Research Paper - Evaluating Institutional Factors Contributing To Default in Loan Repayment Within Microfinance Institutions in Jamaica

EVALUATING INSTITUTIONAL FACTORS CONTRIBUTING TO DEFAULT IN LOAN
REPAYMENT WITHIN MICROFINANCE INSTITUTIONS IN JAMAICA
Chapter 1
Background to the Problem
Introduction
1.1 Background to the Study
As defined by The Consultative Group to Assist the Poor (CGAP), Microfinance is the
provision of financial services to low-income people. The definition of microfinance, which has
its roots in micro-credit, has evolved in recent decades. In the 1970s, social innovators from the
Global South introduced the concept that small amounts of short-term capital (microcredit) can
help poor people in the informal economy engage in productive activities and grow their way out
of poverty.
Varshney (2012), in his study asserts that micro-credits are given for a variety of purposes,
frequently for the microenterprise development. The diversity of products and services offered
reflects the fact that financial needs of individuals, households, and enterprises can change
significantly over time, especially for those who live in poverty. Due to the industry’s focus on
lending to the poor, microfinance institutions often use non-traditional methodologies that is not
employed by the formal financial sector (commercial banks). Extension of unsecured credit
facilities is one of the major activities of all Microfinance institutions, which includes credit
unions, specialized microfinance agencies, regulated and non-regulated non-governmental
organisations.
Commercial banks require collateral security which is a major problem with low income
and poor borrowers, as they have very few assets and even if they own, they do not possess clear
titles to assets causing banks to have little recourse against defaulting borrowers (Raman, 2012).
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In a microfinance study conducted by The Economist Intelligent Unit in 2008 on fifty-five
countries in the Latin America and the Caribbean, these countries were assessed in three areas,
regulatory framework, institutional development and country stability. Jamaica was ranked 42nd
mainly as a result of the lack of regulation for micro financing institutions. The report highlighted
that the country’s weak economic state has sparked a proliferation of small lenders.
With the absence of Micro financing Act to govern these institutions in Jamaica, policies
and procedures, applicable in the evaluation, processing, approval, documentation and release of
loan or credit facilities, these institutions are left to operate in a vacuum, some making policies as
the need arises.
Warue (2012), asserted that the chance that a microfinance institution (MFI) may not
receive its money back from borrowers plus interest (default loan) is the most common and often
the most serious vulnerability in microfinance institutions. Since most microloans are unsecured,
delinquency can quickly spread from a handful of loans to a significant portion of the portfolio. In
lending services, a default is the failure to pay back a loan. A loan is delinquent when a payment
is late (CGAP 2009). A delinquent loan becomes a defaulted loan when the chance of recovery
becomes minimal.
Delinquency is measured because it indicates an increased risk of loss, warnings of
operational problems, and may help predicting how much of the portfolio will eventually be lost
because it never gets repaid. In this regard, this research seeks to study the effects of microfinance
institutions (MFIs) and institutional factors that contributes to loan delinquency. The aim is to find
out whether these factors have a relationship with loan delinquency level and if so, what is the
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significance of these factors to delinquency rate. The MFIs specific factors chosen for this study
include:
• MFIs corporate governance
• Loan processing, and
• Client screening process for loan qualification.
1.2 Statement of the problem
The microfinance movement is growing at a very rapid rate. Collinder (2013) reports that
informal microfinancing sector in Jamaica has about 100 firms, with an average rate of two new
firms emerging every month. Microfinance institutions offer loans mostly to individuals who
cannot afford collaterals to get loans from the main commercial banks. Despite the recent growth
in the Micro-finance sector, the sector is faced with challenges of loan repayment defaults by
clients.
According to Beatriz (2007), it was revealed that a study that was conducted underscored
the need for Micro-financing Institutions (MFIs) to formulate prudent credit policies as well as
structured loan appraisal and approval processes. Pamoja (2010) in his study asserted there was
evidence that repayment of institutions loans was not being taken seriously by members due to
poor management systems for loan collection.
The sustainability of microfinance institutions depends largely on their ability to collect
their loans as efficiently and effectively as possible. In other words to be financially viable or
sustainable, microfinance institutions must ensure high portfolio quality based on 100%
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repayment. Korankye (2014) reports, there have been complains by the microfinance institutions
regarding high rate of default/delinquency by their clients; which presupposes that most
microfinance institutions are not achieving the internationally accepted standard portfolio at risk
of 3%. Loan delinquency has continued to causes serious challenge to most microfinance
institutions. It is in this regard that this study was designed to determine factors influencing loan
repayment default within the Micro-financing institutions in Jamaica.
1.3 Research hypotheses
Ho1: There is no statistically significant difference in loan defaulting due to credit policies
Ho2: There is no statistically significant difference in loan defaulting due to initial loan appraisal
process.
Ho3: There is no statistically significant difference in loan defaulting due to loan recovery
procedures.
1.4 Significance of the Study
The study results should provide a useful reference document to Micro Financing
Institutions in developing loan policies. It can be used by micro-finances in developing loan
approval and appraisals systems and loan collecting procedures. This document can also be used
by other financial institutions to ensure a performing portfolio is maintained. The managers and
credit officers may find the document relevant in delinquency management.
The study will provide background information to other researchers or scholars who would
like to investigate more on factors contributing to loans defaulting.
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1.5 Purpose of the research
The purpose of this paper was to investigate the institutional factors contributing to loan
default in Microfinance institutions in Jamaica, specifically, the research investigated whether
credit policies, loan appraisal process and loan recovery procedures contribute to loans defaulting
in these institutions.
1.6 Research Questions
1. How can loan defaulting be influenced by credit policies?
2. How can loan defaulting be influenced by loan appraisal and the approval process?
3. What loan recovery procedures do you think will help to stem loan defaulting?
1.7 Scope of the Study
The study comprised of 4 registered, regulated microfinance institutions and 26 informal
microfinance institutions.
1.8 Limitations of Study
Among the major constraints in this study was time. Looking at the short period required
for the completion of the work, a sample and not the entire population of credit staff and branch
managers of the institution were interviewed or administered with questionnaire to obtain the
primary data. This obviously imposed some limitations on the study.
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Another limitation was access to information as not much research has been done with
regards to MFIs in Jamaica. Most financial institutions will not readily disclose information to the
researchers as some have confidentiality agreements. This constraint was dealt with by relying on
published annual reports and also assuring the respondents that the information was mainly for
academic purposes and that their identities will not be disclosed anywhere.
Also, the respondents were limited (40 respondents or samples) in terms of size and composition.
Lastly, the data collection was restricted to Kingston and the corporate area, which failed to
represent the actual scenario of the whole country.
1.9 Definitions of key Terms
Arrears – Refers to a late payment, partial payment or a skipped payment.
Default – Default refers to a situation where a loanee fails to repay a loan. It occurs when
a borrower cannot or will not repay the loan and the MFI no longer expects to receive
payment.
Delinquency – In micro-finance this term refers to a situation where a loan is past “due”.
It is an occurrence in a loan portfolio where payments are in arrears. A loan account is
termed as delinquent when payment is due and a loanee has failed to honor a payment
obligation at the stipulated time.
Guarantor - A person who guarantees to pay for someone else's debt if he or she should
default on a loan obligation. A guarantor acts as a co-signor of sorts, in that they pledge
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their own assets or services if a situation arises in which the original debtor cannot perform
their obligations.
Interest - The charge for the privilege of borrowing money, typically expressed as an
annual percentage rate.
Loanee - a person who receives a loan
Micro-finance – The provision of financial services to low – income clients including the
self – employed.
