THE CONSEQUENCE OF INTEREST ON SAVING AND

CREDIT ASSOCIATIONS: THE CASE OF VISION FUND

MICROFINANCE DILLA BRANCH

PREPARED BY: BEZAWIT DITA

A SENIOR ESSAY SUBMITTED IN PARTIAL FULFILLMENT

FOR THE REQUIREMENT OF BACHELOR OF ART (BA)
DEGREE IN ACCOUNTING AND FINANCE

ADVISOR: ABEL DEMREW

JUNE 2014

DILLA

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 DECLARATION

The research entitled ‘’CONSEQUENCE OF INTEREST ON SAVING AND

CREDIT ASSOCIATION” by Bezawit Dita is approved for the Degree of
‘’Bachelor of Art in Accounting and Finance’’.

Board of Examiners

Name Signature

Advisor-------------------------------- -----------------

Examiner------------------------------ -------------------

Date_________

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 Abstract

The purpose of this study is to assess the consequence of interest rate on the performance of
Vision microfinance institution. To fulfill the aim, the researcher gathered relevant information
from respondents through structured questionnaire. The result of the study revealed that the
association gives credit and saving to their customer, however the rate of interest charge on
various type of credit in Vision micro finance institution Dilla branch is high. High interest on
loans is disliked by borrowers and may intensify their financial burden, it is clear that interest
rates are not the only element of pricing that affect user’s capacity to make repayments on time.
From this it can be concluded that such interest rates can erode surpluses generated by
borrowers, leaving them with little net gain. There is also concern that high rates reduce the
demand for and uptake of financial services from MFIs. Therefore, vision MFI must minimize the
interest rate and lend more to their members so as to enhance saving and also increase the
interest rate to enhance saving culture of its members.

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 Acknowledgement

First and for most, I would like to praise the heavenly God, for his assistance in reaching this
goal and also i acknowledge my families specially dad, mom and MG for their continuous
support and inspiration from starting up to finishing my study and I also want to acknowledge
my advisor Abel Demrew (MBA) for his inspiring and encouraging way to guide me to deeper
understanding of knowledgeable work and invaluable comments during the whole work with this
dissertation I also thank for my friends Tesfa ,Betty ,Betty (widee), Emu, Hewi, Me &Maki.

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 Acronyms

CGAP-consultative group to assist the poorest

MFI-micro finance institution

SME-small and medium enterprise

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Table of Content
Content Page

Acknowledgement..............................................................................................................................I

Abstract..............................................................................................................................................Ii

Table Of Content...............................................................................................................................Iii

Chapter One

1. Introduction................................................................................................................................1
1.1 Back Ground Of The Study......................................................................................................1
1.2 Statement Of Problem ..............................................................................................................2
1.3 Research Question…………………………………………..…………………………………4
1.4 Objective Of The Study ..........................................................................................................4
1.4.1General Objective .....................................................................................................................4
1.4.2 Specific Objective ..................................................................................................................4
1.5 Significant Of The Study………………………………………………………………………..5
1.6 Scope Of The Study.....................................................................................................................5

1.7 Limitation Of The Study .............................................................................................................5

Chapter Two

2. Review Of Literature.....................................................................................................................6

2.1 Theoretical Reviews.....................................................................................................................6

2.1.1 Theory Of Interest.....................................................................................................................6

2.2 Saving And Credit Association ...................................................................................................7

2.2.1 Meaning Of Saving And Credit Association............................................................................7

2.2.2 Significance Of Saving And Creadit.........................................................................................7

2.2.3 History Of Saving And Credit Association .............................................................................7

2.4. Investment.............................................................................................................................9

2.5 Empirical Anal…………………………………………….……………………………………9

Chapter Three

3. Methodology

3.1 Methodology Of The Study........................................................................................................10

3.2 Research Design .........................................................................................................................10

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3.3 Type And Source Of Data ..........................................................................................................10

3.4 Sample Design............................................................................................................................11

3.5 Sample Method………………………………………………………………………………11

3.6 Method Of Data Collection………………………………………………………………….11

3.7 Method Of Data Analysis……………………………………………………………………12

Chapter Four

4. Data Analysis, Interpretation And Presentation...........................................................................13

4.1 Characteristics Of The Respondent............................................................................................13

4.1.1 Occupation Wise Distribution Of Respondent........................................................................14

4.2 Interest Rate Related Question……………………………..……………………………………15

4.2.1 Credit Taking In The Association............................................................................................15

4.2.2 Saving And Credit Solve The Problem....................................................................................16

4.2.3 Member Withdrew From The Association .............................................................................17

4.2.4 Interest Rate and Investment Opportunity...............................................................................18

4.2.5 Reason for Not Use in The Credit And Saving........................................................................18

4.2.6 Use of Saving and Credit ........................................................................................................19

4.2.7 The Purpose of Interest Rate In Saving……………………………………………..20

4.2.8 Loan Provision Methodology of Institution………………………………………….22

4.2.9 Payback Period………………………………………………………………………………22

4.2.10 Income Generate of the Customer………………………………………………………23

Chapter Five

5. Conclusion and Recommendation................................................................................................23

5.1 Conclusion..................................................................................................................................25

5.2 Recommendation........................................................................................................................25

References

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 CHAPTER ONE

1. INTRODUCTION

1.1 Back ground of the study

Microfinance has evolved as an economic development approach intended to benefit low income
men and women. The term refers to the provision of financial services to low income clients,
including the self employed. Financial services generally include savings and credit; however,
some microfinance institutions also provide insurance and payment services. Microfinance
clients are typically self employed, low income entrepreneurs in both urban and rural areas.
Clients are often traders, street vendors, small farmers, service providers and artisans and small
producers such as blacksmiths and seamstresses. Usually, their activities provide a stable source
of income (often from more than one activity). Although they are poor, they are generally not
considered to be the poorest of the poor (Ledger wood, 1997).

