• Greater role of private microfinance institutions (MFIs) in the provision of financial services;
• An enabling policy environment that will facilitate the increased participation of the private sector in microfinance;
• Market-oriented financial and credit policies, e.g. market-oriented interest rates on loan and deposits;
• Non-participation of government line agencies in the implementation of credit and guarantee programs.

Using these policy principles, a framework for the development of the microfinance industry was formulated. This framework provides the government's thrust and policy direction for the microfinance industry and delineates the role and the responsibilities of each of the players in the microfinance industry in both the public and the private sector.

The government's clear policy directions on microfinance resulted in an increased number of private institutions engaged in the provision of micro-finance services. Because of this, appropriate supervision and regulation of microfinance institutions is an important issue that has recently been brought to the fore by both the government and the microfinance practitioners. Appropriate regulation and supervision of microfinance is important to ensure that risks associated with microfinance are minimized and appropriately managed by the concerned MFIs. The continued viability and sustainability of these institutions is important for microfinance to effectively contribute to the poverty alleviation objective.

Recognizing the importance of appropriate regulation in ensuring the delivery of sustainable and efficient microfinance services, the Executive Committee of the National Credit Council (NCC) and the National Anti-Poverty Commission (NAPC) created a technical working group, which is tasked to work on the formulation of an appropriate regulatory framework for microfinance. This paper provides such framework.

I. What is microfinance?

Microfinance is the viable and sustainable provision of a broad range of financial services (savings and credit) generally, by the private sector to poor and low-income households engaged in livelihood and microenterprise activities using non-traditional and innovative methodologies and approaches (e.g. non-collateralized cash-flow based lending). The maximum individual loan amount provided for microfinance loans is P150,000.

II. Vision for microfinance

To make microfinance the cornerstone for poverty alleviation, the vision is to have a viable and sustainable private (micro) financial market. This will be achieved in a liberalized and market-oriented economy where the private sector plays the major role and the government provides the enabling environment (through the appropriate policy and institutional framework) for the efficient functioning of markets. (National Strategy for Microfinance, 1997). This will be achieved through among other things, the following:

i. Adoption of market-based financial and credit policies

ii.Greater private sector participation in the delivery of microfinance services to the basic sector
iii. Establishment of an appropriate regulatory framework for microfinance

 

II. Objective of Regulatory Framework

A. To protect the financial system from unsound (i.e. excessively risky) practices by deposit-taking institutions (either from the public or its members) and thereby, protect the country's payments system;

B. To protect small clients; and

C. To promote the establishment of an accurate, reliable and transparent set of financial information for all types of MFIs.

IV. Scope of Microfinance Regulation

Only institutions taking deposits from the general public and/or from its members are subject to prudential regulation and supervision. Since microfinance NGOs are not supposed to take deposits from their clients, they will not be subjected to prudential regulations. However, those microfinance NGOs that collect savings beyond the compensating balance will be subject to the appropriate regulatory agency.

V. Definition of Terms

A. Compensating balance - this refers to the proportion of the total loan of an MFI client, which is retained with the MFI as capital build-up or savings. This amount serves as a hold-out deposit on the loan of the client and can be used by the MFI to off-set the client's outstanding balance in case of default. In view of this, the client is considered a net borrower from the MFI rather than a net saver (i.e. as a borrower of his own savings rather than as a depositor who finance other client's borrowings/loans).

B. Deposit-taking Institutions - these are financial institutions engaged in the mobilization of savings either from its own members or from the general public.

C. Micro Finance Institutions (MFIs) -these are institutions engaged in the delivery of microfinancial services (e.g. microsavings and microcredit). Examples of these institutions are rural banks and cooperative banks, thrift banks, credit cooperatives and microfinance NGOs.

D. Microfinance Regulation - this refers to the issuance of the necessary rules and regulation, including cancellation, suspension and sanctions, governing the intermediation of microfinancial services. The rules and regulations are expected to make sure that all microfinance institutions employing innovative and non-traditional lending methodologies are using sound and prudent practices in their operations.

E. Retail Microfinance Institutions - these are financial institutions that provide direct micro-financial services to microfinance clients.

F. Regulation - the act of defining and establishing a set of rules and regulations governing the intermediation of financial resources between savers and borrowers. This also includes the issuance of necessary measures to ensure that financial intermediaries operate in a sound and prudent manner. Rules and regulations are issued to ensure the stability of the payments system.

G. Risk-based Supervision - this is a supervision approach wherein the supervisor/examiner identifies, classifies and measures the different types of risks faced by the financial institutions in its operations.

H. Supervision - this refers to the systematic oversight of micro finance institutions to ensure their compliance with the established rules and regulations.

I. Wholesale Microfinance Institutions - these are financial institutions, which lend out loanable funds to microfinance institutions.