Poverty - A condition in which a person of community is deprived of the basic essentials
and necessities for a minimum standard of living. According to the World Bank’s (1980)
definition of poverty, “A condition of life so characterized by malnutrition, illiteracy, and
disease as to be beneath any reasonable definition of human decency”.
Unsecured loan - A loan that is issued and supported only by the borrower's
creditworthiness, rather than by a type of collateral. An unsecured loan is one that is
obtained without the use of property as collateral for the loan. In the formal banking sector,
borrowers generally must have high credit ratings to be approved for an unsecured loan.
1.10 Organization of the Study
The study is organized into five chapters. The first chapter is made up of the background
of the study, the statement of the problem, the research questions, objectives of the study, the
significance of the study, scope and limitation of the study and the organization of the study.
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Chapter two reviews literature on the History of Microfinance, Historical Background of
Microfinance Institutions, The Moneylending Act, Categories of Microfinance Institutions In
Jamaica, The concept of loan delinquency and loan default, factors leading to loan defaulting in
Microfinance, Loan Appraisal, Credit Policy, Collection procedures, Theoretical Frame, Data for
the work was obtained from sources such as the organisations financial statements and annual
reports, credit policy manual and other pertinent documents. Additionally, interviews were
conducted with credit managers, and questionnaires administered to credit officers within the
institution. Data obtained would be analysed using both qualitative and quantitative methods.
Chapter three describes the research methodology and profile of study area. Here, the target
population, the sample size and sampling technique, the research instrument and data collection
procedures are outlined. The data analysis, interpretation, and discussions are contained in chapter
four. Chapter five provides the summary, conclusions and recommendations of the study.
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Chapter 2
Literature Review
2.1 Introduction
This chapter reviews the relevant literature in area under study. It includes that, theoretical
framework, the factors contributing to loan defaulting and the conceptual framework. The chapter
also covers the empirical studies related to this study.
2.2 Historical Background of Microfinance Institutions
According to Robinson (2009), Microcredit and microfinance are relatively new terms in
the field of development, first coming to prominence in the 1970s. Prior to then, from the 1950s
through to the 1970s, the provision of financial services by donors or governments was mainly in
the form of subsidised rural credit programmes. These often resulted in high loan default, high
loses and an inability to reach poor rural households (Schreiner, 2003).
Robinson states that the 1980s represented a turning point in the history of microfinance in
that MFIs such as Grameen Bank began to show that they could provide small loans and savings
services profitably on a large scale. They received no continuing subsidies, were commercially
funded and fully sustainable, and could attain wide outreach to clients (Robinson, 2009). It was
also at this time that the term “microcredit” came to prominence in development (Dinos & Ashta,
2010). The difference between microcredit and the subsidised rural credit programmes of the
1950s and 1960s was that microcredit insisted on repayment, on charging interest rates that
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covered the cost of credit delivery and by focusing on clients who were dependent on the informal
sector for credit (Craig, 2006). It was now clear for the first time that microcredit could provide
large-scale outreach profitably.
The 1990s “saw accelerated growth in the number of microfinance institutions created and
an increased emphasis on reaching scale” (Robinson, 2009, pp 57). Microfinance had now turned
into an industry according to Robinson (2009). Along with the growth in microcredit institutions,
attention changed from just the provision of credit to the poor microcredit, to the provision of other
financial services such as savings and pensions microfinance when it became clear that the poor
had a demand for these other services (Joanna, 2006). The importance of microfinance in the field
of development was reinforced with the launch of the Microcredit Summit in 1997. The Summit
aims to reach 175 million of the world’s poorest families, especially the women of those families,
with credit for the self-employed and other financial and business services, by the end of 2015
Beatriz, (2007). More recently, the UN, as previously stated, declared 2005 as the International
Year of Microcredit.
Springer (2013) asserts that the history of microfinancing can be traced back as far as the
middle of the 1800s when the theorist Lysander Spooner was writing over the benefits from small
credits to entrepreneurs and farmers as a way getting the people out of poverty. But it was at the
end of World War II with the Marshall plan that the concept had a big impact.
Today, the use of the expression microfinancing has its roots in the 1970s when
organizations, such as Grameen Bank of Bangladesh with the microfinance pioneer Mohammad
Yunus, where starting and shaping the modern industry of microfinancing. Another pioneer in this
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sector is Akhtar Hameed Khan. At that time a new wave of microfinance initiatives introduced
many new innovations into the sector. Many pioneering enterprises began experimenting with
loaning to the underserved people. The main reason why microfinance is dated to the 1970s is that
the programmes could show that people can be relied on to repay their loans and that it´s possible
to provide financial services to poor people through market-based enterprises without subsidy.
Shorebank was the first microfinance and community development bank founded 1974 in
Chicago.An economical historian at Yale named Timothy Guinnane has been doing some research
on Friedrich Wilhelm Raiffeisen´s village bank movement in Germany which started in 1864; by
the year 1901 the bank had reached two million rural farmers. Timothy Guinnane therefore
suggests that already then it was proven that microcredit could pass the two tests concerning
people’s payback moral and the possibility to provide the financial service to poor people.
Today the World Bank estimates that more than 16 million people are served by some 7000
microfinance institutions all over the world. CGAP experts mean that about 500 million families
benefits from these small loans making new business possible. In a gathering at a Microcredit
Summit in Washington DC the goal was reaching 100 million of the world´s poorest people by
credits from the world leaders and major financial institutions.
2.3 The Moneylending Act of Jamaica
The Moneylending Act ("The Act") governs moneylending transactions in Jamaica in
respect of those persons or entities that fall under the provisions of the Act. Legislation such as
this is not uncommon, as many countries have, in some form or another, legislation intended to
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regulate the activities of moneylenders and to protect unsuspecting borrowers. The Act sets out a
number of provisions intended to guide the practice of moneylenders, but this article will focus on
the form the moneylending contract should take and the entities exempted from the Act.
As most persons who refer to this Act do so in respect of the interest rate provisions, one
of the frequently overlooked provisions of this Act is the section setting out the form that
moneylending contracts are to take. Non-compliance with this section can form a basis for a Court
setting aside a contract purported to be drafted pursuant to the Act. Section 8 of the Act provides
that the contract must abide by the following rules:
1. The contract must be evidenced by a note or memo in writing;
2. The note or memo must be signed personally by the borrower;
3. A copy of the note or memo must be delivered or sent to the borrower within seven days
of the making of the contract;
4. The note or memo must be signed before money is lent or before security is given.
5. The note or memo must contain the terms of the contract and in particular shall show the
date on which the loan is made, the amount of the principal of the loan and the interest
charged on the loan in terms of a percentage rate per annum (boj.org.jm).
There is, a proviso in respect of the provisions set out above, as subsection (3) provides
that despite the fact that there has not been strict compliance with the form of the agreement, an
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application can be made to the Court and the Court may if it considers it equitable to do so, declare
the contract to be enforceable in the same manner and to the same extent as if the requirements set
out above had been complied with. This will no doubt be done on a case-by- case basis and all
circumstances will be taken into account (boj.org.jm).
This Act mainly applies to small lending companies or institutions and individual lenders.
This is because the Act expressly exempts a large category of "persons" from its ambit. By virtue
of section 13 of the Act, the following categories are exempted from the provisions of the
Moneylending Act:-
(a) Friendly Societies, Building Societies or Benefit Building Societies;
(b) any Society registered under the Industrial and Provident Societies Act;
(c) any body corporate, incorporated or empowered by an enactment of the Legislature to

