Digital Collateral

Abstract

A new form of lending using digital collateral has recently emerged, most prominently in low and middle income countries. Digital collateral (DC) relies on ``lockout" technology, which allows the lender to temporarily disable the flow value of the collateral to the borrower without physically repossessing it. We explore the effect of this new form of credit both in a model and in a field experiment using school-fee loans digitally collateralized with a solar home system. We find that securing a loan with DC drastically reduces default rates (by 19 pp) and increases the lender's rate of return (by 38 pp). Employing a variant of the Karland and Zinman (2009) methodology, we decompose the total effect and find that roughly one-third of the total effect is attributable to (ex-ante) adverse selection and two-thirds of the effect is attributable to (interim or ex-post) moral hazard. Access to a school-fee loan significantly increases school enrollment and school-related expenditures without detrimental effects to household balance sheet.

Keywords: Collateralized Lending, Microfinance, Moral Hazard, Adverse Selection, Education

JEL Classification: G20, I22, O16