The effects of pricing strategy on the efficiency and self-sustainability of microfinance institutions: a case study

Abstract

To become financially self-sustainable, Microfinance Institutions (MFIs) trigger a schism in their management modes, thereby promoting efficiency and competitiveness. The increase of competition in the microfinance sector motivated by the entry of banks into this industry is another incentive for MFIs to implement advanced management systems. Pricing systems and credit-scoring models should contribute towards the efficiency of MFIs, thereby improving their competitiveness and self-sustainability in an increasingly constrained environment. However, to the best of our knowledge, no empirical evidence exists on the application of pricing strategies by MFIs. Therefore, this paper builds a microcredit-pricing system and determines the capital requirements inspired by the Basel III Internal-Rating Based (IRB) approach, which is underpinned by multilayer perceptron (MLP) credit-scoring. We find that the implementation of an IRB approach allows the analyzed MFI to reduce its capital requirement and current interest rates by $200,000 and 30.12%, respectively. Moreover, this approach constitutes a relevant tool for the control of credit risk and the minimization of default losses. Consequently, the adoption of pricing and credit-scoring systems provides MFIs with a power management tool to compete against banks by reducing the interest rate, capital requirements, and credit losses, and therefore increases their financial self-sustainability.