lend money in accordance with such enactment; or
(d) any company licensed under the Financial Institutions Act; or
(e) any company licensed under the Banking Act; or
(f) any loan to or contract or security for the repayment of money lent to a body corporate
incorporated in Jamaica by or under any enactment or by royal charter; or
(g) any insurance company registered under the Insurance Act, in the course of whose
business it lends money; or
(h) any person whose main business is not the lending of money and who lends money
solely incidental to the conduct of such business; or
(i) any loan or contract or security for the repayment of money lent at such rate of interest
not exceeding such rate per annum as the Minister may by order prescribe(the prescribed
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rate for the purposes of this subsection has been ordered to be 25% by Order dated August
27, 1997); or
(j) a licensee under the Securities Act; or
(k) an entity- which is established by a statutory body or authority; and
(ii) the primary purpose of which is to lend money.
2.4 Categories of Microfinance Institutions in Jamaica
The major stakeholders of Microfinance institutions in Jamaica are Moneylending
Institutions, Non-Bank Financial Intermediaries and Credit Unions.
Money-lending Institutions
Lending by money lenders is an activity that antedates contemporary banking system from
ancient times. They have been organized in the form of family or individual business. They vary
in their size from small petty money lenders to substantial indigenous bankers whose businesses,
at times, have exceeded that of commercial banks.
Money lenders lend money, act as money-changers and finance loan trade by means of
bills of exchange. They usually use working capital of their own, and do not generally get deposits
or solicit savings from the public. They grant loans on personnel recommendation and guarantee
to persons well-known to them.
Although the Moneylending Act makes provisions for and regulates moneylending
contracts and the enforceability of onerous loan arrangements. Some of those provisions cover the
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form of moneylending contracts, restrictions on interest rates and fees, prohibition of compound
interest rates, moneylending advertisements, as well as penalties for false statements and
representations. which some micro lenders gain exemptions from the Ministry of Finance that
allow them to retail short-term loans - also referred to as payday loans in some jurisdictions - at
high rates (boj.org.jm).
Non-Bank Financial Intermediaries (NBFIs)
Non-Bank Financial Intermediaries (NBFIs) is a heterogeneous group of financial
institutions other than commercial and co-operative banks. They include a wide variety of financial
institutions, which raise funds from the public, directly or indirectly, to lend them to ultimate
spenders.
The development banks (such as the Jamaica National Building Society Limited, IFCL,
Scotia Bank Limited. Then, there are provident funds and post offices that mobilise public savings
in a big way for onward transmission to ultimate spenders (boj.org.jm).
Credit Union
A credit union is a co-operative financial institution, which is owned and controlled by its
members. Credit unions are not-for-profit, and exist to provide a safe, convenient place for
members to save money and obtain loans and other financial services at competitive rates.
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Members of a credit union share a common bond, such as their occupation, where they live or even
attend church.
A credit union is a financial co-operative organised by a group of people to save money
and make loans to each other at favourable rates. Members usually have something in common
such as their place of work, area of residence, professional organization or social group. A credit
union is a financial co-operative organised by a group of people to save money and make loans to
each other at favourable rates. Members usually have something in common such as their place of
work, area of residence, professional organisation or social group. In 1999, Credit Unions were
designated ‘specified financial institutions’ under the Bank of Jamaica Act’, thus bringing credit
unions within the category of financial institutions to which BOJ’s supervisory jurisdiction will
extend (boj.org.jm).
Bank of Jamaica (BOJ) is Jamaica’s Central Bank that stands at the centre of the local
financial system and is charged with the responsibility to promote and maintain financial system
stability. To achieve this objective, the Bank supervises the activities of deposit taking entities as
provided for under Section 34A of the Bank of Jamaica Act, as well as provides regulatory
oversight for foreign exchange traders and remittance companies under Section 22B and Section
22G(2) of the Bank of Jamaica (BOJ) Act, respectively. In addition, the Bank seeks to promote
the development of the local financial markets, and regulates and supports the major clearing and
settlement systems through which financial institutions execute the transfer of funds for a range of
financial transactions. The safety and efficiency of these payment systems are therefore critical
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objectives of public policy. The Bank of Jamaica is also designated as the Supervisory Authority
under the Credit Reporting Act, 2010.
2.5 Theoretical Frame Work
The theories to discussed here below are, Liquidity preference theory, Austrian theory of
business cycle and the Grameen Solidarity Group theory
Liquidity Preference theory
The theory explains the traditional upward sloping yield curve as puts forward by Keynes,
John, Carter et al, (2004). Investor prefer short term securities which give them greater liquidity
due both to interest risk and default risk, the longer a security must be held till maturity. Holders
of long-term securities bear the risk that interest rates will rise during the period making their fixed
rate investments less valuable. Similarly unfavorable changes in the financial conditions of the
company are also a function of time and today are more certain than tomorrow, next month is more
certain than next year and thus the possibility of default increases over a longer period. Investors
are therefore willing to accept the lowest rate of return only on the shortest term and most liquid
securities.
Investors will require higher interest rate to compensate for the higher risks that go with
longer terms. This theory underlies the significance role played by time value of money. It
demonstrates that a shilling today is worth more than a future shilling, because a shilling at hand
is a sure shilling-it is has no uncertainties surrounding it. Such shilling can also be invested to fetch
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more returns on investment. Hence, it’s imperative that a study be undertaken to determine the
factors influencing the non-performance of loans portfolio as part of future investments with
uncertainty (Carter et al, 2004).
Austrian Theory of the Business Cycle
The Austrian theory of the business cycle emerges straight forwardly from a simple
comparison of a savings induced boom (Boldizzoni, 2008). An increase in savings by households
and credit expansion orchestrated by the central bank sets into motion market processes whose
initial allocation effects on the economy’s capital structure are similar but whose ultimate
consequences are sharply different. The general argument of the theory though not the full
argument can be stated in terms of the conventional macro-economic aggregates of savings and
investments. The levels of investment are determined by the supply of and demand for loanable
funds. Supply reflects the willingness of households to save at various rates of interest; demand
reflects the willingness of business to borrow in order to finance investment projects.
Boldizzoni,2008, stated that each represents a state of equilibrium in the loan market. An
increase in the supply of loanable funds has obvious initial effects on the rate of interest and on
the level of investment borrowing. But the ultimate consequences differ importantly depending
upon whether the increase supply of loanable funds derives from increased saving by households
or from increase credit creation by the central bank. Even in this simple loanable funds framework
many aspects of the Austrian theory of the business cycle are evident. The natural rate of interest
is the rate that equates saving and investment. The bank rate diverges from the natural rate as a
result of credit expansion. When new money is injected into credit markets, the injection effects
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which the Austrian theorist emphasizes over price level effects take the form of too much
investment.
Other significant aspects of the Austrian theory of the business cycle can be identified only
after the simple concept of investment is replaced by the Austrian vision of a multi-stage time-
consuming production process. The rate of interest governs not only the level of investment but
also the allocation of resources within the investment sector. The economy’s inter temporal
structure of production consist of investment sub-aggregates which are defined in terms of their
temporal relationship to the consumer goods they help to produce.
Some stages of production such as research and development and resources extraction are
temporally distant from the output of consumer goods. As implied by standard calculations of
discounted factor values interest rate sensitivity increases with the temporal distance of the
investment sub aggregate or stage of production from final consumption (Boldizzoni, 2008).
An increase in the rate of saving implies a change in the preferred consumption pattern
such that planned consumption is shifted from the near future to the remote future. A savings
induced decrease in the rate of interest favors investment over current consumption. Significance
in Austrian theorizing it favors investment in more durable over less durable capital and in capital
suited for temporally more remote rather than less remote stages of production. These are the kinds
of changes within the capital structure that are necessary to shift output from the near future to the
more remote future in conformity with changing inter temporal consumption preferences.
(Boldizzoni, 2008).
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This theory puts more emphasis on long-term investments running into the remote future
with emphasis that such remoteness is likely to fetch higher interest rate for the firm. While this
sounds prudent in theory, in practice such financial management principle may end up starving the
organization of the short-term interest to run its day to day operations in anticipation of future
booming interests. In any event even the time value of money is also not catered for in this theory.
By extension the theory also does not provide a caveat on exactly what happens in the event that
the interests payable and even the capital accrued from long -term loans is not forthcoming. This
is a research gap that must be filled so as to determine the factors influencing nonperformance of
loans especially in public financial corporations (Maina & Kalui, 2014).
The Grameen Solidarity Group Theory
This model is based on group peer pressure whereby loans are made to individuals in
groups of four to seven (Armendariz et al, 2005). Group members collectively guarantee loan
repayment, and access to subsequent loans is dependent on successful repayment by all group
members. Payments are usually made weekly according to Armendariz et al, (2005).
Solidarity groups have proved effective in deterring defaults as evidenced by loan
repayment rates attained by organizations such as the Grameen Bank, who use this type of
microfinance model. They also highlight the fact that this model has contributed to broader social
benefits because of the mutual trust arrangement at the heart of the group guarantee system. The
group itself often becomes the building block to a broader social network. (Maina & Kalui, 2014).
