Philippines

1.1 Key demographic and economic data

An archipelagic state, the Philippines has a land mass comprising some 7,000 islands, although 94 per cent of the total area of 300,000 square kilometres is on the eleven largest islands. With a population in 1995 of 68.6 million, the Philippines experiences a population density of around 230 persons per square kilometre, which is substantially higher than that of the other Southeast Asian countries included in this survey, and approaching the densities recorded for Sri Lanka and India in South Asia.

With a population growth rate of 2.2 per cent between 1990 and 1995 and a total fertility rate (births per woman) of 3.7 in 1995, population in the Philippines is growing substantially faster than in either Indonesia or Thailand (although Malaysia’s growth in a much less resource-constrained situation is slightly higher at 2.4 per cent). Gross national product (GNP) per capita in 1995 was $1,050, slightly higher than for Indonesia and substantially higher than in the South Asian countries included in this study. However, it was well below the levels of Malaysia ($3,890) and Thailand ($2,740). On a purchasing power parity basis, the Philippines has income per head well below all the other Southeast Asian states in this study, and also below Sri Lanka.

In terms of the structure of production, agriculture (which contributes 22 per cent of GNP) remains relatively more important than in the other Southeast Asian states in this study. Industry (which contributes 32 per cent of output) is weighted substantially less than in the Philippines’ Southeast Asian neighbours. This reflects the relative stagnation of the Philippine economy over the past 25 years, with implications for the incidence of poverty which are discussed below. In the decade 1985–1995, income per head increased at only 1.5 per cent annually, sluggish by Southeast Asian standards and below the rate of almost all the countries in this study.

UNDP classifies the Philippines as a ‘medium level’ country in terms of human development. With a human development index of 0.672 in 1994, the Philippines is at around the same level as Indonesia and substantially higher than most of the South Asian countries (although it ranks below Sri Lanka). The degree of its human development is substantially below that of both Malaysia and Thailand which are ranked in the ‘high’ category by UNDP. Life expectancy at birth in 1995 was 66 years and the infant mortality rate was 39 per 1,000 live births, close to the average for East Asia as a whole. However, some 95 per cent of adults were literate, the highest proportion among the nine countries in this study.

Estimates of poverty

Poverty continues to be the most important development problem confronting the Philippines. The incidence of poverty is substantially higher than in other market economies of East and Southeast Asia, while Philippine performance in poverty reduction has been relatively disappointing over an extended period. In part, as a recent report notes (World Bank 1996), poor performance in poverty alleviation has been related to disappointing economic growth performance: ‘so far, the country has not been able to sustain growth long enough to reduce its incidence of poverty to the levels attained in other East Asian countries’. The World Bank also points to structural distortions in the economy which have acted to prevent the benefits of economic growth flowing through to the poor.

While the incidence of poverty is known to be high, actual measurement is elusive. Official Philippine government measures of poverty incidence are thought to be overstated, because the poverty line is set using a standard food basket unrepresentative of the consumption patterns of the poor. As the World Bank points out, various measures of poverty incidence, depending on definition, showed anything from 37 to 54 per cent of the total population below the poverty line in 1991 (table 3). While the incidence of poverty appears to have fallen over a 30-year period from 1961, the decline has been slow and by no means continuous. The proportion of urban families living in poverty appears to have declined more rapidly than for rural families. However, with urbanisation, the urban poor actually formed a larger proportion of the total population in poverty than was the case thirty years earlier.

A national family income and expenditure survey, conducted in 1994, appears to indicate further modest declines in overall and sectoral measures of poverty. However, the economic setback affecting the East Asian region since mid-1997 (which in the Philippines has resulted in currency depreciation, higher interest rates and a slowdown in economic activity) has probably halted or even reversed this trend for the time being.

Table 3 adjusts official estimates to show 37 per cent of all families below the poverty line (23 per cent in urban areas and 53 per cent in rural) in 1991. The unadjusted estimate of 39 per for 1991 compares with 35.7 per cent for 1994, based on the family income and expenditure survey. This is the latest national poverty estimate. At that time about 4.7 million Philippine households were classed as poor. The relatively poor performance of the Philippines in reducing poverty, by comparison with the other Southeast Asian states in this study, is shown in table 4.

Other Southeast Asian countries included in this comparative study succeeded in reducing the incidence of poverty by annual rates of between 1.4 and 2.0 percentage points over an extended period of two to three decades. In the Philippines the annual average reduction was considerably less. Moreover, economic growth in the Philippines ‘was narrowly based and inequitable, trapping many people in marginal, low paying occupations . . .’ (World Bank 1996, p.4). This was a consequence of what the World Bank describes as a ‘highly inequitable distribution of incomes and assets’.

By contrast, in Indonesia where per capita income is roughly equivalent to that in the Philippines, the distribution of income was much more even and the incidence of poverty substantially lower. The World Bank notes that ‘most other East Asian countries have experienced dramatic improvements in income distribution’, whereas income inequality in the Philippines ‘has not improved over time’ (p.4). The respective Gini Coefficients for Indonesia and the Philippines were 0.317 and 0.407, with the lower figure indicating greater equality. The richest 20 per cent of the population in Indonesia had some five times the income of the poorest fifth: in the Philippines the ratio was ten to one.

Thus, at the beginning of the 1990s more than one third of households in the Philippines still had income below the poverty line and more than a half of the rural population was poor. As against that, despite the relatively high proportion beneath the poverty line, it appeared that the poor were relatively better off, in the sense that the gap between the income of the poor and the poverty line had narrowed. The World Bank noted that a substantial proportion of those below the poverty line could be lifted out by a combination of sustained growth and a more effective poverty alleviation strategy. Here is where appropriate interventions, including microfinance, could make a difference, although recent economic difficulties in the region (even though less severe in the Philippines than elsewhere) have made the task more difficult.

Policies for poverty reduction

After the ‘people’s power’ revolution and the restoration of democracy in 1986, the primary concerns of the Aquino administration were governmental reform and macroeconomic stabilisation. Further progress towards financial sector liberalisation occurred and positive encouragement was given to the development role of NGOs. The advent of the Ramos administration in 1992 saw a number of significant initiatives explicitly directed at poverty as a primary objective. A persistent theme has been the need to rationalise the wide range of government programs directed towards aspects of poverty, and to secure greater effectiveness and better targeting.

The World Bank report of 1996 which commented upon the persistence of poverty in the Philippines referred to the limited success of ‘safety net’ programs directed to various needs of the poor. A bewildering range of such schemes had come into existence during the 1970s and 1980s. These included employment creation, food subsidies and ‘livelihood programs’. Much of this effort had been ineffective and ill-directed (a judgement applying both to the broad range of poverty programs, and to the proliferation of specific ‘livelihood’ programs offering credit).

With the election of President Fidel Ramos in 1992, the new Administration created the Presidential Commission to Fight Poverty whose head held Cabinet rank. The potential for access to credit to play a role in poverty alleviation was acknowledged in several initiatives. These included the Social Pact on Credit, forged in 1993 between government agencies, government financial institutions, private banks, cooperative rural banks and farmers’ groups, and the Social Reform Agenda of 1994. The Social Pact led to the creation of a National Credit Council (NCC), discussed below.

