88588 MARCH 2014 Establishing a Sound Credit ABOUT THE AUTHORS NAN JIANG Reporting System: is a Private Sector Development Specialist in Development Economics (DEC) Global Indicators Group, leading the Doing Business Getting Credit – Credit Information team, which researches credit reporting Perspective from Doing Business systems across 189 economies. Nan co-authored the annual Credit registries and bureaus—essential elements of the financial infrastructure— Doing Business 2010–2014 reports and various thematic enhance access to financial services. By sharing credit information, they help regional and subnational publications. Prior to joining the reduce information asymmetries, increase access to credit for small firms, improve World Bank Group, she worked in Société Générale corporate and investment banking, borrower discipline, and support bank supervision and credit risk monitoring. This London. SmartLesson focuses on the Doing Business Getting Credit – Credit Information CATRICE CHRIST index, which measures rules and practices affecting the coverage, scope, and works for the Doing Business project in DEC’s Global Indicators accessibility of credit information available through a credit registry or bureau. Group and researches rules and practices that enhance the coverage, scope, and accessibility Background of credit information through Box 1: About Doing Business credit reporting agencies. Previously, she worked on The importance of credit reporting is The Doing Business project, launched in governance and human rights issues for the German highlighted by its inclusion in the World 2002, looks at domestic small and medium development cooperation Bank-IFC Doing Business project—an annual companies in 189 economies and measures agency, GIZ. regulations that apply to them through report documenting the regulations that enhance and constrain business activity (see their life cycle. The annual report provides YASMIN ZAND is a Knowledge Management Box 1). However, 35 of the 189 economies quantitative measures of regulations for Analyst in DEC’s Global Indicators measured by Doing Business do not have starting a business, dealing with construction Group Doing Business team, managing external relations an agency that compiles and distributes permits, getting electricity, registering property, with respondents and credit and personal information to lenders. getting credit, protecting investors, paying supporting the research for the taxes, trading across borders, enforcing Getting Credit – Credit Recognizing this gap in information sharing, Information topic. Her prior contracts, and resolving insolvency. Doing we offer some lessons learned and good experience includes the Mellman Business also measures regulations on Group, a research-based political practices observed worldwide in establishing employing workers. strategy firm, as well as the 2004 well-functioning credit reporting systems. U.S. presidential campaign. The Getting Credit indicator is composed of APPROVING MANAGER Lesson 1: Establish a sound legal and two parts: 1) the legal rights of borrowers and Rita Ramalho, Program Manager. regulatory framework. lenders on secured transactions, and 2) the sharing of credit information. For the latter, The launch of a credit registry or bureau is Doing Business acquires data in two stages: often preceded by legislation that establishes First, it surveys banking supervision authorities the environment, rules, and rights of the and public information sources to confirm public and private stakeholders involved. the presence of a credit registry or bureau. The legal and regulatory framework for Second, when applicable it administers to the credit reporting should be clear, fair, and registry or bureau a detailed questionnaire supportive of consumer rights. In 2012/13, on its structure, laws, and associated rules. respondents reported that credit bureau laws Doing Business verifies questionnaire exist in 76 of the 189 economies measured, responses through several rounds of follow-up central bank regulations in 103, banking communication with respondents as well as by laws in 100, data protection laws in 94, and contacting third parties and consulting public consumer protection laws in 56. sources, and it confirms questionnaire data through teleconferences or onsite visits. While the legal framework differs from SMARTLESSONS — MARCH 2014 1 economy to economy, it should establish the rights and Figure 1. Increasing credit reporting obligations of the credit reporting agency, data providers, system coverage, 2004-2013 users, and data subjects. It should also provide clear guidelines on permissible and prohibited data, data security obligations, data retention periods, other compliance matters, and actions in the event of noncompliance. In 2012/13, 11 economies enhanced access to credit information by adopting laws or regulations improving frameworks for sharing credit information. For example, in June 2012, Bhutan adopted the Regulations for Licensing and Functioning of the Credit Information Bureau, which provides details of data to be supplied to the credit bureau, reporting modalities, time limits, and the terms and Note: Coverage indicator reports the number of individuals and firms conditions of using the data and information by authorized listed in the credit bureau’s or registry’s database as of January 1, with users. In December 2012, the Bank of Tanzania published information on their borrowing history from the last five years. The the Credit Reference Bureau Regulations, stipulating number is expressed as a percentage of the adult population aged 15 and the licensing and governance of the credit bureau, the above, according to the World Development Indicators. obligations of the credit bureau and data providers, the Source: World Bank Group, Doing Business database, 2013 edition. protection of data subjects, and the power of the banks. a second bank in the credit registry receive higher credit A sound legal and regulatory framework should also limits than other borrowers. establish consumer rights and provide a framework for consumer concerns with credit reporting data that may Sharing credit information can also benefit lenders. Research result from fraud, data entry mistakes, and improper in Albania concludes that information from a credit registry merging of information by the credit reporting agencies. improves loan performance; loans given after the launch of For example, in January 2013, China adopted the new the credit registry in Albania are 3 percentage points less Credit Information Industry Regulations, which cover likely to turn problematic.2 the collection, collation, preservation, and processing of personal credit information, as well as the distribution of As of January 2013, over 1.3 billion individuals and firms information to the user of the credit registry. Specifically, worldwide are covered by a credit bureau and 600 million Clause 17 of the Regulations guarantees borrowers’ right by a credit registry. The number of credit bureaus recorded to access their data in the credit registry twice a year free by Doing Business grew from 48 out of 145 economies in of charge. 