PAPER WRAP-UP: 2008 Microscope on the Microfinance Business Environment in Latin America and the Caribbean (LAC), (Part II of II), by The Economist Intelligence Unit

Published by the Economist Intelligence Unit, October 2008, available at:

http://a330.g.akamai.net/7/330/25828/20081014142739/graphics.eiu.com/marketing/microfinance/English_Microscope%202008.pdf

The Economist Intelligence Unit released a 62 page report that provides a framework of the microfinance business environment in Latin America and the Caribbean. The report was commissioned by the Inter-American Development Bank and the Corporacion Andina de Fomento and also looked at three major individual features that provide greater insight to the microfinance arena. The three categories are as follows: regulatory framework, investment climate and institutional development. The indicator scores are aggregated to produce an overall score ranging from 0 to 100 (note, 100 being the best score). While these scores are provided, the report utilizes these figures in a “strengths” and “challenges” framework.

What follows are key takeaways of the major sections of the report. Note, part one of a two part series (published on February 24, 2009 on MicroCapital); provided a presentation of key findings at hand, and then an overview of the 20 countries surveyed, specifically the top five rated countries in the South American region (Peru, Bolivia, Ecuador, Columbia, and Paraguay). Part II of this series, covers the final two sections – South America (second half), Central America and the Caribbean (specifically, the Dominican Republic, Haiti, and Jamaica) with a focus on the respective country’s “strengths” and “challenges”.

South American Rankings (continued)

Chile: The country places 13th with a score of 43.2 for the 2008 Microscope on Microfinance in the region. Its institutional development is similar to that of countries in the South American region such as Argentina and Brazil. Chile exhibits strong accounting standards and outperforms its peers in the category of investment climate (a wide margin by 14.5 points greater than the second place scorer for this category, Costa Rica). MFI services offered; microfinance regulation and credit bureaus in Chile perform modestly well. Some of Chile’s challenges include the Superintendency of Banks and Financial Institutions (SBIF) lack of specialized staff knowledgeable about the microfinance sector. More importantly, microlending portfolios are incorporated with consumers loans in the “non-evaluated category” for each regulated institution (p48). The report states that a laxed microfinance regulatory environment, coupled with uncompetitive market conditions can pose challenges. Chile’s requirements for minimum capital and provisioning for NGOs is low.

Brazil: Brazil ranks 14^th overall, with a score of 41.6. The drop in investment climate (ranking from 2^nd to 7^th in 2008) was due to lack of MFI transparency and unsatisfactory governance and accounting standards. Also, the introduction of Costa Rica, Jamaica and Panama to the 2008 index further helped to lower Brazil’s score. The microfinance industry is moderately developed (with opportunity to grow) in Brazil, as noted by this report in the area of the regulation and formation of microcredit institutions and microcredit operations. Commercial banks provide loans, insurance, time deposits, savings, and housing loans through correspondent banking; hence, the supply of microfinance services is modest. NGO MFIs, and microcredit societies (SCMs) are legally limited to microcredit and services such as check cashing. A main challenge for MFIs in the region is the competitive pressures by State owned Banco do Nordeste’s CrediAmigo and the bank’s absorption of large parts of the market. As a result, this does not permit greater service offerings and traditional lower interests that are exhibited in a competitive environment (p22).

Argentina: The country places 17th with a 2008 Microscope score of 28.5 for the year. The report states that the microfinance industry (still in its infancy) emerged from the economic crisis of 2000-01. Its investment climate (38.3, 17^th) is unfavorable due to its lagging regulatory framework (ranked 18^th, last place) with concerns of rising inflation, price controls, and a concentration of executive government power. While Argentina’s main strength is the quality of its credit bureaus, none of the country’s 26 public registries (system veraz) or public bureaus are “specific to or particularly useful for microfinance.” The key challenge for Argentina is the worsening of accounting and governance standards. The report further states that regulatory expertise and methodologies for microfinance are lacking with the Ministry of Social Development, Central Bank/Financial Superintendency, the Ministry of Finance, and the Inspectorate General of Justice of the Ministry of Justice competing in shaping the sector (p17).

Uruguay: The country ranks 18^th, with a score of 28.3. The Economist Intelligence Unit states that the only satisfactory areas of Uruguay/s policy framework is its general microfinance regulation (main financial regulator being the central bank, but does not regulate microfinance. NGOs, non-regulated credit unions/cooperatives, and (SAs) sociedades anonimas are non- regulated and take the form of MFIs in Uruguay.