MFIs offer savings as a core financial service for clients and use it as an important source of
funds for lending. Lack of access to financial services—the absence of convenient savings
instruments and credit mechanisms—is a major constraint limiting the accumulation of assets by
the poor and the development of indigenous enterprises. Even in a free market environment, gaps
in financial services to micro-enterprises, SMEs, and low-income households (both urban and
rural) are likely to persist for several reasons (Arega, 2007).

MFIs can cover the additional administrative costs and the added risks of smaller loans only by
charging higher interest rates. International best practice shows that lending to micro-enterprises
and SMEs is feasible if financial institutions implement practices that allow them to widen their
scale and outreach, lower their costs and risks, and provide suitable products. A critical element
is a regulatory framework that is conducive to the evolution of new ways of doing business,
including interest rates sufficient to cover costs and innovations in risk management (Pitamber,
2003).

Interest rate is the price of money borrower pay for the use of money borrowed from a lender.
Interest rates are normally expressed as a percentage rate over the period of one year (Pitamber,
2003). According to Mankiw (2005), the interest rate in our small open economy is determined

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by the world interest rate .reason that if the domestic interest rate is above the world interest rate
people from abroad would lend to the country driving the domestic interest rate down and if the
domestic interest rate is below the world interest rate resident would land abroad to earn a higher
return, driving the domestic interest rate up. At the end the domestic interest rate would equal the
world interest rate.

It is with all these requirements in mind that the microfinance institutions in Ethiopia established
in 1996 to cover the gap created and to supply small loans to the poor and to SMEs. Since their
establishments, these small financial institutions expanded their operations throughout the
country and supported millions of poor citizens and small business operators that otherwise do
not have any access to the financial services of mainstream banks.

Currently there are around 26 MFIs in Ethiopia, out of which eleven are operating in the capital,
Dilla town. From among the five MFIs found in Dilla, VISION MFI is selected for the sake of
this research paper. The purpose of this study is to assess the consequence of interest rate on the
performances of the institution.

1.2 Statement of the Problem

The most prevalent critique of microfinance in today’s international system is that it does not
have the ability to reach “the poorest of the poor.” Regardless of the arguments about what
microfinance should do, it seems clear that this critique is generally true. The United Nations
Consultative Group to Assist the Poor (CGAP) stated that “most microfinance clients today fall
in a band around the poverty line and the extremely poor are rarely reached by microfinance”
(CGPA, 2003). In addition, there is a lack of a consensus as to whether reaching the poorest
should be the goal of microfinance institutions. First, it is much more expensive to reach the
poorest, both for the institutions and the clients themselves. If an individual access credit, but
does not have the financial capability to service that debt, access to loan services and interest
rates become an additional burden.

Interest rate the price of capital as wage is for labor and rent is for land interest rate is the
percentage of their money often fixed for a long time and different across countries whom people

connect when they make deposit or pay when they make borrowing from financial institution
manly follow the principle of compound interest rate simple interest when they make loan to

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their customer (Mankiaw, 2005). Depository institution like MFIs charge interest when they
make loan to their customer and also often yearly calculate interest on depository capital. Despite
their importance such financial institution use of interest rate in their operation may discourage
large portion of population. This is true in an economy where the people that interest prohibited
since this practice may also create for accordingly development gap to obtaining monitory credit
for various purposes like capital for investing improving, existing, productive, capacity, capital
for growth and provisioning both increased earning and job creation.

Most poor people manage to mobilize resources to develop their enterprises and their dwellings
slowly over time. Financial services could enable the poor to leverage their initiative,
accelerating the process of building incomes, assets and economic security. However,
conventional finance institutions seldom lend down-market to serve the needs of low-income
families and women-headed households. They are very often denied access to credit for any
purpose, making the discussion of the level of interest rate and other terms of finance irrelevant.
Therefore the fundamental problem is not so much of unaffordable terms of loan as the interest
rate of credit and it has a significant impact on saving and credit operation of financial institution
(Kim 1995).

Interest rate ceilings hurt poor people by making it harder for them to get credit. It costs much
more to make many small loans than a few large loans. Unless micro-lenders can charge interest
rates that are well above average bank loan rates, they cannot cover their costs. Their growth will
be limited by the scarce and uncertain supply soft money from donors or governments. When
governments regulate interest rates, they usually set them at levels so low that Microcredit
cannot cover its costs, so such regulation should be avoided. At the same time, a micro-lender
should not use high interest rates to make borrowers cover the cost of its own inefficiency.

In light of these, it is reasonable to see MFIs in our country and the effect of interest rate of the
primary operation – saving and credit. Therefore, this study specifically aims to investigate the
consequence of interest rate on saving and credit in VISION microfinance institution Dilla
branch.

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1.3 Research Questions

This research aim to answer the following question

 How much interest rate is charged on various types of credits in vision MFI?
 What is the perception of clients on the existing interest rate charged?
 What are the sequence of interest rate on saving and credit in vision MFI?
 What the challenges are faced in the operation of vision MFI as a result of interest rate?

1.4 objective of the study

1.4.1 General objective

The study focuses on the assessment of consequence of interest rate on saving and credit in
vision microfinance institution Dilla branch so as to make the necessary recommendations.

