March 2005
ECONOMY & POLICY

Credit Information Bureau How to Make it Effective

Nepal has no broad law that regulates information sharing. Operations of Credit Information Bureau (CIB) were governed entirely by the 1989 directive of the Nepal Rastra Bank (NRB) until recently. But legal challenges, poor compliance, and inadequate enforcement required the regulatory framework to be strengthened. As a result, the NRB Act was amended in 2002; the new directive on credit information exchange was issued accordingly.

Article 88 of the new act authorised NRB to establish or “cause to establish” the Credit Information Centre (CIC). Key provisions include (i) obligatory participation of financial institutions in the CIC (ii) a requirement to obtain a credit report before extending a loan (iii) NRB oversight and regulatory authority over the operations of CIC.

The detailed provisions regarding the CIC operations are found in the Directive of Credit Information and Blacklisting pursuant to Art. 88 of the NRB Act (2002). The directive stipulates that the existing Credit Information Bureau (CIB) will change its name to Credit Information Centre (CIC) and comply with the requirements of the new directive. Some of the key provisions include:

• Commercial banks and financial institutions must submit reports on all newly issued loans for borrowers with exposure in excess of Rs. 1 million (US$ 13,000) at the end of each month. A quarterly report must be filed on all outstanding loans.
  
• Prior to granting a loan of Rs. 500,000 (US$ 6420) or more, banks are required to obtain a credit report. CIB must provide a report within five working days.
  
• The directive mandates that banks must, in addition to their regular reporting, report or blacklist customer with (i) outstanding loans of Rs. 1 million (US$ 13,000) or more, (ii) when a payment is overdue by six months or more (iii) when the value of security does not cover principal and interest, and so forth.
  
• The blacklist includes borrowers, firm owners and management, guarantors, shareholders holding 10 percent or more, any other company in which blacklisted individual or firm holds 10 percent or more shares, and so forth.
  
• Banks are prohibited from granting new loans and from extending or renewing existing loans to blacklisted entities, relatives of blacklisted individuals, owner or directors of blacklisted firms, and shareholders holding more than 10 percent in blacklisted company.
  
• Notification and consent of the borrower is required for inclusion in a blacklist.
  
• CIC may conduct inspections of financial institutions.
  
• The blacklist must be published semi-annually.
  
• The NRB Act exempts CIC operations from bank-secrecy provisions.

The regulatory environment is raising concerns, first, that the scope of blacklisting is very wide and may discourage outside investors from financing small firms. In addition to this, there is no legal framework in Nepal for consumer rights, including the right to access and correct information.

Recommended Steps to Improve the Credit Information Bureau

To improve the public credit information bureau, reforms in the following areas are needed:

Legal and Regulatory Issues:

The main focus of the current Directive on Credit Information and Blacklisting, issued by NRB is blacklisting. By cutting off a defaulter’s access to credit, blacklisting may be an effective tool to encourage better repayment behaviour and to assist banks in improving collections in the short run. But the new directive may have the unintended consequence of preventing financially constrained firm and individuals from obtaining credit. Lenders should be informed when a certain borrower is related to a defaulted loan. In the following cases, however, parties should not be blacklisted (i.e. automatically denied credit):

l Unless the owners of a limited liability company have provided a personal guarantee for a defaulted loan (since this contradicts the concept of limited liability).

l Shareholders holding 10 to 25% of shares in a company. The directive now requires blacklisting shareholders with more than 10% in a defaulted company, which may significantly suppress loan demand.

l The practice of blacklisting acts only as a leverage loan officers have over a borrower: when the borrower has repaid or worked out a loan, the name is removed from the list. But blacklisting does not provide comprehensive information about a borrower’s creditworthiness and limit the lender’s ability to properly assess potential credit risks. The credit information system should focus on presenting a clear and complete picture of payment history by strengthening the non-blacklist component of the CIC.

