CAFIN publishes three new working papers

April 15, 2016

The Center for Analytical Finance (CAFIN) publishes three new working papers on the website.

Adding to the center's cutting-edge research is "Are Banks Responsive to Exogenous Shocks to Credit Demand in Rural Economies?  District – level Evidence from India" by Sankar De and Siddharth Vij. This is the 23rd paper the center has published.

The abstract reads: "In the existing literature on rural financial markets in emerging economies, there has been much discussion on local bilateral contracts and mutual insurance arrangements, which are inadequate to deal with the typically correlated risks that individuals and households face in the rural sector. There have been discussions also on the costly and inefficient strategies that the households adopt to smooth their income or consumption. The discussions rest on the implicit premise that the financial intermediation system in the rural economy is inefficient in insuring the individual agents against idiosyncratic shocks to their income and consumption. However, the premise itself has remained largely unexamined. Using extensive district-level rainfall and bank credit data from India, we investigate whether the commercial banks respond positively to exogenous shocks to credit demand in the rural economy in the wake of droughts. We find that banks increase agricultural credit in drought-affected years compared to years of normal rainfall, but not personal loans or other types of non-agricultural credit. Further, agricultural credit increases in the intensive margin (average loan size per account), but not in the extensive margin (the number of accounts). We also find that private banks increase credit more than public-sector banks. Overall, our findings offer positive evidence on the role of commercial banks in rural financial markets and, in the process, contribute to several existing literatures." The working paper can be downloaded here.

"Borrowing Culture and Debt Relief: Evidence from a Policy Experiment" by Sankar De and Prasanna Tiwari is the 24th paper the center has published.

The abstract reads: "The present paper investigates the effects of a large-scale debt relief program for delinquent borrowers on ex post loan repayment behavior of the relief recipients and on their access to new credit. We use audited transactions data of the loan accounts of a large sample of borrowers before and after a nation-wide rural debt waiver program undertaken by the Indian government in 2008, one of the largest such programs in history. Program eligibility cut-off based on landholdings of the farmers in our sample allows us to employ robust regression discontinuity designs as well as difference-in-difference methodologies in order to causally estimate the impact of the waiver program. We find no evidence that unconditional debt waiver leads to improvement in ex post behavior of the waiver beneficiaries. Moral hazard on the part of the borrowers caused by expectations of more waivers in future explains our findings. Further, we find indirect evidence that, rationally anticipating adverse borrower behavior, the loan officers ration credit, resulting in ex-ante inefficiency in credit markets. In order to disentangle demand and supply side factors  in credit supply, we use unique loan officer level data and exploit mandatory loan officer rotation policy in Indian public sector banks. In sum, our work provides empirical evidence on both hidden information (ex ante selection based on unobserved anticipated efforts) and hidden action (ex post incentive effects) implications of a large government-initiated debt relief program. In the case of an unconditional debt waiver program, both types of evidence are negative.The working paper can be downloaded here.

The 25th working paper is "Financial Development and Conflict Mitigation: Can Finance Combat Conflict?"

The abstract reads: "A typical conflict is a complex phenomenon. It can have multiple roots; social (ethnic and religious   differences), political (civil wars), economic (control of natural resources in a contested area). In this   paper, we investigate whether a given economic intervention can mitigate domestic conflicts of different  types, regardless of their different origins and characteristics. The intervention that we consider is   financial development, measured either as an increase in bank credit supply or an increase in the number   of bank accounts, in a conflict-affected area. Using a model as well as extensive empirical tests with   district-level data from India comprising different types of conflicts over a long sample period (1983-  2010), we find consistent evidence that supports our model’s prediction that financial development   mitigates conflict, and that this negative relationship holds for conflicts of all types. Employment growth  and economic expansion due to financial development serves as a beneficial channel from financial   development to conflicts. Multiple identification checks establish causality of our findings. The findings   suggest that all conflicts share common economic underpinnings, in particular low opportunity costs of   conflict participation for the rank file insurgents. Consequently, conflicts of different types respond   similarly to a given economic intervention that raises the opportunity costs. Our findings have important   policy implications." Download the paper here.

All working papers, currently 25 in total, can be viewed on the CAFIN website here. The Center for Analytical Finance is a group of researchers whose aim is to solve real-world problems of finance in a globalized financial system.