Savings Lead to Improved Borrowing: Empirical Analysis of Rural Indian Households
34 Pages Posted: 16 May 2007
Date Written: January 30, 2006
This paper provides evidence that access to saving instruments directly improves access to credit. In a typical framework, households borrow, invest and then repay loan with interest. If households can save without difficulty, they should be able to follow any repayment frequency. However, in reality it is likely that income gets diverted into miscellaneous expenses. If households realize this, then it is possible that they tie the loan repayment schedule to their income schedule. In this paper, I provide a simple model and empirical support to illustrate this point. The results indicate that a household which does not save is 32 percent more likely to tie the repayment schedule of a loan to its income schedule and pays 3.6 percent higher interest rate for a loan. I am able to show this by exploiting the unique 'preferred' loan repayment frequency data available for each household.
Keywords: loan repayment frequency, cash inflow, savings, flexible contract
JEL Classification: O16
Suggested Citation: Suggested Citation