Case Study Kyrgyz Republic: Reforming credit infrastructure to increase access to finance for small-scale entrepreneurs September 2024 The material in this work is copyrighted. Copying and/or transmitting portions or all of this work without permission may be a violation of applicable law. IFC does not guarantee the accuracy, reliability or completeness of the content included in this work, or for the conclusions or judgments described herein, and accepts no responsibility or liability for any omissions or errors (including, without limitation, typographical errors and technical errors) in the content whatsoever or for reliance thereon. The findings, interpretations, views, and conclusions expressed herein are those of the authors and do not necessarily reflect the views of the Executive Directors of the International Finance Corporation or of the International Bank for Reconstruction and Development (the World Bank) or the governments they represent. © International Finance Corporation. September 2024. Some rights reserved. About IFC About SECO IFC — a member of the World Bank Group — is the largest The State Secretariat for Economic Affairs (SECO) global development institution focused on the private sector implements Switzerland’s economic and trade policy in emerging markets. We work in more than 100 countries, measures for the benefit of developing countries. It using our capital, expertise, and influence to create markets coordinates its activities with the Swiss Agency for and opportunities in developing countries. In fiscal year 2024, Development and Cooperation (SDC) and the Peace and IFC committed a record $56 billion to private companies Human Rights Division (PHRD) of the FDFA. The three and financial institutions in developing countries, leveraging administrative offices implement Switzerland’s international private sector solutions and mobilizing private capital to cooperation together. For more information, visit www. create a world free of poverty on a livable planet. For more seco-cooperation.ch information, visit www.ifc.org. Introduction From 2009 to 2019, IFC and the Swiss State Secretariat for Economic Affairs, SECO, collaborated to support the Kyrgyz Republic in upgrading and modernizing its credit infrastructure to increase access to finance for micro, small and medium enterprises (MSMEs). This project was part of the Global Financial Infrastructure Program, a long running partnership of IFC and SECO to accelerate financial inclusion in emerging markets. In 2009, when IFC and SECO set out to assist the Kyrgyz Republic in building a robust modern credit infrastructure, Key Achievements: about a quarter of MSMEs in the country cited lack of access • Facilitated over $5.3 billion in financing for more than to finance as a major constraint in operating and growing 4.6 million individuals and MSMEs by 2023. their businesses. This can be compared to 16.6 percent on • Successfully spearheaded legislative reforms that average across the Europe and Central Asia region. Since laid the foundation for a modern credit reporting declaring independence from the Soviet Union in 1991, the system and collateral registry, significantly expanding Kyrgyz Republic has pursued a course of democratic and access to finance for individuals and MSMEs and economic reforms marked by uneven progress and periodic strengthening the capabilities of financial institutions political instability. The economy is heavily dependent on to assess and manage credit risk. remittances from Kyrgyz individuals working abroad, and • Introduced financial literacy programs across the commodity exports, particularly gold, making it highly country in collaboration with commercial financial vulnerable to external shocks. institutions and regulating authorities that reached nearly 470,000 individuals. The MSME sector is critical to innovation, job creation, and • Laid the foundation for digitalized processes for inclusive economic growth. The project thus set out to help credit information sharing and the collateral registry, reform Kyrgyz Republic’s credit infrastructure to enhance potentially paving the way for future credit innovation access to finance, promote financial stability, and advance to further enhance access to finance. sustainable economic growth. Credit infrastructure consists of a set of laws and institutions enabling individuals and enterprises to secure lending from financial institutions based on their credit histories or pledging their movable By 2023, private sector credit had grown to 21.1 percent of property, such as machinery, inventory, or receivables as gross domestic product (GDP) compared to 12.5 percent in collateral. This framework also enhances financial stability 2009. There were two fully operational and commercially through diversification of financial products, services, and viable credit bureaus and an improved and modernized improved management of credit risk. collateral registry enabling increased access to finance for individuals and MSMEs. The new credit bureaus facilitated $5.22 billion in financing for 4.5 million individuals and MSMEs. The modernized and digitalized collateral registry enabled 95,700 MSMEs to secure $305 million in financing. 