1.4.2 Specific objective

Thus, the specific objectives include:

 To identify the rate of interest charged on various types of credits in vision microfinance
institution Dilla branch.
 To assess the perception of clients on the existing interest rate charged.
 To see the sequence of interest rate on saving and credit.
 To identify the challenges which are prevalent in the operation of MFIs as a result of
interest rate.
1.5 Significance of the Study

Primarily this study would have a considerable contribution in providing practical experience for
the researcher on how a research should be conducted. Apart from this academic importance, it is
expected that the results of this study would:

 Provide relevant information to management of the institutions the strengths and

weaknesses of the current operating systems specifically related to interest rate, saving
and credit; and identifies the challenges of the MFI industry,

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  Suggest possible recommendations to improve or revise the existing financial and
operational performances of the institutions.
 Furthermore, the result of the study is hoped to serve as a base for researchers who want
to make investigation in the area of this study.

1.6 Scope of the Study

This project is confined only to the assessment of consequence of interest rate on saving and
credit in vision microfinance institution Dilla branch. Nonetheless, it would have been much
better and exhaustive for the study had there been a chance of accommodating all MFIs found in
Dilla town. However, to make the study manageable and to evaluate the problem in detail, the
researcher is forced to delimit the study to incorporate only to vision MFI Dilla branch.

1.7 Limitation of the Study

As any research requires sufficient time, up-to-date information, reference materials, finance,
and the like, the student researcher also would encounter some of these challenges in carrying
out this project. Especially, while looking for information from the MFI, the officials of some of
the institutions may not be willing to provide with the necessary information in the exact time.
This will take a lot of the researcher’s time, effort, and cost.

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 CHAPTER 2

REVIEW OF RELATED LITERATURE

2.1 Theoretical Reviews

2.1.1 Theory of interest

Interest rate target are a vital tool of monitory policy and are target to account when dealing with
tend to reduce interest rate when they wish to increase investment and consumption in the
country economy in which large amount of investment are poverty in to real estate market and
stock market this happened in Japan in the late 1980’s early 1990’s resulting in the large unpaid
debt to Japanese bank and bankruptcy of these bank and causing stage inflation in the Japanese
economy Japan benign the world second largest economy at the time .under Margaret Thatcher
the united kingdom’s economy .maintains stable h by not allowing the bank of England to
reduce interest rate .

In developed economy interest economy activities that interest rate currently with economy
growth to safeguard economy momentum. Specifically interest rate is present of principal paid a
certain amount of time per period for example a small company borrower capital from bank to
buy new asset from its business in return the lender receives interest at predetermining interest
rate for differing the use of fund and instead lending in to the borrower interest rate are normally
expressed as a percentage of the principal for the period of one year. Three type of interest rate
are their simple, compound and variable interest rate simple interest rate are calculated on the
principal amount borrowed for example suppose you take out alone fore $10000 with a simple
interest rate of 1%.at the end of the first month you would owned $100 accumulated interest in
all subsequent month you would pay interest only on the remaining principal of $4500 and an
accrued interest debt of $500 the 1% simple interest rate would apply to the $ 4500 principle
would apply to the $4500 principal you would owned $45 simple interest rate.

Compound interest rate applies to both the principle amount borrowed and any accrued interest
debt suppose you had a loan for$10000 with compound interest rate of 1%.after 3 years of
payment you would owe $5000with remaining principle of $4500 and accrued interest debt of
$500.compoun interest applies to entire debt including the principal totaled $5000

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Variable interest rate variable interest rates change over time and are fixed to the interest rate
index most interest rate commonly uncounted including rate attach and home loans are fixed and
do not change over time according to leading free maturities and cost of fund index variable
interest rate providing the opportunity to take advantage of dropping rates on the hand may not
be suitable for borrower looking for the stability fixed interest rate provide. (www.ehow.com)

2.2 Saving and Credit Association

2.2.1 Meaning of saving and credit association

Saving and credit cooperative are user owned financial intermediaries they have many names
around the world including credit union members typically shard common bond based on
geographical area employees communities or other affiliation saving and credit are their
principal service although many often money transfer payment services and insurance as
well.www.coolpar.com

2.2.2 Significance of saving and credit association

Saving and credit cooperative provide financial service to many people’s including poor and low
income people in the would the following are main advantage of this society. Saving and credit
cooperative providing service to people who lives in rural areas which are unattractive to bank

Unlikely most microfinance NGO’s they provide saving services to their members. They can
organize locally without major external support. Their solved based small saving accounts make
as table relatively low cost funding source. Well run saving and credit cooperative have low
administrative cost and able to give loan at interest rate lower than those charged by other micro
credit institution

2.2.3 History of saving and credit association

The first credit and saving cooperative were established in the middle 19 century mainly in
germen two men are considered as the founding father of the credit cooperative moment
Herman Schultz Delitch who established accredit cooperative for minor urban and rural middle
classes and Fredrick relesen the founder of rural credit cooperative.

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In Italy Luigi luzzatti established credit cooperative which combined the principle established by
his two Germany predecessors after the customer cooperative the credit cooperative is the most
common type of cooperative to be found in modern world this form of cooperative has been
established in both rural and urban districts by labor union and other organization including
government bodies

2.3 Interest Free Banking

Is fundamental concept derived from the Islamic form of banking it operate with the primitive
professional and ethical standards that exclude the Muslims from paying or receiving and king of
interest this certainly don’t mean that the revenue generating activities or money raving business
are not encouraged.

