38741 November 2006 · Number 98 A regular series of notes highlighting recent lessons emerging from the operational and analytical program of the World Bank`s Latin America and Caribbean Region. From Financial Exclusion to Inclusion Increasing the Availability of Credit to the Urban Poor in Latin America William Britt Gwinner, Michael J. Goldberg, Tova Maria Solo and Alberto Didoni This is the second of two articles1 that draw on the results Colombia and Brazil found the rate of `bancarizacion" to of recent studies of the links between financial services run between 15 ­ 35% , suggesting a dramatic difference 2. and low income communities in Latin America. While the between Latin America and OECD countries, where focus remains on the nature and inherent costs of "financial rates range from 91%-97%. The unbanked population exclusion" for the "unbanked", those without basic deposit is markedly poorer, less educated, and dependent on the and transaction accounts, this article focuses on access informal economy, as compared with the banked population. to credit and on some of the efforts that have been made The poor make up the majority of the unbanked. Although to increase the availability of credit services to the urban in all three countries the unbanked expressed strong interest poor. It closes by describing ways in which World Bank in obtaining financial services, they consistently identified projects could support increased private sector lending access to deposits, savings and payment services as priority for community development, including housing, home and cast the need for credit in a second plane. At the same improvement, and basic physical and social infrastructure as time, the studies showed that those unbanked who do well as micro and small business lending. borrow from non-banking institutions pay high costs that can represent a serious portion of their incomes. The majority of the urban population in Latin America are unbanked and the majority of unbanked are hard core Figure 13shows, that where people borrow differs according poor. to income level although factors of education and informality As noted in the previous article, studies in Mexico, associated with being unbanked obviously come into play. "Los Aboneros" offer credit door-to-door Others 21.1 Figure 1 ­ In Mexico Low income house- 21.9 in Mexico's low-income neighborhoods. holds and individuals rely on credit from State Government 5.3 In Mexico City's informal settlements residents 2.7 informal sources... and from stores Money Lender report that they buy household goods such as 1.4 sheets, towels, pillows, mattresses, dishware and 31.6 Commercial Shop 43.8 cutlery from door-to-door sales people who offer Friend 1.8 payment terms over time. While residents could 9.6 AFORE 3.5 not report the interest rates they pay on these 2.7 NGO's purchases, they recognize that the sales prices income levels in the upper 25th percentile Savings Bank 1.8 are marked up some 30- 50% over the "cash 3.5 income levels below the 75th percentile Credit Card discount price" and must be paid off in three 4.1 Savings and Loan Association months. "It's how I buy things," says Sra Fabiola 1.4 Credit Union 4.1 Morales of Tlalpan, "they bring what I need to SOFOL 3.5 my house and charge me what I can afford. Yes, 1.4 29.8 it's more expensive but with all I have to spend Bank 8.2 to keep my house going I could never save up the 0 10 20 30 40 50 money to buy for cash."Source: Marta Ferrer, 2002 1 - en breve # 77 - "Financial Exclusion: A New Angle to Urban Poverty in Latin America", September 2005 In surveys the unbanked and low income population groups 80 Figure 2 ­ The unbanked used informal credit for housing; for housing, consistently report a lower propensity to request loans than health and education... and consumer good (INEGI survey,Mexico 2002) high income groups. In Mexico less than 9% of unbanked 70 persons reported they had requested a loan in the past 60.9 60 57.1 three years compared with some 20% of banked persons. unbanked 50 Nonetheless, some 43% of the unbanked group reports banked persons buying on credit from commercial stores. This data does not 40 cover buying on credit from door-to-door salespersons who, 30 our focus group members revealed, serve as a prime source 21.7 of commercial lending. To many interviewees, buying on 20 14.3 14.3 14.3 credit does not seem to be in the same category as borrowing 10 8.7 money. None could report the interest rates they were 4.3 4.3 paying or even the full price of the good. They referred to 0 Buy or renovate Health Investment House Others the cost of the weekly payment instead. All told, the costs Automobile Purchase Goods associated with commercial credit are high even compared with informal lenders. At the time of the survey nominal 30% Figure 3 - Both Banked and Unbanked want credit Banked persons used it for cars and consumer goods annual bank rates in pesos ran between 18.6 % in 2001 and 24.2% in 2002 in Mexico4. In Colombia, credit card charges 25% can reach 36% and 40% per year. On the other hand, loans from commercial stores, money lenders and pawn shops Unbanked 20% start at 10%/month and are reported up to 35% per month Banked (150% to over 400% per year)5. It should not be surprising 15% that respondents reported the preferred source of loans to be friends and relatives, the source in about a third of cases. 