The Presidential Commission to Fight Poverty identified five major strategies to address poverty, which have been endorsed by the Philippines government. These involve a blend of broad-brush macroeconomic measures, microeconomic reform and decentralised, people-centred initiatives with the short-term goal of bringing the incidence of poverty down to 30 per cent by 1998, when the term of the current Administration expires. In summary, these strategies are as follows:

(1) Promote and sustain economic growth to create employment and livelihood opportunities: this is to be done by a combination of infrastructure development, taxation reform, financial sector development, microeconomic reform directed at various impediments to growth, and targeted government spending.

(2) Sustain growth based on people-friendly strategies: the promotion of labour-intensive technologies, removal of policy biases against agriculture, reform and revival of rural financing facilities, redirection of credit in ‘livelihood’ programs to the ultra-poor.

(3) Expand social services to provide minimum basic needs: primary health care and family planning, elementary education, nutrition, housing, water supply and sanitation.

(4) Foster sustainable income-generating community projects: emphasise ‘livelihood’ programs providing skills training, credit and technical extension; consolidate lending programs for the core poor under the Presidential Commission to Fight Poverty; extend credit at commercial rates and without collateral.

(5) Build the capabilities of the poor to help themselves: involve local leadership through implementation of programs through local government, mobilise the private voluntary sector (including NGOs) and facilitate the formation of people’s organisations.

Key elements of this program are embodied in the Social Reform Agenda (SRA), approved by the President in 1994. The SRA focuses on the provision of health, nutrition, education, credit and shelter to the target groups. Implementation of the Agenda required the creation of nine ‘flagship’ programs focusing on basic needs of the poor; one of these is concerned with credit. Various initiatives flowing from this are discussed below.

Since 1993 the National Credit Council (NCC) has been charged with the task of rationalising and coordinating the numerous credit programs operated by agencies of government. It has also conducted a series of studies on aspects of credit policy, with the support of a USAID-funded consultancy. While the articulation of policy guidelines is one thing, and their implementation another, those articulated in the Philippines (most recently, in the National Strategy for Microfinance completed by the NCC in January 1997) are unusually explicit in situating microfinance within the broader financial system, and in according it a key role in poverty alleviation.

The microfinance strategy is set in a framework in which the role of the private sector (including MFIs) is emphasised and an enabling policy environment is to be established. Market interest rates are to apply to loans and deposits, and government line agencies are supposed to withdraw from the implementation of credit and guarantee programs in favour of specialised lending agencies. The institutional framework for microfinance is to be one in which:

(1) MFIs engage in sustainable microfinance intermediation

(2) the government (through the NCC) provides a policy environment supportive of efficient financial markets and private MFI participation in those markets

(3) specialised government financial institutions (in particular, the People’s Credit and Finance Corporation) provide wholesale funds and technical assistance to MFIs

(4) commercial banks provide wholesale funds and financial services to MFIs and work with them in mobilising savings

(5) NGOs will provide services of non-financial intermediation between poor households and MFIs

(6) donors will provide assistance for ‘social preparation’ activities and support the more efficient operation of the microfinance market and microfinance institutions.

Finally, at the time of writing, the Philippines Congress is considering a major piece of legislation for ‘An Act institutionalising a national strategy for poverty alleviation’. This Act passed into law in December 1997. The intention was (inter alia) to institutionalise the Social Reform Agenda, strengthen the People’s Credit and Finance Corporation, establish a People’s Development Fund as a permanent vehicle for providing capacity building for microfinance, and introduce new savings instruments designed for small savers while setting up special new credit windows in government financial institutions for the poor.

1.3 Overview of the financial system

As at end-1996 there were 49 commercial banks in the Philippines, supervised by the central bank, Bangko Sentral ng Pilipinas, and offering the full range of banking services. These banks are represented by an umbrella organisation, the Bankers’ Association of the Philippines (BAP). In addition, Bangko Sentral supervises some 108 thrift banks and 805 rural banks, the latter including some 47 cooperative banks. Thrift and rural banks are more restricted in their operations than commercial banks, typically serving a community or limited geographic area, and being more widespread throughout the provinces. They have much lower minimum capital requirements. For 1993, del Rosario (1995) reported that the commercial banks dominated the banking sector. Their assets constituted some 76 per cent of those of the banking system and 56 per cent of those of the whole formal financial sector.

There are also three specialised government banks, the Development Bank of the Philippines, the Land Bank of the Philippines (LandBank) and Al-Amanah Islamic Investment Bank of the Philippines. These banks are governed by their respective charters, and supervised and regulated by Bangko Sentral. Bangko Sentral also regulates various non-bank financial intermediaries, including finance companies, mutual building and loan associations, and non-stock savings and loan associations.

There have been a number of financial reforms since the early 1980s. Interest rate ceilings for banks were removed in 1981 for deposits and in 1983 for loans. Bangko Sentral has considerably relaxed the previous restrictive rules for bank entry. In 1989 the moratorium on the establishment of new commercial banks was lifted. In 1994 the entry of foreign banks was permitted. Restrictions on branching by existing banks were reduced in 1989 and again in 1993. Since 1987 the role of government banks has been reduced, with a shift in emphasis from retail lending to wholesale lending using private banks as conduits. There have also been changes to various prudential requirements, and certain foreign exchange transactions have been liberalised. Bangko Sentral has set up a committee to review the Banking Act of 1935.

Notwithstanding these reforms, the financial system of the Philippines remains relatively undeveloped. As a measure of financial depth, in 1995 the ratio of money and quasi-money to GDP stood at 45.4 per cent. This ratio of money and quasi-money to the value of output is at approximately the same level as in India (with a very much lower per capita income) although higher than in any other of the South Asian countries considered here. It is somewhat higher than in Indonesia, but well below the levels in Malaysia and Thailand (85 and 74 per cent, respectively). Bank deposit rates were virtually zero in real terms, while an interest rate spread of more than 6 per cent between deposit and lending rates in 1995 appeared to reflect a domestic banking environment still somewhat cosseted from market forces.

Reviewing financial sector development in the Philippines soon after the commencement of the current regional financial crisis, Intal and Llanto (1998) credit the financial system with achieving progress in provision of financial services to the broader population over the last few years:

The robust economic recovery since 1994 in the Philippines has encouraged greater financial deepening. The stable macroeconomy in recent years, with the implicit low inflation expectations, has encouraged expansion of formal financial institutions deeper into the countryside and the urban informal sector, thereby providing stronger competitive pressure vis-a-vis informal financial intermediaries (for example, moneylenders) (p.48).

However, by early 1998, the Philippines was experiencing currency devaluation, higher interest rates and loss of output with higher unemployment. Yet no regulated financial institution had failed and the severity of the crisis appeared much less than elsewhere in Southeast Asia. This was attributed by Intal and Llanto to the country’s more robust financial system and its comparatively recent participation in the regional boom in capital inflows. This has meant lower and more favourable composition of external debt, and less speculation in real estate.