All of the business forms are generality appreciated as for as they don’t involve interest in any
kind these are a lot of financial bodies fulfill this business or profit making requirements for clear
understanding they deal with equity financing rather than reflecting on debt financing in addition
replacement of fixed interest rate on the saving account these interest free banking give a small
percentage of return on deposit on an annual basis.

a. Saving account this is an account where the customer can deposit their saving the get a
guarantee of getting their full amount of their money and account the bank guarantees
their saving but is not obligation to pay any rewards to the saver
b. Investment account these account can be of two type account with authorization and
account without organization

With authorization the account holder authorized in the bank to invest this money in any one
of its project after the expiry of aspect period the account holder get profit

Without authorization the account holder may choose any particular project for investment of
his deposited money.

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2.4 Investments

The absence of interest rate Islamic bank undertake investment activities to earn profit there
business in addition to investment to earn profit for the bank itself the profit from the investment
account. As the bank can not earn interest by landing the money therefore this Islamic bank have
to undertake investment procedures based on Islamic principle

2.5 Empirical Analyses

To the extent that microfinance institution become financial variable self sustaining and integral
to the community in which they operate they have the potential to attractive more resource and
expand services to client despite the success of microfinance intuition only about 2% of the
world roughly 500 million small entrepreneur are estimated to have access to financial services
(Barry et .al 1996).

Although there is demand for credit by poor and women at market interest rate the volume of
financial transaction of microfinance institution must reach a certain level before their financial
operation becomes self sustaining in other word although micro finance offers a promising
institutional structure to provide access to credit to the to the poor the scale problem need to be
resolved so that it can reach that majority of potential customer who demand access to credit at
market rate the question then how micro enterprise leading geared to providing short term capital
to small business in the informal sector can be sustained as an integral part of the financial sector
and how their financial services can be further expanded using the principal standards and
modality that have proven to be effective .

To be successful financial intermediaries that provide services and generate domestic resources
must have the capacity to meet high performance standards they must achieve excellent
repayment and provided access to client and they must build to ward operating and financial self
sufficiency and expanding client reach. In order to do so micro finance institution need to find
ways to cut down on their administrative cost and also to broaden their resource base cost
reduction can be achieved though simplified and decentralized loan application approval and
collection process for instance through group loans which give borrowers responsibility for much
of the loan application process allow the loan officers to handle many more client and hence

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reduce costs (oteroet.al 1994) microfinance accessing capital markets loan funds and effective
institutional development support

Saving facility make large scale lending operation possible on the other hand studies also show
that the poor operating in the informal sector do save although not in financial asset and hence
value access to client friendly saving services at least as much access to credit saving
mobilization also make financial institution accountable to local shareholder there for adequate
saving facility both serve the demand for financial service by the customer and fulfill an
important requirement of financial sustainability to the lender micro financial institution can
either provide saving service directly through deposit taking or make arrangement with other
financial institution to provide savings facility to tap small saving in manner (Barry 1995).

2.5.1. Evidence of impact of interest rates on borrowers

Effects on wellbeing

A recent systematic review which looked at evidence of the impact of microfinance on poor
people in sub-Saharan Africa (Stewart et al, 2010) concluded that high interest rates were one
among a number of reasons why microcredit can sometimes fail to increase the wellbeing of
poor people. The report stated that: ‘some people are made poorer, and not richer, by
microfinance, particularly micro-credit clients. This seems to be because: they consume more
instead of investing in their futures; their businesses fail to produce enough profit to pay high
interest rates; their investment in other longer-term aspects of their futures is not sufficient to
give a return on their investment; and because the context in which microfinance clients live is
by definition fragile’ (p. 5).

Overall, the review did find some evidence that microcredit can help poor people cope with
economic shocks, but acknowledged that the implications of failure (to repay) high interest loans
are high. This is because in order to repay high interest loans, borrowers effectively rely on an
increase in their income (ibid, p.49): ‘if clients are unable to increase their incomes, they will not
only default on their loans, falling into a debt trap, but also be unable to invest in their savings
accounts’. Returns on investment depend on how loan money is spent, which may fall into two
broad categories: i) investing in the future (business or productive assets, education), and ii)

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increasing consumption (health, nutrition or housing). Overall, the report argues that investments
in long-term outcomes such as increased primary school enrolment do not increase micro-credit
clients’ ability to repay their loans in the short-term, and may even lead to increased poverty.
This leads the authors to conclude ‘it seems short-sighted to expect that small loans with interest
rates of between 25 per cent and 37 per cent might make very poor people richer’ (ibid, p. 49).

On the other hand, Roodman (2011) analyses high interest rate loans to the poor from the
perspective of Sin’s ‘development as freedom’, noting that ‘when you have nothing to eat till the
harvest, you may be willing to pay a lot for loan: yes, the interest will cost you tomorrow, but if
you do not eat, there will be no tomorrow’ (p. 10).

Impact on indebtedness

Some country-specific case study research has provided insights into over-indebtedness from the
borrower perspective. One case study in Ghana, undertaken by the Centre for European Research
in Micro Finance, showed that user ‘indebtedness’ (defined as users not being able to keep up
with repayments) was the result of a combination of factors, related to both borrower
circumstances and MFI products and policies (Schicks, 2011). In terms of borrower
circumstances, the economic challenges of failed business investments, loan use that does not
earn returns, adverse shocks that reduce the borrower’s income, and a lack of assets, especially
savings, to serve as a buffer against delinquency, were all important causes of over-indebtedness.
With regard to MFI policies, although interest rates were a frequent source of complaints,
borrowers also cited inflexible product features as a main reason for their indebtedness. In
particular, the study observed that installment schedules did not always match borrowers’ cash
flows, and that loan disbursements may arrive too late to enable productive investments (p. 16).
In interviews, borrowers themselves attributed repayment problems to high interest rates, but this
was set among a number of other factors, including:

 the investment went wrong, or I started paying off too late compared to the installments
 an emergency made repayments difficult
 the interest was too high or installments too frequent
 the amount disbursed was too low for the required investment or was disbursed too late.