According to the study by Waweru et al (2009), the lending procedure used by micro
financial institutions have been bound by banks as an entry point through developing a very simple
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and unsecured procedures that include the submission of loanees identification card, letter of
introduction from employer, tax reference number, a loan form duly filled and current pay slips
for at last three months.
Terms and conditions of micro financial institutions are many and rigid unlike banks
because a member is required to provide guarantors, boost his share savings and cannot be
advanced a loan which will attract a deduction of more than two thirds of his or her basic pay
despite the amount of shares held, which allows him to get a loan of about three times his/her
shares. This eventually leaves the amount of loan disposable to the poor less than that advanced
by banks thus becomes preferred by many rural members (Mugwanga et al, 2006).
2.6 The Concepts of Loan Delinquency and Loan Default
A loan is delinquent when a payment is late (CGAP, 2015). A delinquent loan becomes a
defaulted loan when the chance of recovery becomes minimal. Delinquency is measured because
it indicates an increased risk of loss, warnings of operational problems, and may help to predict
how much of the portfolio will eventually be lost because it never gets repaid.
There are three broad types of delinquency indicators: collection rates which measures amounts
actually paid against amounts that have fallen due; arrears rates measures overdue amounts against
total loan amounts; and portfolio at risk rates which measures the outstanding balance of loans that
are not being paid on time against the outstanding balance of total loans (CGAP, 2006).
Default occurs when a debtor has not met his or her legal obligations according to the debt
contract. For example a debtor has not made a scheduled payment, or has violated a loan covenant
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(condition) of the debt contract (Ameyaw-Amankwah, 2011). A default is the failure to pay back
a loan. Default may occur if the debtor is either unwilling or unable to pay their debt. A loan default
occurs when the borrower does not make required payments or in some other way does not comply
with the terms of a loan. (Murray, 2011).
Moreover, Pearson and Greeff (2006) defined default as a risk threshold that describes the
point in the borrower’s repayment history where he or she missed at least three instalments within
a 24 month period. This represents a point in time and indicator of behaviour, wherein there is a
demonstrable increase in the risk that the borrower eventually will truly default, by ceasing all
repayments. The definition is consistent with international standards, and was necessary because
consistent analysis required a common definition. This definition does not mean that the borrower
had entirely stopped paying the loan and therefore been referred to collection or legal processes;
or from an accounting perspective that the loan had been classified as bad or doubtful, or actually
written-off. Loan default can be defined as the inability of a borrower to fulfil his or her loan
obligation as at when due (Balogun & Alimi, 2009).
2.7 Causes of Loan Delinquency/Default
According to Ahmad (2007), causes of loan default include; lack of willingness to pay
loans coupled with of funds by borrowers, wilful negligence and improper appraisal by credit
officers. In addition, Hurt and Fesolvalyi cited by Kwakwa, (2009) found that, corporate loan
default increases as real gross domestic product decline, and that the exchange rate depreciation
directly affects the repayment ability of borrowers.
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Balogun and Alimi (2008) also identified the major causes of loan default as loan shortages,
delay in time of loan delivery, high interest rate, poor loan supervision and loan appraisal process.
According to Olomola (2008), loan disbursement lag and high interest rate can significantly
increase borrowing transaction cost and can also adversely affect repayment performance. After
surveying different banks in India, Berger and De Young (2005) identified the main causes of
default of loans from industrial sector as improper selection of an entrepreneur, deficient analysis
of project viability, inadequacy of collateral security/equitable mortgage against loans, unrealistic
terms and schedule of repayment, lack of follow up measures. The study conducted by Okorie
(1986) in Ondo state in Nigeria revealed that the nature, time of disbursement, supervision and
profitability of enterprises, contributed to the repayment ability and consequently high default
rates. Other critical factors associated with loan delinquencies are: type of the loan; term of the
loan; interest rate on the loan; poor credit history; borrowers’ income and transaction cost of the
loans. Okpugie (2009) also indicated that, high interest charged by the microfinance banks has
been discovered to be the reason behind the alarming default. This was also confirmed by Vandel
(1993), who also found that high interest rates charged by banks tend to facilitate default by
borrowers.
According to Gorter and Bloem (2012) non-performing loans are mainly caused by an
inevitable number of wrong economic decisions by individuals and plain bad luck (bad weather,
unexpected price changes for certain products, etc.). Under such circumstances, the holders of
loans can make an allowance for a normal share of non-performance in the form of bad loan
provisions, or they may spread the risk by taking out insurance. The problem of non- performing
loans is widespread. Nishimura, Kazuhito, and Yukiko (2010) state that one of the underlying
23
causes of Japan’s prolonged economic stagnation is the non-performing or bad loan problem. They
explained that some of the loans made to companies and industries by financial institutions during
the bubble era became non-performing when the bubble burst. This delayed structural reforms and
prevented the financial intermediary system from functioning properly. Most of the defaults arose
from poor management procedures, loan diversion and unwillingness to repay loans, Kohansal and
Mansoori (2009). According to them a number of factors can cause loan defaults, some of which
are: Interest rate ceilings usually imposed by the government, monopoly power in credit markets
often exercised by informal lenders, large transaction costs incurred by borrowers in applying for
loans, moral hazard problems and many more.
Loan Appraisal
A loan appraisal is a request/application for loan/funds on credit evaluated on its merits by
a microfinance institution. Among others aspects, the purpose of loan, genuineness of its need, its
quantum, borrower’s repayment capacity and security are assessed on some parameters before loan
is actually granted (Gatimu, 2014).
Loan appraisal process plays a big role in assuring the lender of minimal circumstances on losing
his/her money hence if the officers designated to loan appraisal are competent then high chances
of leading money to non-deserving customers would be high (Boldizzoni, 2008).
Credit Policy
Credit policy can be defined as a clear, written guidelines that set the terms and conditions
for customer qualification criteria, procedure for making collections, and steps to be taken in case
24
of customer delinquency. Lack of clear Credit policies can lead to default of repayment of
microfinance loans, if microfinance does not have stringent credit policies then they stand to lose
their money hence creating liquidity issues (Gatimu, 2014).
Collection Procedures
A collection procedure is a detailed statement of steps to be taken regarding when and how
the past-due amounts of a debt are to be collected. Each company has its own collection procedure,
with information such as due dates, grace periods, penalties, date of repossession, date of turnover
of delinquent account to collection agency, among others. The collection procedure for any loan
arrangement should be spelled out as part of the loan terms. It is important for borrowers to be
aware of the details of the collection procedure so as to avoid penalties, and in the case of collateral
or secured loans, repossession of the collateral. While collection procedures may vary for each
company they should all be complaint with existing laws. Third party collection agencies must
also adhere to set Acts, not just in the collection procedure details but also the manner in which
the collection takes place (Latifee, 2006).
The acts specifies not only collection procedures to be followed by government financial
institutions, but also specifies that a person or organization indebted to the United States, against
whom a judgment lien has been filed, is ineligible to receive a government grant. What this means
is that it is of utmost importance to comply with the debt collection act, especially since non-
compliance carries with penalties that can range from steep fines to imprisonment. If microfinance
institutions do not come up with well administered collection procedures then this could be a recipe
for one defaulting to repay the loan (Boldizzoni, 2008).
25
2.8 Empirical studies
According to Fidrmuc et al (2007) who sought to find out whether a lender extends credit
to customers, it recognizes the possibility that customers will be unable to pay or unwilling to pay
as his objective. This study adopted a survey research design targeting all types of lenders. He
found out that lenders must establish policies for determining who will receive credit for how long
and how much. He also found out that lender should built their credit policy around five of credit
that character capacity capital collateral and conditions for them to be successful. He concluded
that borrowers may sometimes fail to pay back loans due to lack of financial ability and other
related factors other than not being willing to pay for credit given.
Rose (2005) in her study on credit analysis, had her objective of finding out whether credit
analysis is important in ensuring that institutions maintain good loaning policy. She adapted a case
study design targeting one organization and analyzed the findings quantitatively. She found out
that credit analysis is important in ensuring that institutions maintain good loaning policy. The
credit department must answer three questions regarding each loan application, that is: the
borrower credit worthiness; can the loan agreement be properly structured and documented for
adequate protection of stakeholders and ensure that customer's probability of loan repayment is
high without excessive strain? And can the institution perfect its claim against the assets or
earnings of the customer so that, in the event of default the funds can be recovered rapidly at low
cost and with low risk? She concluded that organizations had a duty to analyse their credit
mechanisms if they intend to achieve a good loaning policy.
26
Mwaura`s (2008) sought to find out the responsiveness of manufacturing firms on credit
policies, his objective was to find out how if individual manufacturing firms credit policy was
prudent. He used descriptive survey design targeting the entire manufacturing firms in Kenya. He
found out that manufacturing firms did not formulate prudent credit policies and that their
performance was affected by a lack of these policies. He concluded that there was need to
formulate a prudent credit policy for individual manufacturing firms. The formulation of a prudent
credit policy for institution of this nature is important to avoid loss of its market to its rivals and
helps them to improve performance in terms of development.
2.9 Conceptual Framework
The diagrammatic representation of conceptual framework shows how the variables were
related. Loan appraisal credit policy and loan recovery are independent variables, loan default of
loan repayment is dependent variable which depends on the occurrences of the said independent
variables.
2.10 Conceptual Framework
Independent Variable
Dependent Variable
• LOAN APPRAISAL
• CREDIT POLICY • LOAN DEFAULT &

