Costos de Transaccion y Fallas Del Mercado Credito Rural

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PergamonWor ld Development, Vol. 24, No. 5, pp. 793-806.1996

Copyright 0 1996 Elsevier Science LtdPrinted in Great Britain. All rights reserved0305-750x/% $15.00 + o.ocl

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Credit Constraints, Credit Unions, and Small-ScaleProducers in GuatemalaBRADFORD L. BARHAM, STEPHEN BOUCHER and MICHAEL R. CARTER*University of Wisconsin-Madison, USA.

Summary. - Efficient and equitable development outcomes may depend, in part, on whether formalfinancial institutions leave low-wealth producers tightly constrained in their access to credit. If so, cancooperative institutions efficiently relax these constraints? These issues are explored using survey datagathered from 950 small-scale producer households in areas of Guatemala with market-oriented creditunions that mobilize savings and make unsubsidized loans. Nonprice rationing by banks is found to becommon among lower wealth households, while credit unions relax credit constraints for a significantportion of those rationed by banks, but not the poorest of the study households. Copyright 0 1996Elsevier Science Ltd

1. INTRODUCTIONAs in much of Latin America, Guatemala is reduc-

ing state support for productive, service, and creditactivities in agriculture and small-scale commerce.Concurrent financial market liberalization is aimed atimproving the efficiency of financial market perfor-mance by increasing savings mobilization, the rangeof financial services provided, and credit accessto productive enterprises and creditworthy con-sumers. Previous research, summarized in Adams andVogel (1986), suggests that reducing governmentintervention in financial markets can allow more effr-cient institutions to emerge, especially if key publicgoods, such as physical and informational infrastruc-ture and a well-defined regulatory environment, areprovided.This paper considers one aspect of financial mar-ket performance under liberalization, namely howcleaning the slate of government intervention is likelyto affect the credit access of, or the credit constraintsfacing, low-wealth agricultural and commercial pro-ducers. Much of the answer hinges on the lendingpractices of formal and informal financial institutions.Do they leave low-wealth producers tightly con-strained, i.e., unable to obtain credit at a going marketrate, or even at a risk-adjusted rate? If so, can cooper-ative institutions, such as credit unions, help to meetthe borrowing needs of these producers? Credit unionsare of special interest, unlike borrowing groups andtargeted lending programs, because they can be effec-tive full-service intermediaries, which offer savingsopportunities, make loans, and provide other financialservices to members.

A rich body of theory has evolved to explore howincomplete information and transaction costs mayprevent interest rates from clearing formal credit mar-kets and lead to nonprice rationing. Key lessons fromthis research are developed in section 2 in three supplyand demand diagrams of loan markets that begin withthe strict assumptions of perfect information and zerotransaction costs and then relax them to incorporatemore realistic informational features of credit marketsin developing countries. The discussion also high-lights the need, in empirical work, to identify thepotential loan demand of borrowers in order to ensurethat conventional price rationing is not misinterpretedas some other form of rationing. Careful attention tothe microeconomic features that shape lenders inter-actions with low-wealth borrowers helps to explain

*Paper originally prepared for the XVIII InternationalCongress of the Latin American Studies Association. Theauthors offer their thanks to an anonymous referee, whooffered useful suggestions on ways to improve the paper,and to Brian Branch, Barry Lennon, and David Richardsonfor their support and advice. The World Council of CreditUnions and the US Agency for International Developmentprovided the financial support for the survey work underly-ing this paper. A team of Guatemalans worked hard to com-plete the survey work in a short time period, and we thankthem and the respondents for their efforts. The authors alsobenefited from the remarks of seminar participants at theInter-American Development Bank, Latin American StudiesAssociation, University of Wisconsin, and World Council ofCredit Unions. The data and survey instruments used in thispaper are available upon request from the authors.Final revision accepted: November 16,1995.

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194 WORLD DEVELOPMENT

why credit unions might loosen constraints faced bysome borrowers by lowering informational and moni-toring costs typically associated with loan transac-tions. The potential benefits associated with creditunion savings mobilization are not explored here, butprevious work also underscores the value of innova-tions on this side of the financial market2The empirical relevance of the distinct credit mar-ket outcomes developed in section 2 is then examinedin later sections using a 1993 survey on the assets,enterprise activities, and financial market transactionsof small-scale producer households in three regions ofGuatemala.3 Market-oriented credit unions in theseregions mobilize savings and make unsubsidizedloans, with minimal use of external funds.4 The surveydata are used to examine the relationship betweencredit constraints and wealth and particularly the roleof credit unions in meeting the loan demand of low-wealth households. The latent demand of producerhouseholds is identified through their responses toquestions on their needs for credit and their experi-ences with and perceptions of credit markets.Nonprice rationing of producer households bybanks is found to be common and likely to weigh mostheavily on low-wealth households. While creditunions appear to relax credit constraints for a signifi-cant portion of those rationed by banks, the pooresthouseholds are still to found to be quantity-rationed.

These clear links between wealth and credit con-straints demonstrate the need for policy and researchefforts which assist the development of viable, effec-tive financial institutions, such as credit unions, thatserve low-wealth households.

2. CREDIT MARKETS, INFORMATION, ANDWEALTHThis section identifies the microeconomic featuresof loan transactions which may prevent conventionalprice-rationing mechanisms from clearing credit mar-kets, thereby making wealth-related credit rationinga likely outcome. The argument moves from a perfect-information loan market, where the loan priceeffectively rations credit to all borrowers, to one ofimperfect information and transaction costs, whereprice becomes an inadequate instrument for lendersto ration some or all borrowers. In the supply anddemand diagrams presented in Figures l-3, individualloan size (L) is on the X-axis. The effective interestrate (r), representing the loan contract rate plus thetransaction costs of arranging or executing thecontract, is on the Y-axis. For borrowers withfixed capital (K), their demand schedule is portrayedas downward sloping, and for higher levels of Kdemand is higher.5 When a borrower cannot get

L=a(l+rJ b Ll bFigure 1. Loanaccess in ajidl inf ormation credit mar ket.


