Another French Paradox: Microcredit and usury Arvind Ashta, - - PDF document

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11/12/2008 Another French Paradox: Microcredit and usury Arvind Ashta, Laurence Attuel-Mendes & Jean-Guillaume Ditter Burgundy School of Business (ESC Dijon), CEREN Paradox of French usury legislation Paradox of French usury legislation

SLIDE 1

11/12/2008 1

Paradox of French usury legislation Paradox of French usury legislation

Another French Paradox: Microcredit and usury

Arvind Ashta, Laurence Attuel-Mendes & Jean-Guillaume Ditter

Burgundy School of Business (ESC Dijon), CEREN

Paradox of French usury legislation

Table 1: Density and entrepreneurial creation rate compared between France and its immediate European partners Source: Report Hurel (2000)

Number

firms Number

new enterprises created Rate

creation (for 10,000 inhabitants) Entrepreneurial density (number of firms for 1 million inhabitants) Spain 2 650 000 350 000 88 0.067 France 2 400 000 177 000 44 0.041 Italy 4 650 000 370 000 64 0.081 UK 3 500 000 393 000 66 0.059

SLIDE 2

11/12/2008 2

Paradox of French usury legislation

Interest rates Loan Amount r* ru a b c

Unsatisfied demand

E Supply Demand

The growth of credit may not materialise if credit rates remain capped by usury laws

Usury ceiling

Paradox of French usury legislation

Table3: Comparative usury legislation Source: Information extracted from Hurel (2003).

Countries with no usury laws Countries having usury laws US Germany Canada Spain UK Italy Austria France

Note, the US has no usury limits at the federal level, but individual States may still have limits from time to time.

SLIDE 3

11/12/2008 3

Paradox of French usury legislation

France removed usury ceilings

For loans to enterprises : 2003
For business loans to individuals : 2005
Therefore

– Microcredit should have boomed – Interest rates on business loans should have increased

Paradox of French usury legislation

Year Number of loans Growth in number Growth % 1990 34 1991 91 57 168% 1992 159 68 75% 1993 278 119 75% 1994 388 110 40% 1995 698 310 80% 1996 852 154 22% 1997 1276 424 50% 1998 1492 216 17% 1999 1929 437 29% 2000 2844 915 47% 2001 3563 719 25% 2002 4618 1055 30% 2003 5349 731 16% 2004 5587 238 4% 2005 6740 1153 21% 2006 7570 830 12% 2007 9853 2283 30%

ADIE: Growth in Microcredit Activity Source: ADIE (2008): Rapport d’Activité 2007 Not exceptionally high growth rates

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11/12/2008 4

Paradox of French usury legislation

Loans to enterprises

0,00 2,00 4,00 6,00 8,00 10,00 12,00 14,00 16,00 2002 2003 2004 2005 2006 2007 Time (year centred on first quarter) Interest rates (%) Suppliers credit and Hire purchase (av erage rate) Suppliers credit and Hire purchase (usury ceiling) Variable rate Term loans (> 2yrs) (av erage rate) Variable rate Term loans (> 2yrs) (usury ceiling) Fixed rate term loans (> 2 yrs) (av erage rate) Fixed rate term loans (> 2 yrs) (usury ceiling) Ov erdraft (av erage rate) Ov erdraft (usury ceiling) Other short term loans (< 2 yrs) (av erage rate) Other short term loans (< 2 usury ceilings av erage rates

Housing loans to individuals

0,00 1,00 2,00 3,00 4,00 5,00 6,00 7,00 8,00 9,00 2002 2003 2004 2005 2006 2007 Time (year centred on first quarter) Interest rates (%) Fixed rate loans (average rate) Fixed rate loans (usury ceiling) Variable rate loans (average rate) Variable rate loans (usury ceiling) Bridge loans (average rate) Bridge loans (usury ceiling) usury ceilings average rates