DELINQUENCY
• LOAN RECOVERY
• CREDIT POLICY
27
The dependent variable of this study was loan default which was influenced by various
independent variables. The independent variables considered in the study were economic cycles /
factor, loan appraisal, credit policies and loan recovery procedures.
2.11 Loan Policies
Loan policies to a great extent influence loan default. Poor loan policies while increase
loan default rates while well-formulated policies reduce loan default rates (Gatimu, 2014).
2.12 Initial Loan Appraisals
Initial loan appraisals determine the level of loan default. This involves the use of false
information or means to acquire loans from lending institutions. These might also include giving
or accepting collaterals whose values have been overstated and impaired. Some borrowers who
might have falsified their business past performance of records in order to acquire loans would not
be able to repay comfortably later. The initial loan appraisal therefore, includes the core five
ingredients of loan appraisal. This comprises of tests on accuracy, honesty, collaterals, capacity
and cash flow to determine loanee’s credit worthiness and their likelihood chances of loans default
(Gatimu, 2014).
2.13 Loan Recovery Procedures
The loan recovery procedures employed by various microfinance’s will contribute to loans
default to a greatest extent. Poor loan recovery procedures for example will create a huge portfolio
of debt uncollected thus led to loans default and vice versa (Gatimu, 2014).
28
2.14 Credit Policies
At the same time the nature of credit policies including loaning terms and conditions as
well as loaning procedures had the long term effect on loan default. The basic requirements a
member will be required to meet to qualify for a loan in the institution determined whether or not
that member would honour the loan repayment in future. Liberal, stringent and lenient credit
policies had long-term consequences on the loan default. For instance, it is highly likely that lenient
and liberal policies would almost automatically create a huge portfolio of loan default (Gatimu,
2014).
29
Chapter 3
Research Methodology
3.1 Introduction
Research methodology identifies the procedures and techniques that is used in the
collection, processing and analysis of data.
This chapter outlines the research methodology that was undertaken. It gives an overview of the
research design, sampling design, sampling procedures, data collection, data analysis and
reporting, limitations and expected outcomes.
3.2 Research Design
This study adopted a descriptive survey design of the factors contributing to loan
defaulting. The main reason for the use of a descriptive survey design is to provide as much
information on the entire population under study in relation to the factors contributing to loan
defaulting in Microfinancing Institutions. According to Polit and Beck (2008) population is
defined as the entire aggregate of cases about which the researcher would like to make
generalisations. The target population selected provided some data and perceptions of the
population and the necessary supported implications of cause and effect on the topic under study.
Research designs were developed to meet the unique requirements of a study. According to De
Vos (2008) a research design is a blueprint or a detailed plan as to how a research is conducted.
Wood and Haber (2006) indicated that selecting a good research design should be guided by
30
overarching considerations, specifically whether the design does the best possible job of
providing reliable and trustworthy answers to the research questions.
3.3 Research Approach and Data Collection Methods
The study used mixed methods, include questionnaires surveys among participants, which takes
in account loan borrowers and loan officers of MFIs and structured interviews with Credit
managers of the participating Microfinancing Institutions. The mixed method is considered to be
very efficient in answering research questions compared to the quantitative and qualitative
approached when used in isolation (Creswell, 2012). Furthermore, by using a mixed method
approach at different stages of research, any bias that exists in any single method can neutralize
or remove any biases.
Quantitative and qualitative research approach (mixed method ) is appropriate for
answering different kinds of questions. When mixed approach method is in use there is a
tendency to learn more about the research problem. Researchers are given permission to use all
of the tools of data collection available rather than being restricted to the types of data collection
typically associated with qualitative research or quantitative research.
According to Creswell, J. W. (2008) mixed methods research provides strengths that offset the
weaknesses of both quantitative and qualitative research. This approach is one in which the
researcher tends to base knowledge claims on pragmatic grounds (e.g., consequence-oriented,
problem-centered, and pluralistic). It employs strategies of inquiry that involve collecting data
either simultaneously or sequentially to best understand research problems. The data collection
also involves gathering both numeric information (e.g., on instruments) as well as text
31
information (e.g., on interviews) so that the final database represents both quantitative and
qualitative information.
The primary data was derived from questionnaires distributed to loan borrowers and loan
officers as well as one on one interviews with credit managers of the targeted Microfinancing
Institutions. The data was collected from the credit department of the MFIs was gathered with
the aim of establishing how the organization selects and appraises potential clients for
disbursement of funds as well as investigate other internal or external factors that would lead to
the default in loan repayment. The questionnaires consisted of both open and closed-ended
questions and covered factors contributing to loan defaulting in MFIs. Questionnaires were
personally administered by the researcher. Questionnaire will allow for confidentiality of the
respondents to be kept. The questionnaires contained information on credit policies, loan
collection procedures loan appraisal system, repayment frequency in relation to their contribution
to defaulting.
3.4 Target Population
The study population consisted collectively of 30 Microfinancing Institutions, some of
which are members of the Jamaica Microfinance Association (JamFA) and Jamaica Association
of Micro-Financing (JAMFIN). This population consisted of 120 MFI loan officers and 40 Credit
managers.
32
3.5 Sampling Method
The study made use of simple random sampling because it is considered the simplest,
most convenient and bias free selection method. It enables every member of the population to
have an equal and independent chance of being selected as respondents. The study adopted 25%
sample size of the target population chosen from each of the strata whereby the target population
was divided into strata, and samples of 50% of each stratum that was selected, this will ensure
that all the strata within the study area were included in the study. The Microfinancing
Institutions were contacted to obtain a verbal consent to administer the questionnaire to loan
applicants who visit the institutions as well as loan officers employed to the selected institutions.
A letter of consent was sent to them along with a sample copy of the questionnaire that was used,
as well as the protocol of the researcher.
Data collection was conducted throughout the institution over a four week period during the
opening hours of Mondays through Friday.
Respondents
The respondents in this research will all be coming from loan applicant and employees
from Microfinancing Institutions operating in Kingston and St. Andrew. The randomly
sampled respondents were asked by the researcher for consent and approval to answer the
questionnaire until the desired number of respondents which is 40 was reached.
33
Table 3.6 Sample Population
Respondents Target population Sample 25%
Loan Officers – MFI 120 30
Credit Managers 40 10
Total 140 40
3.7 Techniques for Data Analysis
The raw data was classified and tabulated after confirming that it was thoroughly checked
for completeness and consistency of information collated. This was followed by analysis and
interpretation of findings. The analysis was based on 40 questionnaires administered and 36
returned. Analysis was done using descriptive techniques and presented in frequency tables.
3.8 Data Analysis and Presentation
Data was analyzed on the basis of descriptive statistics. Descriptive statistics describe
data on variables with single numbers while analysis of variance (ANOVA) tests for any
significance difference between mean values of variables. For the purpose of demonstrating the
relationship among the various variables, the data is presented in the form of tables, frequencies
and percentages where applicable.
34
A multiple regression model was used to test the hypotheses of the combined effect of the three
independent variables (loan appraisal, loan recovery procedures and credit policies) on the
dependent variable (loan default and delinquency). The study was guided by the following
regression model:
LD= 0 + 1 (X1) + 2 (X2) + 3 (X3)
Whereby;
LD=Loan Defaulting
X1 = Loan appraisal
X2 = Loan recovery Procedures
X3 = Credit policies
3.9 Reliability Analysis
Reliability analysis was done to assess the reliability, internal consistency and validity of the
survey instruments used. Reliability analysis was explained by Cronbach’s reliability coefficient.
According to the Institute for Digital Research and Education, Cronbach's alpha is a measure of
internal consistency, that is, how closely related a set of items are as a group. It is considered to
be a measure of scale reliability. A "high" value for alpha does not imply that the measure is
unidimensional. If, in addition to measuring internal consistency, you wish to provide evidence
that the scale in question is unidimensional, additional analyses can be performed. Exploratory
factor analysis is one method of checking dimensionality. Technically speaking, Cronbach's
alpha is not a statistical test - it is a coefficient of reliability (or consistency).
35
Chapter 4
Data Presentation Analysis
4.1 Introduction
The previous chapters presented orientation of the study, theoretical foundations,
literature review and the research methods adopted in the study. This chapter presents the results.
As discussed in the preceding chapter this study is aimed at investigating the institutional factors
contributing to loan defaulting in micro-finances institutions in Jamaica. .
The data was collected using questionnaires and interviews targeting credit officers and
credit managers of micro-finance institutions in St. Andrew, Jamaica. Of the 40 questionnaires
issued 36 were returned back duly filled representing 94% response rate.
According to Fowler (1986) researcher or survey organization differ considerably in the extent to
which they devote time and money to improve response rate. thus, there is no agreed-upon
standard for a minimum acceptable response rate.
4.2 Background Information of the Study’s Respondents
Loan officers are the faces of the microfinance institution (MFIs) and at the vanguard of
microfinance (Matsukawa, 2010). With respect to the background information of the
respondents, it was important to collect data on the gender, age, educational background and
work experience of the loan officers of Microfinance Institutions with a view to ascertain if the
respondents background have any bearing on how loans are disbursed.
36
4.2.1 Respondents gender
Of the 36 loan officers interviewed, the study sought to establish the gender of the
respondents from the micro-finance institutions.
Majority of the respondents were female forming 55.55% while the male respondents were
44.45% as depicted in the table and graph below.
Table 4.1 Respondents Gender
Frequency Percent
Male 16 44.45
Female 20 55.55
Total 36 100.00
Figure 4.1.1 Respondents Gender
RESPONDENTS GENDER
Male
44%
Female
56%
37
4.2.2 Respondents Age bracket
From the data presented, the issue of age bracket was sought,; the findings indicated that
36.11% of the respondents were below 30 years old, 44.44% were between 30-39 years while
11.11% were between 40-49 years old. Only 8.33% of the respondents were 50 years and older.
The findings show that the majority of the respondents represent the age bracket 30-40
years old, with the average respondent being 34 years old.
Table 4.2 Respondents Age bracket
Frequency Percent
18-29 years 13 36.11
30-39 years 16 44.44
40-49 years 4 11.11
50-59 years 3 8.33
Total 36 100.00
Figure 4.2.1 Respondents Age bracket
RESPONDENT AGE BRACKET

