Loan Repayment and its Determinants in Small Scale Enterprises Financing in Ethiopia: Case of Private Borrowers Around Zeway Area

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2002-06

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Addis Ababa University

Abstract

One of the most crucial and leading factors constraining Small Scale Enterprises (SSEs) development in developing countries like Ethiopia is limited access to financial capital and credit especially from the formal lending agents. This is because on the one hand, these enterprises couldn’t fulfill the bank’s lending requirements and on the other, the banking sector considers these enterprises as involving high credit risk. This study is conducted with the aim of identifying the major factors behind the loan default problem of SSEs with particular reference to Development Bank of Ethiopia (DBE). In an attempt to analyze the determinants of loan repayment status of borrowers and to identify the criteria employed to ration credit two equations-loan repayment and rationing equations were estimated using survey data. The estimation result employing tobit model reveals that having other source of income, education, work experience in related economic activity before the loan and engaging on economic activities other than agriculture are enhancing while loan diversion, being male borrower and giving extended loan repayment period are undermining factors of the loan recovery performance of projects. With regards to the loan rationing mechanism, it is found that borrowers who secured high value of collateral and those with relatively longer repayment period were favored although they tend to be more risky while those with higher equity share and extensive experience in related activity were disfavored. This leads to the conclusion that the bank’s rationing mechanism didn’t much with the repayment behavior of borrower. The result leads to the suggestion that, the bank’s rationing technology should be revised in such a way that Small Scale Entrepreneurs who have the managerial and entrepreneurship capacity but don’t have sufficient credit access due to stringent collateral requirement could make use of the financial resource of the country and thereby contribute towards the envisaged development target as well as the bank to get out of the loan default problem

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Economic Policy Analysis

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