nep-ara New Economics Papers
on Arab World
Issue of 2012‒09‒16
one paper chosen by
Quentin Wodon
World Bank

  1. Can an interest-free credit facility be more efficient than a usurious payday loan? By Murizah Osman Salleh; Aziz Jaafar; M. Shahid Ebrahim

  1. By: Murizah Osman Salleh (Bank Negara Malaysia and Bangor University); Aziz Jaafar (Bangor Business School); M. Shahid Ebrahim (Bangor Business School)
    Abstract: Permanent disequilibrium in mainstream credit markets have pushed the unbanked and underbanked households to frequent high cost payday loans for their liquidity needs. Associated with the latter are welfare-reducing issues of predation and debt-entrapment. In response to this market failure, 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. Results indicate that such a circuit moderates adverse selection and moral hazard issues more efficiently than payday loan and mainstream financier. Additionally, it does not suffer the drawbacks of welfare-reducing payday loans and also addresses financial exclusion in mainstream credit markets.
    Keywords: interest-free loan, payday loan, financial exclusion, liquidity facility, cooperatives
    JEL: D14 G29 G32 Z12
    Date: 2012–07

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