The existing legislation regulates information exchange only within the context of the CIC. Economic research shows that the registries are most effective when they are able to collect information from many sources, including bank and non-bank financial institutions as well as firms selling goods on credit. The legal framework should be able to support such a system; it should not restrict ability of some creditors to participate in a credit bureau. A functioning, effective exchange of information among financial entities and other entities providing credit—such as retailers, utility companies, and cell phone providers requires laws that promote not only information exchange but also the rights of consumers. Such laws are essential for the operation of an independent CIC. A borrower must have the right to review his own credit record, challenge the accuracy of his data, and file a complaint with the concerned authority. These rights are a major self-enforcing mechanism that improves data quality and encourages more complete reporting by creditors.

Finally, Article 15 introduces a conflict of interest whereby the CIC—which is now a public company with partial ownership by banks, finance companies, and development banks—will conduct inspections of commercial banks. The inspection authority should remain with the NRB alone or another authorised government authority.

Institutional Framework

The existing CIB infrastructure does not adequately serve the lenders’ needs. The blacklist is the only CIB information regularly consulted by banks because the list is used to cut off lending to bad borrowers. The changes introduced by the new directive, as discussed above, will increase the number of blacklisted borrowers and suppress access to credit among constrained borrowers. To improve the risk management capability of its lenders, Nepal must strengthen the CIB’s non-blacklist component. Several areas for improvement are identified below:

Frequency: Information is now collected on a quarterly basis. Given the data-processing lags, credit information available to lenders is often obsolete and therefore of no use in making lending decisions. It is critical to introduce monthly reporting and cut information processing time.

Scope of Information: The CIC information must provide complete, accurate historical information on borrower repayment. The registry does not provide historical information on a borrower now but the borrower’s status at the end of the last reported quarter (which may be up to six months old, as noted above). Again, the registry must give lenders historical information. In most countries, a five-year history is available to lenders. At a minimum, the report would provide information on current status and a summary of historical repayment behaviour—for example, the number of times a borrower was more than 90, 180 or 360 days past due and when. Positive as well as negative information should be included in the report, which is to say, not only data on defaults and delinquencies but also on loans paid on time. Information on paid loans must be stored in the registry and made available to lenders. For example, if a borrower has defaulted on a loan but eventually repaid the full amount, the record should reflect these facts. Deleting information on repaid loans lessens the value of information in the registry. It prevents a lender from distinguishing between a good borrower who always pays on time, and a bad borrower.

Technology and Accuracy: The CIB database is run on obsolete dBase application. NRB has recently invested in upgrading to an Oracle database software system. As the first likely step to improve the CIC’s functioning, banks will supply information in electronic format, originally by sending records by e-mail and eventually switching to an online interface. This will reduce processing time, but this move raises questions about staff training: the skills and knowledge about credit information operations may not be sufficient for the successful implementation of the new system. Moreover, the two dominant state-owned banks do not have the capacity for such modernisation, although work is underway to computerise these banks. CIC should therefore develop a phased approach in modernising the IT system: (a) cutting processing time; (b) ensuring accuracy of the records stored; and (c) ensuring completeness of the records. CIC should work closely with banks to assist them in the new applications for submitting and receiving information from the credit registry. It should consider working with a private credit information provider that could assist with the technology upgradation and international best practice.

Confidentiality and Customer Relations: The need for information while making lending decisions must be balanced with the protection of borrower confidentiality. Proper procedures for access to information are essential. Access to the credit information records should be restricted to authorised parties—including the borrower, the lender, authorised CIC personal, and supervisory authorities. In order to monitor compliance with access procedures, the registry should maintain a log of requests made on each borrower. The borrower’s ability to view his own records (including the log of requests) to correct mistakes in the record is a critical element in ensuring the accuracy of records in the registry. The registry should have a mechanism for correction of erroneous data within a fixed period of time. A borrower’s credit history record should reflect the nature of dispute and the result of the CIC investigation to resolve the issue.

(Excerpted from the Credit Bureau Development in South Asia, 2004, a publication of The World Bank)

Nepal’s Living Standards
How Changed ?

Excerpts from Nepal Living Standards Survey, 2003-04, presented below, provides glimpse into the change in the living standards of Nepal’s population during the period between 1995 and 2003.

