Credit's limited impact on smallholder farm profitability

One reason that formal credit products had a low impact was that smallholders did not use them. In particular, the repayment terms of traditional microcredit products are not well designed for rural, agricultural contexts. Repaying loans on the rapid, regular schedule required by traditional microcredit is difficult for farmers—who earn income primarily at harvest time, once or twice per year. Moreover, microcredit often relies on group liability, in which a group of borrowers jointly holds responsibility to repay one another’s debt. The risk of bad weather, which could affect many farmers in an area, undermines the ability of farmers’ to repay another farmer’s default. Together, this mismatch between microcredit borrowing terms and farmers’ credit needs can dampen farmers’ interest in using these products. In studies in Mali [2], Malawi [3], andMorocco [4],only between 17 and 33 percent of eligible farmers took up the loans that they were offered.

When they helped farmers overcome a lack of cash, financial products enabled smallholders to invest more in productive technologies and practices. Households who took up loans in Morocco invested more in agriculture and animal husbandry [4]. In Ethiopia, microcredit increased crop-related expendituresby ETB 154 (US$68), an 83 percent increase[6]. In Zambia, loans timed to provide farmers with cash or food between harvests allowed smallholders to work 23 percent less on others’ farms for cash and hire labor to work on their own land [7].

Using credit products to invest in more productive technologies and practices rarely increased smallholders’ profits or income, suggesting that lack of access to credit is not the main barrier to improving their profitability. In Mali, loans increased the value of farm outputs but did not increase profits [2]. In Morocco, while credit increased income from agriculture, households’ overall income did not increase because they chose to work (and earn) less from casual labor once they started earning more from agriculture [4]. In Kenya, offering a bundle of credit and services to support exporting encouraged more farmers to grow crops that sell at higher prices but did not result in income gains [8].

Tailoring products to agricultural contexts can improve the take-up and impact of credit. For example, smallholders’ income and input expenses are concentrated at harvests and planting seasons. Timing credit offers and repayment requirements to account for these seasonal patterns can help encourage take-up and investment. In Kenya, loans were offered at the time of harvest to encourage farmers to sell when prices were highest, and 64 percent of farmers took up the loan offer [9]. In Zambia and Mali, lenders allowed farmers to delay repayment of a loan until after the harvest.In Zambia, in each of the two years offered loans, 98 percent of households opted to borrow, and agricultural output rose by 8 percent[7].In Mali, smallholders who were offered loans repayable after harvest invested US$20 (11 percent) more in inputs in the first year [2].

Other strategies to tailor credit products could include flexible collateral arrangements. In Kenya, a dairy cooperation extended asset-collateralized credit offers to smallholders to purchase a water tank, and loan payments were deducted from milk sales. If borrowers failed to repay, the cooperative would repossess the tank [10]. Under the most flexible terms, 44 percent of farmers borrowed, whereas 2.4 percent of farmers took up a loan under the strictest terms. Another flexible collateral arrangement allowed smallholders to use stored crops to secure a loan. In Kenya, farmers who were offered storage loans timed to the agricultural cycle, in which credit is backed by stored crops, increased their annual profits by KSH 1548 (US$18) by taking advantage of price fluctuations [9]. However, storage loans in Sierra Leone had no effects on profits, likely in part because farmers were reluctant to break existing relationships with traders and struggled to predict price changes [5].

The higher take-up rates and evidence of changes in production decisions suggest that credit tailored to the agricultural cycle may support smallholders’ investments more effectively than traditional credit products. More research is needed to develop and test credit product designs that fit smallholders’ borrowing needs with respect to timing of offers, repayment structures, and collateral agreements.