Despite a dearth of theoretical studies, there is widespread perception that microfinance is an enormously useful tool for economic development. However, an increasing number of households in lesser developed countries are facing the same debt squeeze as those in the developed world, but are less able to manage debt responsibilities. The consequences are much more dramatic for LDC households because a much larger portion of household income is necessary for subsistence. As such, microfinance can become immiserizing for poor families with few assets. We develop a dynamic model that allows households to use credit markets in order to augment household consumption or capital. Results indicate a proclivity for households to increase debt over time, challenging the efficacy of microfinance as a sustainable tool for development.
J. Adams, H. P. Brunner and F. Raymond, “Interactions of Informal and Formal Agents in South Asian Rural Credit Markets: An Analysis of Information Asymmetries and Adverse Selection with Heterogeneous Credit Services,” Review of Development Economics, Vol. 7, No. 3, 2003, pp. 431-444. doi:10.1111/1467-9361.00201