Testing Referrals for Peer Screening and Influencing Repayment

1. Screening Incentive Group: Referrers in the first group received a bonus if the person they referred was approved for a loan. As a result, they had an incentive to screen for candidates who were likely to get approved for a loan based on observable characteristics.
2. Screening and Enforcement Incentive Group: Referrers in the second group received a bonus if the person they referred was approved and subsequently repaid the loan on time. They had an incentive to both screen for creditworthiness and encourage repayment.
Once the referrals were approved, researchers introduced a second stage of randomization, which changed the initial set of incentives that referrers faced.

1.a. After loan approval, no change. 1.b. After loan approval, enforcement incentive added (ie. offered an additional bonus of US$12 if the person they referred repaid the loan)

2.a. After loan approval, enforcement incentive removed, (ie. received a bonus as soon as their referee’s loan was approved.) 2.b. After loan approval, no change.

2008-02-01

2009-07-01

Incentives for peer enforcement, peer selection

Researchers partnered with Opportunity Finance South Africa to test its Refer-A-Friend program, which offered existing clients the opportunity to receive a bonus for referring a friend who met particular criteria. In order to test whether people have information about the reliability of their peers and can enforce loan repayment, referrers were randomly divided into two groups, each of which received a different set of incentives. Researchers measured screening and enforcement effects by comparing repayment performance and default rates of loans referred by people facing different incentive structures.

Randomization was done by computer at Opportunity Finance South Africa (Opportunity) who handed out referral cards.

Individual level (borrowers)

No

N/A no cluster

4,408 borrowers. Of the 4,408 cards that were handed out, 430 were returned and 245 of these referred clients were approved for a loan.

(a) Penalty Interest Charged by Lender (N=245)
(b) Positive Balance Owing at Maturity (N=240)
(c) Portion of Loan Value Owing at Maturity (N=240)
(d) Loan Charged off By Lender (N=239)

Empirical evidence on peer intermediation lags behind many years of lending practice and a large body of theory in which lenders use peers to mitigate adverse selection and moral haz- ard. Using a simple referral incentive mechanism under individual liability, we develop and implement a two-stage field experiment that permits separate identification of peer screening and enforcement effects. We allow for borrower heterogeneity in both ex-ante repayment type and ex-post susceptibility to social pressure. Our key contribution is how we deal with the interaction between these two sources of asymmetric information. Our method allows us to cleanly identify selection on the likelihood of repayment, selection on the susceptibility to so- cial pressure, and loan enforcement. We estimate peer effects on loan repayment in our setting, and find no evidence of screening (albeit with an imprecisely estimated zero) and large effects on enforcement. We then discuss the potential utility and portability of the methodological innovation, for both science and for practice.

Gharad Bryan, Dean Karlan, and Jonathan Zinman. 2014. “Referrals: Peer Screening and Enforcement in a Consumer Credit Field Experiment.” American Economic Journal: Microeconomics, Forthcoming.

https://www.povertyactionlab.org/evaluation/testing-peer-screening-and-enforcement-microlending-evidence-south-africa