Other loans to individuals

0,00 5,00 10,00 15,00 20,00 25,00 2002 2003 2004 2005 2006 2007 Time (year centred on first quarter) Interest rates (%) Small loans of less than 1524 Euros (average rate) Small loans of less than 1524 Euros (usury ceiling) Overdraft, hire purchase and term loans of more than 1524 Euros (average rate) Overdraft, dererred credit and term loans of more than 1524 Euros (usury ceiling) Personal loans of more than 1524 euros (average rate) Personal loans of more than 1524 euros (usury ceiling) usury ceilings average rates

Source: Bank of France data

Figure 2: Interest Rates and Usury Celings in France (2002-2007) Interest rates don't seem to have gone up exceptionally. If they went up, this may be global interest rate rise

Paradox of French usury legislation

Figure 3: Interest spreads and maximum usury spreads in France (2002-2007)

Housing loans to individuals 0,00 1,00 2,00 3,00 4,00 5,00 6,00 2002 2003 2004 2005 2006 2007 Time (year centred on first quarter) Interest rates (%)

Fixed rate loans (average rate) Fixed rate loans (usury ceiling) Variable rate loans (average rate) Variable rate loans (usury ceiling) Bridge loans (average rate) Bridge loans (usury ceiling) usury ceilings average rates

Other loans to individuals 0,00 5,00 10,00 15,00 20,00 25,00 2002 2003 2004 2005 2006 2007 Time (year centred on first quarter) Interest rates (%)

Small loans of less than 1524 Euros (average rate) Small loans of less than 1524 Euros (usury ceiling) Overdraft, hire purchase and term loans of more than 1524 Euros (average rate) Overdraft, dererred credit and term loans of more than 1524 Euros (usury ceiling) Personal loans of more than 1524 euros (average rate) Personal loans of more than 1524 euros (usury ceiling) usury ceilings average rates

Loans to entreprises 0,00 2,00 4,00 6,00 8,00 10,00 12,00 2002 2003 2004 2005 2006 2007 Time (year centred on first quarter) Interest rates (%)

Suppliers credit and Hire purchase (average rate) Suppliers credit and Hire purchase (usury ceiling) Variable rate Term loans (> 2yrs) (average rate) Variable rate Term loans (> 2yrs) (usury ceiling) Fixed rate term loans (> 2 yrs) (average rate) Fixed rate term loans (> 2 yrs) (usury ceiling) Overdraft (average rate) Overdraft (usury ceiling) Other short term loans (< 2 yrs) (average rate) Other short term loans (< 2 yrs) (usury ceiling) usury ceilings average rates

Derived from bank of France data

Spreads seem to be reducing !!!

SLIDE 5

11/12/2008 5

Paradox of French usury legislation

The Paradox

Why didn't interest rates increase ?
The paper discusses possible explanations

Paradox of French usury legislation

A. Classical explanations

1. Global interest rates decreased – Not borne by reality 2. Expansion in Money supply 3. Increased competition

SLIDE 6

11/12/2008 6

Paradox of French usury legislation

Interest rates Loan Amount r* ru a b c’ E Supply Demand r** S1

Figure 4: The impact of an increase in supply of microcredit

Paradox of French usury legislation

B. Behavioral and Formal Institutional Explanations

1. Behavioral explanations linked to OSEO guarantees 2. Effect of Basel 2: Bankers take less risk 3. The doctrine of "abusive support" deters bankers 4. Protection of Over-indebtedness 5. Information Asymmetry and Limited Liability of Borrower

SLIDE 7

11/12/2008 7

Paradox of French usury legislation

Interest rates Loan Amount r* ru a b c E Supply Demand

OSEO determined rate (supply curve flattens)

ro F G rf d E

Step 1 in establishing OSEO guarantee effect

Paradox of French usury legislation

Interest rates Loan Amount r* ru a b c E S0 Demand

OSEO determined rate (supply curve flattens)

ro F E’’ rf d S2 S3 E’ S1

Figure 5: The effects of OSEO guarantees, transaction costs and reference dependence on supply and interest rates

Transaction costs Reference Dependence

SLIDE 8

11/12/2008 8

Paradox of French usury legislation

Interest rates Loan Amount r* ru a b c E Supply Demand

OSEO determined rate (supply curve flattens)

ro F G’ G H

Reasons for rotation 1. Basle 2 2. Concept to abusive support 3. Protection of over-indebted