50-59 years
8%
40-49 years
11% 18-29 years
36% 18-29 years
30-39 years
40-49 years
50-59 years
30-39 years
45%
38
4.2.3 Respondents level of education
The majority of respondents had obtained a formal education in the form of an Associate
Degree or a Bachelors Degree. The educational level speaks to the overall academic qualification
of the respondents.
With the majority of the respondents attaining a Bachelors degree level of education this
represented 38.89% of the respondents. Of the 36 respondents 22.22% attained an Associate
degree. A High School Diploma was attained by 19.44% of the respondents. 13.89% attained a
Masters Degree. A 5.56% selected other, which represented loan officers who had no formal
educational qualification.
Table 4.3 Respondents level of education
Frequency Percent
High School Diploma 7.00 19.44
Associate Degree 8.00 22.22
Bachelors Degree 14.00 38.89
Masters Degree 5.00 13.89
Other 2.00 5.56
Total 36.00 100.00
39
Figure 4.3.1 Respondents level of education
Respondents Level of Education

High School
Other Diploma
6% 19%
Masters Degree
14%
Associate Degree
22%
Bachelors Degree
39%
High School Diploma Associate Degree Bachelors Degree

Masters Degree Other
4.2.4 Work experience with the organization
When asked to indicate their work experience in their respective organizations, majority
of the respondents 33.33% had worked for between 1-2 years, 27.78% had worked for less than 1
year, 19.44% had worked for between 2-5 years , 11.11% worked between 5-10 years, while
8.34% had worked for over 10 years. The average age of experience is less than two years.
40
Table 4.4 Work experience with the organisation
Frequency Percent
Less than 1 year 10 27.78
1-2 years 12 33.33
3-5 years 7 19.44
6-10 years 4 11.11
Over 10 years 3 8.34
Total 36 100.00
Figure 4.4.1 Work experience with the organisation
Work experience with the

organisations
12
10
FREQUENCY
8
6
4
2
0
Less than 1 1-2 years 3-5 years 6-10 years Over 10
year years
YEARS
41
4.3 Credit policy
The credit policy of the various institutions were examined with a view to establish how
the different factors under the credit policy impact on the loan defaulting. The variables
analysed with respect to credit policy were (a) Poor loan policies, (b) Strict repayment policies,
(c) Well formulated policies, (d) Flexible loan policies, (e) Poor record keeping policies and (f)
To what extent does credit policies affect loan defaulting.
4.3.1 Poor loan policies
Of the 36 respondents, 18% of the respondents indicated that poor loan policies have no
contribution on loan defaulting. Another 12% stated least contribution respectively. 15%
indicated that it has great contribution. As it relates to greater contribution 24% responded. The
majority which represents 31% indicated that it has the greatest contribution.
4.3.2 Strict repayment policies
When asked about the repayment policies of these MFI, 29% of the respondents indicated
that strict repayment policies had no contribution to loan defaulting. 9% indicated that it has least
contribution, 20% said it has great contribution, 10% said it has even greater contribution while
the majority of 32% said it has greatest contribution.
42
4.3.3 Well formulated policies
As it relates to well formulated policies, 36% said it has least contribution and 12% said
it has no contribution. Of the 36 respondents, only 2% stated it had a greater contribution, while
29% indicated it had the greatest contribution.
4.3.4 Flexible loan policies
For flexible loan policies 40% indicated that it has least contribution while 32%
responded that it has the greatest contribution.
4.3.5 Poor record keeping policies
The majority of the respondents 52% said poor record keeping policies have greatest
contribution on loan defaulting.
Overall, the majority response of 37% indicated that credit policies had the greatest
contribution to loan defaulting. These results actually corresponds with (Mwaura,2003) findings
that microfinancing firms did not formulate prudent credit policies and that their performance
was affected by a lack of these policies hence the same, the microfinances need to come up with
credit policies which will deter loan default.
This confirms the same for (Fidrmuc et al, 2007) whose findings highlighted that the
introduction of solid credit policies will hinder loan defaulters. A significant weak area
highlighted is credit policy.
43
Table 4.5 Credit Policy
Variables NO Least Great Greater Greatest

contribution contribution contribution contribution
contribution
Poor loan policies 18% 12% 15% 24% 31%

Strict repayment policies 29% 9% 20% 10% 30%
Well formulated policies 12% 36% 21% 2% 29%
Flexible loan policies 12% 40% 10% 6% 32%
Poor record keeping
7% 9% 12% 20% 52%
policies
To what extent does credit
policies affect loan 12% 8% 15% 17% 48%
defaulting
Table 4.5.1 Credit Policy
Credit Policy
60%
52%
48%
50%
40%
40% 36%
31% 32%
29% 30% 29%
30%
24%
20% 21% 20%
18% 17%
20% 12%15% 15%
12% 12% 12% 12%
9% 10% 10% 9% 8%
10% 6% 7%
2%
0%
Poor loan Strict repayment Well formulated Flexible loan Poor record To what extent
policies policies policies policies keeping policies does credit
policies affect
loan defaulting
NO contribution Least contribution Great Contribution Greater contribution Greatest contribution
44
4.4 Loan appraisal process
Respondents were asked if the loan appraisal process had any effect on default rate; 49%
of the respondents said it bears the greatest contribution.15% said it has no contribution. Having
the least contribution 11% responded in the affirmative. Another 20% responded that it had a
greater contribution.
4.4.1 Use of false information
Of the 36 respondents, 50% indicated that the use of false information to acquired loan
had the greatest contribution. Another 29% said it had a greater contribution. 9% said it had the
least contribution while 10% said to great contribution. The least amount of 2% stated that it had
no contribution.
4.4.2 Absence of collateral to secure loans
When asked about the absence of collateral to secure loans. With regards to the greatest
contribution, 40% responded in the affirmative.
4.4.3 Use of false information to acquire loan
As for the use of false information to acquire loans, the majority indicated that falsified or
misrepresented past business performance records affects loan default. 50% said it was the
greatest contribution, 9% said to the least contribution while 29% said to great contribution.
4.4.4 Poor tests of accuracy and honesty of applicants
For poor tests of accuracy and honesty of applicants, 44% said it had the greatest
contribution. Another 38% said it has greater contribution, 13% said it has great contribution
while 6% indicated that it has no contribution on loan default rate.
45
Table 4.6 Loan Appraisal Process

contribution contribution contribution contribution contribution
To what extent does loan

appraisal affect loan 15% 11% 5% 20% 49%
defaulting
Use of false information
2% 9% 10% 29% 50%
to acquire loan
Absence of collateral to
11% 11% 10% 28% 40%
secure loans
Falsified past business

5% 14% 11% 40% 30%
performance records
Poor tests of accuracy
0% 5% 14% 34% 47%
and honesty of applicants
Figure 4.6.1 Loan Appraisal Process
Credit Policy
49% 50%
47%
50%
45% 40% 40%
40% 34%
35% 29% 30%
28%
30%
25% 20%
20% 11%
15% 14% 14%
11%
11% 11%
15% 9%10% 10%
10% 5% 5% 5%
2%
5% 0%
0%
To what extent Use of false Absence of Falsified past Poor tests of
does loan information to collateral to business accuracy and
appraisal affect acquire loan secure loans performance honesty of
loan defaulting records applicants
NO contribution Least contribution Great Contribution

Greater contribution Greatest contribution
46
4.5 Loan recovery procedures
The researcher went further to inquire how the loan recovery procedures affect the loan
default rate.
4.5.1 Listening to defaulters excuses
Of the 36 respondents, the majority which represents 36% said listening to defaulters
excuses to extend period said to greatest contribution. 21% said to greater contribution, 17%
said to great contribution while 15% said to no contribution and least contribution respectively.
4.5.2 Uncommitted collection officers
When asked about uncommitted collection officers, 38% said to greater contribution,
33% said to greatest contribution, 16% said to least contribution while 11% said it had no
contribution.
4.5.3 Corrupt staff/officers
The majority of respondents, which denotes 43% of the respondents said corrupt
staff/officers have the greatest contribution, 20% said it have no contribution. 17% stated that
corrupt staffs/officer had greater contribution to loan default while 13% said indicated it had
great contribution.
47
Table 4.7 Loan Recovery Procedure