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CREDIT CONSTRAINTS 795

the credit she demands at the prevailing contract rate,she can be viewed as credit-constrained, with theextent of the constraint given by the gap between theamount demanded and received.

(a) Loan markets withpegect information and zerotransaction costsThe curve S, in Figure 1 shows how a supply

schedule would look in a competitive loan marketwhere lenders face no risk of loan default. Individualdemand would have no effect on the price, and theborrower would be able to secure a loan of any size atthe going contract interest rate r,. The absence oftransaction costs makes the effective interest rate andthe contract rate identical. Given loan demand D,(K,J,the borrower would be able to secure a loan of L, at r,.Only price rationing would occur.

Credit markets are, of course, quite distinct fromcommodity markets. Perhaps most fundamental isthe fact that lenders face repayment risk because ofthe intertemporal nature of credit transactions. Inpractice, lenders have many ways to address defaultrisk.6 For example, lenders could completelyeliminate risk by requiring collateral whose value isequal to the loan plus interest payments. This wouldmake for very limited credit provision though, espe-cially in less-developed countries, where low wealthlevels and insecure property rights leave manyprospective borrowers with minimal collateralizablewealth.

Another means of compensating for risk of defaultis to charge higher interest rates. When leaders knowhow likely each borrower is to default (and cancostlessly monitor behavior to assure that no creditdiversion occurs to change the default probability),they can combine the interest rate and collateral toensure that the expected rate of return on individualloans equals the opportunity cost of the* funds. If theborrower has collateral of certain value C to thelender, the lender can provide a loan at the contractinterest rate 0;) at no risk, up to the point where L( l+r,)= C (for a one-period loan). Beyond this threshold(point B in Figure l), lenders in a competitive marketmay compensate for the risk of the unsecured portionof a loan by charging a higher interest rate.7

As depicted in Figure 1, two borrowers with thesame collateral and fixed capital stock could beoffered different loan contracts based on the lendersknowledge of their heterogenous risk characteristics,represented by p, and a. Points C and D on their indi-vidual supply curves, S, and S,, show the distinct loansize and interest rate outcomes. In competitive equi-librium, the riskier borrower, with risk characteristicsp2 gets a smaller loan at a higher rate. Thus, conven-tional price rationing is the outcome when individualrisk is perfectly and costly observable.

(b) Loan markets with perfect informution andposi-tive transaction costsSecuring information on prospective borrowers

often requires fixed transaction costs (TC) that changethe shape of the individual-specific loan supply curve.These costs arise in preparing loan applications, eval-uating collateral and project viability, and monitoringcredit use and repayment8 The downward-slopingportion of the supply curve S,(K,,/3J in Figure 2shows that the effective interest rate - defined as[(l+r,)L+Tc]/L - is higher for small loans. Theeffective interest rate converges toward the contractrate, r,, as loan size increases.

If the borrowers demand curve is D,(K,,), then sheobtains a loan where the transaction costs are not largeenough to raise the effective interest rate much abovethe contract rate. Indeed, any demand schedule inFigure 2 that cuts .S,(&,/lJ to the right of point Gwould yield essentially identical outcomes to those ofFigure 1. If, however, the borrowers demand curve isD&J, then she is transaction-cost rationed, unwill-ing to pay the effective interest rate for a loan of anysize (e.g., r, for a loan of size &). Because lenders areable to offer loan contracts to all classes of borrowersin this perfect information market, transaction-costrationing could be viewed as a form of price-rationing.Semantics aside, Figure 2 shows that this form ofrationing is systematically biased against low-wealthproducers. It can leave them fully credit-constrainedat the going contract rate for completely collateralizedloans.

(c) Loan markets with impe$ect informationThe credit market depicted so far has assumed

information on borrowers is either perfect and costless(Figure l), or perfect but with a fixed transaction costto acquire that information (Figure 2). The seminalwork of Stiglitz and Weiss (1981) spurred a line ofresearch exploring the effects on equilibrium out-comes when relevant information on the riskiness ofborrowers in prohibitively costly to acquire? Theiranalysis hinges on two sources of informational asym-metries. First, lenders may not be able to preciselyidentify the probability distribution of returns associ-ated with each individuals project. Loan contractstailored to the individuals risk profile (as in Figure 1)are thus not possible, and the lender must resort toboiler-plate contracts which offer identical terms toborrowers who are indistinguishable to the lender, butwho are actually heterogeneous. Under such condi-tions, an increase in the boiler-plate contract interestrate beyond a certain level can leave a less desirable(riskier) pool of potential borrowers in the market,because the more desirable potential borrowers will bethe first to be discouraged and squeezed out of the


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WORLD DEVELOPMENT

_~~~b L-C./(1 +rJ Loaa

Figure 2. Loan access in aful l inf ormation andf ixed transaction costs credit market..SiZC

market by the higher contract rate. In the face of suchadverse selection effects, lenders may be unwillingto use higher interest rates to reduce excess demand.