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The study concluded that in this specific case, borrowers may still be better off with access to
finance than without: ‘Some Ghanaians seem to perceive a loan as something so precious that
they would take it without reflection, no matter what the cost. This is a strong message not to
overreact to over-indebtedness: Customer protection should aim to reduce borrower sacrifices.
But customer protection measures that overly reduce poor people’s access to loans may not
always be the right response. Instead, a redesign of loan products seems to be called for’
(Schicks, 2011, p.12).

A recent study in Bangladesh found that although the accumulation of high interest on loans may
exacerbate the financial burden of microcredit users, they are not the main contributing factor to
users being unable to make repayments on time. Jahiruddin et al (2011) used survey data and in-
depth interviews with women whose circumstances had worsened following their borrowing
microcredit loans, and revealed four key sets of circumstances in which poverty was exacerbated
among the most vulnerable female borrowers:

 long periods between start-up and revenue generation from the investment
 financial setbacks or losses incurred during the initial stages of business
 use of the loan money to meet unforeseen contingencies/emergencies; and
 use of loan money for day-to-day consumption or one-off, ‘luxury’ expenditure.

Impact on demand

Helms and Reille (2004) drew on available literature to ask whether and how poor people can
afford high interest rates. They put forward a number of arguments that question the extent to
which high interest rates necessarily hurt the poor, including the following.

 The poor generally consider ongoing access to credit more important than the actual cost
of the credit.
 Studies show that clients benefit from microfinance loans, and that they can and do repay
loans.
 The higher costs of microcredit have not necessarily excluded poor customers. Data from
the MIX indicates leading MFIs have succeeded in reaching large numbers of poor
clients.

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  Alternatives to microcredit tend to be very expensive moneylenders, input suppliers,
inflexible and risky local savings circles, or nothing at all. It is common for moneylenders
to charge effective interest rates well in excess of 10 percent per month.

In a widely-cited study, Karlan and Zinman (2008, p. 1-2) argue there has been an assumption of
‘price inelastic demand’ (meaning the poor are largely insensitive to interest rates) amongst
policymakers. This has provided a foundation for encouraging MFIs to run at sustainable
(profitable) interest rates on the basis that it is unlikely to reducing poor people’s demand for, or
access to microcredit. To test this assumption, they used an experimental research design to
measure the effects of rate fluctuations (of between 50-200 per cent) on uptake of loans by new
and existing customers in the case of a South African lender. The study found demand curves
were gently downward sloping throughout a wide range of rates below the lender’s standard
ones, but that demand sensitivity rose sharply at prices above the lender’s standard rates. Lower
rates produced more borrowing by poor females in the sample. Higher rates also reduced
repayment. They also found that ‘loan price is not the only contracting parameter that might
affect demand, and hence MFI profits and targeting. Liquidity constrained individuals may
respond to maturity as well, since longer maturities reduce monthly payments and thereby
improve cash flows’ (ibid, p. 2). In fact the study found that maturity ‘may actually be more
influential than price in determining demand for credit if individuals are more concerned with
monthly cash flows than interest expenses’ (ibid, p. 2). In reviewing this study, Roodman (2011)
points out that the subjects of the study lived well above standard poverty lines of $1 and $2 a
day, and their successes revolved around employment, not entrepreneurship.

In a more recent study, Dehejia, Montgomery and Morduch (2012) similarly challenge what they
see as a widely-held view among experts in the field that interest rates should be set at profit-
making levels on the basis that poor customers are primarily concerned with seeking access to
credit, but are not necessarily as concerned with getting ‘cheap’ credit. They argue this
assumption is questionable because in fact there is very little evidence of how interest rates affect
demand for credit in poor communities (Dehejia, Montgomery and Morduch 2012). In particular,
there are unanswered questions about whether poorer customers are deterred from accessing
credit because of higher rates, or whether they are able to pay them (ibid). In their case study of
the micro lender Safe Save, operating in the slums of Dhaka, they show that poor households are
20
in fact sensitive to price changes. An unexpected price increase, from a real interest rate around
18 per cent per year to a real rate of around 30 per cent per year (in line with the prices charged
by other major Bangladeshi microlenders), did affect demand and use of microcredit services.
Elasticity of loan demand with respect to changes in the interest rate ranged from − 0.73 to −
1.04 during the twelve months after the price increase. Moreover, in response to interest rate
increases, users altered the way they borrowed – taking advantage of Safe Save’s flexible lending
policy by taking small and more frequent loans and repaying them more quickly. The authors
note that it is important to acknowledge that Safe Save did achieve financial stability as a result
of the interest rate increase. They suggest that future studies might better explore the
heterogeneous impact of interest rate increases on demand for loans.

Rosenberg, Gonzalez and Narain (2009) argue that although interest rates have been the centre of
debate about microcredit pricing, and have received the most attention, they are not the only cost
that the poor pay in obtaining loans. They stress it is important to keep in mind the other
transaction costs for the borrower, including spending time away from their businesses,
transportation expenses, and the negative impact of delays in receiving loan funds. These costs
are less easily quantifiable but may factor into the decisions that borrowers make about where
they choose to obtain loans. In this sense, interest rates are not the only factor that affect demand
for and access to loans (ibid).