VI. Current Situation of Regulatory Environment

A. At present, there are a number of institutions involved in the delivery of micro-financial services to the basic sectors, e.g. the rural banks, thrift banks, credit cooperatives and the micro-finance NGOs. Thrift banks and rural banks are currently being supervised by the Bangko Sentral ng Pilipinas (BSP) while the credit cooperatives are legally under the supervision of the Cooperative Development Authority (CDA). The microfinance NGOs are not being supervised nor regulated by any government regulatory agency.

B. Regulatory Environment for Banks

B.1. The BSP is the regulatory authority over all banking institutions including those engaged in the provision of micro financial services. BSP issues the necessary rules and regulations for the safe and prudent operations of banks. As part of its regulatory mandate over banks, BSP supervises and conducts regular examination of banks. During examination, examiners check for compliance with banking laws, rules and regulations, soundness of systems for evaluating credit, supervision and collection of loans and the quality of the loan portfolio. While the laws and regulations do not prohibit micro-enterprise lending, most banks are not keen on providing micro-finance loans for fear of being penalized by bank examiners. A study conducted by the Credit Policy Improvement Program (CPIP) reported that lenders subject to BSP supervision guidelines and practices are unclear about the BSP's view on small, clean and unsecured loans that are supported by informal financial information.

B.2. With the issuance of the National Strategy for Microfinance in 1997, the NCC advocated for the issuance of the necessary measures to implement the policy principles and strategies espoused in the NSM. This led to the inclusion of certain provisions in the General Banking Law that specifically pertains to microfinance.

B.3. Section 40 of the General Banking Act of 2000 specifically recognized the peculiar characteristics of microfinance and directs the Monetary Board to issue relevant measures specifically to address the apprehension cited by most banks regarding microfinance. Hence, the following circulars were issued by the BSP:

• BSP Circular 272 dated January 30, 2001, which recognizes the peculiar characteristics of microfinance and directs its exemption from rules and regulations issued by the Monetary Board with regards to unsecured loans;
• BSP Circular No. 273, dated January 30, 2001, which lifts the moratorium on bank branching for those banks engaged in microfinance activities;
• BSP Circular No. 282 dated 19 April 2001 opens a rediscounting window for microfinance.

C. Regulatory Environment for Credit Cooperatives

C.1. The Cooperative Development Authority is mandated under Republic Act 6539 to provide oversight functions for all types of cooperatives. However, despite its legal mandate to regulate and supervise credit coops and other coops with credit services, CDA is not effectively performing this function. CDA has been mostly engaged in development activities , which is also allowed by their present charter. At present, the CDA does not supervise nor examine the books of credit cooperatives.

C.2. In 1997, the National Credit Council through the Credit Policy Improvement Program (CPIP) conducted a review of the regulatory environment for Credit Cooperatives. The review found out that the CDA is not able to effectively implement its regulatory mandate due to conflicting mandates of regulation and development. In view of this, it has mostly been involved in the registration of cooperatives and in the conduct of promotion and development activities for cooperatives. Results of the review also showed that the CDA does not have the necessary basic information for the effective regulation of credit cooperatives (i.e. there is no standard chart of accounts and performance standards for credit cooperatives).

C.3. In 1998, the NCC, in coordination with the CDA, the credit cooperative sector and other government agencies working with the cooperative sector spearheaded work on the establishment of a standard chart of accounts for credit cooperatives and other types of cooperatives with credit services. The CDA has recently issued a circular directing all concerned primary credit cooperatives to adopt and implement the standard chart of accounts.

C.4. The NCC, in coordination with the CDA, the credit cooperative sector and other government agencies, is also currently working on the establishment and adoption of a set of performance standards for credit and other types of cooperatives with credit services.

D. Regulatory environment for Microfinance NGOs

D.1. At present, there is no single agency that has supervision over microfinance NGOs. Microfinance NGOs register with the Securities and Exchange Commission (SEC) as a non-stock, non-profit organization. SEC, however only registers microfinance NGOs. It does not regulate nor supervise them. In view of this, microfinance NGOs do not report to any oversight agency (whether private or public) and hence, there is no single institution that has a complete set of relevant information on the financial performance of microfinance NGOs.

D.2. Almost all microfinance NGOs collect forced savings (sometimes referred to as capital build-up) from their borrower-clients. A number of them argue that the savings they collect from their members are only compensating balances. In view thereof, there is consensus among microfinance NGOs that they should be allowed to collect savings from their clients without prudential regulation provided that these do not exceed their total loan portfolio. There is concern, however that a number of microfinance NGOs may have collected savings beyond the compensating balance.