1.4 Overview of microfinance

In the Philippines the terms ‘microfinance’ and ‘microenterprise development’ are still used in some quarters as though they were synonymous. Many credit programs run by government agencies, and the programs of a range of financial institutions (including rural and thrift banks, credit cooperatives and the bankers’ association) may be referred to as ‘microfinancing’ but are in practice programs for microenterprise development and not directed towards what in the Philippines are termed the ultra poor. Even among the NGOs, many are concerned with the economic activities of persons of limited means and without access to banks. But serving this category of people is not poverty alleviation and the service itself is not microfinance.

In general, the banks do not provide financial services to poor clients. Of all the banks, it is the rural banks that are best placed to engage in microfinance. Rural banks are established to meet the credit needs of borrowers who are often outside the catchment areas of commercial banks and/or who may be considered poor risks by other banks. They are authorised to accept savings and time deposits, and provide short-term loans for productive purposes with minimum collateral requirements. In addition, cooperative banks may be organised to perform banking and credit services for the cooperatives. Most rural and cooperative banks do not have means-tested programs targeted to poor borrowers, and it is understood that most of their clients are people in the rural areas who are slightly better off.

Nevertheless, there are a number of rural banks that are active in providing small loans to poor borrowers, such as the Cooperative Rural Bank of Santa Cruz, the Cooperative Rural Bank of Aklan, the Davao Cooperative Rural Bank, and St Leonardo Rural Bank (which operates a microfinance program based on the Grameen system). The World Bank (1996, p.64) comments that sufficient evidence exists of the profitable provision of savings and credit services to the poor by cooperative rural banks to suggest that ‘. . . these banks offer an interesting possibility for reaching the poor effectively without setting up alternative institutions’.

The Philippines has a vibrant NGO community, and there are an estimated 500 NGOs providing microfinance services. Most of the larger ones replicate the Grameen approach, with means testing of borrowers, group formation and preparation, and the use of group guarantees. While there is a large number of NGOs, none have particularly large programs and most are very small. It is estimated that as at end-1995, the largest NGO program had only around 3,100 poor borrowers, and the total outreach of the 500 odd programs was only around 30,000. However, this is an area where estimates differ widely.

Most NGO programs are a long way from operating on a sustainable basis. Llanto, Garcia and Callanta (1996) report that fewer than 50 MFIs employ commercial lending and partly cover their costs. Most of the larger NGOs lend at market-based interest rates and seek at least to cover their operating costs. Nevertheless, in their study of six major MFIs and one cooperative rural bank engaged in microfinance, only the cooperative rural bank was financially self-sufficient, and only one of the MFIs was operationally self-sufficient.

There is a large number of government credit programs designed to provide financial services to the poor. The National Credit Council identified 111 government credit programs in 1995, of which no more than 13 are targeted to the ultra poor. Of these, only four have significant outreach: namely the Tulong sa Tao program of the Department of Trade and Industry; the linkage program of the National Livelihood Support Fund; the microfinance program of the Department of Social Welfare and Development; and the Micro Credit Program for the Bottom Poor, a Grameen Bank replication project implemented by the Agricultural Credit Policy Council and LandBank. Apart from the Department of Social Welfare and Development program, these programs involve lending through NGOs as credit conduits. For instance, the Agricultural Credit Policy Council project involves 23 NGOs and cooperative rural banks. In general, credit programs operated by the government are highly subsidised. Llanto et al. (p.14) comment that:

. . . Philippine experience has shown the huge inefficiency and high costs of using government non-financial institutions to implement credit programs. Recent research has shown the unsustainability of government supply-led credit programs, the great capacity for leakage of the benefits of government credit programs leading to gross inefficiencies, the distortion of the financial market and weakening of private sector incentive to innovate.

In addition to the banks and specialised microfinance institutions, non-stock savings and loan associations supervised by Bangko Sentral provide savings and credit facilities to members. Membership is confined to a well-defined group of persons, and they are not allowed to provide financial services to the general public. As at end-December 1995, there were 88 non-stock savings and loan associations in the Philippines.

There are also cooperatives and credit unions, supervised by the Cooperative Development Authority. Some 42,000 cooperatives are registered under the Cooperative Code of March 1990 but half of these are considered non-operative. Credit unions and cooperatives offer members fixed deposits which cannot be withdrawn until membership ends, as well as savings and time deposits which are withdrawable. This gives the cooperatives a larger resource base for lending than is available to the NGOs.

Among the cooperatives there are those promoted by the government to implement livelihood programs, most of whose equity is contributed by LandBank. There are also grassroots cooperatives which have national-level federations of their own. There are four such national federations, one of which is NATCCO, the National Confederation of Cooperatives. This has a network of 1,700 affiliated primary cooperatives, a quarter of which are credit cooperatives. NATCCO provides a range of services, including deposit guarantee insurance which is being developed for selected member institutions. It may eventually open the guarantee scheme to other cooperative federations. NATCCO’s primary credit cooperatives may be cited here as an example of privately initiated microfinance institutions which, on the evidence of their small loan sizes (Ps5,000 to Ps6,000 or $200 to 240), certainly reach down to the poor even if not serving them exclusively.

A distinctive form of microfinance is provided by the ‘lending investor’. Lending investors are basically moneylenders who are licensed by Bangko Sentral and subject to minimal regulatory requirements and supervision. They are permitted to accept deposits from a maximum of 19 individuals, and are permitted to make loans to whomever they wish. There has been a rapid increase in the number of lending investors in recent years, and increased competition has led to reductions in the interest rates they charge. Some 1,400 lending investors typically charge interest of between 3.5 and 4 per cent flat per month. Together with more than 2,000 pawnshops, they deal with segments of the population usually beyond the reach of formal financial institutions and compete with informal financial sector lenders. They are characterised by simple procedures, low transaction costs, rapid response and accessibility, but normally require collateral and probably do not reach the ultra poor.

2 Arrangements for direct support

The government has been heavily involved in directly supporting microfinance, with the multiplicity of government credit programs already discussed above. In some cases, government agencies lend directly to final borrowers. However, the government has increasingly channelled funds through NGOs as a means of providing credit to the poor. For instance, programs such as the Department of Trade and Industry’s Microcredit Project and the Grameen Replication Project of the Agricultural Policy Credit Council use NGOs as credit conduits. LandBank uses the National Livelihood Support Fund to channel funds to NGOs and other institutions for relending to the poor. The government credit programs have been criticised for being inefficient, highly politicised, uncoordinated and unsustainable; as described below, the Department of Finance and the National Credit Council are currently working to rationalise them. In their emerging framework, the People’s Finance and Credit Cooperation (PCFC) has a major role, also discussed below.

2.1 Support for specialised microfinance institutions

As mentioned previously, the government established the National Credit Council following the 1993 Social Pact on Credit. It has 22 members drawn from government agencies, government financial institutions and the private sector. The council has four major objectives:

(1) to rationalise and optimise government lending programs

(2) to develop a national credit delivery system

(3) to encourage private sector participation

(4) to define and rationalise the role of guarantee and guarantee agencies.