Impact on the poorest

A review by the Asian Development Bank (ADB) (Fernando, 2006) argues the high cost of loans
means the majority of the poorest people have not been reached. High interest rates also prevent
the use of loans for activities that produce low returns, for instance farming activities. This is
because ‘only those who can generate a sufficiently high surplus of funds can afford high interest
rates on microcredit. More specifically, a borrower's realized rate of return on investment needs
to be greater than the interest rate to service the loan’ (p.7). The report explains that although
some enterprises with very high margins do exist in the region (petty trading, small-scale
restaurants, bakeries, and micro-livestock activities) most investment opportunities typically
involve more moderate returns. Households using loans in these ways do not have the same
capacity to service high-interest loans because they are not making high enough returns on their

21
investment. Indeed, poorer households are more likely to invest in low-return activities,
including health, education and basic needs. The report concludes that it is, therefore, important
to lower microcredit interest rates to enable the poorest households to benefit.

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 CHAPTER 3

3.1 METHODOLOGY OF THE STUDY

The term methodology is a system of explicit rules and procedures in which research is based
and against which claims of knowledge are evaluated (Ojo, 2003). Therefore, this section focuses
on the research techniques adopted and used for this study with the aim of achieving the research
objectives.

3.2 Research Design

Research design is the blueprint for fulfilling research objectives and answering research
questions (John et al., 2007). In other words, it is a master plan specifying the methods and

procedures for collecting and analyzing the needed information. It ensures that the study would
be relevant to the problem and that it uses economical procedures. Descriptive study design
would be adopted in this study. Descriptive study design research design was chosen because the
sampled elements and the variables that are being studied are simply being observed as they are
without making any attempt to control or manipulate them.

3.3 Types and Sources of Data

In this study, both primary and secondary data used in order to obtain relevant data to analyze the
consequence of interest rate on saving and credit in vision microfinance institution Dilla branch.
In order to realize the target, the researcher used well-designed questionnaire as best instrument
to gather primary data from clients of vision microfinance institution Dilla branch. In this study
the structured open-ended interview was employed to obtain more in-depth exploration of
officials’ opinion on interest rate, its effect on operation and challenges.

3.4 Sample Design

The population of this study is all clients of vision microfinance in Dilla branch. The population
size is 1000 clients consisting staff members. Out of this, 10% that was 100 samples were
selected to respond the questionnaire because as a rule of thumb it is presumed that taking 10 %

23
of a population considered being representative sample. In addition, 3 officials were selected
purposively for interview in order to get relevant data for the study.

3.5. Sampling Method

Vision micro finance institution in Dilla town has one branch in Dilla town and the study focus
on selecting samples from the branch clients. To manage the research within the given time and
limited budget, random sampling technique was used to select 100 clients to participate in the
study and purposive sampling technique was used to select 3 officials for interview.

3.6 Methods of Data Collection

The study approach was both quantitative and qualitative inquiries using both primary and
secondary data sources. The primary data was going to be obtained through structured
questionnaires, and interviewing the concerned parties such as clients and officials of Vision
Dilla branch. Structured questionnaires were used to collect information from clients on various
dimensions of the study focus.

The interview was conducted with officials of institution to answer question regarding interest
rate and its effect on saving and credit and challenges by the institution.

Secondary data were obtained from documents that includes the annual financial reports of the
institutions such as income statement, and the balance sheet data and annual performance reports
and also from internet.

3.7 Methods of Data Analysis

The quantitative data were analyzed by using different statistical tools like mean, average,
percentage, tabulation to address the objective of the study. Moreover, qualitative data that were
gathered through interview would be analyzed using descriptive narrations method.

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 CHAPTER FOUR

4. DATA ANALYSIS, INTERPRETATION AND PRESENTATION

This chapter deals with the presentation, analysis and interpretation of data gathered by using
questionnaire. The questionnaire was distributed for 100 employees of the microfinance All the
returned questionnaires were complete and considered for the analysis that follows.. The
respondents’ profiles are classified in to different categories based on their sex, age, educational
level, current job position and years of experience. The details for each stratum are displayed on
the table below and it is analyzed one –by – one.

4.1 characteristics of the respondents

Table 4.1: Count and percentage of the demographic characteristics of the respondents

Demographic Variables Frequency Percentage

Sex of Respondents
Male 83 83.0
Female 17 17.0
Total 100 100.0

Age of Respondents

18-30 43 43.0
31-40 17 17.0
41-50 33 33.0
Above 50 years 7 7.0
Total 100 100.0
Educational Level of Respondents
Illiterate 0 0.0
Grade 1-8 36 36.0
Grade 9-12 40 30.0
College diploma 24 24.0
First degree and above 0 0.0

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 Total 100 100.0
Source: Own survey, 2014

As it can be seen from the table above, majority of the respondents or owners 83(83.0%) were
male while 17 (17.03%) were female. The other demographic character is age of the respondents,
in this regard 43 (43.0%) of the respondents were the age in between 18-30 while 17 (17.0%)
were the age of the respondents in between 31-40, and 33 (33.0 %) and 7 (7.0%) were the age of
the respondents in between 41-50 years and above 50 years respectively.

In Table 4.1 above, 36 (36.0%) of the respondents were elementary school completed, 40
(40.0%) of the respondents were secondary school completed, 24(24.0%) of the respondents
were College diploma holders and none of the respondents were holding first degree and above.
Therefore their educational qualifications of the respondents or business owners were
proportionally elementary and secondary school completed.

4.1.1Occupation wise distribution of respondent

The occupation of the respondents ranges from self-employed, petty trade service giving, and
government office employed. The researcher has made the following general categories to
summarized respondent response shown in the table below.

