Informal Lending Amongst Friends and Relatives: Can Microcredit Compete in Rural China?

This paper focuses on the relationship between informal and formal lending and their possible effects on the emerging MFI market in China. More specifically, it investigates the strength of trust and other factors in informal and formal lending. The paper employs results from a 2007-2008 survey of over 1,500 farm households in three Chinese provinces that investigated credit choice and trust in relation to farm size and household income. The study indicates that:

• Informal lending amongst friends occurs in more than 67 percent of households that have some form of debt;
• Only one in three households use formal lending, with only a miniscule number using money-lenders and none using MFI credit;
• Informal ties between friends and relatives crowds out not only rural credit cooperatives that make microloans, but also registered MFIs.

Finally, MFIs in China should not assume that they will be successful. In terms of microcredit policy, MFI executives should investigate the strength of informal lending between friends and relatives in rural areas as one of the key determinants of success.