Demography

NLSS 2003/04 reveals that the percent of population in 0-14 years age group has decreased slightly from 42 to 40, that in 15-59 years age group has increased from 51 to 53, and that in 60 years and over age group remained about the same in the last eight years. Dependency ratio, sex ratio and household size exhibited a decreasing trend during the same period while the proportion of female-headed households increased from 14 percent to almost 20 percent. NLSS 2003-04 results are generally comparable with those of Population Census 2001.

Housing

NLSS II estimates that 92 percent of households reside in their own housing units, this constitutes only a 2 percentage points decrease from 1995/96. The proportion of renters has increased from 2 to 5 percent in the last eight years. Average size of dwelling declined from 604 to 531 square feet during the same period. The proportions of households occupying housing units with cement-bonded outer walls, concrete or galvanized sheet roof, and cemented/tiled floor have all increased between these two years. Similarly, household's access to electricity and piped water has increased from 14 to 37 percent and from 33 to 44 percent respectively. Almost 39 percent of households now have toilet facility in their own dwellings, compared to 22 percent in 1995-96.

Access to Facility

Between 1995-96 and 2003-04, access has improved almost universally across all types of facilities. Household's access to primary schools within 30 minutes (of travel time) was already high eight years ago, and now stands at 91 percent. By this measure, proportion of households with access to health posts/hospitals has increased by 17 percentage points, and cooperatives and agricultural centers by 8 percentage points each. Similarly, access to commercial bank increased by 7 percentage points, market center by 10, Haat Bazaars by 20, paved roads by 13, vehicle passable dirt-road by 10 and bus stops by 20 percentage points during the same period.

Literacy and Education

Almost all education indicators show a very noticeable improvement between 1995-96 and 2003-04. Overall adult literacy rate has increased by 12 percentage points, this increase being slightly higher for females. Proportion of population aged 15 years and above that ever attended school was 34 percent in 1995-96 and is 46 percent in 2003-04. For these "ever enrollees", the mean years of schooling went up from 7.0 to 7.5 between these periods. Primary school net enrollment ratio (NER) increased from 57 to 72 percent, lower secondary school NER from 19 to 29 and secondary school NER from 9 to 15 over the last eight years. At all levels of schooling, increases in NER are higher for females. Private school participation rate has gone up from 7 to 17 percent during the same period.

Health Services

In both rounds of NLLS, reported incidence of chronic illness is quite low. Incidence of acute illness increased from 9 percent in 1995-96 to 13 percent in 2003-04. More than 40 percent of acute illness cases were fever in both years. The proportion of diarrhea episodes in acute cases has decreased by 6 percentage points during the same period. While proportion of ‘acute illness consultations with no-one’ has remained fairly constant over this period, proportion of consultations with a doctor has decreased and that with a paramedical has increased. The proportion of fully immunized children has increased remarkably from 36 to 59 percent.

Maternity and Family Planning

The number of children ever born per 15-49 year old woman has decreased from 2.6 in 1995 to 2.4 in 2003-04 while total fertility rate declined from 5.1 to 3.6 during the same period. The proportion of women (15-49 years) who have knowledge of at least one family planning method has increased by 17 percentage points to 77 percent in 2003-04. On the other hand, the proportion of married couples using some form of family planning methods has increased from 15 to 38 percent. NLSS II estimates the proportion of women receiving prenatal care at 57 percent and that receiving post-natal care at 13 percent.

Migration and Children Away from Home

37 percent of the population aged 5 years and above is found to have migrated from another VDC or municipality or from outside the country to its current residence. The rate of migration is higher for females (50 percent) than for males (22 percent). Most of the movement is from the rural areas (81 percent) followed by urban areas (6 percent) and other countries (13 percent). A large majority of migrants reported "family reason" (75 percent) as the primary reason for their movement followed by "easier lifestyle" (12 percent) and "looking for job" (7 percent). About 5 percent of the total children (less than 15 years old) are absent or away from household. Of these "away" children, 3 percent were away for study and 19 percent for work-related purpose.

