Do Interest Rates Matter? Credit Demand in the Dhaka Slums

If the demand for credit by the poor changes little when interest rates increase, lenders can raise fees to cost-covering levels without losing customers. This claim is at the core of sustainable microfinance strategies that aim to provide banking services to the poor while eschewing long-term subsidies, but, so far, there is little direct evidence of this.

This paper uses data from SafeSave, a credit cooperative in the slums of Dhaka, Bangladesh, to examine how sensitive borrowers are to increases in the interest rate on loans. Using unanticipated between-branch variation in the interest rate we estimate interest rate elasticities of loan demand ranging from -0.73 to -1.04. Less wealthy accountholders are more sensitive to the interest rate than (relatively) wealthier borrowers (an elasticity of -0.86 compared to -0.26), and consequently the bank’s portfolio shifts away from its poorest borrowers when it increases the interest rate.

This paper is set out in the following sections:

  • Section 1: Introduction
  • Section 2: Reviews the prior literature and debates on interest rates
  • Section 3: Provides details on SafeSave
  • Section 4: Summarises the data
  • Section 5: Outlines the identification strategy
  • Section 6: Presents results on the interest elasticity of loan demand
  • Section 7: Concludes

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