Venezuela: Venezuela ranks next to last in the 2008 Microscope score at 19^th with an overall score of 24.9. Venezuela’s decline in regulatory quality was a contributing factor to its drop in overall score that fell by 2.5 points. One of the country’s few strong points is its MFI transparency, since monthly financial statement must be published and external audits and ratings are required for regulated institutions. Accounting standard are of high standards since microfinance activities are operated by bank and their affiliates. Moreover, the Banking Superintendency has required that banks classify their investment based on risk (distinction between long/short term, market value each month, and provisions for bad loans). Challenges for the country consist of a poor competitive environment by which MFIs operate with limited credit information. The report states that this is due to low institutional development for the microfinance coupled with weak regulation (p52).

Central American Rankings

El Salvador: According to the Economist Intelligence Unit, El Salvador is ranked 4^th with an overall score of 59.0, making it the highest ranked country in Central America for business environment for microfinance. There are no restrictions (legal or regulatory) in establishing or operating for NGOs. The current market for MFI creation is competitive with not a single provider dominating the current environment. Regulated and non-regulated institutions use separate private credit bureaus and serve the majority of the adult population. Furthermore El Salvador received a maximum score of 6 on its Credit Information Index by the World Bank’s Doing Business report for 2008. However, MFIs in El Salvador (as a result of the country poor governance standards) moderately disclose information with few rules on financial institutions imposed by the Financial System Commission. In addition, contractual agreements and property rights are not respected or guaranteed. This element only adds to an already inefficient and politicized judicial system.

Nicaragua: Nicaragua ranks 6^th in the 2008 microfinance index. It received a score of 58. However, its investment climate is ranked in the bottom half of the index at 44.2. Their non-regulated institutions receive a 3 (on a scale of 0 to 4, 4 being the best). The Banking Superintendency has been promoting their domestic banks to adopt US best-practice accounting rules regarding asset valuation/loan origination and provisioning. While there are many smaller NGOs than larger ones, they do not face any significant roadblocks regarding formation of microfinance institutions. Another key strength is the country’s wide range of MFI services. The report states that Banco Pro Credit Nicaragua and Financiera Nicaraguense de Desarrollo SA (Nicaragua’s, “big two” regulated institutions) “have portfolios that exceed the combined portfolio of all NGOs.” The country is also considered be “the five most competitive microfinance markets in the LAC region.” However, the country scored weak for its judicial system, due to the fact that property protection rights are limited. Most importantly, its capital markets infrastructure is undeveloped; thus, increasing borrowing costs for customers. The country’s financial system had experienced a significant number of bank collapses in the last few years.

Guatemala: Guatemala ranks 7^th in the microfinance index, with a score of 54. The MIX Market, has presently evaluated 17 Guatemalan non-regulated MFIs (16 are NGOs). Approximately 35 NGOs operate in the country. NGOs that only receive private capital are not subject to supervision of the fiscal authorities. It only takes (US$400-650) to register as an NGO. The banks, specifically the specialized microfinance units, and cooperatives/credit unions are the main regulated institutions engaged in microfinance. Regulated institutions require a capital adequacy ratio of (10%). The report notes this requirement as reasonable. G&T Continental has the largest market share with Banco de Desarollo Rural and Genesis EMP reflecting a smaller microfinance portfolio (p 34). The country has minimal regulatory and examination capacity with regards to general financial sector supervision and regulation. Moreover, while possible, it is very difficult to upgrade NGO MFIs to regulated status.

Mexico: Mexico ranks 10^thwith a score of 47.5 and is the second largest economy in Central America. Mexico is moving towards international accounting standards, although standards still vary widely, based on the institutional size, regulatory and juridical status. Presently, standardized accounting practices for MFIs under different juridical forms are underway at MFI networks. Regulations for savings and credit entities, (EACPS), have been adjusted to better accommodate microfinance activities, such as “the capacity to carry out personal visits to asset creditworthiness (and to consult a credit bureau).” The National Commission of Banks and Securities (CNBV) adjusted regulations for EACPs in January 2008. A key challenge for Mexico is that the CNBV lacks sufficient specialized staff to create effective regulations and perform field visits to MFIs with various laws applying to different institutions. Also, banks are discouraged from “downscaling” into microfinance due to strict prudential standards and little interest by commercial banks (main financial institutions in Mexico) to convert into MFIs.

Panama: Panama, ranked at 10^th place, is new to the 2008 Microscope with its investment climate being its best feature (ranked at 58.3), third place. Microcredit operations are in good conditions in Panama. A new banking law was enacted in August 28, 2008 that “considers micro and small enterprises to be banking clients if they receive credit for commercial purposes up to a total of 200,000 balboas,” allowing banks the ability to provide microloans. Public institutions do not compete unfairly with private MFIs. A key challenge that Panama encounters is the Superintendency’s lack of a thorough understanding of microcredit. Furthermore, there is only one Panamanian NGO that is listed in the MIX Market with many NGOs having difficulty in raising capital. There are a few NGO MFIs in existence in Panama.

