Hierarchy in Group Lending: Embezzlement, Joint Liability and the Optimal Rigid Lending Contract (Very Preliminary)

We consider bank staffs agency problem (i.e. embezzlement) in the context of microÞnancing and study the optimal lending contract. The fact that most borrowers of microÞnancing programs are illiterate and live in rural areas where transportation costs are very high make staffs embezzlment particularly relevant as is documented by Mknelly and Kevane (2002). We study the trade-off between the optimal rigid contract and the optimal discretionary contract and how joint liability affects the trade-off. Our analysis explains two main features of the lending contracts used by Grameen bank, rigid repayment schedules and joint liability, as optimal responses to bank staffs agency proble