2004 to 99 out of 189 economies in 2013 (Figure 2). The number of credit registries increased from 61 out of 145 Lesson 2: Set up a credit reporting agency. economies in 2004 to 93 out of 189 economies in 2013 (Figure 3). Establishing a new credit bureau or registry is an important move to improve access to credit in an economy (Box 2). Establishing a credit bureau or registry requires significant Over the past 10 years, more individuals and firms have investment and coordinated efforts across the public and been listed in a credit bureau’s or registry’s database private sectors. For example, the first Credit Bureau of (Figure 1). A study in China finds that borrowers’ access to Moldova was founded in 2011—with the joint effort of 14 credit increases when banks obtain additional information commercial banks and a total investment of $1 million—to through a credit registry.1 Borrowers with information from sustain information sharing between financial institutions. 1 X. Cheng and H. Degryse, “Information sharing and credit rationing: Its coverage grew by over 50 percent in two years, from Evidence from the introduction of a public credit registry,” European about 76,000 firms and individuals in January 2011 to over Banking Center Discussion Paper, 2010 115,000 in January 2013. By February 2013, with Tajikistan’s credit bureau starting operations, nearly all economies Box 2: Credit Bureau versus Credit Registry in Europe and Central Asia had established a functioning credit reporting system. Credit bureau—a private firm or nonprofit organization that maintains a database on the creditworthiness of borrowers in the financial system and facilitates the exchange of credit Lesson 3: Consider nonfinancial institutions as data information among banks and other regulated financial providers. institutions. For a comprehensive picture of a borrower’s payment Credit registry—a database managed by the public behavior, credit reporting agencies should consider data not sector(usually by the central bank or the superintendent of only from financial institutions but also from nonfinancial banks) that serves primarily to supervise financial activities in 2 P. Behr and S. Sonnekalb,“The effect of information sharing between economies while providing similar credit reporting functions as a lenders on access to credit, cost ofcredit, and loan performance— credit bureau. Evidence from a credit registry introduction,”Journal of Banking and Finance, 2012. 2 SMARTLESSONS — MARCH 2014 Figure 2. Europe and Central Asia established of firms and individuals registered in its database. In November 2012, two Bahraini car dealers started sharing the most credit bureaus (private), 2004-2013 payment history with a credit bureau, because they had suffered from high-risk customers and delinquency and came to understand the advantages of participating in credit reporting with the bureau. In addition, 21 credit bureaus and registries worldwide share information with other credit reporting agencies, 15 distribute information from courts, and 3 from statistical agencies. Also, 64 credit bureaus and 30 credit registries provide data from microfinance institutions. For example, Kazakhstan enacted legislation in November 2012 that enabled microfinance institutions to share data with credit reporting agencies, increasing the coverage of the credit bureau by almost 7 percent. In January 2013, Kenya Source: World Bank Group, Doing Business database, 2013 edition. passed its Finance Act, requiring all institutions, including microfinance institutions, to share credit information with entities such as trade creditors, retailers, and utility the credit bureau. companies. Since credit registries have a different mandate than bureaus, it is usually the credit bureaus that collect Lesson 4: Report the good as well as the bad. and distribute data from the nonfinancial institutions. Credit information can be negative (covering defaults and Including credit information from nonfinancial institutions late payments) or positive (such as on-time loan repayments is one effective way to expand the range of information and the original and outstanding amounts of loans).A distributed by credit bureaus. Providing information on credit reporting system that distributes only negative payment of consumer loans or electricity bills can help information penalizes borrowers who default on payments establish a good credit history for those without previous but fails to reward borrowers who pay on time. Sharing bank loans or credit cards. This represents an important information on reliable repayment allows customers to opportunity for expanding access to finance for people establish a positive credit history and improves lenders’ without traditional banking relationships. ability to distinguish good borrowers from bad ones. It also ensures that a credit reporting system will include high-risk According to the Doing Business survey, 32 of 99 credit borrowers that have accumulated significant debt exposure bureaus around the world distribute credit information without yet defaulting on any loans. from trade creditors, 41 from retailers, and 30 from utility companies. In April 2011, for example, two mobile phone Sharing full information makes a difference for both companies and an electricity and gas company in Rwanda borrowers and lenders. A study in Brazil finds that 56 started providing credit information to the credit bureau, percent of the sample population would get credit if only leading to an immediate 2 percent increase in the number negative information is used, but more than 82 percent would get credit if both positive and negative information Figure 3. Sub-Saharan Africa established is available.3 Access to positive information also would the most credit registries (public), 2004-2013 reduce the default rate from 3.37 percent to 1.84 percent of loans issued—equivalent to about a 45 percent reduction in portfolio losses for Brazilian banks. In June 2011, Brazil adopted the Positive Registry Law, allowing credit bureaus to collect and share positive information.4 According to Doing Business, 11 of the 154 economies with a credit reporting system still share only negative information, indicating a move toward full information sharing. For example, in December 2010, the central bank of Oman launched the Bank Credit and Statistical Bureau System, which collects positive and negative information 3 A. Powell, N. Mylenko, M. Miller, and G. Majnoni, “Improving credit information, bank regulation and supervision: On the role and design of public credit registries,” Policy Research Working Paper 3443, World Bank, Washington, D.C., 2004. 