The Economic Returns to Social Interaction: Experimental Evidence from Microfinance
Increased social interaction among microfinance client-groups leads to significantly lower default rates and a higher willingness to pool financial risk with group members.
In low-income countries, social capital is considered particularly important as a form of informal insurance and contract enforcement. One way to build social capital is through repeated interactions among individuals and groups. Numerous microfinance programs emphasize community and social contact as part of their programming on the grounds that it improves the group members’ economic returns and repayment rates. However, there has been little research on whether group interaction strengthens social capital and whether that encourages people to cooperate economically. In this study, the authors varied the frequency of group meetings among women’s microfinance client-groups in rural India. By randomly assigning half the groups to meet on a weekly basis and having the other half of the groups meet on a monthly basis (standard for this microfinance model) as a control group, the authors aim to account for the impact of greater social interaction on the financial outcomes of the microfinance clients. They measure the extent to which group members grew into long-term social contacts; how often the clients from each set of groups defaulted on their loan payments; and how willing clients were to pool financial risks with their group members. This third measure, risk-pooling, may be one reason that increased social contact leads to more financial stability.
More frequent meetings among microfinance client-groups leads to sustained social interaction among group members; greater willingness to share financial risk within the group; and lower loan default rates.
- Clients assigned to weekly group meetings increased their social interaction with group members outside of meetings, and sustained these relationships over the long run. Overall, their interactions were 37% higher more than one year later.
- Nearly two years later, microfinance clients assigned to weekly group meetings were more willing to pool risk with members from their first microfinance groups.
- Clients in groups that met weekly were three times less likely to default on their second loan than clients in groups that met monthly.
In short, more frequent short-term interactions are associated with increased long-term social interaction, improved risk-sharing arrangements and lower default rates. The study suggests that it is the willingness to pool-risks among the more tight-knit group members that leads to the members being better able to withstand financial shocks that come with running a small business
The study randomly assigned first-time microfinance clients in peri-urban slums in Kolkata, India to either weekly (treatment) or monthly (control) repayment groups during their first loan cycle. A second treatment arm was assigned to weekly meetings, but monthly repayment in order to separate the effect of the repayment-rate frequency from the effect of the meeting-frequency. Participants were then graduated to identical meeting frequency in subsequent loan cycles. In typical “Grameen Bank”-style, the microfinance program offered group loans to women in a ten-month loan cycle. The women received individual-liability debt contracts, so any risk-sharing that was measured was a function of the experimental social interaction, not group-liability.
The total sample consisted of 100 groups, or 1,028 female clients. Participants were tracked over two and a half loan cycles, almost two years. Baseline data was collected in 2006, with a follow-up taking place 13 months after the first loan disbursement. In addition, 16 months after the first loan cycle ended, a lottery game was conducted. Each client was entered to win a $5 voucher for a new microfinance retail store. They were then allowed to give out additional lottery tickets to members of their first loan group. The divisibility of the lottery prize was randomized. After the lottery, clients were surveyed about their sustained contact with their first cycle group, a year and half after their weekly meetings had ended.