contribution contributi contributi contributio
on contribution on n
Listening to defaulters
15% 11% 17% 21% 36%
excuses to extend period
Uncommitted collection
11% 16% 2% 38% 33%
officers
Corrupt staff/officers 20% 7% 13% 17% 43%
Figure 4.7.1 Loan Recovery Procedure
Credit Policy
43%
45% 38%
36%
40% 33%
35%
30%
21% 20%
25%
20% 15% 11% 17% 16%
13%
17%
11%
15% 7%
10% 2%
5%
0%
Listening to defaulters Uncommitted collection Corrupt staff/officers
excuses to extend period officers
NO contribution Least contribution Great Contribution Greater contribution Greatest contribution
48
4.6 Loan defaulting
The researcher went ahead to inquire about the overall impact of loan defaults by various
variables.
4.6.1 Loan Appraisal process
The majority of respondents at 51% indicated that loan appraisal process has a high
impact, whereby 13% stated a low impact while 36% said it has moderate impact.
4.6.2 Credit policies
Of the 36 respondents 52% said credit policies have high impact on loan default, 32%
moderate impact and 16% said low impact.
4.6.3 Loan recovery procedures
When asked about loan recovery procedure 47% said it has high impact. 26% stated low
impact while 27% reported to have a moderate impact.
4.6.4 Level of interest rates
The majority at 50% said level of interest rates has a low impact, 37% said it has
moderate impact while 13% said it has high impact.
49
4.6.5 Conditions and procedures
The impact of conditions and procedures were investigated, 44% of the respondents
indicated that it had a high impact, 32% said it had a low impact, while 24% said it had a
moderate impact.
Table 4.8 Loan Defaulting
Variables High Moderate Low
Loan appraisal process 51% 13% 36%
Credit policies 52% 32% 16%
Loan recovery procedures 47% 26% 27%
Level of interest rates 13% 50% 37%
Conditions and procedures 44% 32% 24%
Figure 4.8.1 Loan Defaulting
Loan Defaulting
60% 51% 52% 50%

47%
50% 44%
36% 37%
40% 32% 32%
26% 27% 24%
30%
13% 16%
20% 13%
10%
0%
Loan appraisal Credit policies Loan recovery Level of interest Conditions and
process procedures rates procedures
High Low Moderate
50
Chapter 5
Summary of Findings, Conclusion and Recommendation
5.1 Summary of Findings
This study was aimed at investigating institutional factors contributing to loan defaulting
in Microfinance Institutions in Jamaica.
The data was collected using questionnaires which targets loan officers and credit managers of
the Microfinance institutions in the parish of Kingston. Out of 40 questionnaires dispensed 36
were returned duly completed, which represented a 90% response rate.
The gender of the respondents from the Microfinance institutions was sought, the
majority of the respondents were female representing 56.0%, while the percentage of the male
respondents was 44%.
The age bracket of respondents was sought, the findings indicated that researcher further
sought to establish the issue of age bracket; the findings indicated the majority of the respondents
were between the age of 30 -39 years, while 36% were below 30 years, whereby 18% fell within
the age bracket of 40 – 59 %.
The majority of the respondents had attained the degree level of education which
represented 38.89%, while 22.22% attained an associate degree, 2% indicated that they had not
attained any formal education.
51
When asked to specify the work experience in their respective organizations, the majority
of the respondents 33.33% had been employed for between 1-2 years, 27.78% had worked less
than 1 years, 19.44% worked between 3-5 years and 8.34% had worked for over 10 years.
The findings of the study further revealed that a number of institutional factors contributed
to loan defaulting in Microfinance institutions. In the opinion of the respondents, poor credit
policies where the major cause of loan defaulting Microfinance institutions. Credit policies were
deemed a significant weak area, as the policies were not well formulated or documented.
Another weak area within these institutions was loan appraisal process, the use of false
information by applicant to obtain loan was a main setback for Microfinance institutions coupled
with the lack of collaterals to secure these loans.
Loan recovery procedure was also viewed a contributing factor to defaulting loans in
Microfinance institutions as staff involved with the collection process were either uncommitted or
corrupt. This negatively impacted the recovery process.
5.2 Recommendations
After close examination and analysis of the research findings, the following
recommendations are suggested:
Microfinancing institutions should put in place a vital credit process that would incorporate
issues of suitable customer selection, vigorous credit analysis, proactive monitoring and follow up
and clear recovery strategies for loans portfolios that are deemed delinquent.
52
5.2.1 Effective and Frequent monitoring.
One of the most effective means of reducing the incidence of defaulting loans is by
effective and frequent monitoring of the loan from the time of disbursement until the final
repayment. This process should be developed in the institutions loan policies.
Effective monitoring of the loan facility and periodic review of the customers’ accounts
help the institution detect early signal of loan default and take the necessary action to mitigate
against the default. When early detection is done, the institution is able to take remedial measures
to prevent further deterioration of the credit facility.
5.2.2 Ongoing Training and Development for Credit Officers and Managers
It is recommended that periodic training programmes are organized for loan officers
particularly in the area of risk management. This will aid in improving the knowledge and
analytical skills of the credit officers so as to enhance their credit appraisal techniques. Training
and development will be vital to credit officers and manager who are lacking in experience in their
selected field. The training programme will assist the loan/credit officers to appreciate the
importance of prompt credit delivery in loan default prevention. To maximise on these training
and development programme, it is recommended that experienced and knowledgeable personnels
within the banking section, who are deemed experts with practical experience in microcredit be
engaged to provide this training services.
53
5.2.3 Provision of security for Credit Facility
There are uncertainties that surround repayment of loans, lenders cannot predict whether a
borrower will be compliant or default on their payments. It is therefore strongly recommended
that MFIs will begin to mandate some type of security even if not adequate, the security would at
least recover part of the indebtedness in the event of default.
5.2.4 Use of Credit Reference Bureau
Most Microfinance institutions lack the efficient risk management mechanism that will
help eliminate or filter serial defaulters. To effectively lock out these serial defaulters, MFIs should
employ a referencing solution that will enable them submit and share data whilst processing their
customers‟ credit application. In 2014, credit reference bureau service was officially introduced
in Jamaica. Three credit reference bureaus now operate in Jamaica; these entities work in
collaboration with commercial banks, mortgage institutions, credit unions, hire purchase stores
and other lending institutions. The concept of a credit reference bureau is to prevent borrowers
with unacceptable credit record from accessing further credit from other unsuspecting lending
institutions. This will reduce the incidence of loans going bad since the organization will avoid
lending to borrowers with unsatisfactory credit record.
5.2.5 Conclusion
Microfinance Institutions (MFIs) offer products and services to persons of low income.
These individuals are unable to afford collaterals from institutions such as the commercial banks
and so seek to burrow from MFIs. The problem is then, the effects of MFIs and institutional factors
54
that contribute to loan delinquency. This is because most microloans are unsecured and so defaults
on loan repayment becomes a challenge. Loan appraisal and loan recovery procedures are therefore
factors within these MFIs that need to be developed to successfully tackle delinquency in which
regard it is considered a management shortfall. The issue of poor management involves the
efficiency and effectiveness to collect loans and the development of loan procedures and policies
that would tackle these delinquencies. This involves a target of 100 percentage repayment on loans
by employing strict but somewhat flexible loan policies as well as high portfolio management. As
such, it can be said that there is a correlation between loan defaulting in Microfinance Institutions
and poor credit policies and these can be successfully addressed if management takes seriously the
target of 100% loan repayment and the dedication in performance of all stakeholders.
55
References
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Okomfo Anokye Rural Bank.
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Latin America. Publication No. 3.
Bank of Jamaica. Supervision Profile. Retrieved from www.boj.org.jm/publications
Beatriz, A. & M. Jonathan, (2007). The Economics of microfinance. London: England Press.
Berger Allen N., and De Young Robert (2005). Problem loans and cost efficiency in commercial
Banks. Economic and Policy Analysis paper
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1970. New York: Palgrave
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Forward for Rural Finance”
CGAP, (2015). Measuring microcredit delinquency: Occasional paper no. 3. Retrieved from
www.cgap.org.
CGAP Donor Brief no 9: Microfinance and the Millennium Development Goals. Retrieved from
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methods research: Practices, dilemmas, and challenges. Handbook of mixed methods in
social & behavioral research. Thousand Oaks, CA: Sage.
Craig, C. (2006). Making microfinance work. Managing for improved performance. Geneva:
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Dinos, C. & Ashta, A. (2010). Financial Crisis: Lessons from Microfinance in Russia, Ecuador,
Bolivia: Swiss Press
Fofack, H. ( 2005). Nonperforming loans in Sub-Sahara Africa: Causal analysis and
macroeconomic implication. World Bank Policy Research Paper 3769 Vol. 21.
Fidrmuc, J, H. Christa, & M. Anton, ( 2007), Default rates in the Loan Market for SME.
Evidence from Slovakia: Financial Economics Journal, Vol. 67.
Gorter, N. & Bloem ,M. (2012). “The macroeconomic statistical treatment of Non Performing.
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Joana, L. (2006). Microfinance handbook: Sustainable banking with the poor. Washington D.C.:
Washington Press.
Joanna, L. & V.White. (2006). Transforming Microfinance Institutions. Washington:
Washington Press.
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March 27, 2015. 2006.
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it’s Potential Influence”
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58
Appendix 1: Interview Schedule
Date: _____________________ Venue: _________________
Time Start: __________________ Time End: ______________
Introduction Stage
• Greetings
• Address ethical issues
Interview Stage (Guiding Questions)
The interview questions seek responses on the investigation of institutional