The second type of informational imperfectionconcerns lenders inability to monitor borrowerbehavior and credit use over the term of the loan con-tract. As the credit-rationing literature has explored,an increase in the contract interest rate under this cir-cumstances heightens incentives for borrowers todivert credit to nonproductive uses. As with adverseselection, these adverse incentive effects or moralhazard problems associated with an interest rateincrease discourage lenders from using higher rates toration credit, and limit lenders abilities to use theinterest rate as an instrument in undercollateralizedloan contracts.As illustrated in Figure 3, quantity-rationing out-comes can arise when information on the relevantcharacteristics of borrowers is imperfect. For simplic-ity purposes, Figure 3 ignores the fixed transactioncosts which generate the downward-sloping portion ofthe supply curve in Figure 2. The only information thelender is assumed to have on the borrower is their col-lateral level. Because of adverse selection and incen-tive problems associated with using higher interestrates to sort borrowers, Figure 3 assumes that loansare only made to borrowers at contract rates that goslightly above the risk-free rate r,. The supply curveOPP+ is the supply curve for a poor borrower, and

ORR+ is the supply curve for the rich borrower. Thetruncation points of these two supply curves aredenoted by open circles at P+ and I?, and represent thepoint beyond which the adverse selection and incen-tive problems associated with interest rate increasesreduce the expected return to the lender. Points P andR represent the threshold on the two supply scheduleswhere the borrower has become overleveraged. Theimperfect information loan market depicted in Figure3 can give rise to excess loan demand or quantityrationing. In Figure 3, for example, neither thewealthy nor the poor borrower would be able to securea loan large enough to get on their demand curve, withthe poorer borrower obtaining Lsp and the richer bor-rower obtaining Ls,+ both at interest rate I+. Both bor-rowers are thus what are labeled below as partiallyconstrained.Imperfect information thus creates the potential forquantity rationing which might be independent ofwealth. Rationing associated with excess demandhowever, is more likely to be wealth-biased. One rea-son for this bias relates to the transaction costs of col-lateral collection in case of default. The effectiveleverage ratio of borrowers can be written as U(C -K,), where TC, is the cost of collateral collection andthe denominator is thus the net collateral offered bythe borrower. If TC, has a fixed component, the effec-tive leverage ratio will be lower for poorer borrowers.Indeed, it is possible that the net collateral value of a


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Effective

r+I

/c

LS, L, LSrl LR Lean SizeFigure 3. ban access in an incomplete information market with adverse selection and incentive effects.

low-wealth borrower could be zero or even negative,if TC, is sufficiently large. In Figure 3, the poor bor-rower with demand curve D(K,) could have her supplycurve rise at P-, or even be completely quantity-rationed at 0 on the Y axis.

The other two reasons for wealth biases in loanmarkets with imperfect information arise becauselenders may use wealth to help distinguish the riski-ness of different borrowers. First, repayment capacityunder a negative income shock is likely to be lower forborrowers because of their inability to suppress con-sumption to meet loan repayments and because oftheir inability to establish a diversified asset portfolio.Given adverse selection and incentives, lenders maybe less able to use interest rates as rationing devicesfor poorer borrowers. Thus, the supply curve may betruncated at a lower interest rate for poor borrowers,r- than for rich ones, r+.lO inally, in highly inegalitar-ian societies, wealthier borrowers may be more visibleand known to the owners and managers of lendinginstitutions, based on experiences with one another inschools, clubs, neighborhoods, and social events. Therelative anonymity of poorer borrowers means, ineffect, that the cost of acquiring information on riski-ness is negatively correlated with wealth, leading to ahigher degree of rationing among the poor because ofadverse selection.

Four types of loan market outcomes have beenidentified. The first outcome is unconstrained. It canoccur in any of the loan markets depicted in Figuresl-3, depending on the location of the demand curve,

and would result for all borrowers, regardless ofwealth, in a market with perfect and costless informa-tion. The second outcome is transaction-cost rationed,shown in Figure 2. The incidence of transaction-costrationing is likely to be greater for low-wealth relativeto high-wealth borrowers when loan preparation andexecution require fixed transaction costs. The finaltwo are partial and full quantity-rationing outcomes.They arise in loan markets characterized by asymmet-ric information and fixed transaction costs associatedwith collateral collection. As Figure 3 shows, thesefeatures can combine to bias quantity-rationing out-comes against low-wealth borrowers. Depending onthe actual informational asymmetries, transactioncosts, and distribution of wealth in a given locale, it isthus feasible that a substantial portion of low-wealthproducers could be nonprice rationed in credit mar-kets.

3. INSTITUTIONAL FORMS AND MARKETEFFICIENCY

Given poorly developed legal systems and infor-mation infrastructure, credit market problems stem-ming from imperfect information and transactioncosts seem quite likely in less-developed countries.Quantifiable information on the riskiness of prospec-tive borrowers, especially small-scale producers, iscostly to acquire. For example, financial records onenterprise activities, if available, will not be standard-


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ized or verifiable. Outstanding debt obligations maybe unidentifiable, at least through formal channels.Collateral may not be fully secured, or be less securethan the paper work suggests. Much of the crucialinformation on the riskiness of borrowers will beinherently local, embedded in the experiences andinteractions of residents. The ability of lending institu-tions to overcome information problems will thus beimportant in determining the degree of nonpricerationing or inefficiency in rural markets.

In the case of Guatemala examined below, ruralbank branch managers described a centralized creditreview process, which relies primarily on quantifi-able, comparable information provided by loan appli-cations, evaluations of collateral, enterprise records,and project viability, and individual credit records.Even when local credit decisions are authorized,adherence to similar informational and documentationstandards for purposes of intra-bank administrationand review creates similar costs. Branch managersopenly acknowledged the limits this costly reviewprocess imposes on their capacity to make loans tolower wealth producers (Boucher, Barham andBranch, 1993).

