Loan Officers Impede Graduation from Microfinance: Strategic Disclosure in a Large Microfinance Institution

One of the most important puzzles in microfinance is the low rate of borrower graduation to larger, more flexible loans. Utilizing observational and experimental data from a large Chilean microfinance institution, we demonstrate that loan officers impede borrower graduation due to common features of their compensation contracts. Our partner lender offers both microloans and larger, more flexible graduation loans, and relies on loan officer endorsements to determine borrower graduation. Loan officers are rewarded for the size of their portfolio and repayment, and so are implicitly penalized when good borrowers graduate. In an experiment designed to isolate strategic disclosure, we modify compensation to reduce this implicit penalty and document that loan officers withheld endorsements of their most qualified borrowers prior to the shift. Graduated borrowers endorsed after the shift are 34% more profitable for our partner lender than those endorsed beforehand. A back-of-the- envelope calculation suggests that strategic behavior of loan officers accounts for $4.8-29.2 billion in lost social value from forgone borrower graduations in microfinance worldwide. Our experimental design may prove useful for other experiments within firms.