Claiming that microfinance institutions (MFIs) might discriminate against some micro-entrepreneurs may sound provocative. Pro-poor MFIs consider providing financial services to the poor and the unbanked a top priority. They are often sponsored by charitable foundations that would be put at risk if the institutions they support were suspected of discriminating against some group(s) of customers. However, evidence of discrimination in the credit market abounds, including evidence that MFIs discriminate against disabled micro-entrepreneurs. Well-meaning institutions cannot guarantee that their staff are unbiased. Discrimination is also harder to tackle in welfare-maximizing institutions, where the profit-seeking mindset is lacking.
In our paper “Discrimination by Microcredit Officers: Theory and Evidence on Disability in Uganda”, we study the discrimination by staff of MFIs. We argue that discrimination in microfinance is rooted in the decentralized governance of MFIs. Clientele selection in MFIs is typically delegated to loan officers, who spend a large part of their working time outside of the office, and can be prejudiced. Since the managers of MFIs do not look at the personal characteristics of borrowers, discrimination by loan officers would remain undetected. We make that point in three steps.
Firstly, we define discriminatory micro-lending as denying loans more frequently and/or granting loans with more stringent terms on the basis of observable characteristics unrelated to both creditworthiness and the MFI’s mission.
Secondly, we use a survey carried out in Uganda in 2008-2009 by the Association of Microfinance Institutions of Uganda (AMFIU) with the National Union of Disabled Persons of Uganda (NUDIPU) to document the discriminatory practices of loan officers. 231 staff members, among whom 133 credit officers, from 75 MFI branches filled out a questionnaire featuring two questions about the discriminatory behavior of the MFI: “I believe that one of the reasons why we have few disabled customers is because we often unconsciously marginalize or discriminate them” and “I believe that in this branch we never discriminate against people because of their disability”.
Figure 1 reports the distributions of answers to the two questions separately for credit officers and other employees. It shows that credit officers more often agree with the statement “we often discriminate” and less often with the statement “we never discriminate” than other employees. We studied the replies in more detail, and observed that the propensity of credit officers to admit the existence of discrimination was independent of their beliefs about the creditworthiness of disabled customers. This suggests that discrimination was due to an aversion to disabled customers, as opposed to erroneous beliefs about their likelihood to repay their loans.
Thirdly, building on the previous finding, we set up an agency model to investigate how a welfare-maximizing MFI may use high-powered incentives in their wage contracts to deter prejudiced loan officers from discriminating. While well-designed incentives might reduce discriminatory loan allocation, our model implies that a welfare-maximizing MFI faces a trade-off between fighting discrimination and extending outreach, because incentive contracts are costly and budget limited. Fighting discrimination therefore requires diverting resources from granting loans. In equilibrium the MFI may be better-off paying a smaller incentive premium, and letting its loan officers discriminate to some extent. Eradicating discrimination would be too costly in terms of outreach and welfare.
To our knowledge, our paper is the first to draw the theoretical consequences of taste discrimination in a welfare-maximizing MFI. We must stress that the normative implications of our contribution should be read with caution, considering the difficulty of designing adequate incentives in microfinance. However, discrimination by MFIs deserves more attention than it has received so far. Our contribution is intended to pave the way for future empirical investigations of discriminatory practices and research on anti-discrimination tools aligned with MFIs’ social mission.
Marc Labie is Associate Professor at the Warocqué School of Business and Economics, Université de Mons- UMONS (Belgium), Pierre-Guillaume Méon is a Professor of Economics at Université Libre de Bruxelles (ULB), Solvay Brussels School of Economics and Management and the director of the Centre Emile Bernheim (Belgium), Roy Mersland is a Professor at the University of Agder (Norway), Ariane Szafarz is a Full Professor of Mathematics and Finance at Solvay Brussels School of Economics and Management (SBS-EM), Université Libre de Bruxelles (ULB) (Belgium).