Given these limitations on private bank lending,institutional innovation which lowers transactioncosts and overcomes informational barriers couldenhance financial market efficiency and incorporatepreviously marginalized low-wealth borrowers intoformal financial markets. Credit unions have severalfeatures that can help them to lower transaction costsand improve the information available on a borrow-ers riskiness.i First, loan applications are reviewedlocally by a volunteer committee made up of creditunion members and credit union management. Inaddition to lowering the costs of review, this localprocess provides considerable collective knowledgeabout the riskiness of individual borrowers. They maybe able to use a fuller range of information than bankmanagers on the borrowers full asset base and degreeof diversification, and thus better estimate their abilityto withstand negative shocks and repay the loan. Theymay have experience with or knowledge of the bor-rowers ability to succeed in a project, i.e. how tal-ented they are and how hard they work. Local infor-mation thus helps to identify the ex ante risk ofprospective borrowers and reduce transaction costsrelative to banks. The problem of borroweranonymity, which underlies adverse selection, is thusreduced.Second, credit unions that successfully foster localcooperation can reduce inefficiency which resultsfrom information-based market failures. For example,the willingness of wealthier members to step forwardas guarantors for poorer members, which may beenhanced by a sense of local cooperation, can serve asa signal of creditworthiness to loan reviewers. Creditunions can also be more efficient in monitoring and

enforcing loan contracts if they effectively combinelocal information and cooperation to ensure repay-ment. Because borrowers are near to other members,and known by other members, their project manage-ment and loan repayment behavior are readilyobserved and subject to greater moral sausion relativeto the anonymous relations that exist among bankclients. The cooperative notion of were all in ittogether can solidify the effectiveness of moral sua-sion. This mixture of local information and coopera-tive incentives can make possible effective peer mon-itoring which reduces the adverse incentive problem.

Credit unions also have a crucial feature that dis-tinguishes them from other forms of cooperative lend-ing organizations: they can legally offer an array ofdeposit services to mobilize savings which can in turnbe intermediated to small- and medium-scale borrow-ers.r2 The savings mobilization dimension of creditunions may be the most crucial for insuring that loanrepayments are taken seriously and effectively admin-istered. When loanable funds are predominantly localsavings, the security of members deposits depends onloan repayments, and proper representation of deposi-tors interests in the cooperatives decision-makingand administrative process becomes essential to theviability and credibility of the institution.

Well-organized credit unions can reduce the infor-mational asymmetries and scale economy problems ofsmall-loan review and management and help theinvestment needs of low-wealth borrowers to be bettermet. At the same time, it is important to caution thatthere are many potential sources of local cooperativefailure. One is the inability to diversify loan portfo-lios, if local productive activities are relatively homo-geneous or sector-dependent. In this case, negativecovariate shocks, such as bad weather or a decline inoutput price, can lead to widespread loan default,deposit-runs, and the loss of financial viability unlessexternal insurance of some form is available.13 Othersinclude the potential for corruption or cronyism toarise in the volunteer loan-review committee, the dif-ficulty of maintaining a sense of moral obligation tothe cooperative when membership grows beyondsmall numbers, and the difficulty of foreclosing in acooperative institution in the case of an individualmembers default. Any of these problems can under-mine the credibility of the institution, negating theadvantages outline above. Nonetheless, the potentialfor failure that stems from the challenges of effectivelocal collective action does not preclude the possibil-ity that credit unions can improve the efficiency offinancial markets and in the process generate moreequitable outcomes. It only means that to do soinvolves a delicate challenge of combining bothappropriate institutional design and effective localcollective action.

The diversity and depth of informal credit institu-tions in less-developed countries, and their ability to


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overcome inefficiencies in formal financial markets,has received increased attention in recent years (Bhatt,1988; Christensen, 1993; Yotopolous and Floro,1992). In Guatemala, loans from family and friends,money lenders, input suppliers, and merchant con-signors are all important sources of credit, especiallyfor short-term consumption or working capital loans.Informal sources have serious limitations, however,which make it unlikely that they will fully relax creditconstraints, especially for producers. More specifi-cally, while money lenders may enjoy informationaladvantages relative to formal institutions, their poten-tial for deepening financial markets is limited,because informational problems and transaction costsare likely to rise as soon as the scope of their loanactivity goes beyond a few individuals (Christensen,1993). Their loanable funds are also likely to bescarce, as their inability to provide deposit servicesprevents them from mobilizing savings broadly forintermediation purposes. Moreover, if markets arepoorly integrated, money lenders may exercise excep-tional market power, raising the prospect of furtherinefficiencies through either explicitly or implicitlyhigh interest rates (Bhaduri, 1977, 1983, Basu, 1984).In the Guatemala study areas, money lenders are gen-erally viewed by borrowers as lenders of last resort, orfor short-term emergency loans at high contract ratesbut with low transaction costs, rather than as lendersof first resort for production loans.

Input supply loans, consignment loans, or con-tract-farming arrangements are examples of othertypes of credit relations that can reduce constraintsfacing producers. Still, there are potentially threeimportant limitations of input supply or consignmentloans, which could make them imperfect substitutesfor formal loans. They tend to be in-kind whichrestricts their fungability; they tend to be short term,covering only the agricultural season or commercialcycle; and, depending on the competitive nature oflocal markets, they can come with relatively highimplicit interest rates. In the empirical analysis, someattention is given to these types of loans, but their rolein relaxing credit constraints in formal lending institu-tions is not explicitly addressed.

4. MEASUREMENT OF CREDIT RATIONINGWe now turn to the challenging empirical task ofmapping the credit market outcomes depicted inFigures l-3 for producers in the study regions inGuatemala. Ideally, some measure of demand for indi-vidual producers would be compared with individualsupply curves for credit, and producers would then be

classified as fully constrained, partially constrained,or unconstrained depending on the outcome. Kochar(1992) takes loan application as a signal of demand,and then estimates credit access of different wealth

