TITLE:
Group Lending with Peer Selection and Moral Hazard
AUTHORS:
Li Gan, Manuel A. Hernandez, Yanyan Liu
KEYWORDS:
Group Lending, Peer Selection, Moral Hazard, Microfinance
JOURNAL NAME:
Theoretical Economics Letters,
Vol.12 No.5,
October
18,
2022
ABSTRACT: The theory on group lending suggests that joint liability induces
borrowers to form homogeneous groups based on their risk types, which
alleviates adverse selection and contributes to the success of microcredit
schemes. We extend this theory by allowing individuals to differ both in their
exogenous risk type and in their endogenous effort level. We find that joint
liability leads to positive assortative matching in both a non-cooperative and
cooperative game setting. Groups of safe
borrowers additionally exhibit higher effort levels, which reinforces
their likelihood of repayment as opposed to risky groups.