ABSTRACT
The study sought to appraise the effect of interest rate on loan repayment in microfinance institutions. Lapo Micro Finance Bank, a microfinance institution in Ikot Abasi was used as a case study for the study. The research was conducted using questionnaires and interviews. In all 100 customers and 20 employees were sampled for the research. A systematic random sampling was used for the data collection. The findings of the research revealed that though interest rate plays a major role in loan repayment, other factors such as loan term and the repayment frequency also influence to a large extent the loan repayment. Customers indicated that though lower interest rate would enhance loan repayment, the issue of accessibility and availability of funds was paramount. To enhance loan repayment, the researcher recommends lower interest rate to ease loan repayment burden and loans granted should be amounts that customers can service. Again, micro-insurance could be established to protect the Institution and customers against any default.
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CHAPTER ONE............................................................................................................ 1
GENERAL INTRODUCTION.................................................................................... 1
1.0 Background to the Study........................................................................................... 1
1.1 Problem Statement...................................................................................................... 3
1.2 The Objectives of the Study....................................................................................... 3
1.3 Research Questions..................................................................................................... 4
1.4 Significance of the Study........................................................................................... 4
1.5 Scope of the Study..................................................................................................... 5
1.6 Limitation of the Study.............................................................................................. 5
1.7 Organization of the Study.......................................................................................... 6
CHAPTER TWO........................................................................................................... 7
REVIEW OF RELEVANT LITERATURE.............................................................. 7
2.0 Introduction................................................................................................................ 7
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2.1 Microfinance/Microcredit: An Overview................................................................... 7
2.2 Overview of the Financial Sector in Ghana.............................................................. 10
2.2.1 Evolution of the Microfinance Sub-Sector in Ghana............................................ 14
2.2.2 Structure and Key Stakeholders of Microfinance in Ghana.................................. 15
2.3 The Structure of the Microfinance Sector................................................................ 17
2.3.1 What are microcredits and how do they work?..................................................... 17
2.3.2 Why are monthly rates in the range of 5 to 7% justifiable?................................... 18
2.3.3 Why clients are willing and able to pay these rates............................................... 18
2.3.4 Why microfinance should be used only for certain types of clients...................... 19
2.4 Loan Default Risk-An Issue in Microfinance/Microcredit....................................... 20
2.5 Microfinance Interest Rate as a Function of Transaction Cost................................ 25
2.6 Determinants of Interest Rates in Microfinance....................................................... 29
2.6.1 Cost of Funds........................................................................................................ 29
2.6.2 Operating Expense................................................................................................. 29
2.6.3 Contingency Reserves (Provision for Bad Debt).................................................. 29
2.6.4 Tax expenses.......................................................................................................... 30
2.6.5 Profits.................................................................................................................... 30
2.6.6 Credit Rating of Client.......................................................................................... 30
2.6.7 Inflation Levels...................................................................................................... 30
2.6.8 Policy Rate............................................................................................................. 30
2.7 Causes of Defaults in Microfinance......................................................................... 31
2.7.1 Lender Side -Weaknesses in Funds Administration.............................................. 31
2.7.2 Borrower Side - Moral Hazard Problem................................................................ 32
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CHAPTER THREE..................................................................................................... 34
METHODOLOGY........................................................................................................ 34
3.0 Introduction.......................................................................................................... 34
3.1 Research Methodology............................................................................................. 34
3.1.1 Research Design.................................................................................................... 34
3.1.2 Data sources........................................................................................................... 35
3.1.3 Population............................................................................................................... 35