1 Reforming Nascent Credit Infrastructure: A Phased Approach The project, part of the Regional Program for Azerbaijan Phase 1: Legislative Framework and Central Asia Financial Infrastructure (ACAFI), operated Given that an efficient credit reporting system is anchored in from 2009 to 2019 with a budget of $2.6 million in the legislation, the project began by establishing the framework Kyrgyz Republic alone. Through the project, IFC equipped of rules and rights of public and private stakeholders relevant public and private sector entities with the involved. To that end, the project organized a study tour expertise needed to develop modern credit infrastructure for sector representatives to Morocco, leveraging IFC’s in the form of a fully functioning and commercially viable successful experience collaborating with the central bank of private credit bureau and a modernized collateral registry. Morocco, Bank Al-Maghrib, on credit information exchange, The program relied on a programmatic approach in three credit bureau formation, and instituting regulatory reforms. phases that included the passage of enabling legislation, This set the stage for the reform process in the Kyrgyz prioritized systemic solutions, and provided the required Republic, galvanizing support for the reform process from capacity-building to ensure effective utilization of credit key stakeholders. Despite political turbulence leading to bureaus and the collateral registry. While the project the abandonment of legislative reforms three times, the achieved greater success in enhancing the credit reporting Law on Credit Information Sharing was passed in 2016. system, delays in initiating the collateral registry project This legislative milestone, coupled with related acts, laid impacted its outcomes on that front. the foundation for sustainable data sharing practices. The project also launched legislative reform on secured When IFC and SECO intervened in 2009, the credit transactions, allowing for the unlimited use of movable reporting system consisted of a not-for-profit credit property as collateral for loans and thereby expanding bureau with limited technical and operational capabilities, potential credit options for small and medium enterprises. making it unsustainable in the long term. There was This reform resulted in the adoption of nine legislative acts, no legislation governing the credit reporting system, including the Law on Collateral and the Civil Code. including the absence of data protection legislation related to credit information regulation. This legal framework deficiency prevented the credit bureau from becoming commercially viable and attractive for further investments. Phase 2: Building Infrastructure A diagnostic study conducted by the project team in 2010 The second phase of the project sought to modernize the highlighted multiple deficiencies in the existing credit existing credit bureau and collateral registry. A cornerstone bureau’s business model, including inefficient corporate of the project was the transformation of the existing governance and organizational structures, poorly defined not-for-profit credit bureau into a commercial entity, and cumbersome internal processes and procedures, aiming to address the shortcomings mentioned earlier. fragmented and incomplete data, and a lack of commercial This transformation required the mobilization of political incentives for sustainable development. While there was a will, a shift in perceptions through knowledge and capacity legal framework for secured transactions in place, it was building, and building trust. Established in 1998 under a inadequate and performing poorly. World Bank project, the paper-based collateral registry was outdated and provided limited service, viewed more as procedural than value-driven. 2 The project assisted in the adoption of amendments to the Pledge Law and Civil Code that allowed the collateral registry to transition into a modern digital platform based on online notices. 469,500 Phase 3: Financial Literacy The final phase of project implementation focused on the promotion of usage of credit infrastructure by all relevant financial market players. This included the implementation of a financial literacy program, conducted in partnership with adults educated in 13 financial institutions. This initiative essential financial literacy successfully educated 469,500 adults in essential financial literacy concepts and concepts and money money management skills, aiming to management skills. promote improved credit behavior and loan repayment discipline. 