Importance of the Informal Financial Market for Rural Development Financing in Developing Countries: The Example of Pakistan

Using Pakistan as a case study, explores government credit policies, rural financial markets, the informal credit markets, and the expansion of the formal credit system.

Notes that the informal credit market is of crucial importance in the rural areas in Pakistan, even after decades of considerable development of formal credit organisations and of subsidised credit programmes by the government. This is mainly due to the fact that informal credit relations are embedded in the economic, political, and social interaction networks of rural inhabitants. These interaction networks also maintain direct credit costs at low levels. However, the national development policy underestimates or even negates the significance of the informal financial market.

Concludes that:

• The effectiveness of establishing a formal financial credit system in order to satisfy actual credit requirements within the short term is largely overestimated;
• The informal credit market is underestimated;
• In terms of development policy, it would be worth considering whether a dualistic agricultural credit system (formal and informal credit market) should be promoted during a period of transition until the formal institutions become fully effective. This means strengthening the informal credit system in view of improving competition, transparency, and refinancing possibilities.

[Author's abstract]