3.1.4 Sample Selection.................................................................................................... 35
3.1.5 Data Collection Instrument................................................................................... 36
3.1.6 Data Editing and Analysis..................................................................................... 37
3.1.7 Limitations to Data Collection.............................................................................. 37
3.2 Profile of Study Area- Tanoah Capital Point Limited.............................................. 38
3.2.1 The company‟s........................................ Vision 38
3.2.2 Mission................................................................................................................... 38
3.3 Key Operational Areas............................................................................................. 38
3.4 Institutional Governance, Management Operations and Organisational Structure.. 39
3.4.1 Directors and Management.................................................................................... 39
3.4.2 Organizational Structure........................................................................................ 40
CHAPTER FOUR........................................................................................................ 41
PRESENTATION AND ANALYSIS OF DATA..................................................... 41
4.0 Introduction.............................................................................................................. 41
4.1 Demographic Background of Respondents (Staff).................................................. 41
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4.1.1 Gender of Respondents......................................................................................... 42
4.1.2 Age Distribution of Respondents.......................................................................... 42
4.1.3 Educational Attainment of Respondents.............................................................. 43
4.1.4 Grade/Position of Respondents............................................................................. 44
4.1.5 Number of Years Respondents Have Worked for TCP........................................ 44
4.2 Effect of Interest...................................................................................................... 45
4.2.1 Interest Rate and Loan repayment........................................................................ 45
4.2.2 Interest Rate and Default Rate.............................................................................. 46
4.2.3 Interest Rate and Borrower Relationship.............................................................. 47
4.2.4 Interest Rate Justification...................................................................................... 48
4.3 The Effect of Other Factors on Loan Repayment.................................................... 49
4.4 Policy Measures to Improve Loan Repayment......................................................... 51
4.5 Demographic Background of Respondents (Loan customers)................................. 53
4.5.1 Loan Customers Gender........................................................................................ 53
4.5.2 Age Distribution.................................................................................................... 54
- Size of Respondents‟...............................................................................Business54
- Size of Respondents‟...................................................................Working 55Capital
4.6 The Effect of TCP Interest Rate on Repayment of Loan........................................ 56
4.6.1 Low Interest Rate and the Ease of Loan Repayment........................................... 56
4.6.2 Interest Rate and Loan Repayment....................................................................... 56
4.11 Interest Rate and Loan Repayment........................................................................ 57
4.6.3 Interest Rate and Loan Default............................................................................. 57
4.12 Interest Rate, Loan default and Customer Loyalty................................................ 57
4.7 To Determine the Effects of Other Factors on TCP Loan Repayment.................... 57
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4.8 Appropriate Policy Measure To Improve the Repayment of the MFI loans............ 59
CHAPTER FIVE......................................................................................................... 62
SUMMARY OF FINDINGS, CONCLUSION AND RECOMMENDATIONS... 62
5.0 Introduction.......................................................................................................... 62
5.1 Summary of Findings............................................................................................... 62
5.1.2 Findings on Appraising The Effect of MFI Interest Rate on Repayment Of Loans62
5.1.3 Findings on the Effect of Other Factors on TCP Loan Repayment...................... 63
5.1.4 Findings on Measures Put in Place to Enhance Repayment of the MFI Loans... 63
5.2 Conclusion................................................................................................................ 63
5.3 Recommendations.................................................................................................... 65
REFERENCES............................................................................................................... 67
APPENDIX 1................................................................................................................. 70
APPENDIX 2................................................................................................................. 74
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LIST OF TABLES
Table 1 Number of Years in Employment ………………………………………...………...44
Table 2 Interest Rate and Loan Repayment ……………………………………………..45
Table 3 Interest Rate and Default Rate …………………………………………………….46
Table 4 Interest Rate and Borrower Relationship ………………………………………...…46
Table 5 Interest Rate Justification ………………………………………………………….48
