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The effectiveness of microfinance institutions (MFIs) in rescuing poor borrowers from “clutches of” moneylenders has been a much-debated topic over the past few decades. This paper aims to contribute by presenting a model of competition between a socially motivated MFI and profit-maximizing moneylenders when market segmentation exists.

A principal–agent model is used to characterize equilibrium conditions under scenarios where only moneylenders operate, only MFI operates and when both co-exist to pose comparative results effectively.

The authors find unambiguous benefits arising when a welfare-maximizing MFI enters the market. However, there are benefits to having local agents like moneylenders on the ground who also have informational advantages.

To the best of authors’ knowledge, this study is the first to evaluate the competition between MFI and moneylenders under the framework of captive and noncaptive segments with a mandatory savings requirement.