The council’s focus has been exclusively on small credit and microcredit; it is concerned with the operations of regulated financial institutions only to the extent that their activities impinge upon these concerns. It has developed a set of guidelines, Policy Guidelines for Credit for the Poor, applying to government agencies undertaking lending programs or programs with a credit component. These guidelines argue that the Philippine banking and financial system is capable of supplying most of the financial requirements for microfinance, and that the role of donor agencies and external funding should be primarily in technical assistance. The NCC guidelines also provide that government line agencies should focus on technical assistance and capacity building for microfinance, and should channel all their lending activities through banks and MFIs, including credit unions, cooperatives and NGOs.

To date, NCC has had limited success in achieving its objectives, as embodied in the National Strategy for Microfinance of January 1997, or the credit policy guidelines described above. This is because it has no authority to require modification or elimination of policies or programs it believes are inconsistent with sound microfinance. The NCC has been relocated from LandBank to the Department of Finance, to eliminate perceptions of conflict of interest (given its aim of stripping lending functions from line agencies). USAID has provided a technical assistance grant to strengthen it, but since the council’s efforts at rationalisation confront powerful bureaucratic and political interests, real progress is likely to require sustained political backing at the highest level. The timetable for the NCC calls for its work to be completed by mid-1998, at the end of the term of the current Administration. No continuing role is envisaged for it beyond that date.

In addition to establishing the National Credit Council for policy guidance, the government has taken a number of other program initiatives with respect to microfinance. In 1994, credit was included as one of nine ‘flagship’ programs under the Social Reform Agenda of the President, mentioned above. Following this, the government created the Task Force on Credit for the Poor, from which flowed the Credit for the Poor Program.

This program has developed a strategy of segmenting the various groups of the poor and encouraging sustainable microfinance provision, with particular emphasis on the Grameen Bank approach for the ultra-poor group. One of the major outcomes of this strategy has been the People’s Credit and Finance Corporation (PCFC), a second tier financial institution to serve the credit needs of the poor.

The People’s Credit and Finance Corporation

In 1995 LandBank established the People’s Credit and Finance Corporation as a government finance company for lending to the poor, and it continues to hold 99 per cent of the share capital. It is incorporated under the Corporations Act and regulated by the Securities and Exchange Commission. Its Articles provide for it to be privatised in due course.

PCFC is the executing agency for a $26.3 million program funded by a loan from the Asian Development Bank (ADB) and the International Fund for Agricultural Development (IFAD). These funds are to be provided exclusively for PCFC to support MFIs replicating the Grameen Bank approach. The loan allocates resources in favour of a particular model, rather than by objective evaluation of the performance of MFIs already active, whatever model they follow.

As this study shows, there is a variety of indigenous institutions exploring various paths to sustainable microfinance provision in the Philippines. Thus, in mid-1997, PCFC was funding 58 conduit institutions from its National Livelihood Support Fund (NLSF) reserves, only 17 of which were Grameen replicators. The World Bank (1996, p.65) notes that:

The Grameen Bank model is not the only successful approach to microfinance, and the current emphasis on Grameen replication as the only way to reach the ultra-poor may be discouraging the expansion of other successful models in the Philippines.

PCFC should be permitted to be even-handed in its support of MFIs, focusing on their effectiveness and performance, objectively evaluated. Failure to maintain even-handedness is likely, under current conditions of a credit ‘squeeze’ affecting commercial bank sources of credit for microfinance (discussed in section 2.2 below) to cause the impact of financial sector stringency to fall disproportionatly on non-Grameen Bank MFIs.

PCFC is registered as a finance company, not supervised by the central bank, but reporting to it. More onerous supervision, and adherence to banking ratios and other norms, would be required for it to progress to quasi-bank status. PCFC has given undertakings to the ADB to conform with the quasi-bank guidelines as a preparation for upgrading to that status.

PCFC’s issued capital is Ps100 million and will be increased to Ps400 million. The initial capitalisation was provided by NLSF, and the corporation commenced operations by taking over NLSF’s loan portfolio. PCFC defines microfinance institutions broadly: it provides funds to NGOs, rural banks, cooperatives and other intermediaries as conduits for on-lending to the poor, and aims to ensure that such intermediaries are replicable, self-sustaining and operationally viable. NCC’s strategy for the corporation calls for it gradually to replace many of the other lending programs operated by line agencies of government.

The ADB is requiring PCFC to complete a privatisation plan by mid-1998, with a view to completing the process by end-1999. Its shareholding is envisaged as a mixture of government and public shareholding. In particular, it is hoped that MFIs and other institutions which form the constituency for PCFC will take up stock. In preparation for privatisation, the corporation has been called upon to show a profit. Consequently, for the present PCFC has adopted the policy of extending credit lines only to ‘intermediate’ and ‘advanced’ MFIs, where profitability is more assured. For MFIs at the ‘start-up’ or ‘beginner’ phase, it plans in due course to mobilise funds from government, UNDP and bilateral sources. It could thus become a force for multiplying the numbers of MFIs, as well as increasing the outreach of established institutions.

At the time of the fieldwork for this study, PCFC’s loanable funds were sourced entirely from NLSF. With a cost of funds of 6 per cent, the corporation was lending to intermediaries at 12 per cent on the diminishing balance and required them to charge a market rate (at least 2 per cent per month). The corporation’s ‘spread’ of 6 percentage points was felt adequate for normal operations. However, funds were also loaned to ‘conduits’ for capacity building. These were soft loans, and although limited to 20 per cent of total outstandings, were a source of concern, given the need for PCFC to show a profit. After privatisation, the government should accept greater responsibility for capacity building.

A further concern, in regard to PCFC’s ability to turn a profit, was that the ADB/IFAD funding proposals would allow it a spread of less than 6 percentage points and that the ‘pass-on’ rate stipulated for these funds was only 10 per cent. This would compare with a cost of funds for non-Grameen intermediaries, as noted above, of 12 per cent. PCFC should be permitted to be even-handed in regard to interest rates for all MFIs, and to avoid the distortions which differential rates would involve. Continuing negotiations over this and other issues appeared to be delaying the disbursement of the loan by the multilaterals. A second ADB/IFAD loan of $157 million has also been signed.

PCFC deserves support as an integral part of the strategy to rationalise the provision of microfinance in the Philippines. Donor agencies should seek so far as possible to channel support for microfinance through PCFC in preference to line agencies of government. They should also avoid supporting unsustainable credit operations mounted through such agencies, which would be better employed offering technical assistance in the areas of their special competence.

Support for capacity building

PCFC is also responsible for providing technical assistance to strengthen NGOs. The soft loans it provides for this purpose are mentioned above in the context of its needs to achieve profitability prior to privatisation. In this respect the corporation is better resourced than PKSF in Bangladesh, which has only loanable funds to offer MFIs. In the 1997 budget, the government allocated Ps100 million for capacity building for MFIs under its national Poverty Alleviation Fund, a ‘quick response’ fund targeting minimum basic needs, of which the corporation is an implementing agency. The ADB/IFAD loan to PCFC also has a capacity-building component. Soft credits will be available to Grameen replicators for start-up costs, training and self-help group formation and training.

