The Creditworthiness of the Poor: A Model of the Grameen Bank

Abstract

This paper analyzes the role of expected income in entrepreneurial borrowing. We claim that poorer individuals are safer borrowers because they place more value on the relationship with the bank. We study the dynamics of a monopolistic bank granting loans and taking deposits from overlapping generations of entrepreneurs with different levels of expected income. Matching the evidence of the Grameen Bank we show that a bank will focus on individuals with lower expected income, and will not disburse dividends until it reaches all the potential borrowers. We find empirical support for our theoretical results using data from a household survey from Bangladesh. We show that various measures of expected income are positively and signficantly correlated with default probabilities.