Honduras: Honduras, ranked at 12^th place, is also new to the 2008 Microscope with an overall score of 47.1. Microfinance environment (regulatory and institutional) performed moderately well with a score of 2 (on a scale of 0 to 4, 4 being the best). NGOs offer only microcredit with limited insurance offerings. The main industry regulator is the National Commission for Banks and Insurance Companies (CNBS in Spanish). Regulated MFIs such as the Financial Private Development Organization (OPDS) are non-bank financial institutions. Few banks and finance companies are beginning to increasingly enter the microfinance industry with competition from state institutions being very limited. Regulated institutions (such as the OPDS), unlike finance companies, face interest rate caps and cannot hold savings from the general public companies. Non-regulated institutions have limited access to public funding and are mostly restricted to microcredit.

Costa Rica: Costa Rica ranks 15^th overall, with a score of 40.3. Its key strength is the robust economy that the country has experienced thorough 2006-2007. Since the expansion of the financial sector during those years, Costa Rica experienced strong growth in banking credit that was perpetuated by the economic boom it has experienced ,coupled with falling domestic interest rates. Accounting standards and MFI transparency are in good standing. While non-regulated institutions do not face external audits or ratings, regulated institutions are required to do so. A large majority of NGOs listed in the MIX Market are non-rated. The regulatory and examination capacity is an area for improvement for Costa Rica. Also, commercial and consumer loans are mixed together in microfinance portfolios. “Institutions are not required to monitor the final destination of borrowed resources.”

Caribbean Rankings

Dominican Republic: The Dominican Republic is the highest ranked of the Caribbean countries listed on this report. It is ranked 9^th (out of 20) in the microfinance index, with a score of 48. Capital adequacy ratios and documentation requirements are not burdensome; thus, placing the regulation of microcredit in good standing. The sector does not have any interest rate caps. Furthermore, there are numerous microfinance providers with minimum difficulty to open an NGO or a microcredit operation. According to regional standards, the country received favorable marks with regard to its credit bureaus. The World Bank’s Doing Business report for 2008/Credit Information Index gave the Dominica Republic the highest score of a 6.

Haiti: Haiti is a new country to the Microscope. It ranks at 16^th with a score of 30.2. Haiti received its best score for the formation and operation of non-regulated MFIs (such as solidarity groups, village banks and NGOs foundations). There are seven Haitian institutions in the MIX Market, including three NGO MFIs and FONKOZE. While there are no specific regulations for microfinance, the central bank (BRH) regulates commercial banks and co-operative/credit unions that engage in microfinance. MFIs in Haiti freely determine interest rates and have reasonable capital-adequacy ratios. The prudential regulation of credit unions is an area that the central bank (BRH) is attempting to overhaul. The report rates the country’s investment climate as weak in relation to stability and quality with limited range of services and products, coupled by a small market and low institutional development. Furthermore, the regulation and supervision of general banking and financial services is weak. The report does note that if the 2007 legislation pending before parliament was passed, it would surely improve oversight of the banking and financial system. The World Bank’s Doing Business report for 2008 gave Haiti a Credit Information Index score of 2 out of a maximum of 6. The regional average was 3.4 (p 36).

Jamaica: Jamaica is ranked last (20^th) in the 2008 microfinance index. The country received a score of 21.2. While the report notes that Accounting standards are not consistent at non-regulated institutions, there has been improvement in the supervision of the financial sector and oversight of regulated institutions. Chartered Accountants in the country have gradually been adopting the International Accounting Standards (IAS) for listed and unlisted companies. Thus, Accounting standards have received the best evaluation for Jamaica, a score of three (on a scale of 0 to 4, where 4 is the best). One of Jamaica’s key challenges is its institutional development capacity, whereby, MFI services credit bureaus and competition in the country received a score of 0 (on a scale of 0 to 4, where 4 is the best). This is due to the fact that most citizens in Jamaica are restricted to microcredit since the country has a very limited range of MFI services. Also, due to a weak regulatory framework, there is a lack of specific guidelines for defining and managing microloans. Under existing regulations, financial institutions in the country do not favor the risk of microfinance, although the non-performing loan rate was 2.3% at the end of 2007. The World Bank’s Doing Business report for 2008 gave Jamaica a Credit Information Index score of 0 out of a maximum of 6 (p 39).