producers. Producer households who do not apply areassumed to be uninterested or unconstrained. Usingthis approach, Kochar finds strong econometric evi-dence that poorer households without credit are gener-ally not constrained by credit markets but by theabsence of investment opportunities given their lowasset positions.An alternative approach is to estimate the shadowvalue of capital for producers and compare these withthe prevailing market loan rates. Consistently largegaps between the shadow value of capital and prevail-ing loan rates reflect the presence of credit constraints.Sial and Carter (1994) adopt this approach, and findevidence of credit constraints for a relatively homoge-neous groyp of peasant grain producers in Pakistan.This approach becomes difficult when there is hetero-geneity of production activities both within and acrosshouseholds, because this method requires measuringrates of return for each activity. This measurementundertaking requires detailed quantitative informationon revenues, costs, and technologies which in samplesof heterogeneous producers, such as the study areas inGuatemala, may be prohibitively costly to collect.Methodologically, this paper builds on work byFeder er al . (1990) that explores the latent loandemand of households by asking them about theircredit market experiences. In particular, nonborrow-ing households were asked the reasons for not bor-rowing or having been rejected, and borrowing house-holds were asked whether they received their fulldemand or if they sought more credit than the amountthey were actually granted at the going rate of interest.Responses to these questions were then used to clas-sify households as fully, partially, or unconstrained informal credit markets. One respondent group which isproblematic to classify is those who did not apply forcredit. One means of dealing with them is to do asKochar (1992), who equated no application to nodemand. As pointed out by Baydas, Meyers andAguilera-Aldred (1992), however, while some nonap-plicants truly have no demand at the perceived con-tract rate, others who would demand a loan did notseek one because transaction costs made them tooexpensive or they believed that banks would rejectthem for reasons of insufficient collateral. The surveydeployed in this study asked questions that allowedthese two groups to be distinguished.

Two fundamental selection issues had to be incor-porated into the study design in order to accuratelyassess the importance of credit unions in easing creditconstraints in formal credit market institutions. Thefirst selection issue was that of potentially confound-ing a vibrant local economy with the presence of acredit union, where the former might have more to dowith higher levels of credit access than the latter. Thesecond was that of potentially confounding creditaccess with credit union membership, where. thosehouseholds desiring credit join credit unions and those


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with less or no demand, do not (Sial and Carter, 1994).These selection issues are addressed in three ways:(a) by including as respondents a natural experimentsample of credit union member households, non-mem-ber households, and control households who livenearby, but are outside of the credit unions marketingarea; (b) through the use of questions on the latentdemand of respondents for credit and their experiencein, or perception of, credit access in formal credit insti-tutions; and, (c) by controlling for wealth in compar-isons of credit access and constraints among respon-dent households. Combined, these features of thestudy design allow for comparisons between the differ-ent types of producer households, yet also control fordifferences in demand for credit that might arisebecause of variations in surrounding economic oppor-tunities, household objectives, and household wealth.Detailed financial data were collected from all sur-veyed households, including information on house-hold farm and business activities, assets (land, resi-dential and business structures, business and personalequipment, animals, and financial assets),r4 savingsand borrowing transactions with both formal andinformal sources, and household perceptions of theirformal sector borrowing opportunities. The surveysalso documented household composition, labor mar-ket participation, and credit union membership.Three credit union areas were chosen to represent arange of the broad spectrum of Guatemalan financialmarkets.r5 All three had relatively active and dynamicagricultural and commercial sectors. Only householdswith agricultural and/or commercial enterprises wereinterviewed, i.e., households with only wage workerswere excluded.i6 Households were selected from bothurban and rural areas surrounding the credit uniontown, without consideration for membership status. Intotal, 950 households were surveyed, with an averageof slightly over 250 in the three credit union areas and90 in each of two control towns. Of the 761 house-holds interviewed in the three credit union areas, 294,or 39%, were member households, while 467, or 61%,were nonmember households. Membership rates wereconsiderably higher among urban households (over50%) than in rural households (under 25%).Two wealth comparisons from the survey dataunderscore the potential importance of the selectionissues just mentioned and the sample design used toaddress them. First, the average wealth of the house-holds in the control villages (about $16,000) wasabout half that of respondents in the nearby creditunion areas (about $32,000). These differences inmean wealth suggest that households in the creditunion areas are in a more vibrant local economy, andthus may have more demand for credit. Second, inthese same areas, credit union member householdsalso have higher wealth (about $37,000) than non-member households (about $27,000), which also sug-gests the possibility of differences in loan demand.

The empirical argument is presented in two steps.First, summary statistics of credit market outcomesare used to develop a comparative profile of creditaccess and terms for credit union members, nomnem-bers, and control respondents. The data in section 5show that the presence of credit unions is associatedwith higher credit access for low-wealth producerhouseholds and more competitive local credit mar-kets. Since this first step does not control for demandamong respondents, strong conclusions cannot bedrawn about whether households have credit con-strains relaxed by credit unions. The next step in theargument is to examine the credit market experiencesand perceptions of respondent households, and howthey are associated with household demand andwealth levels. To simplify the presentation, this step isdemonstrated in section 6 for only one region, whererespondent wealth levels are considerably higher thanin the other two. Barham and Boucher (1994) showthat similar results hold for the poorer credit unionareas.

5. TERMS AND ACCESS TO CREDIT AMONGSMALL-SCALE PRODUCER HOUSEHOLDSThe first comparison of credit access and terms ispresented in Table 1. Among the 189 producer house-holds sampled in the two control areas, 83 loans were

received during 1992 (or about one loan for every 2.5households); none of those loans came from privatebanks, 11 came from public banks, and 10 from creditunions. Over 75% of the loans to control householdscame from nongovernmental organizations (NGOs)operating in the two areas. By contrast, among the 761producer households sampled in the credit unionareas, 482 loans were received (or about two loans forevery three households). Formal sector loans (banksand credit unions) represent almost 60% of all loans,while credit unions account for 75% of formal loans.For all loan sources, the average loan size in the creditunion areas was just about twice the level of the con-trol areas, 4,800 versus 2,400 quetzales, (5.2 quetzales= $1 US), and the average size of credit union loanswas 5,853 quetzales. On a per household basis, thevolume of credit obtained by respondents in creditunion areas was about three times that of respondentsin the control areas.Interest rates and term lengths were also morefavorable to borrowers in the credit union areas. In thecontrol areas, the average annualized interest rate onall loans was 30%, compared to 24% in the creditunion areas. The average term length for loans in con-trol areas was 326 days, with over half of the loanshaving a term of under half a year, versus an averageterm of 535 days in credit union areas. Money lenderloans comprised about 15% of the loans, and weremade at an average annualized rate of 78% in control


