Effects of Interest Rate Ceiling on Sustainability of Microfinance Institutions: Lessons from Tanzania

Abstract

This study explores the effects of an interest rate ceiling on the sustainability of Microfinance Institutions(MFIs). Based on qualitative research which entailed collection of online data from 53 respondents andin-depth face-to-face interviews with 10 MFI practitioners in Tanzania, it is evident that an interest rateceiling interferes with competitive market forces. Given that MFIs vary in size, operational capacity,customer segment and business model, applying a single blanket interest rate leads to capital and creditdiversion, hidden non-interest charges, the emergence of informal lenders and a black market, thewithholding of credit from risky markets and the closure of some MFIs. Accordingly, an interest rateceiling impairs the sustainability of MFIs and reduces financial inclusion. The study demonstrates thatwhile competition moderate interest rates, non-interest measures can be applied to protect customers frombeing exploited by unscrupulous lenders.