In regard to capacity building for MFIs, the corporation works with the Punla sa Tao Foundation (Punla). A complementary initiative to PCFC, Punla is a non-stock non-profit entity operating as an NGO. It was created at the initiative of the Presidential Commission to Fight Poverty and business interests to build the capacity of institutions to provide financial services to the poor. Punla is represented on the board of PCFC, and on the NCC working group concerned with the ultra-poor, and provides microfinance training services (for example, preparing the training modules for capacity building financed this year under the Poverty Alleviation Fund). It operates on a fee-for-service basis as well as raising funds from the corporate sector and elsewhere. It is an interesting model for an organisation designed to catalyse public and private support for capacity building in microfinance, and will offer management and research as well as training. Punla should be adequately financed and creatively involved by government in the process of equipping MFIs to meet the challenge of greatly expanding their outreach in the Philippines.

Directed credit schemes

Banking institutions are required to allocate at least 25 per cent of loanable funds to agricultural credit, of which at least 10 per cent must be for agrarian reform credit. The 25 per cent allocation can include investments in certain government securities and loans to educational institutions, cooperatives, hospitals, low-cost housing and local government units. However, in 1995 banks were exempted from these requirements so long as a minimum of 5 per cent of their loanable funds were lent to farmers’ associations or cooperatives. Under the Magna Carta for Small Enterprises, all lending institutions are required to set aside portion of their loan portfolios for small enterprise credit. The portion mandated is 5 per cent from 31 December 1996, although the requirement may be abolished by 31 December 1997. Such lending has had little relevance to poverty alleviation in any case and the case for retaining it is not strong, given that conditions appear favourable for market forces increasingly to provide the necessary services.

Programs channelled through the banking system

Government agencies also provide support to banks involved in microfinance. Rural banks are able to rediscount eligible papers with Bangko Sentral at preferential rates of interest. In an emergency or financial crisis, Bangko Sentral may give a loan to a rural bank against the security of its assets. Bangko Sentral also provides technical support to rural and cooperative banks. It provides them with free technical assistance both during the process of organisation, and when they are already in operation. It also conducts training programmes for rural bank personnel free of charge.

Linkages between banks and specialised microfinance institutions

Linkages between commercial banks and MFIs are seen as one means by which the resources of domestic financial systems can be marshalled for the benefit of the poor. Such linkages have arisen in the Philippines with the support of external donors, as the result of political pressure, and with the benefit of tax breaks designed to encourage corporate philanthropy. At the time of fieldwork for this study, in mid-1997, there was also increasing evidence of such linkages occurring on a commercial basis.

One such project with official support is the Project Linking Banks with Self-Help Groups, conducted jointly by the LandBank, the Philippine Council for Rural Savings and Finance and the German technical cooperation agency, GTZ. With heavy emphasis on institution-building support from GTZ, this is one of a number of such projects the German government is supporting in Asia. At end-1995, according to APRACA (1996), a total of 16 ‘conduit’ MFIs served by 53 bank branches were dealing with some 670 self-help groups in the Philippines. These groups, with more than 32,000 members, received loan disbursements of almost $8 million and mobilised deposits of some $0.7 million. Not much otherwise is known about the performance or sustainability of these group-based schemes.

There have also been a number of private Philippine initiatives in this field. The Social Pact on Credit, mentioned above, was agreed in 1993. It involved private banks, as well as government agencies and financial institutions and other stakeholders. Among its results was increased awareness among private commercial bankers of the possibilities of microfinance. Subsequently, during 1994 the Bankers’ Association of the Philippines (BAP) established its own Credit Guarantee Corporation (CGC) to provide guarantee cover to member banks lending to microfinance institutions. BAP has also supported training courses for NGOs in microfinance management.

A total of Ps784 million ($31.36 million) was reported to have been lent as ‘working capital’ loans with the facilitation of CGC during the first three years of its operation. The average loan size was Ps264,000 (around $10,500), not a very useful statistic for our purposes, since it seems to relate both to loans made to MFIs and to individual loans. Loans written under CGC auspices cover a very wide range and certainly include small (rather than micro) business borrowers. The borrowers assisted are marginal to the commercial banking system, and unable to qualify for loans under normal criteria. To that degree, the scheme answers a social need and can be seen as a response to the Social Pact on Credit. However, the need addressed does not seem to be poverty alleviation, except perhaps at the bottom end of the range of CGC-guaranteed loans.

Linkages between commercial banks and MFIs are facilitated by tax breaks available to corporations in the Philippines (including private commercial banks) which set up charitable foundations. In a number of cases, banks have been able to conduct exploratory ventures in support of MFIs by channelling the necessary resources via their foundations (and reducing their exposure to losses in the process). One such foundation is the BPI (Bank of the Philippine Islands) Foundation.

The BPI Foundation had resources of about Ps30 million ($1.2 million) in mid-1997, and had extended lines of credit to nine NGOs and three credit cooperatives at a ‘soft’ interest rate of 8 per cent for on-lending to the poor (as against commercial rates of between 14 and 16 per cent). On average, each of these MFIs had received a line of credit of Ps1 million ($38,000) from the foundation, and on-lent to group members at interest rates ranging from 18 to 30 per cent, which yields a fairly high margin. About 1,600 individual loans had been financed in this manner. The BPI Foundation’s dealings with NGOs had been more satisfactory than those with credit cooperatives; the repayment rate from NGOs was 100 per cent and that from cooperatives around 80 per cent. However, total funds made available through this ‘window’ to NGOs have not been very significant in relation to the foundation’s current resources, indicating a very cautious approach to this lending.

MFIs intending to borrow from the BPI Foundation have to meet the following conditions:

(1) a good track record for at least three years

(2) annual audited accounts

(3) repayment rate not less than 90 per cent

(4) loans targeted to the poor (although the foundation does not apply a means test).

The BPI Foundation monitors the continuing compliance of MFIs with these requirements.

A number of other banks, including Solid Bank and Far East Bank, have also set up foundations. Motives for involvement in microfinance in this way are mixed, ranging from tokenism to a genuine interest in trialling microfinancing in an environment of reduced risk. Banks which commenced financing MFIs in this way, notably BPI itself, were in 1997 making the transition to full and profitable commercial financing of MFI operations without benefit of a tax shelter. The study conducted for the BWTP Network in the Philippines by Ms Ruth Goodwin-Groen (forthcoming) provides empirical data relating to the successes of these private commercial initiatives. In India the publication of guidelines in support of bank/MFI linkages by NABARD has been a positive influence. Bangko Sentral could play a similar leadership role in the Philippines.

One powerful motive for the growing interest of commercial banks in microfinance is the potential for savings mobilisation from relatively untapped sections of the national population, allied with the growing competitive pressures to which the industry is becoming subject. They are acquiring small banks and showing increasing interest in agency arrangements with NGOs to tap into the market. The possibility exists for them to assist in the creation of NGOs for this purpose or (as happens in Indonesia) forming self-help groups directly for financial services. These would be positive developments and should be encouraged. Such ‘principal/agent’ relationships need not be exploitative, and the demand for savings services is in the long run likely to be much greater than the demand for credit, as the experience of Bank Rakyat in Indonesia suggests.