10% Do the unbanked want credit ? At these prices, one may 5% ask, why do a total of 13.5% of the total population (20% of the banked population and 10% of the unbanked) seek 0% loans from informal money lenders each year? The answer Consumer Loan Loan for Health Social Insurance Mortgage Loan Loan for Education involves the loan purpose. Figure 26 shows what persons borrowed for, and shows how the answer varies for banked and unbanked persons. The unbanked borrowed primarily institutions (MFIs) that traditionally focus on low to invest in housing or home improvements ­ something not income groups with credit products are looking into available via commercial credit7 . Figure 38, which shows broad based banking to increase funding sources. The the kind of credit service people most want, reinforces Sustainable Development Network in the Latin America the notion that families borrow for what they can, not and Caribbean Region of the World Bank has begun to necessarily for what they would like. Although a bit over explore innovative programs to encourage private banks to 20% are interested in credit for commercial purchases, over offer credit to groups which are traditionally "unbanked' seventy five percent list their first choices for credit as health, for housing and community services. Behind these efforts housing and (in third place) education. is evidence that banks focus on the upper-most income segments because of the cost of small transactions, imperfect risk pricing, and asymmetric information. Can commercial banks offer credit for housing to the The World Bank can help to bridge the gap between informal sector ? traditional institutions and low-income populations by encouraging the use of new technology and business A few commercial banks in Latin America have begun models that permit banks to profitably reach lower-income to test the waters, reaching down scale. At the same time, populations. Key to such efforts is to avoid subsidizing non-bank financial institutions (NBFIs) including non- credits, but rather to reduce the uncertainties and costs of governmental organizations (NGOs) and microfinance doing business9. 2 · November 2006 · Number 98 Quality certification plays a crucial role in ensuring Guatemala Community Infrastructure Project proposes a the sustained engagement of financial institutions in credit guarantee incentive to finance home improvements channeling microloans for infrastructure. and basic infrastructure. Enhancing access to credit represents only a partial The Bank is currently discussing an operation with the response to the overall problem of improving private Guatemalan government which would create a facility that sector lending for community development. The recent would provide partial credit guarantees for commercial success of the solar program within the Off-Grid Rural bank lines of credit to MFIs. In turn, MFIs would on-lend Electrification Project (Perza) in Nicaragua demonstrates to low-income households for a broad range of housing that the World Bank can play a key role in setting up and community services. The idea is to make use of the standardized certification procedures guaranteeing the commercial bank business model, which maximizes the reliability of private sector participants in infrastructure size of a transaction, with that of the MFIs, which involves projects and the quality of the products used (i.e. solar extensive personal contacts with clients and a greater panels in the case of Perza). Started in mid 2005, the solar knowledge of low-income neighborhoods. program of Perza has already delivered 1,500 solar home systems to un-electrified families, totalling some 7,500 In recent years, a number of microfinance institutions people. Given the quality that started out with loans for micro enterprises have of the systems installed and moved into lending for Box 1 - Guatemala's commercial banks move into the reliability of the small microfinance a variety of purposes. companies involved in the Well-known examples Two of Guatemala's leading commercial banks have provision of the panels, local include Bangladesh's made bold moves in the past year to develop new microfinance intermediaries Grameen Bank, Bolivia's business lines which emphasize microfinance lending, were able to finance up to 25 BancoSol, and Mexico's including credit for informal housing and are aimed percent of those systems. This Compartamos. Loans for at a new customer base. El Banco G&T Continental, financing mechanism was housing renovations now and BANRURAL have announced plans to open essential for poor households make up 8 percent of loans new branches in rural municipalities and peri-urban who could not afford to buy at Guatemala's Genesis neighborhoods to seek out clients among the "unbanked". the systems on cash but had Empresarial, and 17 percent The new offices emulate the "corner store" in looks, to rely on (up to two years) of loans at Peru's MiBanco. built and are decorated in consciously simpler in styles micro-loans adjusted to Microfinance loans for than the traditional stately banks in Guatemala City. their repayment capacities. housing can speed up the Bank officers attend clients in indigenous languages, Initiatives such as Perza show self-construction process, and the ATM machines offer a choice of languages, that an enabling environment improving client's standard or "picture" options for those who don't read Spanish. is a necessary condition to of living by simply replacing The Banks have definitely been paying attention to the expand financial services substandard construction or MicroFinance institutions. G&T Continental has recently for poor people deprived of by providing them with new hired the Director of Genesis Empressarial and its Credit basic infrastructure services rooms that they can rent for Manager to head up their new MicroFinance Department. as it substantially dampens additional income. the financial risks of non- payments due to poor material quality or customer service. MiBanco's housing microfinance product serves households earning less than the median wage for home improvement Some large lenders are considering how to better serve and expansion. Credits average US $1,600 and are extended low income households. Peru's Banco de Credito has for up to 5 years at interest rates of 25 percent, somewhat experimented with branches and automatic teller machines below the market rate for enterprise microenterprise finance in low-income neighborhoods of Lima. Guatemala's in