Returns to Capital in Microenterprises: Evidence from a Field Experiment

39 Pages Posted: 3 Aug 2007

See all articles by Suresh de Mel

Suresh de Mel

University of Peradeniya

David J. McKenzie

World Bank - Development Research Group (DECRG); IZA Institute of Labor Economics

Christopher M. Woodruff

University of California, San Diego (UCSD) - Graduate School of International Relations and Pacific Studies (IRPS)

Multiple version iconThere are 2 versions of this paper

Date Written: July 2007

Abstract

Small and informal firms account for a large share of employment in developing countries. The rapid expansion of microfinance services is based on the belief that these firms have productive investment opportunities and can enjoy high returns to capital if given the opportunity. However, measuring the return to capital is complicated by unobserved factors such as entrepreneurial ability and demand shocks, which are likely to be correlated with capital stock. We use a randomized experiment to overcome this problem, and to measure the return to capital for the average microenterprise in our sample, regardless of whether or not they apply for credit. We accomplish this by providing cash and equipment grants to small firms in Sri Lanka, and measuring the increase in profits arising from this exogenous (positive) shock to capital stock. After controlling for possible spillover effects, we find the average real return to capital to be 5.7 percent per month, substantially higher than the market interest rate. We then examine the heterogeneity of treatment effects to explore whether missing credit markets or missing insurance markets are the most likely cause of the high returns. Returns are found to vary with entrepreneurial ability and with measures of other sources of cash within the household, but not to vary with risk aversion or uncertainty.

Keywords: microenterprises, returns to capital, self-employment

JEL Classification: O12, O17

Suggested Citation

de Mel, Suresh and McKenzie, David John and Woodruff, Christopher, Returns to Capital in Microenterprises: Evidence from a Field Experiment (July 2007). IZA Discussion Paper No. 2934, Available at SSRN: https://ssrn.com/abstract=1004493

Suresh De Mel

University of Peradeniya ( email )

University of Peradeniya
Dept of Economics & Statistics
Peradeniya
Sri Lanka
+94 81 2392622 (Phone)

David John McKenzie (Contact Author)

World Bank - Development Research Group (DECRG) ( email )

1818 H. Street, N.W.
MSN3-311
Washington, DC 20433
United States

IZA Institute of Labor Economics ( email )

P.O. Box 7240
Bonn, D-53072
Germany

Christopher Woodruff

University of California, San Diego (UCSD) - Graduate School of International Relations and Pacific Studies (IRPS) ( email )

9500 Gilman Drive
La Jolla, CA 92093-0519
United States
858-534-0590 (Phone)
858-534-3939 (Fax)

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