Table 6 Effect of Other Factors on MFI Loan Repa
Table 7 Appropriate Policy Measure to Improve the loan Repayment …………………..51
Table 8 Age Distribution of Respondents ………………………………………………...53
Table 9 Size of Business ………………………………………………………………….....54
Table 10 Size of Working Capital …………………………………………………………..55
Table 11 Justification for Interest Rate …………………………………………………..56
Table 12 Interest Rate and Loan Repayment ……………………………………………….57 Table 13 Interest Rate, Loan default and Customer Loyalty …………………………….57
Table 14 Other Factors Influencing Loan Repayment …………………………………….59
Table 15 Policy Measures To Improve Loan Repayment ………………………………….59
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LIST OF FIGURES
Figure 1 Gender of Respondents ………………………………………………………..…..41
Figure 2 Age distribution of respondents …………………………………………………..42
Figure 3 Educational Attainments …………………………………………………………..43
Figure 4 Grade/Position of respondents …………………………………………….............43
Figure 5 Effect of other factors on MFI loan repayment ……………………………………50
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Figure 6
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Appropriate Policy measure that will improve MFIs Loan Repayment …………..52
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Figure 7
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Gender of Loan Customers ………………………………………………………...53
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Figure 8
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Size of Respondents‟ Working……………………………………………Capital
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Figure 9
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The Effect of other factors on TCP Loan Repayment ……………………............58
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Figure 10 Appropriate Policy Measures that will Improve Loan Repayment of the
MFI……………………………………………………………………………………….60
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LIST OF ABBREVIATIONS
MFI –Microfinance Institutions
TCP –Tanoah Capital Point
NBFI –Non Bank Financial Institution
SHG –Self Help Group
NGO –Non Governmental Organization
MDG –Millennium Development Goal
NTHC –National Trust Holding Company
SIC –State Insurance Corporation
ERP - Economic Recovery Programme
IMF –International Monetary Fund
SAP –Structural Adjustment Programme
FINSAP –Financial Sector Adjustment Programme
ATM –Automated Teller Machine
SMS –Short Message Service
RCB –Rural and Community Bank
PNDC –Provisional National Defense Council
FNGO –Financial Non Governmental Organization
ROCSA –Rotating Savings & Credit Associations
UNDP - United Nations Development Programme
CBRDP –Community Based Rural Development Programme
REP –Rural Enterprise Project
MASLOC –Microfinance and Small Loans Scheme ARB –Association of Rural Banks
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CHAPTER ONE
GENERAL INTRODUCTION
1.0 Background to the Study
A Microfinance Institution‟s)mainobjectiveistoprovide poor(MFIandlow income households with an affordable source of financial services. Interest charged on loans is the main source of income for these institutions, and because they incur huge costs, the rates are correspondingly high. Four key factors determine these rates: the cost of funds, the MFI's operating expenses, loan losses, and profits needed to expand their capital base and fund expected future growth (Ghatak, 1999).
Many policy makers question why microfinance interest rates remain high even when some MFIs receive concessional funds to finance lending. Although some microlenders receive loan funds at concessional rates, they must cost these funds at market rates when they make decisions about interest rates to ensure the sustainability of the institution's operations. Donors provide concessional funds for a particular usage only for a limited period, as do some governments. However, concessional funds cannot be considered a permanent source of funds for MFIs, and provision must be made through interest rates to sustain the lenders' operations (Ghatak, 1999).
Inflation adds to the cost of microfinance funds by eroding microlenders' equity. Thus, higher inflation rates contribute to higher nominal microcredit interest rates through their effect on the real value of equity. Microlenders have two kinds of operating costs: personnel and administrative. Because microlending is still a labor-intensive operation, personnel costs are high. Administrative costs consist mainly of rent, utility charges, transport, office supplies,
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and depreciation of fixed assets. Making and recovering small loans is costly on a per unit basis. Often loan recovery is executed by staffs who visit clients, increasing costs in time taken and transportation used. Poor physical infrastructure-inadequate road networks, transportation, and telecommunication systems-in many countries in which microlenders operate also increases administrative costs and adds significantly to the cost of microfinance operations. Inadequate law and order also contribute to high administrative costs as microcredit operations often involve cash transactions and the physical movement of cash (Pitt, and Khandker, 1998).
In many countries, the majority of microcredit is provided by a few leading institutions, and competition among them is mostly on non-price terms. This might not be the case in Ghana where Microfinance Institutions (MFIs) spring up every day. Today in Ghana the MFIs compete with traditional Banks in the cities as well as have dominance in the rural areas. Large-scale commercial banks with access to low-cost funds, low operating costs, extensive branch networks, and vast human and other resources to provide financial services efficiently are presently not significantly involved in microcredit. The lack of participation of such conventional financial institutions in the microcredit market also limits potential competition. Although it is widely recognized that microfinance alone will not end poverty, it is a vital step in that direction. Microfinance institutions, also known as MFIs, offer financial services to underserved, impoverished communities.