However, effects of the regional financial crisis in the Philippines financial sector since late 1997 have included interest rate increases and the reversion to extremely conservative lending practices by commercial banks. Credit lines available to MFIs, where they are rolled over at all, are renewed at higher rates of interest and with stricter collateral requirements. While the overall impact is not yet clear, current conditions are not conducive to expanded commercial bank engagement with microfinance.

2.3 Direct government programs

Mention has been made at a number of points of the multiplicity of government-administered credit programs which persists in the Philippines, whose rationalisation is the objective of the National Credit Council. The NCC has classified them by sector (table 5).

These government-run credit programs were enumerated in 1995 and involved many agencies of government. Only 13 were said to focus on the ‘ultra poor’. More recent information indicates that the actual number of programs is even greater; the latest tally appears to be between 140 and 150, involving around 45 agencies. Lending under these programs is direct as well as through NGO conduits.

Non-governmental organisations

Non-governmental organisations (NGOs) in the Philippines are classed as ‘non-stock, non-profit’ organisations, and registered with the Securities and Exchange Commission (SEC). They are not closely supervised by the SEC, but must file audited annual financial statements with it. For an NGO to achieve registration, it must nominate a board of directors (between five and 15 members) a majority of whom should be citizens of the Philippines. Personal information must be provided to determine the standing of persons nominated. The initial capitalisation required is a minimum of Ps50,000 ($2,000). The NGO must provide proof of its financial standing.

After the approval of a name for the organisation, it is necessary to file articles of incorporation and by-laws. The SEC provides a ‘pro forma’ set of by-laws as a guide. Applications are reviewed in less than a month and are normally approved, following which the business name of the NGO is registered with the Department of Trade and Industry. Registration with the Bureau of Internal Revenue is also required. Finally, it is necessary to obtain approval at the municipal level, and a licence to operate in a particular locality.

In principle, NGOs are liable to tax at the rate of 5 per cent of gross revenue. However, after operating for a minimum of one year, application can be made to the Bureau of Internal Revenue for tax exemption, on the basis that the NGO has shown itself a bona fide charitable organisation. This, however, appears to be an area of some concern to many NGOs. Annual reports must be filed with the SEC, together with a general information statement and audited financials. These are copied to the Bureau of Internal Revenue. The processes of registration and annual reporting are relatively simple, with the exception of proving bona fide status for tax exemption. It is necessary to show that activities are not conducted for benefit of directors.

While NGOs are subject in principle to ongoing supervision, in practice they appear to be examined rarely. NGOs are required to keep all records for a minimum of five years, to observe minimum wage legislation and to register employees with the social security system. Foreign donations must be reported with the annual accounts, but are not subject to any control or supervision.

Guidelines for governance are set out in the pro forma Articles supplied by the SEC. In cases of dispute within an NGO, an appeal can be made to the SEC. Overall, the SEC appears to apply a very light touch with registered NGOs and the regulatory environment appears relatively permissive. On the other hand, ambiguities affecting the tax status of NGOs appear to be of concern to many organisations. For example, rural banks and cooperatives are exempt from income taxation and some NGOs feel that this is discriminatory. The procedures for exempting bona fide NGOs from tax should be clarified and simplified, and such exemptions should not unreasonably be withheld.

NGOs are not permitted to accept deposits from the general public. Moreover, the legal situation with regard to accepting deposits from members is unclear. Many NGOs are reported to have an informal deposit-taking relationship with ‘members’, using devices such as accepting funds for ‘capital buildup’. Llanto, Garcia and Callanta (1996) comment that this is skating on thin ice because of potential legal sanctions against this illegal activity. Under the Banking Act non-stock and non-profit organisations are not permitted to accept savings and deposits in any form. As a consequence, they have to depend on external sources for funding. External funding being uncertain and limited, NGOs’ ability to expand their lending outreach has been correspondingly limited.

This has caused some to call for a separate legal framework to be created for NGOs, with their being authorised to collect deposits. The reaction of some NGOs has been to seek registration as formal financial institutions under the laws currently applicable, accepting the regulatory and prudential requirements of Bangko Sentral. Some argue for special arrangements to suit their circumstances, in regard to the capital requirements for small banks, and whether the current requirements for rural banks can be ‘stretched’ to accommodate NGOs. Others see the value of continuing within the relaxed regulatory environment which has facilitated NGO activity in the Philippines.

These are major issues in the current state of development of NGOs as microfinance institutions in the Philippines, on which there is no consensus as yet. The review of the Banking Act of 1935, mentioned in section 1.3 above, may involve consideration of the range of deposit-taking institutions; for NGOs to gain this capacity would require amendment of the Act. The NCC is also considering the overall regulatory framework for MFIs in the Philippines.

NGOs should be permitted to collect compulsory savings from clients in the course of providing microfinance services. In the same context, they should probably also be permitted to handle voluntary savings while satisfying agreed standards of accounting and reporting. The issue of how such standards might be agreed is discussed below, but it is relevant to note here that most commentators in other countries do not think that MFIs should be subject to official prudential regulation and supervision. This much is clear from the case studies conducted in parallel with this study of the Philippines, and from the wider literature.

Credit unions and cooperatives

Credit unions and cooperatives are registered under the Cooperative Code of 1989, which for the first time brought all types of cooperatives under one law and one government agency. The legislation recognises the role of cooperatives in promoting equity, social justice and economic development. This code also covers credit cooperatives and cooperative banks. The responsible agency is the Cooperative Development Authority (CDA). Apart from its regulatory and supervisory roles, the CDA also has a developmental role with respect to the cooperative movement. There is some suggestion that the developmental role of the CDA is not entirely consistent with its regulatory and supervisory roles.

A primary cooperative may be organised and registered by as few as 15 persons, and with minimum cash reserves of Ps2,000 ($80). To support the application, a simple ‘economic survey’ justifying the purposes and economic feasibility of the proposed cooperative must be prepared. The encouragement of thrift and savings mobilisation among the members, and the granting of loans to members for productive purposes are among the basic objectives of cooperatives mentioned in the legislation.

A primary cooperative is registered with limited liability and share capital held by the members. It is required to file Articles of Cooperation, as well as by-laws dealing with membership and governance of the cooperative, consistent with the provisions of the Cooperative Code. Applications for registration must be dealt with promptly by the CDA.

The Cooperative Code makes provision for credit cooperatives to mobilise savings among their members and to pool such savings for the purpose of granting loans to members ‘for productive or provident purposes’. Credit cooperatives may not, however, accept deposits from the public. All cooperatives are exempt from the payment of taxes for a period of ten years after their formation. Cooperatives which deal with non-members and which accumulate assets beyond Ps10 million ($400,000) may incur some tax liabilities after ten years. The code also provides for the registration of cooperative banks under the supervision of the central bank, but with provision for exemption from some central bank rules and regulations.

3.2 Interest rates

There are no interest rate restrictions applying to MFIs, leaving them free to set their own interest rates. On the other hand, the proliferation of government-sponsored credit schemes introduces substantial subsidy elements into microfinance in the Philippines. The possible discrepancy between interest rates to be charged by the People’s Credit and Finance Corporation (PCFC) to MFIs which are Grameen replicators and qualify for ADB/IFAD funding, and other MFIs which do not, has been noted above. Such discrepancies and the battery of subsidies already in existence, introduce damaging distortions into the market for microfinance, discouraging private initiatives. These distortions should not be allowed to continue.

