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“In fact, one of the insights from this research is that psychological fallibilities that affect all groups may have particularly large effects on the poor because of their already precarious financial state.”

Click Here To Read: Psychology And Economisc: What it Means for Microfinance

Introduction (Via Ideas 42)

Why do the poor borrow from moneylenders at high rates of interest? How do the poor manage the little income they earn? Are there patterns present in their financial choices? Questions such as these are typically understood through the lens of economics. Recent research highlights a shortcoming of this lens. Everyday economic decisions often have richer psychological underpinnings than the standard economic model allows. People are restrained in their capacity to think through problems—not every decision is methodically contemplated, calculated, and executed. This note introduces readers to the sub-field of behavioral economics, which combines elements of psychology and economics, and shows how it can help understand basic phenomena in microfinance.

Additional Excerpt (Via Ideas 42)

The psychology of planning, or the lack thereof, is an important topic in microfinance for both theoretical and applied reasons. The tendency of individuals to underestimate their future needs, in terms of financial resources or time, for example, stems from a variety of forces. They can put off work until later and regret it when they suddenly require extra income. They can have strong feelings about events or people that divert their attention to both rational and irrational acts, such as lending to relatives. They may be preoccupied with their current circumstances and forget about upcoming expenses, such as school fees. And they may suddenly find themselves having to deal with unforeseen obstacles, such as a drought. In short, a planning fallacy exists in which individuals have both self-control and time-inconsistency dilemmas that they must constantly face with little margin for error among the poor (Mullainathan, 2004).

Findings (via Ideas 42)

The psychological evidence presented suggests that planning for the future and sticking to that plan is difficult. The behavioral economic framework of these facts supports the idea that debt discipline is a good mechanism for microfinance clients. Given the liquidity constraints that many of the poor face, many are unable to save enough on a regular basis to meet their needs. For this reason, having relatively affordable access to credit can allow many clients and their families access to a range of items that will enhance their quality of life, from new consumer goods to the ability to pay for children’s school and college fees. The commitment to make weekly repayments to the MFI is something that many clients see as fixed, which helps them psychologically realize that saving for such payments cannot be delayed. In any case, given that mistakes are easier to make for the poor and carry much more weight, repayment discipline, implemented either through product design or group trainings, helps mitigate these self-control problems when it comes to debt.

Click Here To Read: Psychology And Economisc: What it Means for Microfinance

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