D.3. As mentioned earlier, there is no available set of uniform and transparent information that can be used to determine whether the savings collected by the microfinance NGOs are only compensating balances. Since no single agency collects a uniform and transparent set of information among microfinance NGOs. While the Microfinance Council of the Philippines (MCP) is an umbrella organization comprised mostly of microfinance NGOs, not all members submit relevant and uniform set of information to the Council.

D.4. To ensure that microfinance NGOs are operating in a viable and sustainable manner, the Microfinance Council of the Philippines has adopted a set of performance standards for microfinance NGOs. A standard chart of accounts has, likewise, been formulated. Both the performance standards and the standard chart of accounts are however, yet to be widely adopted by the microfinance NGOs.

D.5. The non-adoption of the performance standards and the standard chart of accounts by most microfinance NGOs is attributed to the absence of incentives for adoption.

D.6. The recommended chart of accounts for microfinance NGOs will be reviewed to make this comparable with the chart of accounts of the banks and the credit cooperatives. A technical working group comprised of representatives from both the microfinance practitioners and other stakeholders is currently reviewing the existing set of performance standards for microfinance NGOs. The review is aimed at coming up with a set of standards that are consistent with the performance standards for other types of MFIs (e.g., banks, cooperatives). The NCC will use the results of the review in the formulation of performance standards that cuts across all types of MFIs.

E. Role of Wholesale Financial Institutions

E.1. Generally, loanable funds for microfinance are provided by wholesale lenders that include the following: commercial banks, GFIs and the PCFC, a government-owned and controlled corporation which is specifically tasked to provide wholesale funds for microfinance.

E.2. Current government policy directs the GFIs to provide wholesale funds at market rates to private financial institutions engaged in microfinance.

E.3. Commercial banks also provide wholesale funds to private financial institutions engaged in microfinance using their own funds and adopting their own lending criteria.

VII. Establishing the Regulatory Framework

A. Basic Premises

A.1. Should existing regulatory institutions lack the capability to effectively undertake the necessary regulatory functions for microfinance, appropriate measures will be adopted for the establishment of an alternative structure. Otherwise, necessary technical assistance for institutional strengthening will be sought from relevant donor agencies.

A.1.1 Only deposit taking institutions will be subjected to regulation.

A.1.2 Banks, including GFIs that provide wholesale funds for microfinance, will continue to be regulated by the BSP. General rules and regulations on bank supervision and examination will be applied. Specific rules to consider the peculiar and unique characteristics of microfinance services will only be applied where applicable, provided these will not unduly affect the stability of the financial system.

A.1.3. Credit cooperatives are under the regulatory authority of the CDA.

A.1.4. Microfinance NGOs are considered non-deposit taking institutions and therefore, will not be subject to prudential regulation and supervision by any government regulatory authority provided that the total savings collected from their clients should not exceed the total loan portfolio of the microfinance NGO at any point in time.

• Microfinance NGOs that collect savings beyond the compensating balance will be required to transform into a formal financial institution (either a credit coop or a bank) to be able to continue collecting savings from their borrower-clients.

A.2. Establishment of a transparent set of information to include sex disaggregated data for microfinance will be promoted among all types of microfinance institutions.

• Since majority of microfinance clients are women, their specific needs should appropriately be considered in the design of microfinance products.

A.3. A credit information system containing data on all microfinance loans should also be established by the private sector.

A.4. There will be a core set of performance standards for microfinance operations for all types of financial institutions. These standards should be defined and be consistent with international best practices. These standards should likewise be endorsed and adopted by a rating agency, concerned MFIs and regulatory authorities.

B. Institutional Set-up for Micro-Finance Regulation (see Annex I for the Organigram)

B.1. Bangko Sentral ng Pilipinas

B.1.1. To act as the regulatory and supervisory authority for banks engaged in microfinance operations

B.1.2. To provide the necessary technical assistance to the regulatory unit for credit cooperatives within the CDA responsible for issuing appropriate rules and regulations for credit cooperatives and other cooperatives with credit services. These regulations should be consistent with existing regulations for banks with appropriate adjustments to consider the different structure of the credit cooperatives compared with banks.

B.1.3. To establish a credit information bureau for all loans, including microfinance loans, by all types of banks supervised by BSP.

B.2. Cooperative Development Authority

B.2.1. To act as the regulatory agency for credit cooperatives;

B.2.2 To establish a regulatory and supervisory unit for credit cooperatives responsible for the regulation of credit cooperatives and other types of cooperatives with credit services. This unit will coordinate closely and will be provided technical assistance by the BSP for the issuance of effective rules and regulations.

B.2.3 In the interim that CDA is not yet institutionally ready to directly conduct regulatory activities for credit cooperatives, accredited federations/unions of credit cooperatives and other types of cooperatives with credit services whose membership is voluntary may be authorized to perform quasi self-regulation. The federation/union will supervise and examine the operations of member-coops on a fee-basis using rules and regulations issued by the CDA. The recently approved set of performance standards will be used to rate and brand credit cooperatives and other types of cooperatives with credit services.

