Essays on Banking for Micro and Small Enterprises

This thesis provides new evidence concerning the way financial intermediaries fulfill the role of distributing capital efficiently to micro and small enterprise and diversify intertemporal risk at different stages of development. Chapter 2 and 3 present results about intertemporal risk sharing services provided by relationship banks to microentrepreneurs in developing countries after an aggregate income shock. The analysis is based on a data set in which the customer data of the microfinance institution ProCredit Ecuador is merged with the monthly data of seismic activity and explosions of the volcano Tungurahua in Ecuador from 2001 to 2006. Results indicate that new clients are less likely to receive a loan after the shock, but old clients face no lending restrictions. Additionally, old clients also pay lower interest rates after the shock and have lower default rates. The conclusion is that relationship banking facilitates intertemporal risk sharing for individuals that have a long term relationship with a bank. Chapter 4 empirically analyzes the competition between banks with different lending technologies, relationship lending and transaction lending, in the credit business with micro and small entrepreneurs in developing countries. I analyze a unique dataset consisting of a combination of credit bureau data with customer data of an Ecuadorian microfinance institution. The results support the hypothesis that especially transaction lending contributes to the problem of overindebtedness in developing countries. However, clients prefer to pay their installments to relationship banks, because they offer additional services. Chapter 5 analyzes management behavior in German credit cooperatives. One key feature of their institutional structure in the past was the fact that members have no ownership rights on the retained profits in order to assure the sustainability of the institution. Nowadays when members are mainly financially motivated and their incentives to monitor the management are weak, this institutional feature has the potential to generate negative incentives for the cooperatives management. I present a model on the incentive effects of this institutional feature and test the implications on a dataset of German credit cooperatives.