Table4.2: Occupation of the respondents

Type of occupation Frequency Percentage

Unemployed - 0
Self employed 75 75
Government employed 15 15
Other 10 10
Total 100 100
Source: Own survey, 2014

The above table indicates that the majority of the respondents (75%)are self-employed and the
remaining are workers of government office(15%) and other type of occupation (10%). From this
it indicates that most of respondent are self-employed.

26
Table4.1.2: Income level of respondent

Income level Frequency Percentage

Below 1000 74 74%
1000-2000 16 16%
2000-5000 5 5%
Above 5000 5 5%
Total 100 100
Source: Own survey, 2014

As shown in table 3.6 above, 74% of the respondents are earning monthly income of below Birr
1000, followed by16% who were between Birr 1000-2000. The table also shows that income
level under the range of Birr 2000-5000 and above 5000 constitutes 5% participation. It indicates
that large percentage of respondent (74%) get monthly income of below Birr 1000.

4.2 Interest Rate related question

4.2.1 Credit taking in the association

One of the main objectives of the association is giving credit to members. One of the questions
asked were credit taking related issues which is demonstrates in the table below.

Table 4.4 : Credit taking in the association

Question Yes No Question Yes

Frequency Percentage Frequency Percentage
Have you taken
credit from the 95 95 5 5
association

27
 Is there any
difficult to pay 93 93 7 7
your debit
Source: Own survey, 2014

From the above table, 95% of the respondents answered that they have taken credit from the
association; on the other, 5 % of them do not take credit from the association.

From the respondent who taken credit from their association 93 % difficulty in returning their
loan back while the remaining 7 % have said that they have not faced any problem in returning
their lone.

Of those who have faced difficulty to return back the credit, respondents have giving higher
interest rate as a reason while the remaining answered that their failure is due to difficulty of
their aims.

4.2.2 Saving and credit solving problem

The following table presents problems regarding saving and credit.

Table4.5: Problems regarding saving and credit

Question Yes No
Frequency Percentage Frequency Percentage
Do you think
that saving and 96 96 4 4
credit institution
solving the
problem for you
Source: Own survey, 2014

As it shown in the above table from the 100 respondent saving and credit institution solve the
problem for 96% of the respondent but 4% are not satisfy in the institution so most customer of
vision were solved some problem to them.

4.2.3 Member withdrew from the member

28
Interest rate is becoming a cause for members discontinue from the association sampled member
were asked whether they know other member discontinue membership due to interest rate the
research gather the following data related to this question.

Table4.6 peoples who withdraw the member ship due to interest rate

Question Yes NO
Frequency Percentage frequency persentage
Do you know a
person who
withdraw the
10 10 90 90
member ship due
to interest rate
related issue
Source: Own survey, 2014

As it show in the above data 10 of the respondent know persons who are unable to repay their
loan due to interest rate and forced to withdraw from their member ship there is 95% of the
majority respondent have no information on such related issue.

Among the respondents who are asked whether they know members who resigned from
membership and their reasons replied that high interest rate was the major reason for
withdrawing from membership.

4.2.4. Interest rate and investment opportunity

For interest rate and investment opportunity question the researcher gather t he following data

Table4.7 Investment opportunity and interest free saving and credit

Question Yes No Question Yes

Frequency Percentage Frequency
Do you think that 100 100 0 0
interest free saving and
credit will that increase

29
 your investment
opportunity
Source: Own survey, 2014

As shown in the above among 100 respondents surprisingly the whole 100 of the respondent
agree with investment opportunity will increase if they get interest free saving and credit this
data indicate that responsible body must find another alternative rather using current and credit
system.

4.2.5 Reason for not use in the credit and saving

According the researcher the following data regarding to the reason why population is not more
population is not more participate in the association is presented below.

Table4.8: the reason why not use credit from

Item Description Respondent Percentage

If you are not user of a. have no money shortage 3 60
credit in the b. due to high interest rate 2 40
association what is the c. due to prohibited interest 0 0
reason d. have another alternative 0 0
Total 5 100
Source: Own survey, 2014

According the researcher the following data regardless of the reason for difficult to pay back the
debit is presented below.

Table4.9: The reason that difficult to pay their debt

Item Description Frequency Percentage

What is your reason a. higher interest rate 15 15
for difficulty to pay b .difficulty of your aim 60 60
back your debt c. forgetting 10 10
d. no difficulty 15 15
Source: Own survey, 2014

30
As it shown in the above table 60 of the respondent difficulty of their aim .the reason for 10 of
the respondent are forgetting. In the same 15 of the respondent due to high interest rate and no
difficulty of their aim is major reason for difficulty to pay back their debit

4.2.6 Use of saving and credit

Most of community uses the services for different reason the following data collected by the
researcher.

Table4.9: The reason why use saving and credit and their use of the frequency

Item Description Frequency Percentage

What is your reason a. Safe my money - -
for using saving and from the theft
credit b. to get lone 65 65
c. to use saving 25 25
c. to earn interest 10 10
e. other
Total 100 100
What is your a. every day 0 0
frequency using the b. frequently 21 21
service c. occasionally 79 79
Total 100 100
Source: Own survey, 2014

As it is in the above table most respondent use the service to get lone of the respondent65 of the
respondent reason is to get lone from the association 25 of the respondent use saving the other 10
were to earn interest

Among the respondent 79 were use this service occasionally of the rest were frequently use 21 in
the same percent not much more every day in the association.

4.2.7. The purpose of interest rate in saving

31
As it is known saving earn interest even if the rate is different bank and other association the
researcher collected the following data related to interest rate and its purpose.