Paradox of French usury legislation

Problem

Interest rates should have increased to G, but this did

not happen

See Cofinoga, Sofinco etc for diversion of consumtion

loans to business and the fungibility problem

SLIDE 9

11/12/2008 9

Paradox of French usury legislation

Interest rates Loan Amount r* ru a b c E Supply Demand

OSEO determined rate (supply curve flattens)

ro F G’ H’

Figure 7: High interest rates increase default risk: supply curve becomes steeper and later vertical

Paradox of French usury legislation

Problem

There is no equilibrium ?
Multiple equilibriums

SLIDE 10

11/12/2008 10

Paradox of French usury legislation

C. Softer institutional reasons

1. Religious factors lead to informal usury ceilings 2. The French bankers (like other French entrepreneurs) are low on risk taking

1. Therefore prefer not to lend

3. The French social security system encourages low risk taking and therefore the demand curve may be more elastic

Paradox of French usury legislation

11/12/2008 1

Another French Paradox: Microcredit and usury

Arvind Ashta, Laurence Attuel-Mendes & Jean-Guillaume Ditter

Burgundy School of Business (ESC Dijon), CEREN

Table 1: Density and entrepreneurial creation rate compared between France and its immediate European partners Source: Report Hurel (2000)

Number

firms Number

new enterprises created Rate

creation (for 10,000 inhabitants) Entrepreneurial density (number of firms for 1 million inhabitants) Spain 2 650 000 350 000 88 0.067 France 2 400 000 177 000 44 0.041 Italy 4 650 000 370 000 64 0.081 UK 3 500 000 393 000 66 0.059

11/12/2008 2

Interest rates Loan Amount r* ru a b c

E Supply Demand

The growth of credit may not materialise if credit rates remain capped by usury laws

Usury ceiling

Table3: Comparative usury legislation Source: Information extracted from Hurel (2003).

Countries with no usury laws Countries having usury laws US Germany Canada Spain UK Italy Austria France

Note, the US has no usury limits at the federal level, but individual States may still have limits from time to time.

11/12/2008 3

France removed usury ceilings

– Microcredit should have boomed – Interest rates on business loans should have increased

ADIE: Growth in Microcredit Activity Source: ADIE (2008): Rapport d’Activité 2007 Not exceptionally high growth rates

11/12/2008 4

Figure 2: Interest Rates and Usury Celings in France (2002-2007) Interest rates don't seem to have gone up exceptionally. If they went up, this may be global interest rate rise

Spreads seem to be reducing !!!

11/12/2008 5

The Paradox

1. Global interest rates decreased – Not borne by reality 2. Expansion in Money supply 3. Increased competition

11/12/2008 6

Interest rates Loan Amount r* ru a b c’ E Supply Demand r** S1

Figure 4: The impact of an increase in supply of microcredit

1. Behavioral explanations linked to OSEO guarantees 2. Effect of Basel 2: Bankers take less risk 3. The doctrine of "abusive support" deters bankers 4. Protection of Over-indebtedness 5. Information Asymmetry and Limited Liability of Borrower

11/12/2008 7

Interest rates Loan Amount r* ru a b c E Supply Demand

ro F G rf d E

Step 1 in establishing OSEO guarantee effect

Interest rates Loan Amount r* ru a b c E S0 Demand

ro F E’’ rf d S2 S3 E’ S1

Figure 5: The effects of OSEO guarantees, transaction costs and reference dependence on supply and interest rates

11/12/2008 8

Interest rates Loan Amount r* ru a b c E Supply Demand

ro F G’ G H

Problem

not happen

loans to business and the fungibility problem

11/12/2008 9

Interest rates Loan Amount r* ru a b c E Supply Demand

ro F G’ H’

Figure 7: High interest rates increase default risk: supply curve becomes steeper and later vertical

Problem

11/12/2008 10

1. Religious factors lead to informal usury ceilings 2. The French bankers (like other French entrepreneurs) are low on risk taking

3. The French social security system encourages low risk taking and therefore the demand curve may be more elastic

Feedback

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