3 Results $5.3B in financing for more than By project close in 2019, the project had facilitated $4.01 4.6 million individuals and billion in financing for 2.1 million individuals and MSMEs MSMEs facilitated by 2023. through the modernized credit information sharing system and allowed 74,400 MSMEs to access $237 million in finance through the establishment of the centralized collateral These measures helped to stabilize the ratio of non- registry (2020). By 2023, the project had facilitated over $5.3 performing loans (NPLs), reduce over-indebtedness, and billion in financing for more than 4.6 million individuals and introduce new lending products for retail and MSMEs, MSMEs in total. utilizing credit histories and innovative scoring tools. The existing credit bureau was transformed from a not- The project facilitated a $1.5 million investment in the for-profit organization to a commercial business in 2012. commercialized credit bureau by an international credit Since then, it has driven national progress, offering high- bureau and local banks. After project completion, additional quality credit histories, advanced online scoring models, investments exceeding $2 million were made into both and an agri-finance scoring tool. In 2018, a second private credit bureaus by foreign and local investors. The project credit bureau was opened. As of 2023, the credit bureaus also facilitated an $8 million IFC investment in the Kyrgyz issue a variety of traditional products as well as value added Highland Fund along with other investors, the first services for better risk management and new product institutional private equity fund in the country. The Fund development. They issue special monitoring reports that leverages the conducive financial sector environment automatically notify lenders of any changes in a borrower’s fostered by improved financial infrastructure to provide credit history, for example if a new customer request has growth capital to local MSMEs in services, agricultural been made by another financial institution, as well as lists processing, health, education, telecommunications, media, of active borrowers with multiple loans from multiple and technology. Advanced credit reporting products, financial institutions. They also offer benchmarking reports introduced following the transformation of the existing for financial institutions in comparison with the market and credit bureau, are now utilized to evaluate all loans analytical reports on sector trends, including for example disbursed by the Kyrgyz Highland Fund. the number of active loans in retail and for MSMEs. To potentially revitalize the agri-lending sector through Initiated in response to the 2008 global financial crisis and enhanced risk management practices, IFC developed and active during the 2015 financial instability in Kyrgyz Republic, introduced the innovative Cash-flow Linked Agriculture the project’s ongoing technical assistance likely mitigated Risk Assessment (CLARA) product line to be integrated into the impact on banks and non-bank financial institutions the credit reporting system. (NBFIs) during the latter crisis. Project support, together with other focused measures by the authorities, contributed Consequently, the project has helped to strengthen the to gradual improvements in financial sector stability risk management capabilities of financial institutions by following the crisis. introducing new tools for credit underwriting and risk management. By project conclusion in December 2019, The ACAFI project was succeeded by two subsequent IFC 14 financial institutions had implemented recommended projects to develop movable asset-based lending and to changes, surpassing a target of eight, and 35 financial enhance value chain financing in Kyrgyz Republic. institutions had adopted recommended standards and policies, exceeding a target of 13. 4 Impact An evaluation and client satisfaction survey from 2022 highlights the impact of the project in the financial sector. Respondents noted that nearly all major recommendations from IFC were effectively supported and implemented. Additionally, nearly all client representatives who worked with the project expressed satisfaction or high satisfaction with the quality of advisory services provided by IFC staff and consultants. The original credit bureau, CIB Ishenim, credited the project with the advance of credit reporting infrastructure in the country: “Thanks to the efficient collaboration between ACAFI, the Association, the NBKR, the Union of Banks, and the entire financial sector, coupled with the high caliber of expertise provided by IFC, we were able to develop the Law on Credit Information Exchange, subsequently adopted by the Parliament of the Kyrgyz Republic.” Results in numbers $5.22B 4.5M financing facilitated by credit number of individuals and MSMEs that bureaus by 2023 received loans supported by credit histories by 2023 $305M 96K financing facilitated by the number of MSMEs that had gained collateral registry by 2023 access to finance through the collateral registry by 2023 $2.1M $8M investment in credit bureaus IFC investment in Kyrgyz Highland Fund facilitated by the project made possible by the project 5 Next steps The first phase of the Global Partnership for Financial Infrastructure ran from 2015 to 2021. It is followed by a second phase from 2022 to 2027, with IFC and SECO as founding partners. The second phase of the program focuses on strengthening credit information systems, secured transaction reforms, movable asset-based lending, insolvency and debt resolution, and innovative product development based on big data analytics. It aims to expand responsible access to finance and facilitate financial inclusion for individuals and MSMEs underserved by the market. 6