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Incentive Structures and Performance of Rural Financial Institutions: The Case of the Philippines

The main objectives of this paper are to: * Develop an institutional framework for understanding incentive structures in rural financial markets; * Use this framework in exploring the diverse performance of Philippine rural financial institutions. The first section of the paper demonstrates that behavioral choices of lenders are guided by the following factors: * The institutional environment under which they operate; * The economic and non-economic objectives they pursue as well as the constraints they face; * The existing mechanisms for accountability. The authors find that the diverse character of the lender-agents' objectives suggests that their behavior is far more intricate than straightforward profit maximization implies. The second section discusses empirical findings about elements of the incentive structures of three types of rural financial institutions in the Philippines: * Private rural banks; * Trader-lenders; * The government-owned Land Bank of the Philippines. The paper argues that the incentive structures of financial institutions directly affect their performance in terms of efficiency and outreach. The analysis of incentive structures lays the micro-foundation for understanding the overall process of financial development. The authors conclude that improvement of financial institutions' performance should concentrate on alteration of their incentive structures.


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