What is the aggregate and distributional impact of microfinance? To answer this question, we develop a quantitative macroeconomic framework of entrepreneurship and financial frictions in which microfinance is modeled as guaranteed small-size loans. We discipline and validate our model using recent empirical evaluations of microfinance programs. We find that the impact is substantially different in general equilibrium and in partial equilibrium. In partial equilibrium, aggregate output and

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... l increase strongly with microfinance but aggregate total factor productivity (TFP) falls. When general equilibrium effects are accounted for, scaling up microfinance has only a small impact on per-capita income, because an increase in TFP is counterbalanced by lower capital accumulation resulting from the redistribution of income from high-savers to low-savers. Nevertheless, the vast majority of the population is positively affected by microfinance through the increase in wages. Over the past several decades, microfinance-i.e., credit targeted toward small-scale entrepreneurial activities of the poor who may otherwise lack access to financing-has become a pillar of economic development policies. In recent years, there has been a concerted effort to expand such programs with the goal of alleviating poverty and promoting development. 1 Between 1997 and 2006, access to microfinance grew by up to 29 percent a year, reaching a scale at which macroeconomic considerations become relevant. The Microcredit Summit Campaign as of 2010 reports 3,552 institutions serving 155 million borrowers, which, including borrowers' households, affect 533 million people, roughly the size of Latin America. For various countries, microfinance loans represent a significant fraction of their GDP. 2 Despite the growth and prevalence of microfinance and its importance in academic and policy circles, quantitative analyses of these programs are almost exclusively limited to microevaluations. The macroeconomic effects of economy-wide microfinance have been largely unexplored. Our paper is an attempt to fill this void by providing a quantitative assessment of the potential impact of economy-wide microfinance availability, with particular attention to general equilibrium (GE) effects. Because long-run, aggregate effects of microfinance are beyond the scope of the microevaluation methods, we develop a quantitative theoretical framework. However, we draw upon recent microevaluations of real-world microfinance programs to discipline and validate our model. We find that the typical microfinance program, when made widely available in an economy, can have significant aggregate and distributional impacts, and that the GE effects through wages and interest rates are quantitatively important. In partial equilibrium (PE), where prices are assumed to be unaffected, microfinance induces a high rate of entry among marginally productive entrepreneurs, increasing the capital/labor demand and output but lowering the aggregate total factor productivity (TFP). In GE, however, the increase in wage that results from marginal entrepreneurs selecting out of the labor supply-and demanding labor instead-has strikingly different impacts on output, capital, and TFP. In redistributing income away from individuals with high saving rates (high-productivity entrepreneurs) to those with low saving rates (marginal entrepreneurs and workers), microfinance leads to lower aggregate saving and capital accumulation. Higher wages and interest rates also lead low-productivity entrepreneurs to exit, and the aggregate TFP actually increases with microfinance in contrast to the PE result. In net, the 1 The United Nations, in declaring 2005 as the International Year of Microcredit, called for a commitment to scaling up microfinance at regional and national levels in order to achieve their Millennium Development Goals. The scaling up of microfinance is usually understood as the expansion of programs providing small loans to reach all the poor population, as opposed to increasing the average size of loans. 2 Examples are Bangladesh (0.03), Bolivia (0.09), Kenya (0.03), and Nicaragua (0.1), as calculated using loan data from the Microfinance Information Exchange and domestic price GDP from the Penn World Tables. including one with consumption loans, predict short-run increases in consumption consistent with point estimates in empirical studies. Having validated the model's empirical relevance against available data, we use the model to simulate and quantify the long-run effect of economy-wide microfinance on key macroeconomic measures of development-output, capital, TFP, wage, and interest rates-and its distributional consequences. Such long-run, aggregate effects elude the methodology at the core of the microevaluations, and this is why we have developed our quantitative framework. We start with an equilibrium without microfinance, and raise the size of the loans that are guaranteed by microfinance and available to everyone. We first analyze the long-run impacts (i.e., comparisons across steady states) in partial equilibrium and then in general equilibrium. In the long-run PE case, wages and interest rates are held fixed and markets are not required to clear. For guaranteed credit limit of one and a half times the annual wage, a typical size of real-world microfinance loans, the aggregate output-GDP unadjusted for production factors from outside the economy-increases by 30 percent in the long run, driven by an increase in the number of entrepreneurs and capital/labor inputs. TFP actually declines somewhat, reflecting the entry of marginally productive entrepreneurs. Aggregate consumption increases by 10 percent, and the total financial wealth of the economy-which is not equal to the capital stock of the economy-increases by 18 percent. The long-run GE results are quite different. In order to clear labor markets, wages rise monotonically with the size of microfinance loans, by 5 percent for guaranteed borrowing that is one and a half times the annual wage. This increase is in line with the wage increase empirically observed at village levels in Kaboski and Townsend (2012). The number of entrepreneurs increases by substantially less than in PE (26 percent vs. 77 percent), since the higher wage deters the entry of low-productivity entrepreneurs. TFP rises by 4 percent, with the majority of the gain coming from a more efficient allocation of capital among entrepreneurs (intensive margin) rather than a better selection into entrepreneurship. More important, the higher wage redistributes wealth from high-productivity entrepreneurs with higher saving rates to low-productivity individuals with lower saving rates. Thus, aggregate saving rates fall, bringing down aggregate capital by 6 percent. With a capital share of 0.3, this offsets most of the increase in TFP, and output increases by less than 2 percent. The impact is slightly larger in terms of aggregate consumption, an increase of 3 percent, since saving rates are lower. While the aggregate impacts of microfinance on output and consumption are much smaller in GE than in PE, microfinance is even more strongly pro-poor in GE because of the higher wage. The welfare gains-correctly accounting for transition periods-for those with essen-