Can an interest-free credit facility be more efficient than a usurious payday loan?

Murizah Osman Salleh, Aziz Jaafar () and M. Shahid Ebrahim ()
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Murizah Osman Salleh: Bank Negara Malaysia and Bangor University

No 12008, Working Papers from Bangor Business School, Prifysgol Bangor University (Cymru / Wales)

Abstract: Permanent disequilibrium in mainstream credit markets have pushed the unbanked and underbanked households to frequent high cost payday loans for their liquidity needs. Associated with the latter are welfare-reducing issues of predation and debt-entrapment. In response to this market failure, we expound a simple model that integrates inexpensive interest-free liquidity facility within an endogenous leverage circuit. This builds on the technology of ROSCA/ ASCRA/ mutual/ financial cooperative and cultural beliefs indoctrinated in Islam. Results indicate that such a circuit moderates adverse selection and moral hazard issues more efficiently than payday loan and mainstream financier. Additionally, it does not suffer the drawbacks of welfare-reducing payday loans and also addresses financial exclusion in mainstream credit markets.

Keywords: interest-free loan; payday loan; financial exclusion; liquidity facility; cooperatives (search for similar items in EconPapers)
JEL-codes: D14 G29 G32 Z12 (search for similar items in EconPapers)
Date: 2012-07
New Economics Papers: this item is included in nep-ara, nep-ban and nep-mfd
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Citations: View citations in EconPapers (1)

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