Table4.10: the purpose that use of saving

Item Description Frequency Percentage

If you earn interest in a. I never taken the 10 10
saving what purpose interest from the
do you use service 25 25
b. for payment of tax
and employees 50 50
salaries
c. I take interest and
spend it for my 15 15
personal use
d. I take it and given
to the poor
Total 100 100
Source: Own survey, 2014

From the total 100 respondent as shown in the above table who have used saving10 disclosed
that they have never taken the interest from the service rather they simply it in the association
without any return 25%of the users take the interest from the service and utilizing it for payment
of tax and employee salary .the other50%, 15%take the interest and pended it for their personal
use and giving to the poor respectively. The researcher can say most of users use their interest for
personal use.

The association lends their money with principal and interest most users are difficult to use loan
with interest the researcher collect the following data regarding loan and interest rate

32
Table4.11: The handle that shortage of finance

Item Description Frequency Percentage

If you have never a. Borrow from 25 25
used lone with interest friends 25 25
how do you handle b. using collateral
the shortage of without interest 10 10
finance c. confidence to my
capital 40 40
d. other
Source: Own survey, 2014

As it is show in the table above 25of the respondent where borrow from friend and relatives in
the same manner 25 where say using collateral without interest 10,40were tell confidence to their
capital and it

4.2.8 Loan provision methodology of the institution

Most of the time the company or institution of saving and credit give loan to their customer
based on the methodology that they have .according to the researcher the following data
regardless of method of saving and credit is presented below.

Table4.12: the methodology that institution follows given credit

Item Description Frequency Percentage

Which kind of A .group base 65 65
methodology the b. individual basis 35 35
institution follows
given credit to you?
100 100
Total
Source: Own survey, 2014

33
As it is shown the above table vision credit and saving use both grouped and individual base of
methodology. From the total respondent 35% of the customer get lone in group base to get loan
from the institution.

4.2.9 Payback period

Customer want pay back their debt in short period of time unless the institution charge large
amount o f interest if the time is longer. According to the researcher the following data related to
payment of customer debt to the institution presented below.

Table4.13: The year that repay the debit

Item Description Frequency Percentage

If you take loan a. before 1 year 18 18
before how many b.1-3 82 82
years do you c.3-6 0 0
need to repay the d. above 6 0 0
debt
total 100 100
Source: Own survey, 2014

As it is shown in the table above vision saving and credit paid their debt not more than 3 year
from the total respondent 95%of them need 1-3 years to pay their debt,3%of the respondent need
3-6years the other 6-10 and above 10 no respondent

4.2.10 Income generating activity of the costumer

Generating income is the task of all people but there are different types of generating activity. the
researcher gather the following data related to in what area income generating activity dose
costumer of vision saving and credit participant .

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Table4.14: the activities that to get income

Item Description Frequency Percentage

In what area income A agriculture 82 82
generating activities B petty trade 8 8
do you engage C service giving 6 6
D other 4 4
Source: Own survey, 2014

As it is shown in the above table 82%of the respondent participates in the agriculture 8%of them
are in petty trade 4%of them wear other area of income generating activities. The researcher can
say agriculture is basic income generating sector to costumer vision saving and credit.

For the question ‘What are the major challenges of Vision microfinance?’, respondents responses
is summarized in the following major themes.

 All of the respondent are answered that they have high interest rate
 By this reason they do not borrow from the institution
 The unbalance of their profit and interest
 When interest rate is high productivity low
 Prohibited by their religion

CHAPTER 5
35
 CONCLUSIONS AND RECOMMENDATIONS
5.1 Conclusions

The study was conduct with the general objective the consequence of interest on saving and
credit association. To fulfill this general objective the researcher has gathered relevant
information from respondents through structured questionnaire. The data are presented, analyzed
and interpreted in the preceding chapter and then by summarizing the overall analysis and
discussion of the data presented and the finding obtained the researcher has come up with the
following conclusion about that interest rate on saving and creditors the researcher was done.

 Available data indicates that microfinance interest rates typically fall between 20 per cent
and 35 per cent per year. From this it can be concluded that such interest rates can erode
surpluses generated by borrowers, leaving them with little net gain. There is also concern
that high rates reduce the demand for and uptake of financial services from MFIs.

 High interest on loans is disliked by borrowers and may intensify their financial burden,
it is clear that interest rates are not the only element of pricing that affect user’s capacity
to make repayments on time.

 High interest rates may be particularly harmful in instances where investments yield low
financial returns. Based on the findings of this study, the types of activities that poor
people use microcredit for typically generate moderate returns which reduce their
capacity to service high interest loans. Likewise, where microcredit is used to increase
consumption, as opposed to making productive business investments, it may be infeasible
to expect that high interest loans can have a positive effect on the saving of poor
households in the short term.

5.2 Recommendation

Having identified both the results and discussion emanated from the relevant data, the researcher
provided some significant recommendation. So to fill gap concerning to those implementation
consequence of interest on saving and credit association strength is an important tool for
effective performance.

36
 That the association must minimize the interest rate and lend more to their members so as to
enhance saving by microfinance institution members very low. On the other hand, interest
members obtain from the money they save is minimum and this in turn has a discouraging
effect on saving behavior of MFIs members. Therefore, vision MFI should increase the
interest rate to enhance saving culture of its members.
 Since most of the members of MFIs generate minimum profit, they do not have capacity to
pay back their loans with in 1year, because most of the members are engage on agricultural
sectors. So they can’t get any income until end of the production process. Therefore, it is
advisable to extend the payback period in order to minimize borrowers’

37
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