B.3 Microfinance Council of the Philippines

B.3.1. The MCP is proposed to serve as the repository of information of microfinance NGOs . Using information submitted by the different MFIs, the MCP will inform concerned regulatory authorities when a microfinance NGO collects savings from members beyond the compensatory balance.

B.3.2. The MCP may collaborate with the SEC and the Philippine Council for NGO Certification on the establishment of incentive mechanisms to enjoin all microfinance institutions (especially the microfinance NGOs) to submit a uniform and consistent set of information regarding their operational and financial performance.

B.3.3. In coordination with concerned agencies and the private sector, the MCP will work toward the establishment of a private risk-rating agency for all financial institutions involved in the delivery of microfinance services. Concerned regulatory authorities for each type of microfinance institutions may use the risk ratings of these institutions in their off-site supervision activities. Donors may also use the ratings in determining the necessary technical assistance appropriate for certain microfinance institutions.

C. Establishment of the necessary infrastructure for financial transparency

C.1. Risk Rating Agency

C.1.1 A private sector risk rating agency will be promoted to provide risk ratings for MFIs that will be used by concerned institutions such as the regulatory authority, donors and wholesale financial institutions (e.g. GFIs and commercial banks) in evaluating the financial performance of the MFIs.

Risk ratings are expected to provide a clear and concise summary of the institutions' risk profile that can be understood by investors who have limited knowledge about the MFI's business operations.

C.1.2 Government should only provide an appropriate policy and institutional environment for private sector to initiate work on the establishment of a risk-rating agency.

C.2. Credit Bureau for microfinance

C.2.1 A Credit Bureau for microfinance shall act as the repository of all credit information regarding microfinance clients;

C.2.2 The credit bureau for bank clients may be established within the BSP. Technical assistance to initiate the establishment of the bureau may be sought from relevant donors.

C.2.3 A privately initiated credit bureau may also be established to supplement the information from BSP. Information from a privately initiated credit bureau in most cases is more comprehensive than those from the credit bureau within the superintendency of banks. These include credit information of borrowers outside of the banking system (e.g. utilities bill, credit card, other MFI clients etc.).

D. Minimum set of Parameters for assessing the performance of
microfinance institutions

D.1. Portfolio Quality
D.1.1. Portfolio at risk
D.1.2. Past due ratio
D.1.3. Provision for loan losses

D.2. Efficiency Indicators
D.2.1. Administrative efficiency
D.2.2. Operational self-sufficiency
D.2.3. Financial self-sufficiency

D.3. Stability Indicators
D.3.1. Liquidity
D.3.2. Net institutional capital

D.4. Outreach Indicators for microfinance
D.4.1. Growth of no. of clients
D.4.2. Growth of microfinance loan portfolio
D.4.3. Growth of savings

E. Measures to be undertaken by concerned institutions

E.1. Bangko Sentral ng Pilipinas

E.1.1. Review existing regulatory, supervision and examination procedures and guidelines to consider the peculiar characteristics of microfinance. Adopt an appropriate approach for the supervision and examination of banks engaged in microfinance operations (e.g. risk based supervision approach).

E.1.2. Revise, when necessary, relevant rules, regulations and circulars to ensure that regulatory and supervisory guidelines and procedures do not pose as barriers for banks to engage in microfinance operations (e.g. branching guidelines, new banks guidelines, performance indicators, manual of examination etc.)

E.1.3. Provide appropriate technical assistance to the regulatory and supervisory unit of the CDA for credit cooperatives.

E.2. Cooperative Development Authority

E.2.1 Establish a regulatory unit for credit cooperatives

E.2.2 In coordination with the BSP, formulate and establish relevant regulatory guidelines, policies and procedures for the operations of credit cooperatives.

E.2.3 Issue rules and regulations for the effective supervision of credit cooperatives and other types of cooperatives with credit services.

E.2.4 Formulate and establish relevant supervision and examination procedures.

E.3 Microfinance Council of the Philippines

E.3.1. In coordination with the relevant stakeholders, formulate and establish necessary guidelines and systems for its effective functioning as the repository of information of all MFIs.

E.3.2. In coordination with the relevant stakeholders and with appropriate support from relevant government agencies, advocate and work towards the establishment of a credit bureau and risk rating agency for microfinance.

E.4. National Credit Council

E.4.1. In consultation with MFIs, relevant private organizations/networks and other concerned government agencies, formulate and establish performance standards for MFIs using the parameters identified in this framework as basis.

E.4.2. In consultation with concerned institutions (both public and private), promote and advocate for the establishment of a rating agency and a credit information system.