policies that are in place that speaks to credit policies, loan appraisal, approval
process and loan recovery procedures.
1. What specific institutional factors do you think contribute to the default of loan
repayments?
2. What internal controls are currently in place to ensure that the loans approvals
policies are adhered?
3. Is there a detailed procedure for screening a loan customer?
4. What are the measures put in place by management to help reduce the incidence
of default loans?
5. Are the current policies and procedures adequate to mitigate against loans become
default?
6. How does the institution monitor loans?
7. How does the institution proceed in the recovery of loan that have defaulted?
8. Are you a member of the Jamaica Microfinancing Association?
9. Do you have any other comments about default in loan repayment?
Conclusion Stage
• Thank interviewee
59
Appendix 2: Questionnaire for Loan Officers and Credit Managers
Questionnaire for Loan Officers / Credit Managers
This questionnaire was designed to collect information about a communication

programme for non-verbal autistic students. The information will be used to write
my research project for a Bachelor of Science Degree in Business Administration
at the International University of the Caribbean. Your responses will be carefully
protected and will be used only for the study. Your anonymity of will be
maintained. DO NOT SIGN YOUR NAME on the questionnaire.
Section A: Background Information
Instructions: The items listed below are designed to obtain information on your
profile. Please read the items carefully then tick ( ✔ ) in the brackets provided to
indicate your response.
1. What is your gender?

Male ( ) Female ( )
2. What is your age group?

10-29 ( ) 30-39 ( ) 40-49 ( ) 50-59 ( )
3. Your current position at the institution.

Collections Officer ( ) Loan Officer ( ) Credit Manager ( ) Manager ( )
4. Indicate your years of experience in the industry of credit process.

Less than 1 year ( ) 1 – 5 years ( ) 6 – 10 years ( )
11 – 15 years ( ) Above 15 years ( )
60
5. Level of Education.
Diploma ( ) Degree ( ) Masters ( ) Professional certificate ( ) Other,
please specify…………………………………
Section B: Factors contributing to the default in loan repayment
Instructions: For the following sections tick ( ✔ ) your level of agreement or

disagreement as most appropriate to your view.
No. Factors High Moderate Low
6 Loan appraisal process
7 Credit policies
8 Loan recovery procedures
9 Level of interest rates
10 Conditions and procedures
61
Section C: Credit Monitoring and the occurrence of default in loan repayment

No. Factors NO Least Great Greater Greatest

11 Poor loan
policies
12 Strict
repayment
policies
13 Well
formulated
policies
14 Flexible
loan
policies
15 Poor
record
keeping
policies
16 To what
extent
does credit
policies
affect loan
defaulting
62
Section D: Loan appraisal process and the occurrence of default in loan repayment


17 To what
extent does
loan
appraisal
affect loan
defaulting
18 Use of
false
information
to acquire
loan
19 Absence of
collateral
to secure
loans
20 Falsified
past
business
performanc
e records
21 Poor tests
of accuracy
and
honesty of
applicants
63
Section E: Loan recovery procedure and the occurrence of default in loan repayment


22 Listening to
defaulters
excuses to
extend period
23 Uncommitte
d collection
officers
24 Corrupt
staff/officers
64
Appendix 3- Cover Letter for Managers
Cover Letter for Managers
Faculty of Business, Management and Law
_______________________________,
February 27, 2015
Re: Requesting participation in a study
Dear Participant,
My name is ___________________, I am final year student at the
_____________________, pursuing a Bachelor of Science Degree in Business
Administration. A component of the course requires that I undertake a major study;
consequently, I am requesting your participating in this study.
The purpose of my study is to “Evaluating institutional factors contributing to
default in loan repayment within Microfinance Institutions in Jamaica”. The study
intends to gather information from credit offers, credit managers and managers,
through a self-administered questionnaire and one-on-one interviews.
65
The participation is fully voluntary and you are at liberty to withdraw from the
study at any time, additionally, responses will be confidential. The results will be
also reported without compromising the anonymity of respondents.
The questionnaire takes about 10 minutes to complete, while the interview segment
should not require more than 20 minutes.
Should you require additional information, I can be contacted at 123-345-780 or
jane.doe@gmail.com . Your response is very important to this study.
Anticipating a favourable response.
Yours truly
_____________________
Jane Doe
Researcher
66
Appendix 4 - Consent Form for Experts
Research Title: Evaluating institutional factors contributing to default in loan
repayment within Microfinance Institutions in Jamaica
The information provided on this form and the accompanying cover letter is
presented to you in order to fulfill requirements for research studies at the
International University of the Caribbean. The purpose of this form is to request your
participation in the study and your permission to use the information given for the
sole purpose of analyzing the outcomes of the study.
The aim of this study is to evaluate institutional factors contributing to default in
loan repayment within Microfinance institutions in Jamaica. The potential benefits
should provide a useful reference document to Micro Financing Institutions in
developing loan policies. It can be used by micro-finances in developing loan
approval and appraisals systems and loan collecting procedures. This document can
also be used by other financial institutions to ensure a performing portfolio is
maintained. The managers and credit officers may find the document relevant in
delinquency management.
1. Participation is voluntary.
2. Confidentiality will be protected. Participants will not be identified by their names.
3. Participants may request information from the researcher at any point during the
study.
67
4. Your signature on this consent form shows that you have been informed about and
agree to the conditions and safeguards of this project.
_____________________________ _____________
Signature of Researcher Date
68

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EVALUATING INSTITUTIONAL FACTORS CONTRIBUTING TO DEFAULT IN LOAN

REPAYMENT WITHIN MICROFINANCE INSTITUTIONS IN JAMAICA

Background to the Problem

1.1 Background to the Study

unions, specialized microfinance agencies, regulated and non-regulated non-governmental

In a microfinance study conducted by The Economist Intelligent Unit in 2008 on fifty-five

the need arises.

Delinquency is measured because it indicates an increased risk of loss, warnings of

• MFIs corporate governance

• Loan processing, and

• Client screening process for loan qualification.

1.2 Statement of the problem

poor management systems for loan collection.

The sustainability of microfinance institutions depends largely on their ability to collect

repayment default within the Micro-financing institutions in Jamaica.

1.3 Research hypotheses

1.4 Significance of the Study

Institutions in developing loan policies. It can be used by micro-finances in developing loan

credit officers may find the document relevant in delinquency management.

like to investigate more on factors contributing to loans defaulting.

1.5 Purpose of the research

default in Microfinance institutions in Jamaica, specifically, the research investigated whether

1.6 Research Questions

1. How can loan defaulting be influenced by credit policies?

1.7 Scope of the Study

The study comprised of 4 registered, regulated microfinance institutions and 26 informal

1.8 Limitations of Study

primary data. This obviously imposed some limitations on the study.

represent the actual scenario of the whole country.

1.9 Definitions of key Terms

Arrears – Refers to a late payment, partial payment or a skipped payment.

It is an occurrence in a loan portfolio where payments are in arrears. A loan account is

obligation at the stipulated time.

annual percentage rate.

Loanee - a person who receives a loan

Poverty - A condition in which a person of community is deprived of the basic essentials

definition of poverty, “A condition of life so characterized by malnutrition, illiteracy, and

disease as to be beneath any reasonable definition of human decency”.

creditworthiness, rather than by a type of collateral. An unsecured loan is one that is

1.10 Organization of the Study

Chapter two reviews literature on the History of Microfinance, Historical Background of

Microfinance Institutions, The Moneylending Act, Categories of Microfinance Institutions In

also covers the empirical studies related to this study.

2.2 Historical Background of Microfinance Institutions

loses and an inability to reach poor rural households (Schreiner, 2003).

large-scale outreach profitably.

credits from the world leaders and major financial institutions.

2.3 The Moneylending Act of Jamaica

The Moneylending Act ("The Act") governs moneylending transactions in Jamaica in

that the contract must abide by the following rules:

1. The contract must be evidenced by a note or memo in writing;

2. The note or memo must be signed personally by the borrower;

of the making of the contract;

charged on the loan in terms of a percentage rate per annum (boj.org.jm).

circumstances will be taken into account (boj.org.jm).

(a) Friendly Societies, Building Societies or Benefit Building Societies;

(c) any body corporate, incorporated or empowered by an enactment of the Legislature to

(d) any company licensed under the Financial Institutions Act; or

(e) any company licensed under the Banking Act; or

(j) a licensee under the Securities Act; or

(k) an entity- which is established by a statutory body or authority; and

(ii) the primary purpose of which is to lend money.

2.4 Categories of Microfinance Institutions in Jamaica