Presidential medals and credit bureaus
Microfinance received a nice fillip recently when Muhammad Yunus was awarded the Presidential Medal of Freedom by U.S. President Barack Obama. While Yunus's rockstar status has helped put the access to finance agenda center stage, I wonder if it might obscure some of the hard work that goes on behind the scenes. Perhaps the phrase "credit bureaus" may not cause your heart to race, but in some countries this is really where the action is at.
Case in point: Egypt. Just a few years ago Egypt ranked a lowly 159 on the Doing Business indicator for Getting Credit. In practice this meant that average Egyptians had to rely on informal community credit organizations or attempt to sort through piles of paperwork in an uncertain attempt to get a loan from a bank. All that started to change in 2005 when the Central Bank of Egypt requested assistance from the World Bank Group to improve its credit reporting environment. IFC worked with the Central Bank and Egypt's public and private banks to set up iScore, Egypt's first credit bureau.
The result? Shalini Sankaranarayanan, a program officer with IFC's Access to Finance Advisory Services, informs me:
Close to three years after IFC’s initial engagement with iScore, the bureau was commercially launched in July 2008. With support from IFC and the systems vendor iScore’s data center was vastly expanded to include nine million data records, a 10 fold increase from the baseline of 0.9 million facilities initially held by the Central Bank of Egypt’s Public Credit Registry. The data pertains to almost 4 million SME and consumer borrowers. iScore currently services the credit information needs of 55 institutional subscribers, which includes 41 banks, 8 mortgage finance companies, 4 leasing companies, the Egyptian Social Fund for Development (SFD), and one retailer. All banking institutions and SFD have completed the credit data migration process to iScore. Mortgage finance companies have submitted approximately 65% of their data records, and the 4 leasing companies 35% of their data.
I doubt that the folks behind this initiative will ever get the kind of rockstar status that Yunus has attained, but they definitely deserve some recognition. And with a number of new studies that cast some doubt on earlier claims about the benefits of microlending, it seems even more important to focus our attention on efforts to bring more people within reach of formal lending mechanisms.
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There is growing evidence, in particular from India and Pakistan, that ‘bubbles’ of over indebtedness are already forming in some micro credit portfolios (historically the concept of group lending has created practical barriers to obtaining more than one loan but a transition towards direct lending and increased competition, especially in urban areas, between micro credit providers has changed the landscape significantly in recent years).
We must remember that these loans are being made to individuals who have low levels of financial literacy and simply may not understand the dangers of ‘cross firing’ multiple borrowings. The micro credit lenders themselves in many cases also lack the tools and experience one would expect in a developed mass market credit environment. Without infrastructure tools like credit reporting the underlying problems may go unobserved for quite some time. So long as the individuals concerned can access new loans to repay old loans the bubble just keeps expanding and the lenders (and the donor community) are happy, although the borrowers no doubt become stressed.
This is not a new phenomenon, it has happened in credit card markets where arguably the levels of financial literacy are much higher (Taiwan, Hong Kong and Singapore to name just three) and in each case credit complacency and information asymmetry (these countries had credit bureaus but they only compiled lists of ‘negative’ events and did not maintain up to date records of current/potential exposure) were contributory factors.
We face numerous challenges in resolving this problem before it gets completely out of control and compounds the problems of the very people we originally set out to help. Thankfully some in the financial community are gradually waking up to the threat and taking action (e.g. the Pakistan Microfinance Network have initiated a pilot MFI credit bureau in Lahore to address the concern of its members that they seemed to be making collections calls on the same people).
Implementing these solutions could result (if they are as effective as those introduced in Taiwan et al) in short term high levels of distressed assets, reduced appetite for risk and personal trauma for many individuals. Over time these issues will stabilize and, hopefully, we will have a more secure foundation for a sustainable industry. Doing nothing would almost certainly have catastrophic consequences and could discredit all the excellent pioneering work done by Muhammad Yunnas and others.
Posted by: Tony Lythgoe | Aug 28, 2009 9:00:19 AM
I am all for credit scoring but if the mechanism used is not absolutely transparent it can also be very dangerous in as much as it starts selling the idea of it being a completely objective instrument; and therefore that the interest rates applied to consumers have a “neutral and objective” source which diminishes of course their much needed will to fight for better rates.
For instance the credit scores in the USA used whenever someone wants to access mortgage finance to buy a house do not take into consideration that the borrower might have been paying punctually a lease contract for years. As is, the credit scores, unfortunately, sometimes give the impression of measuring more the business generation to the financial sector, than any real credit worthiness.
Also, and I am not joking, as a foreigner listening in on conversations among US parents (not surreptitiously mind you) sometimes I have had the shocking impression that they worry more about their kids credit scores than their university grades. If we want deities and demigods to serve I guess we could try to find some better than the credit scoring and rating agencies.
Posted by: Per Kurowski | Aug 28, 2009 6:48:09 PM