3.3 Prudential regulation and supervision

At present, there is no prudential regulation of NGOs operating microfinance programs. There are no minimum capital requirements, nor are there any requirements concerning capital adequacy, liquidity, reserves or loan loss provisioning. For cooperatives, prudential requirements monitored by the CDA include the filing of annual reports. It appears that the level of compliance with full audit requirements is only around 20 to 30 per cent for all cooperatives. There are no minimum capital or provisioning requirements. As mentioned above, NATCCO (one of the national federations of private cooperatives) is establishing a deposit guarantee scheme for member credit cooperatives. This has regulatory implications since NATCCO is setting performance standards for members to join the scheme, and may also widen membership to other federations in time. This could have beneficial effects by encouraging higher standards more widely throughout the cooperative movement.

Some standards for MFIs would appear appropriate. Llanto et al. found that a number of major MFIs have inadequate financial reporting and monitoring, making it difficult to determine past due loans and the extent of arrears. They also found that the absence of adequate and sound performance standards and a standardised accounting and reporting system makes it difficult to evaluate the relative performance of MFIs. They concluded that:

In sum, internal financial policies and practices need a lot of improvement, particularly in the installation of sound financial reporting and monitoring systems, portfolio management, assessment and management of risks, product packaging and pricing, management of loan arrears and strategic business planning. Related to these will be the need to upgrade and institutionalise performance standards, particularly in loan repayment, appreciation of loan default and ageing of delinquent accounts, and the installation of appropriate accounting and internal audit systems (p.21).

The National Credit Council will shortly conduct a review of the regulatory environment for NGOs engaged in microfinance. This work is supported by a technical grant from USAID and could lead to the establishment of standards for prudential regulation and supervision, perhaps (as suggested below) in concert with the self-regulatory efforts of MFIs themselves.

3.4 Performance and reporting standards of second tier institutions and other agencies

A number of agencies with some degree of oversight of MFIs are in a position to establish performance and reporting standards for them. In the Philippines, such agencies include the second tier body set up for the industry by government, the People’s Credit and Finance Corporation (PCFC). Others which might do so include the National Credit Council and LandBank. The latter has the potential to do so by virtue of its position as a major provider of loanable funds to MFIs (a role which would be strengthened if NCC’s goal of stripping lending away from government line agencies is achieved).

PCFC is not a regulator, but rather a funding body which provides lines of credit at concessional interest rates to NGOs and other MFIs. Nevertheless, it imposes certain conditions on MFIs before they can obtain loans from it. Accreditation for NGOs and people’s organisations (that is, cooperatives and credit unions) with PCFC is secured on the basis that:

• they are duly registered with the SEC, central bank or Cooperative Development Authority
• they have a three-year track record in lending
• their working capital is at least Ps250,000 ($10,000)
• lending operations are segregated from other activities with appropriate full-time staff
• past due loans are not more than 20 per cent
• no loans are in arrears to PCFC or other agency
• established systems of proven effectiveness are in place.

PCFC has set minimum performance standards for its accredited MFIs in start-up, intermediate and advanced categories. This recognises that institutions progress as their capacities improve, and provides for this progression in the standards. The corporation is critical of the single set of ‘ultimate’ standards promulgated by CGAP (the Consultative Group to Assist the Poorest, whose secretariat is located in the World Bank), seeing them as out of reach for the great majority of Philippine practitioners at present. Some quantifiable standards are set out below (table 6). In addition, the corporation has set guidelines relating to such qualitative issues as governance, information systems and staffing to benchmark the standards thought necessary at each stage of an institution’s development.

In the case of banks, PCFC requires a 10 per cent ratio of capital to risk-weighted assets; a past due rate not exceeding 15 per cent for commercial banks and 20 per cent for rural financial institutions; no deficiencies in reserve requirements for one year preceding the application; no major deficiencies in the most recent Bangko Sentral audit; and no loan in arrears with any public or private lending institution.

These requirements are not very detailed. Nevertheless, as PCFC expands its role in lending to MFIs and to the extent that other programs are rationalised, there is considerable scope for any standards imposed by PCFC to become more general industry standards. In this connection, the experience of PKSF in Bangladesh is likely to be of value. In developing such standards, it would clearly be desirable to coordinate with the work being done by the National Credit Council and the Microfinance Coalition for Standards as well as ensuring consistency with requirements imposed on MFIs (principally cooperatives) by LandBank. The work of the coalition is discussed below in section 3.5 on self-regulation.

The NCC has developed the Policy Guidelines for Credit for the Poor applying to government agencies undertaking lending programs or programs with a credit component. In some respects, these also provide a basis for a regulatory framework for the industry. For instance, the guidelines provide that credit programs must promote a savings mobilisation or capital build-up program. (In this respect the NCC goes further than PCFC, which does not emphasise savings in its performance standards for MFIs.) The guidelines suggest that such savings be deposited with banks to serve as partial collateral for loans. They also cover such matters as the equity contribution of borrowers, interest rates, and collateral and guarantees. Nevertheless, the relevance of the current guidelines for prudential regulation and supervision of MFIs is limited because of the following:

(1) The guidelines are intended primarily for government agencies, and even here the NCC has not been effective in ensuring compliance.

(2) Some of the guidelines do not seem appropriate in terms of encouraging sustainable microfinance. For instance, the guidelines on interest rates appear confusing and inconsistent. On the one hand, the guidelines state that interest rates should cover the full lending cost, including the cost of funds and transactions, administrative and monitoring costs. On the other hand, they suggest that in the case of loans to small farmers, the maximum rate of interest should not exceed 75 per cent of the commercial rate inclusive of all charges.

(3) The guidelines do not cover many items relevant to prudential supervision. For instance, they do not cover issues such a minimum capital requirements, capital adequacy, reserve or liquidity requirements, loan loss provisions or reporting standards.

In summary, it is clear that some setting of standards for MFIs would be appropriate. The task will be facilitated if second tier agencies and other strategically placed institutions are involved in the regulatory process. Agencies with oversight of MFIs, notably PCFC, but also the National Credit Council and LandBank, are in a position to exert influence. For the credit cooperatives, the deposit insurance facility being created by NATCCO may also provide the opportunity for setting standards, perhaps leaving the Cooperative Development Authority more free to concentrate on its developmental functions for the great mass of cooperatives.

All these second tier agencies have commenced to set criteria for accreditation for MFIs, and to define performance standards for them. It is important that there be coordination and consistency between the standards set; if the National Credit Council is to have a continuing existence this coordinating function could appropriately rest with it. Otherwise, PCFC should accept responsibility for coordinating standards for MFIs; in this regard the experience of second tier institutions such as PKSF in Bangladesh would prove instructive.

Where initiative exists within the private sector to take the lead in self-regulation, this is usually preferable to the imposition of standards by second tier or other supervisory institutions. This possibility is discussed below.