Peru. Borrowers typically pay off ahead of loan maturity, Bancafe has lent to community development organizations and actual terms average 20 months. Loans are secured that in turn provide micro credits to low-income individuals, mainly by co-signers, personal collateral, and by temporarily and Banrural is experimenting with touch-screen automatic taking custody of households' proofs of ownership until teller machines that offer menus in indigenous languages credits are paid off. As with microfinance in general, the (see Box 1). India's ICICI makes micro loans both to MFIs main incentives for repayment are assiduous methods of and directly to low-income borrowers. loan collection and the promise of access to future credits. November 2006 · Number 98 · MiBanco made over 180,000 MiCasa loans between terms and operate their programs commercially. Although December 2000 and May 2006. In total, the program has interest rates are likely to start out high, competition among disbursed US $90 million, an average of US $2.5 million lenders can drive them down. per month. Thirty day arrears rates at that time were 1.9 percent; return on equity was 7 to 9 percent per annum, Brazil's government has developed alternative service both sustainable rates. payment systems and regulations to encourage access to savings Measures taken by government in 2004, at the time Both Genesis and MiBanco have found technical support that the Bank's studies on Access to Finance in Brazil were for the construction process to be crucial to good outcomes, being carried out, follow a U.S. "CRA" model in requiring especially given the earthquake risks in each country. Self-built Bank disclosure of location and income levels of clients. houses are often the first to fall in an earthquake. Loan officers At the same time the government has introduced certain inform households, extend credit, and collect payments. A regulatory requirements to encourage offering of affordable technical expert provides a plan for each renovation project that savings accounts, to extend micro-credit, and initiated a ensures that it complies with building codes. housing subsidy credit-linked scheme to reduce the risk that banks perceive in working with the poor while working with Innovative solutions for improving basic physical the judicial to enforce legal dispositions to all income class infrastructure of poor communities can also come in the of costumers10. form of supplier credit. Cemex, the multinational cement company based in Mexico, Summing up While still scattered and small-scale, there piloted an innovative credit scheme enabling very poor are examples of financially viable credit programs aimed people to upgrade and build their homes. The pilot program, toward low income families. Commercial banks may be called Patrimonio Hoy, offers microcredit for purchasing moving toward the lower ends of the market, sometimes of raw material in the form of solidarity group loans. To with encouragement from government programs. The assess clients' repayment capacity, microcredits are initially Sustainable Development Network in Latin America and matched by an equal proportion of people's savings. No Caribbean Region of the World Bank is exploring ideas with credit history or collateral is required, but each of the governments and with banks to support programs which members in the group should commit to pay 120 pesos broaden access to credit to the unbanked populations. weekly for at least 70 weeks. Material deliveries occur in various stages to assure members keep up with their weekly Notes and References payments and stay committed to the program. In 70 weeks, 2 Measured as the percent of households with at least one per- the household will be able to build a 9m square house. The son holding a deposit account in a regulated institution, as in commercial banks, "social interest" banks, cooperatives, expansion of the program has been impressive: Patrimonio credit unions, etc. Hoy (PH) currently has a presence in 23 cities reaching more 3 INEGI Survey, Mexico 2002 than 75,000 households who have built the equivalent of 4 CONDUSEF web page 5 World Bank, 2006; Solo and Manroth, 2006 33,000 additional 110 square feet rooms. In addition to the 6 World Bank, 2006 lack of expertise and planning in housing construction, PH 7 The banked group, on the other hand, borrowed primarily to team found that the lack of financing schemes tailored to buy goods and services, suggesting that they were able to get loans from a "prestamista" at a better rate than the vendors' people's repayment capacity was the biggest challenge for 8 Ibid. poor households willing to upgrade their homes. 9 See for example Stijn Claessens, "Access to Financial Servic- es: A Review of the Issues and Public Policy Objectives," The The experience of Genesis, MiBanco, Patrimonio Hoy and World Bank Research Observer, Vol. 21, No. 2, Fall 2006 10 See Housing Programatic Loan (Report 31756-BR, May 11, 2005) other housing microfinance programs demonstrates that: (a) large-scale housing microfinance can be profitable; About the Authors (b) partnerships between building materials suppliers and Britt Gwinner is a Lead Housing Finance Specialist with the Financial and Private Sector Development Network. microfinance lenders are key to building loan volume as Michael J. Goldberg is a Senior Private Sector Development well as achieving good results with construction; and (c) the Specialist, Tova Maria Solo is a Senior Urban Specialist and public sector can support housing microfinance by providing Alberto Didoni is a Consultant attached to the Private Sector Cluster of the Latin America and the Caribbean Region of the liquidity to the system, and must allow institutions to set loan World Bank "en breve" is produced by the Knowledge Team of the Operations Services Department of the Latin America and the Caribbean Region of the World Bank - http://www.worldbank.org/lac · November 2006 · Number 98