Rosca Meets Formal Credit Market

45 Pages Posted: 2 Nov 2015 Last revised: 1 Apr 2022

See all articles by Hanming Fang

Hanming Fang

University of Pennsylvania - Department of Economics; National Bureau of Economic Research (NBER)

Rongzhu Ke

The Chinese University of Hong Kong (CUHK) - Department of Economics

Li-An Zhou

Peking University - Guanghua School of Management

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Date Written: October 2015

Abstract

Rotating Savings and Credit Association (Rosca) is an important informal financial institution in many parts of the world used by participants to share income risks. What is the role of Rosca when formal credit market is introduced? We develop a model in which risk-averse participants attempt to hedge against their private income shocks with access to both Rosca and the formal credit and investigate their interactions. Using the gap of the borrowing and saving interest rates as a measure of the imperfectness of the credit market, we compare three cases: (i) Rosca without credit market; (ii) Rosca with a perfect credit market; (iii) Rosca with an imperfect credit market. We show that a perfect credit market completely crowds out the role of Rosca. However, when credit market is present but imperfect, we show that Rosca and the formal credit market can complement each other in improving social welfare. Interestingly, we find that the social welfare in an environment with both Rosca and formal credit market does not necessarily increase monotonically as the imperfectness of the credit market converges to zero.

Suggested Citation

Fang, Hanming and Ke, Rongzhu and Zhou, Li-An, Rosca Meets Formal Credit Market (October 2015). NBER Working Paper No. w21683, Available at SSRN: https://ssrn.com/abstract=2684967

Hanming Fang (Contact Author)

University of Pennsylvania - Department of Economics ( email )

Ronald O. Perelman Center for Political Science
133 South 36th Street
Philadelphia, PA 19104-6297
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Rongzhu Ke

The Chinese University of Hong Kong (CUHK) - Department of Economics ( email )

Shatin, N.T.
Hong Kong

Li-An Zhou

Peking University - Guanghua School of Management ( email )

Peking University
Beijing, Beijing 100871
China

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