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Table 1. Loan volumes and characreristicsLoan source Loan 3%Credit union areas - 758 householdsCredit union-total 207private bank-total 15Public bank-total 54Irlfomlal-total 206

Moneylender 48Family/Friend 87NGOGO 55Other informal 16

Total 482Control areas - 189 householdsCredit union-total 10Public bank-total 11Infotlnal-total 62Moneylender 12Family/Friend 13NGO/GO 32Other informal 5

Total 83

Loan size (quetzales) Interest rate* Term of loan (days)

4.9507 23% 57014,553 21% 1,3325,810 19% 9842,788 26% 3145,339 67% 2581,086 8% 1662,995 26% 3963,669 7% 9514,809 24% 535

4,950 24% 6663,668 19% 5601,780 33% 2281,008 78% 108

960 5% 4491,364 29% 1778,430 14% 3102,412 30% 326

*Annualized rate.t5.2 quetzales = U$l, 1992).

areas. This compares with 10% of the total loans,made at an average interest rate of 67% in credit unionareas. The high rate on money lender loans supportsthe view that they provide an imperfect substitute forformal loans.One other major source of credit, supplier and con-signment loans, was evident in the respondents financialtransaction reports. In the three credit union areas, motethan 20% of households received inputs or merchandiseadvanced as credit during the past year, and for about10% of households these in-kind loans were their soleform of credit. The value of supply loans tended to befairly large. For example, in the South Coast region, theaverage value of supply loans was about 3,900 quetza-les, compared to an average credit union loan of nearly7,100 quetzales. For the entire sample, the average termlength of credit from suppliers was short, 23-29 days forcommercial goods and 75-U days for agriculturalinputs. A quarter of the suppliers offered a discount ofabout 7% for cash payments on delivery. When con-verted to annual terms, this implicit interest rate is evengreater than money lender rates.t8Thus, given both theirterm structure and their potential for high implicit ratesof interest, input supply and consignment loans may alsobe an imperfect substitute for formal loans for producerhouseholds, especially if they are seeking to makelonger term investments.

The credit access patterns of member, nonmember,and control households are compared in Table 2,which shows by wealth quintiles the percentage ofeach type of household with credit access for the

South Coast region. The second column reports thepercentage of households in a given wealth quintile,and the rest of the columns give the percentage ofhouseholds that receive a loan from each source. Afirst glance at Table 2 shows that access to any loansis higher for credit union member households acrossall wealth quintiles, and especially in the lower ones.The any loan column shows that 53 and 76%,respectively, of member households in this first andsecond quintiles has a loan. Over 90% of these werecredit union loans. In contrast, less than 10% of non-member households in credit union areas and less than25% of households in the control area, in the samequintiles, had a loan. For nonmember and controlhouseholds in the lower wealth quintiles, supplierloans are the principal source of credit. In summary,combining all sources, member households havemuch greater credit access.The presence of a credit union is associated withgreater credit access by lower wealth producer house-holds, but the same cannot be said for banks. Fiftycredit union loans were made to households in the bot-tom three wealth quintiles compared to only two bankloans. Even among respondents at the top of thewealth spectrum, credit union loans are more preva-lent than bank loans. These comparisons are sugges-tive but not conclusive, because the relatively lowloan access of nonmembers could be attributed to lackof demand or lower creditworthiness. The next sec-tion addresses the demand issue by exploring thecredit market experiences and perceptions of respon-


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Table 2. Loan access by househol d w ealt h qui nt il e and membershi p st atu s or South Coast credit un ion and control areasCredit union area (N = 211 households)

% Credit Union Member Households with (N = 114)% Member Credit Any Loan

Wealth Hhlds in Union Bank Informal Any Supplier or SupplierQuintile Quintile Loan Loan NGO Loan Credit Credit1 13% 47% 0% 7% 53% 13% 53%2 18% 71% 0% 5% 76% 48% 81%3 23% 69% 4% 8% 69% 46% 85%4 26% 70% 7% 13% 73% 47% 83%5 19% 36% 18% 5% 45% 36% 55%

% Non-Credit Union Member Households with (N = 97)1 28% 0%2 22% 0%3 18% 0%4 12% 0%5 21% 0%

4% 4% 7%0% 5% 5%0% 6% 6%

17% 8% 25%35% 5% 40%

Control area (N = 88 households)

15% 22%48% 53%29% 35%

8% 33%15% 55%

% Households with1 20% 6%* 6% 11% 22% 22% 33%2 20% 0% 0% 12% 12% 24% 29%3 20% 0% 6% 11% 11% 33% 39%4 20% 0% 0% 6% 6% 18% 24%5 20% 0% 22% 11% 28% 28% 39%*One respondent in the control area traveled the 30 kilometers to the credit union area to become a member.

dents and explicitly examines whether credit unions outcomes described in section 2. The categories andhelp low wealth producers to overcome credit con- the responses which led to classification in each cate-straints in banks. gory are:

6. CREDIT CONSTRAINTS, WEALTH, ANDCREDIT UNIONS

The analysis builds on a series of questions con-cerning respondent borrowing needs, experiences,and perceptions. The primary purpose of the questionswas to identify whether households were creditconstrained in the major formal lending institutions:credit unions, private banks, and public banks.19Households were asked if they had pursued loansat each of these institutions. If they had, they wereasked, in the case of rejection, what the explanationfor their rejection was. In the case of acceptance,they were asked whether they had received theloan amount they requested or wanted. If they hadnot pursued formal sector loans, they were asked whynot.Responses were used to group respondents intothree group response categories, corresponding to the

(a) Fully constrained: Either applied and wererejected or did not apply due to:- insufficient collateral or the inability to doc-ument sufficient asset holdings to secure or col-lateralize the loan;- high transaction costs, i.e., the costs ofobtaining property titles, compiling enterpriseprojects or paying other loan fees made theeffective cost of the loan prohibitive; and,- fear of risk, specifically the loss of theirwealth prevented them from pursuing a loan(This group was included as fully constrainedon the presumption that the absence of insur-ance or other risk-reducing mechanisms forcedthem to self-insure. It was the smallest of thethree categories, and their average wealth wasmuch lower than all the other groups.)

