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Library » Psychology and Economics: What it Means for Microfinance

Psychology and Economics: What it Means for Microfinance
Mar 2008, Mullainathan, S. & Krishnan, S.

Psychological insights to improve economic models in microfinance

This note introduces readers to the sub-field of behavioral economics and shows how it can help understand basic phenomena in microfinance. It emphasizes the psychological underpinnings to everyday economic decisions, and states that not every decision is methodically contemplated, calculated and executed.

Providing psychological insights to the financial behavior of the poor, it is of particular relevance to MFIs in four operational areas:

Financial planning – they tend to underestimate future requirements, borrow where saving can help, and over borrow;
Sticking to a financial plan – they display poor debt discipline, simultaneously borrow and save, pay for inflexible flexibility during lean months, and over borrow;
Probability – they operate in inconsistent and volatile environment, assume small sample results hold true for larger populations, and assume that the same situation will continue;
Pricing – they are prone to picking suboptimal investment projects, and avoid insurance or other protection of their assets and livestock.

The paper concludes that a behavioral perspective can help understand why poor clients borrow at high interest rates, and continually turn to moneylenders and MFIs to meet their credit needs.

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Journal Volume/Pages:
14

Publisher(s):
Financial Access Initiative