Previously, entrepreneurs seeking loans in impoverished communities had to provide collateral to borrow from unlicensed lenders at inequitably high interest rates. A number of factors, including high administrative costs relative to small loans and small returns, had kept
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banks from setting up branches in impoverished communities when surer profits were to be had elsewhere.
The lack of an efficient financial services industry has held back many would-be entrepreneurs with viable business plans from realizing their own potential. Women, in particular, have been excluded as loan candidates in developing communities. The lending practices of many emerging microfinance institutions have given people living in extreme poverty the opportunity to realize their potential in the business community (Rahman, 1999)
1.1 Problem Statement
Charging prices high enough to cover costs is essential for any business to survive in the marketplace. This is true for institutions providing microfinance services as it is for any other enterprise. Thus, it is not surprising that many successful microfinance institutions charge high interest rates to cover their high costs. However, despite the success of those institutions in expanding the supply of credit during the last two decades to an increasing number of poor and low-income households, most borrowers default in paying back those MFI loans.
Studies into microfinance in Ghana did not concentrate on the effect of interest rate on loan repayment on Microfinance Institutions even at the time when MFIs are finding it very difficult to collect loans which have been given to beneficiaries is receiving much attention. This creates a serious research gap into microfinance of which this study seeks to close.
1.2 The Objectives of the Study
The objective of this study is to appraise the effect of Interest on loan repayment in Microfinance Institutions in Ghana which includes:
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- To appraise the effect of MFI interest rate on repayment of loans.
- To determine the effect of other factors on MFI loan repayment
- To appraise the factors that determines interest rate by MFIs
- To appraise the measures adopted to enhance the repayment of loans of MFIs.
- Research Questions
Related to the problem, the research seeks to address four main questions outline below:
- What is the effect of high interest rate of MFI on the repayment of their loans?
- What is the effect of other factors on MFI loans repayment?
- What are the factors that determine interest rate by MFIs?
- What measures adopted by MFI to enhance the repayment of loans?
- Significance of the Study
The significance to be derived from the study includes:
Providing the management of TCP and other MFIs with an insight into the effect of interest rates on loan repayment and recommendations to make adjustments where necessary.
It will also assist TCP and other MFIs to identify the other factors that also impact on loan repayment to enable them achieve a competitive edge in their respective businesses.
This study can be used as reference for further research. By conducting a research on a related subject, this study would serve as a platform to enhance their work. It will serve as a
rich source of literature to other researchers, and the limitation of this research may be built
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on by others studying on the same topic. It is also hoped that findings from this research would confirm or refute the existing knowledge about the effect of interest on loan repayment on MFIs especially Tanoah Capital Point Limited.
Though this research is to partially fulfill an academic requirement for the award of a masters degree, it is expected that recommendations would be provided to complement regulatory
bodies and government‟sMFIsproblemseffortsofrepayment of inloans whichaddressi serve as a negative in the development of small and medium enterprises.
1.5 Scope of the Study
The study was conducted within the framework of the effect of interest rate on loan repayment on Microfinance Institutions. The study was carried out at the Tanoah Capital Point (TCP) Limited branch in Ikot Abasi. It is a case study approach of one particular MFI (TCP) and would not cover other MFIs to reflect the entire industry response to the effect of interest rate on loan repayment on MFI. Hence the results would not be generalised but its findings would be placed in the relevant context of the individual MFI studied.
1.6 Limitation of the Study
A project of this nature requires an extensive study of all microfinance companies in the metropolis. This requirement is constrained due to the dispersed nature of these companies and the lack of time and funding. Furthermore, the trustworthiness of respondents especially clients of the company cannot be guaranteed, since personal opinion can influence responses. In view of these limitations, however, it can serve as a useful input into decision and policy making.
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1.7 Organisation of the Study
The research work is divided into five (5) chapters.
Chapter one, is dedicated to the introduction and research context. Further relevant sections have addresses the statement of the problem, research questions, and the objectives of the study, significance of the study, scope and limitation of the study. Chapter two, is devoted to literature review, various views from different authors were reviewed as regards the effect of interest on loan repayment on MFIs and definition of variables. Chapter three concentrates on the background of the study area and the methodology of the research. Chapter four focuses on the Findings, Analysis and Discussions of Results. Chapter five covers the summary, conclusion and recommendations.
