ESTIMATING THE EFFECTS OF FORMAL AND INFORMAL CREDIT ON FARM HOUSEHOLD WELFARE:A HIERARCHICAL COMPETITIVE WELFARE MODEL APPROACH

Abstract

This paper uses the hierarchical competitive welfare model approach to estimate the effects of credit from formal and informal sources on welfare development of farm households in Ghana. Data used for the econometric analyses came from the living standards survey Round 5 dataset. The results showed that when a farm household is given Gh100 as formal credit, its welfare expenditure would increase by about Gh6.On the other hand,Gh100 given to a farm household as informal credit reduces its welfare expenses by about Gh10. There are two possible explanations for the negativity of informal credit on household welfare expenses. The first is that most informed credit is delivered in material forms of cash, which therefore reduces how much borrowing households expend on those materials. The second possible explanation is that informal credit borrowers get trapped in the vicious cycle of poverty such that it reduces their capacity to expend towards the attainment of their welfare outcomes such as food security, healthcare, education and general well-being. A paradigm shift towards the integration of formal and informal financial markets of Ghana is recommended.