The author tests two alternative models of price determination in informal rural credit markets, using LSMS data from Nepal. Strong support is found for a capacity-constrained collusive oligopoly model, where lenders have full information about actual borrowers and charge heterogeneous interest rates. Only marginal support is found for a competitive cost-pricing model with imperfect information. Interest rates vary with the observable characteristics of caste, installment period, and geographical region; and they decrease as village lending capacity increases up to a certain level. Interest rates do not depend on risk related variables such as land value and loan size.

Magnus Hatlebakk

Senior Researcher; Coordinator: Poverty Dynamics

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