(b) Partially Constrained: Received a loan but forless than requested or wanted given the loan terms.(c) Unconstrained: Either received full loanamount or had no interest in a loan.


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The results of this exercise are mapped in Figure 4for the South Coast credit union area, according to theproportion of respondents in each category and theiraverage wealth. Average household wealth for the 201respondents is 253,787 quetzales. This can be used asa basis for comparison of loan market opportunitiesand constraints of the rest of the figure. The groupingof respondent households begins with the division ofhouseholds into the Did Not Apply and Did Applyportions. Subsequent categorization depends on howrespondents answered the credit experience questionson the private bank portion of the survey. Thus, forexample, 64% of the respondents were unconstrainedin access to bank loans, and 32% did not apply, but didnot for one of the three reasons given above under thefully constrained category, with more than half ofthese claiming that they had insufficient collateral tosecure a bank loan. Two percent did apply, and weredenied bank loans. Finally, 3% applied and receivedwhat they had requested from the bank. In this sampleof private bank loans, there were no partially con-strained observations.

Comparisons of these categories support the con-jecture that poorer households are more likely to betightly credit constrained in private banks. Those whoconsidered themselves constrained, but did not apply,had an average wealth of 127,979 quetzales, which isa little less than 40% of the wealth of those who con-

sidered themselves unconstrained and also did notapply for bank loans. This constrained cohorts aver-age wealth is also less than one half of the averagewealth of the unconstrained group who received aloan. The other constrained cohort that did apply actu-ally has a higher average wealth level than those whoreceived loans from banks, which supports the notionthat wealth may be necessary but not sufficient forsecuring credit access. Similar differentiation of con-strained and unconstrained households by wealth isevident in the other regions.2o

The next set of comparisons address whether creditunions help to relax the credit constraints faced bypoorer households in banks. Specifically, the bottomof Figure 4 identifies the proportion of the householdsfrom the two constrained boxes in the upper portionthat have credit constraints relaxed by the presence ofcredit unions. These bank-constrained householdshave an average wealth of 137,897 quetzales. Over40% have their formal credit constraints relaxed in thecredit union, combining the 13% reporting as uncon-strained (but applied for a loan) and the 27% reportingas partially constrained. These two groups averageabout 182,000 quetzales in wealth, which is a thirdless than the overall sample average for the region, butmore than the average for these bank-rationed house-holds. Another 28% of bank-rationed households, or9% of the South Coast sample, report being fully con-

Private Bank Loan Experiences (N =201)Average Wealth =253,787 quetzales (5.2 quetzales = l$, 1992)

Did Not Apply I Did Apply

Experiencen Credit Union of ThoseConstrained in Banks (N = 67)Average Wealth = 137,897 quetzales

Did Not ApplyI

Unconstined31%

Ave. With.140,977

FullyCOnshained

22%Ave. With.

96,055

FullyConstrained

6%Ave. Wlth.

44.184 _27%

Ave. Wlth.168,828

Ave. WM.190,316

Figure 4. Credit r ation ing in South Coast area, Guatemala.


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strained within credit unions. Their average wealth is85,680 quetzales, or about one-third of the regionalsample average, and less than two-thirds of the aver-age for bank-rationed households. Finally, 31% ofbank rationed households report being uninterested incredit union loans, and their average wealth is slightlyhigher than the sample average.

The outcomes in Figure 4 provide the basis forthree major conclusions. First, 14% of respondents inthe region have credit constraints in private banks par-tially or fully relaxed in credit unions. Second, whilecredit unions are important in relaxing credit con-strains for low wealth producers, their coverage doesnot reach the lowest end of the wealth spectrum. Forthe entire sample, about 10% of households reportbeing credit constrained both in private banks andcredit unions. Third, a significant portion of creditunion loan recipients are partially constrained. In sum,credit unions play a crucial role in improving creditaccess of lower wealth producers, but they may beunable to serve the needs of the lowest wealth borrow-ers. For &xlucer households at the bottom of thewealth .+ctrum, other types of local cooperatives,such as group lending schemes, may need to befomented to improve credit access (Wydick, 1994;Huppi and Feder, 1990).

7. CONCLUSIONThis paper gives reason for hope that credit unions

can help improve the efficiency of local financial mar-kets and the prospects for equitable economic devel-opment in Guatemala. Currently, under 10% of theGuatemalan population is served by any credit union,let alone one that is vibrant in its local financial inter-mediation role. Thus, the upside potential for institu-tional innovation in reforming traditional creditunions or creating new ones could be quite high.Credit unions however, do not spring up merelybecause of the social need for better financial marketintermediation for lower wealth depositors and bor-

