Are competitive microfinance services worth regulating? Evidence from microfinance institutions in Sub‐Saharan Africa

Abstract

In recent years, there is increasing appetite for regulation of microfinance services after the 2008 financial crisis. Policy questions such as whether competitive microfinance institution (MFI) requires strong regulation to reduce, for example, credit risk or competition and regulation operate in the opposite direction, which each tends to dampen the effect of the other, are an empirical issue that this paper provides answers based on data on Sub-Saharan Africa (SSA) for the period 1995–2015, utilizing panel data approaches. Finding from the study indicates that low competition increases credit risk among MFIs in SSA, which regulation helps reduce such behaviour. The effect of regulation on credit risk is conditional on the level of competition, at the first percentile of competition (imply more competition); regulation does not reduce credit risk behaviour of MFIs but does at competition level above the 25th percentile (imply less competition). Regulation, on the other hand, does not affect operational risk at any level of competition. These findings have implications for policy formulation on the regulation and operations of MFIs in SSA. Our findings suggest that the MFI industry could be regulated efficiently if policymakers develop policies targeted at reducing credit risk exposures of MFIs than their exposure to operational risk.