Agriculture

The percentage of agricultural holdings has decreased from 83 in 1995-96 to 78 in 2003-04. Average size of holding has also decreased. On the other hand, the proportion of area irrigated has increased sharply from 40 to 54 percent in the same period. The number of holdings operating less than 0.5 hectares of land has increased marginally. The percentage of holdings operating rented-in land only has also increased during the same period. The percentage of households growing summer vegetables has sharply increased.

Consumption

In nominal terms, per capita consumption increased from NRs. 6,802 in 1995-96 to NRs. 15,848 in 2003-04. Growth in per capita consumption is 91 percent of the bottom quintile of the population and 177 percent for the top quintile over the last eight years: an impressive growth across all population groups. In 2003-04, the bottom twenty percent of the population accounts for a mere 6 percent of total consumption while the richest twenty percent of the population a whopping 53 percent. A large gap in consumption shares across population groups has become even worse during the past eight years.

Income

In nominal terms, average household income grew by more than 80 percent from 1995-96 to 2003-04. During the same period, per capita income increased from Rs. 7,690 to Rs. 15,162. Eight-year growth rate for the poorest twenty percent of population is 98 percent while that for this richest 20 percent of population is 110 percent. Other significant change in the past eight years is the composition of income sources: the share of farm income in total income has declined from 61 percent to 48 percent while that of non-farm income increased from 22 to 28 percent and of other sources including remittances increased from 16 to 25 percent.

Currency & Money

The US Dollar Outlook and : Story of Asian Central Banks

The US dollar dropped last month on a report that the Korean Central Bank is planning to diversify its dollar reserve. This was later denied by Bank of Korea officials. However, the technical damage to the greenback was done and despite a slight recovery late in the week, the greenback seems even more vulnerable than it was during the last few weeks.

To understand the importance of the diversification issue, remember that during the 1990s, the US current account deficit was financed by private capital flows as foreigners saw the US as a good place to invest. That remains true today, to some extent, but foreign private demand for American assets has waned even as the current account deficit has grown.

In the last few years, private financing of the current account deficit has been replaced by central banks (particularly Japan, China and South Korea) purchases of treasury papers. According to Bank of International Settlement, the world’s central banks increased their holdings of dollar reserves by over $440bn, representing about 80 percent of the current account deficit in 2003 – and the trend continues.

We can easily see why it would not be in the central banks’ interest, those with large US dollar reserves, to say they would diversify out of US treasury bonds, as a fall in the value of the dollar and higher interest rates would lead to huge capital losses on their holdings.

That potential losses are big, which could also be politically embarrassing, is one explanation of China’s hesitancy to revalue the Yuan, and both Japan and South Korea’s intervention in the FX market to keep their currencies from appreciating. For example, a 10% appreciation by China would mean an immediate capital loss of over $50bn of its foreign exchange reserve holdings and, if interest rates in the US go up as a result of lower Asian demand for US treasuries, further substantial capital losses would follow.

Fundamentally, the US economy is growing strongly and, despite the relative benign CPI report, inflation pressures are building. This should keep the Fed hiking rates until the Fed Funds rate reaches 3.5-4.0%

The Euro zone Story:

Euro/USD trading range for the month of February was 1.2733 to 1.3271. During the second half of the month, Euro was one of the major beneficiary of the portfolio diversification saga of Bank of Korea. However, a record unemployment figure from Germany and less than expected growth forecast by ECB stalled its further advancement to 1.3300 area. The EUR/USD broke through important resistance on fears of central bank diversification out of dollar and good demand for the new French 50 year bond. As we discussed above, big holders of dollar reserves have an incentive to peg their currencies pretty close to the greenback to avoid capital losses on their reserve holdings. So, short term demand for the Euro may be limited from diversification. Furthermore, a Morgan-Stanley report shows very little diversification so far, even though it will happen in the longer run.

EU money supply showed stronger growth last week, but this is unlikely to lead to higher rates. In France, the unemployment rate broke the politically important 10% barrier again, and the French finance minister is in hot water after a brewing scandal related to his subsidized apartment. The upward revision of the US Q4 real GDP to 3.8% was generally in-line with expectations. GDP was initially estimated at 3.1%. A more favorable reading on the balance of trade helped drive the GDP figure higher. Exports rose by 2.4%, while imports increased by 11.4%. The GDP price deflator came in above consensus at 2.1%. The major risk to the Euro is a strong Friday (March 4) non-farm payroll report.