rowers. Start-ups require initial investments in organi-zation, management training, membership recruit-ment, and creation of a secure, healthy institution toattract depositors. These fixed costs may be largecompared to the resources that a community can gen-erate via collective action.External agencies interested in helping to meetthese fixed costs also need to recognize two othermajor challenges that credit unions face. One is theirvulnerability to local economic shocks which mayprovoke simultaneously high levels of loan defaultsand runs on demand deposits. This suggests the needfor diversification of investments and coordination ofcredit unions across regions. The second challenge isthat, in some areas, credit unions must overcome apoor image, because earlier credit union efforts reliedextensively on external funds for lending and did notdevelop a sustainable balance between effective localsavings mobilization and well-administered creditmanagement or were undercut by inflation or instabil-ity in the macroeconomy. In these cases, the fixedcosts of managing a structural adjustment program oran organizational overhaul may be even larger thanstarting up a new credit union, and external supportmay be needed to both restore credibility and to reor-ganize .Creation and reform of credit unions is an areawhere government or nongovernmental support mightbe warranted, with the aim of creating a self-sustain-ing organization within a limited time frame. Such aneffort could be consistent with the broad critique ofstate intervention, as the main objective would be tocreate decentralized, market-based intermediaries, butwith an explicit aim of meeting the savings and creditneeds of lower wealth households. At the same time,the challenge for the local community would be tomove from start-up or initial reform to a well-func-tioning civic institution that fills a significant gap infinancial markets for low-wealth households. This isthe type of effort from whence local democratic devel-opment could well spring.

NOTES1. At issue are both the efficiency and the equity of the Pischke, Adams and Donald (1983), and Adams and Vogeloperation of the economy in static and dynamic terms. (1986) for more on the potential importance of savings ser-Barham, Carter and Sigelko (1995) and Carter, Barham and vices to poor households.Mesbah (forthcoming) demonstrate, in both the short andlong term, the importance of capital access in Latin America 3. This paper is based on an independent evaluation donefor small-farmer participation in agro-export crop production for the World Council of Credit Unions, in conjunction withand their competitiveness as producers. the US Agency for International Development, of a recent

structural adjustment program carried out by Guatemalan2. Credit unions may fill an even more important need for credit unions. See Barham and Boucher (1994) for the reportpoor households in developing countries by providing them to these agencies.a secure place to save and receive positive real rates of returnon their deposits. See Carter and Boucher (1995). von 4. About 20 Guatemalan credit unions, including the


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three in this study, underwent structural adjustment in thelate 1980s aimed at making them self-sufficient in a compet-itive market. See Richardson, Lennon and Branch (1993).5. Based on a constant-returns-to-scale production tech-nology with fixed assets, loans to finance variable costs lead toa downward-sloping demand schedule. Assuming insufficientprivate liquidity to self-finance the need for variable inputsjustifies the shifting of the demand schedule to the right forproducers with more fixed capital. Finally, given uncertaintyand incomplete insurance markets, demand at a given interestrate would reflect the borrowers risk-adjusted rate of return.6. As an anonymous referee pointed out, lenders can alsoshorten the term structure, tie the loan to other market trans-actions, or off-load on the borrower part of the lenders nor-mal transaction costs.

I. For some distance beyond B, the compensating rise inthe contract interest rate could be small, making the effectiveinterest rate very close to r,. For clarity in Figure 1, the sched-ule is shown as rising immediately after B.8. In practice, transaction costs can be incurred by boththe lender and the borrower. To simplify the presentation, alltransaction costs of producing and servicing a loan arereflected in the supply schedule.9. Braverman and Guasch (1986) and Hillier andIbrahimo (1993) summarize the theoretical literature. Besley(1995) offers a less technical, policy-oriented discussion ofthe informational basis for credit market failures.10. In a market with excess demand, wealthy borrowerscan have their demands met while the lower wealth borrow-ers are completely rationed out. Carter (1988) argues thatsmall farmers are more likely to confront this form ofredlining in dualistic agrarian structures, where wealthyborrowers may absorb the available loan supply.11. Poyo, Aguilera and Gonzalez Vega (1992) discuss thedesign features of credit unions as they evolve from the smallclub stage to the bank stage where increased member-ship size and declining risk-screening capacity push themtoward a more formal loan review and monitoring process.12. Savings mobilization depends on a combination ofcompetitive rates of return on deposit relative to other tinan-cial intermediaries, services to meet the various liquidityneeds of customers, and a culture of financial savings amongthe membership. This latter point is important given the his-

toric reliance of many (potential) cooperative members onsavings in the form of grain and livestock as insuranceagainst hard times. Boucher, Barham and Branch (1993)found that savings deposits in Guatemalan credit unions arehighly concentrated among wealthier members.13. See Carter and Zegarra (1995) for a discussion of theproper balance between policies oriented toward buildingeffective local management of credit unions and providingexternal insurance against covariate shocks.14. The value of stored grain is not included in me assetmeasure, which may somewhat bias asset estimates for thepoorest rural households in the sample. Financial assets mayalso be underreported, but this bias is likely to lead to anunderstatement of wealth differences across sample house-holds for reasons discussed in note 12.15. The three areas were Tiquisate, on the South Coast,San Juan Sacatapequez, in the Central Highlands, and TatTic, in the Northern Highlands. Barham and Boucher (1994)describe the areas and activities of producers.16. Credit unions also serve wage workers by offeringdeposit services and housing and consumer loans.17. The differences in loan volumes between the creditunion and control areas would have been greater, if not forNGOs in the control areas, who were operating there explic-itly to address local credit access problems.18. Implicit interest rates of this magnitude may be presentin the price structure of some other supplier credit loans, butcomparable data on alternative input sources and cash priceswere not solicited to test this question.19. Public bank loans were found only among the wealthi-est of respondent households in the South Coast.20. This wealth-based interpretation of credit constraintscould be problematic if there is a negative correlationbetween wealth and risk for individual borrowers, based onthe riskiness of their projects or their personal character butnot on their wealth per se, and if these features are observedby banks but not the researchers. If, however, the riskycharacteristics of projects and personal character arenot readily observed by banks, or there is no negative corre-lation between these characteristics and wealth, then theoutcomes would be consistent with the overall argument ofthe paper, whether or not poor borrowers are per se credit-worthy.

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