Impact of micro credit Micro credit programs have been donors favorite but are

Impact of micro credit micro credit programs have

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Impact of micro credit Micro credit programs have been donor’s favorite, but are now often criticized. Large demand for loans is evidence of success But very little evidence of permanent income gains Is credit the answer? Credit provides resources for investment But at typically very high interest rates Default can throw people back into poverty trap Credit comes with other services Business support services (group work, technical) Commitment device (have to plan ahead) Are it the other services what makes credit attractive? Savings commitment devices Downloaded by Vicky Gupta ([email protected]) lOMoARcPSD|3929542
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HC 9. Risk and Insurance Types of risks ; climatic, accidents, crime, economic (unemployment, price fluctuations etc.), health, social and political (civil unrest etc.). Mutual insurance : when output is different you can work together to guard against risk (equal expected output but less risk). If utility function is concave = risk aversion > people prefer mutual insurance . More concave increases risk aversion ± More risk lowers utility The same average outcome but increase the spread; lowers utility. Risk aversion • Degree of risk aversion is determined by the curvature (‘concavity’) ofthe utility of money curve u(y) • Curvature is measured by the second derivative u’’(y) • Arrow Pratt measures of risk aversion: – Absolute: rA(y) = u’’(y)/u’(y) – Relative: rR( )y = u’’(y )/u’(y ) * y Mean preserving spread: Suppose we have one lottery with outcomes x. If we add another lottery z to this lottery where the expected outcome is 0 (on average you add nothing). Then the combined lottery x +z is more risky. Find z such that x+z gives us the no insurance outcome . Mutual insurance outcome : x > ¼=1000, ¼=1500, ¼ = 2000. New lottery: ½ = -500 and ½ = 500 Average = 0 (-500+500=0 on average but increases the risk). 1/2U(1500)+1/2u(100)+1/2u(2000) Downloaded by Vicky Gupta ([email protected]) lOMoARcPSD|3929542
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Check that: Mutual insurance increases the expected utility – There is no scope for mutual insurance if risks are perfectly positively correlated – There is full insurance possible if risks are perfectly negatively correlated Formal insurance - Client is risk-averse (pays fixed premium to insurer) - Adverse selection > asymmetric information (hidden information; need to make health insurance obligatory). - Moral hazard > conflict between insurance and incentives ± partial insurance as a compromise hidden action problem; change behaviour after insurance is taken up (parial insurance = compromise, some individual risk to ensure proper behaviour). - Enforcement : usually through pre-payment of the premium Mutual Insurance 1. Decreasing spread of potential outcomes increases utility if agents are risk averse 2. Insurance concerns unilaterial transfers that are unrelated to past or future transfers(<> not credit!) 3. Power of mutual insurance depends on degree of correlation between outputs of agents 4. Mutual insurance is more viable if the number of agents increases and their fortunes are less correlated 5. Informal mutual insurance usually based on social norms of reciprocity rather than formal
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