4 Reduction in default rate from 3.37 percent to 1.84 percent is based on the assumption that banks extend credit to 60 percent of the popula- Source: World Bank Group, Doing Business database, 2013 edition. tion. If banks extend credit to 40 percent of the population, the default rate would decrease from 2.78 percent to 1.30 percent of loans issued. SMARTLESSONS — MARCH 2014 3 on borrowers, including information on any Lesson 6: If beneficial, enable cross-border type of credit facility and on both performing credit reporting. and nonperforming loans. In March 2013, the Philippines’ BAP Credit Bureau replaced the In the course of globalization and financial old Loandex system with a new Positive Data liberalization, borrowers have become more Sharing System, which covers consumer and mobile and so may require access to credit microfinance loans. abroad. For financial institutions to assess the creditworthiness of borrowers outside Lesson 5: Distribute historical data within of their domestic market, credit information an optimal timeframe. needs to become available across borders. After credit reporting agencies collect the For example, nine central banks in Europe— information, for how long should they Austria, Belgium, the Czech Republic, distribute the data to users? Credit bureaus France, Germany, Italy, Portugal, Romania, and registries should strike a balance between and Spain—signed a memorandum of lenders’ need to have sufficient information understanding that encourages credit for risk assessment and borrowers’ right to registries to exchange credit information improve their credit history over time. on a regular basis and allows institutions to inquire about the indebtedness of a borrower About one-half of credit bureaus and one- in participating countries.5 Some European third of credit registries measured by Doing credit bureaus have signed similar bilateral Business distribute three to five years of agreements to exchange information on the historical information to users. The next basis of reciprocity, such as between SCHUFA most common timeframe, for more than in Germany and several credit bureaus in one-fourth of credit bureaus and one-fifth of Europe, including Austria (KSV1870), Greece credit registries, is six to ten years. (TIRESIAS), Ireland (ICB), Italy (CRIF), Lithuania (Creditinfo), Netherlands (BKR), Poland (BIK), Both extremes—sharing no historical Slovenia (SISBON), Spain (Equifax) or Sweden information and distributing it indefinitely— (UC). may hurt lenders and borrowers. For lenders, when credit reporting agencies do However, cross-border data transfer involves not preserve historical information or erase many challenges. Different legal frameworks, negative data upon repayment, assessing especially those concerning data privacy credit risks becomes more challenging. For protection, may apply and be in conflict borrowers, when credit reporting agencies with the credit reporting agency’s domestic distribute repayment shortfalls indefinitely, obligations. In addition, different market it weakens incentives to improve repayment practices, data content, and terminology habits and impress future lenders. may impede sharing of credit information in According to Doing Business, only 1 of 99 foreign markets. A framework for cooperation credit bureaus and 2 of 93 registries do not between relevant institutions and regulators distribute any historical information, while can help mitigate potential risks. 5 bureaus and 10 registries erase negative information immediately upon repayment. Conclusion Only six credit bureaus and five registries DISCLAIMER distribute all available historical data A sound credit reporting system can be an SmartLessons is an awards indefinitely. effective tool for fostering access to credit program to share lessons learned in development-oriented in an economy, especially for individuals advisory services and investment Today, 82 credit bureaus and 37 credit and small firms. The practices outlined operations. The findings, registries distribute more than two years in the lessons above help lenders assess interpretations, and conclusions of historical data. The historical purpose of borrowers’ creditworthiness using objective expressed in this paper are those of the author(s) and do not a credit registry (to supervise and monitor criteria—and benefit deserving borrowers by necessarily reflect the views of systemic risk in the financial sector) helps increasing their chances to get credit. And IFC or its partner organizations, explain why it is less likely to distribute enhancing access to credit improves stability the Executive Directors of The historical data than a credit bureau (which and opportunities for families, businesses, World Bank or the governments they represent. IFC does not aims to facilitate the exchange of information and the economy as a whole. assume any responsibility for the for credit-granting purposes). When credit completeness or accuracy of the reporting agencies do distribute historical 5 Signatory countries that face national legal obstacles information contained in this are not committed to the exchange of information document. Please see the terms data, they should distribute at least two years under this MoU; instead, they agree to strive to remove and conditions at www.ifc.org/ of information. the legal obstacles prohibiting the exchange of such smartlessons or contact the information (listed in an annex for each of the relevant program at smartlessons@ifc.org. countries). 4 SMARTLESSONS — MARCH 2014