Borrowing to Save

Abstract

Poor families often borrow even when they have savings sufficient to cover the loan. The practice is costly relative to drawing down one’s own savings, and it seems particularly puzzling in poor communities. The families themselves explain that it is easier to repay a moneylender than to “repay” oneself, an explanation in line with recent findings in behavioral economics. In this context, high interest rates on loans can help instill discipline. While workable, the mechanism is hardly optimal; options could be improved through access to a contractual saving device that helps savers rebuild assets after a major withdrawal.