Can an Interest-Free Credit Facility Be More Efficient than a Usurious Payday Loan?

38 Pages Posted: 14 Jul 2012 Last revised: 26 Dec 2012

See all articles by Murizah Osman Salleh

Murizah Osman Salleh

Central Bank of Malaysia

Aziz Jaafar

Bangor Business School

Muhammed Shahid Ebrahim

Durham Business School

Date Written: July 1, 2005

Abstract

Inefficiencies in mainstream credit markets have pushed selected households to frequent high cost payday loans for their liquidity needs. Ironically, despite the prohibitive cost there is still persistent demand for the product. This paper rides on the public policy objective of expanding affordable credit to underbanked households. Here, 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. Our results indicate that the circuit moderates adverse selection and moral hazard issues more efficiently than payday lenders and mainstream financiers. Conjointly, it addresses financial exclusion issues in mainstream credit markets.

Keywords: interest-free loan, payday loan, financial exclusion, liquidity facility, cooperatives

JEL Classification: D14, G29, G32, 016, Z12

Suggested Citation

Salleh, Murizah Osman and Jaafar, Aziz and Ebrahim, Muhammed Shahid, Can an Interest-Free Credit Facility Be More Efficient than a Usurious Payday Loan? (July 1, 2005). Bangor Business School Research Paper No. 12/008. Available at SSRN: https://ssrn.com/abstract=2105705 or http://dx.doi.org/10.2139/ssrn.2105705

Murizah Osman Salleh (Contact Author)

Central Bank of Malaysia ( email )

Jalan Dato' Onn
P.O. Box 10922
Kuala Lumpur, 50929
Malaysia

Aziz Jaafar

Bangor Business School ( email )

University of Wales
Bangor, LL57 2DG
United Kingdom

Muhammed Shahid Ebrahim

Durham Business School ( email )

Mill Hill Lane
Durham, Durham DH1 3LB
United Kingdom

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