The Effects of Capital Structure on the Performance and Sustainability of Microfinance Institutions: Empirical Evidence from South Asian Countries

Abstract In the wake of ongoing trend of commercialization in the microfinance sector for improving performance and sustainability, microfinance institutions (MFIs) nowadays tend to reduce their dependence on non-commercial funding. This study investigates the effects of this shift in capital structure on the performance and sustainability of these socially oriented financial intermediaries operating in South Asian countries. This study employs panel regression and two-stage least squares regression on data from 311 Microfinance Institutions (MFIs) spanning the years 2003 to 2016, demonstrating that increased reliance on grants is associated with both diminished performance and reduced sustainability of MFIs. Conversely, deposit funding improves MFI’s performance and sustainability by curbing default rate and raising capability to serve high-income borrowers. The findings of the paper have implications for ongoing shift from concessional funding to commercial funding in the MFI industry and the choice of appropriate capital mix to enhance both performance and sustainability. JEL Classification: G32, G210 Keywords: Capital Structure , Social Performance , Microfinance Institutions , Grants , Default Rate