Problem

Moral hazard is a problem because poor borrowers lack collateral. If they had collateral, it could be taken away, providing a punishment to shirkers.

a. Can lenders circumvent moral hazard if they are given the right to harshly punish borrowers that have put insufficient effort by, say, throwing them into a "debtors' prison?"

b. Would you expect borrowers to take this risk?

c. In what way could this particular strategy be considered an improvement over the status quo, characterized by credit rationing and limited financial access?

d. Why is such a debtors' prison strategy likely to raise major problems in terms of incentives for microfinance institutions, and why would it challenge common perceptions on fairness and equity?