Japanese Economic outlook and USD/JPY:

Japanese Economic growth is resuming after output declined for the final three quarters of 2004. Early figures for 2005 have been encouraging. Japanese industrial output rose for the second time in five months in January. In five months, the gain was substantial in each case. However, reports of an 8.10 % m/m rise in expenditures alongside a 470,000 increase in employment in January should be viewed cautiously.

The USD/JPY broke through important resistance on fears of central bank diversification out of the dollar. As we discussed above, the big holders of US dollar assets have an incentive to peg their currencies pretty close to the greenback to avoid capital losses on their reserve holdings. The yen has been pressured by weak Japanese growth and continued deflation. Consumer prices fell by a larger than expected rate, in January, which should lead to a continuation for the foreseeable future of the BOJ’s zero interest rate policy.

The Cable:

During the month of February cable traded in the range of 1.85 to 1.9255. The story of portfolio diversification by Bank of Korea (BoK) had much impact on cable. This led to a sudden rise in cable rate. Anticipation of good US Economic data specially NFP (Non Farm Payrolls) on March 4, stalled the further rise in GBP.

GBP/USD is just below resistance, after pushing higher on more BOE hawkish posturing. The MPC voted 8 to 1 to hold rate policy steady, with the one member voting to hike rates 25 bps. Tory gains in the opinion polls makes the May election less certain as the Labor government may wait until next year to call an election.

The Aussies Dollar:

The AUD/USD test of the important resistance in the 0.79-0.80 area was unsuccessful, and we view this as a double top. Interest rate differentials make the pair vulnerable for the unwinding of carry trades. Despite a 25 bps rate hike by RBA, Aussies could not capitalize enough on its own due to the disappointing GDP data which came at around 02.% vis a vis consensus of 0.8 %.

USD/INR outlook and a word about Indian Budget 2005:

During the whole month of February USD-INR trading was locked in a tight range of 43.55 to 43.83. RBI’s continuous presence in the market to purchase greenback throughout the month helped USD to remain afloat. The bullish stock index surge, increased FII’s and exports combined together could not push INR below 43.50 level mainly for the reason cited above. RBI’s capacity to absorb the incoming dollars may have been saturated by now. If this is the case we see the green back falling below 43.50 in next month.

India’s Congress party led coalition government tabled its budget for FY 2005-06 on the 28 th of February 2005. The administration anticipates that the deficit will widen in rupee terms to INR 1.51 trillion, though as a share of GDP, the gap may decline slightly from this year’s projected shortfall of 4.30%. As a result, the overall public sector deficit as likely to remain in the 9-10 % range, with public sector debt, currently equivalent to about 80 % of GDP, continuing to ratchet higher. On the positive side the budget makes some progress in improving the investment climate in India. Lower corporate taxes and reductions in import tariffs represent steps forward in creating a more open, competitive economy.

Inter bank Call money market story-Nepali Rupee .

Nepal Rastra Bank has reduced the Standing Liquidity Facility limit from an earlier 90 % of G-secs holdings to 50%. However they have now permitted banks to roll over the same set of G-secs for further borrowing. The later extent has to some action mitigated the liquidity constraints of the commercial banks. The month of February saw a series of liquidity crunch scenarios in the market. Major rupee absorbers from the market were the same big PSU’s viz. Nepal Oil Corporation and Nepal Telecom. The latter is expected to suck off more rupee from the market in coming months.

NRB’s policy of charging 2 % premium over average 91 days T-Bill rate as a benchmark for SLF has continued. This has artificially held the inter bank lending rate on average around 4 percent. With upcoming maturities of T-Bill portfolio, provided NRB abstains from fresh issues, we expect the inter bank lending rate to calm down.

Pertaining to the stability of INR-USD trading, NPR-USD market also experienced a relatively quiet month.

Contributed by Nabil