Microcredit Interest Rate Regulation: The Case of Cambodia

Microfinance has the double aim to simultaneously alleviate poverty through financial
services and to provide those services in a financially sustainable scheme. Following some
crises and doubts about microfinance's ability to combine social and financial goals, the need
for an appropriate regulation has been stressed. Especially, in some cases, microfinance
institutions (MFIs) tend to charge excessive interest rates, which threatens the achievement
of their social mission. Two modes of regulation are commonly highlighted: the legal control and
the influence of competition. This master's thesis studies how they both influence interest rates
in order to improve microfinance's double bottom line. First, regulators generally consider interest
rate ceilings. They usually bring more efficiency and might effectively reduce the rates. However,
they may also lead to significant issues, such as reducing the access to financial services,
diminishing transparency and forcing MFIs to find revenue alternatives or to withdraw from
poorer markets. Second, classical economists explain that competition stimulates efficiency,
reduces the rates and improves the quality of the services. Competition would also encourage
wider choices and innovation in lending practices. Yet, competition may also generate
inappropriate business practices, increase information asymmetries, favor borrowers' overindebtedness,
reduce repayment performance and push MFIs to turn to financially healthier
clients. It thus seems that a combination of both regulation and competition under appropriate
circumstances is required.
To understand how interest rate ceilings and competition influence microfinance's double bottom
line, a theoretical framework was established. This framework highlights 8 situations defined
thanks to 3 criteria: low/high effective rates; limited/strong competition and constraining/nonconstraining
ceiling. Some positive and negative financial and social impacts were highlighted for
each situation. This framework was then applied through a case study on the Cambodian
microfinance market conducted during an internship at the Cambodia Microfinance Association
(CMA) from 5th February to 30th March 2018. The results of our empirical study show that the
Cambodian microfinance sector may be considered to be in a situation where effective interest
rates are considered as relatively low, with a strong competition and with a constraining ceiling.
Our study also highlights other interesting findings. First, Cambodia's current situation seems to
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favor the commercial side of the double bottom line. Refinancing and unprofessional practices
appear on the market and are strengthened by the strong competition as well as the constraining
cap. Moreover, MFIs seem to focus more on their profit and competitiveness in such a situation.
Second, the interest rate cap policy is not considered as harmful as expected, although significant
adjustments and consequences have been observed. Third, Cambodia's situation is very
particular. Theoretically, it should be facing over-indebtedness troubles and lower repayment
rates. However, this does not seem to be the case at this moment. Still, interviews and
observations revealed that this issue is a fear that the sector has for the future. Finally, the market
structure seems about to change, as mergers and acquisitions (M&A) are felt as necessary to
consolidate the market.