BREAD Working Paper No. 555, July 2018

Borrowing Requirements, Credit Access, and Adverse Selection: Evidence from Kenya

William Jack, Michael Kremer, Joost de Laat, Tavneet Suri


Do the stringent formal sector borrowing requirements common in many developing countries restrict credit access, technology adoption, and welfare? When a Kenyan dairy’s savings and credit cooperative randomly offered some farmers the opportunity to replace loans with high down payments and stringent guarantor requirements with loans collateralized by the asset itself – a large water tank – loan take-up increased from 2.4% to 41.9%. (In contrast, substituting joint liability requirements for deposit requirements did not affect loan take up.) There were no repossessions among farmers allowed to collateralize 75% of their loans, and there was only a 0.7% repossession rate among those offered 96% asset col- lateralization. A Karlan-Zinman test based on waiving borrowing requirements ex post finds evidence of adverse selection with lowered deposit requirements, but not of moral hazard. A simple model and rough calibration suggests that adverse selection may deter lenders from making welfare-improving loans with lower deposit requirements, even after introducing asset collateralization. We estimate that 2/3 of marginal loans led to increased water storage investment. Real effects of loosening borrowing requirements include increased household water access, reductions in child time spent on water-related tasks, and greater school enrollment for girls.