manuscript.

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Wondirad, H.A. Interest rates in microfinance: What is a fair interest rate when we lend to the poor?. Qual Quant 56, 4537–4548 (2022). https://doi.org/10.1007/s11135-022-01320-0

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