Networks of microfinance institutions

There are two major networks of MFIs in the Philippines. These provide a focal point for coordination and, to a more limited degree, self-regulation among their members. However, both have limited memberships, with each embracing only a small number of MFIs. The two networks are APPEND (the Association of Philippine Partners in Enterprise Development) and PHILNET, a group of MFIs engaged in Grameen replication, affiliated with the international CASHPOR network of Grameen institutions. Reference has also been made in section 3.3 to the efforts of NATCCO to set performance standards for credit cooperatives as a condition for membership of its proposed deposit guarantee scheme. This would provide a mechanism for self-regulation in the cooperative movement, where formal regulation under the Cooperative Code is lacking.

APPEND is an NGO registered on the same basis as its nine member institutions. Its regulatory functions include the examination of the financial statements and operations of member organisations. APPEND acts in a collegial manner to secure adherence to agreed standards by member institutions, with its executive director having responsibility for oversight. In addition, APPEND has a number of other functions:

(1) joint provision of training for member institutions (conducted for boards, chief executives and management staff, loans officers and others)

(2) resource mobilisation on behalf of member institutions (both donor funds and commercially sourced funding)

(3) acting as a project management office for special projects conducted jointly by APPEND members with donor agencies

(4) acting as a lender of last resort to member institutions with liquidity problems

(5) performing an advocacy role on behalf of member institutions.

PHILNET has seven member institutions and is planning to appoint full-time staff to perform administrative and regulatory functions, in particular, the accreditation of potential new members of the network. Regulatory standards within the group are based on the essentials of the Grameen model; member institutions are required to report program and financial data to CASHPOR, and these data serve as the basis for monitoring individual institutions. The Chair of PHILNET intervenes when necessary to assure improvement in performance of member institutions. However, to date, the regulatory capacity has resided more within CASHPOR than in PHILNET itself (‘an exercise in transnational self-regulation’).

In addition to the two networks described above, a major new initiative in self-regulation, the Developing Standards for Microfinance Project (DSMP) was set up in 1996. Funded by USAID the project has set out to develop and promote standards for microfinance operations. In the process of developing these standards, the project has achieved the following:

(1) It has formed a coalition (the Microfinance Coalition for Standards) that will develop and promote the standards. The coalition has 55 member institutions including leading NGO microfinance practitioners, the central bank, PCFC and other government planning and regulatory bodies, two commercial banks, private foundations, academic and research organisations and donor agencies.

(2) It has begun to build the database necessary for benchmarking and standard setting (this has involved a nationwide inventory of microfinance NGOs and in-depth studies of selected MFIs).

(3) It has commenced the process of documenting best practice among MFIs in the Philippines, with the objective of arriving at benchmarks or standards for good practice.

(4) It has encouraged consultation and consensus building among the members of the coalition.

(5) It has conducted seminars, training activities and conferences (to build awareness of the need for standards and to disseminate standards). These will culminate in a national microfinance summit in 1998).

The DSMP is now working towards these objectives and has developed a conceptual framework for benchmarking the performance of MFIs. Setting these benchmarks and measuring the performance of institutions against them involves the collection of quantitative and qualitative data by institutions themselves and external observation of their performance. Table 7 summarises the ‘yardsticks’ available for the measurement and evaluation of performance.

The yardsticks draw on the observation of past performance within particular institutions and on the observation of performance of the microfinance ‘industry’ as a whole. This enables the determination of benchmarks which embody best practice in the industry. Finally, benchmarks are extended into the future with the shaping of budgets, strategic plans and business plans, to guide the future development of institutions. The quality of these plans is an important indicator of the standing of an institution.

The indicators to be observed (which seem to be based quite closely on those of the Donor Working Group, published in 1995) are categorised by the DSMP in its conceptual framework as under:

(1) Organisational and operational factors– organisation structure, culture and capacity– management information systems– operational efficiency

(2) Outreach and services– scale and depth of outreach– microfinance services

(3) Financial sustainability– self-sufficiency– portfolio quality

Developing performance standards such as those sketched out above is the first step in a process. Further steps include assisting MFIs to adopt the standards, and moving beyond that to assure widespread implementation of them by MFIs. This may involve some regulation of the MFI sector (whether self-regulation or the external imposition of standards upon the industry).

In any case, the DSMP is working towards the development of a ‘capacity measurement system’ to identify the strengths and weaknesses of individual MFIs. This implies a rating system for MFIs based on the indicators which have been developed. A rating system would be useful to domestic financial institutions which need information to assess the bankability of MFIs. Government and donor agencies would find a rating system for MFIs useful in indicating the need for interventions and support.¹

Finally, the coalition suggests that a regulatory and supervisory framework will have to be developed for the microfinance industry: ‘This may involve establishing a system of accrediting NGOs which have adopted the standards, a system of reporting and validation and a system of rewards or penalties for compliance or non-compliance’. The coalition hopes to arrive at an agreed consensus on standards and to present its recommendations to the Philippines National Microcredit Summit to be held in 1998.

In summary, considerable progress has already been made by the Microfinance Coalition for Standards and the two major microfinance networks, APPEND and PHILNET. The work of the Developing Standards for Microfinance Project is receiving support from USAID. This could lead to the development of systems of ‘capacity measurement’ for MFIs and a rating system which would be useful to domestic financial institutions and government and donor agencies.

It is appropriate to continue support for the development of a regulatory and supervisory framework by the microfinance industry itself, leading to a system of accrediting NGOs. To the extent this goes beyond self-regulation, close liaison between the microfinance coalition and PCFC, the National Credit Council and other interested agencies should be encouraged.

4.1 Licensing and minimum capital requirements

All institutions which engage in the lending of funds obtained from the public through the receipt of deposits are required to be approved by the board of Bangko Sentral for licensing as banking institutions. As such, NGOs wishing to expand their sources of funds by accepting deposits from the public need to become licensed as financial institutions. At least two NGOs, in Nueva Ecija and Zambales provinces, have already become rural banks and some other NGOs are considering becoming banks.

As noted above, there are a number of different types of banks, in particular, commercial banks, thrift banks (including savings and mortgage banks, private development banks, and stock savings and loans associations), and rural and cooperative banks.

All of these banks are regulated by Bangko Sentral, but they are licensed under different Acts of Parliament. The General Banking Act defines the scope of activities of each type of bank in broad terms. In addition, the Rural Banks Act 1992 provides for the creation, organisation and operation of rural banks, the Cooperative Code of the Philippines (1989) governs the organisation and operations of cooperative banks, and thrift banks are covered under the Thrift Banks Act 1995.

The most significant difference concerns the minimum capital requirements for banks. The minimum capital required to establish a commercial bank is Ps4.5 billion ($180 million) for expanded commercial banks (which combine the powers of commercial banks and investment houses), and Ps2 billion ($80 million) for ordinary commercial banks. However, capital requirements for other types of banks are much lower. The requirement for a thrift bank is Ps250 million ($10 million) if the head office is in Metro Manila, and Ps40 million ($1.6 million) if the head office is outside Metro Manila. In the case of rural banks, minimum capital varies from Ps20 million ($800,000) down to Ps2 million ($80,000), depending on the location of the head office. There are also minimum capital requirements for establishing bank branches, with higher requirements for commercial banks than for thrift banks and rural banks. A national cooperative bank requires minimum share capital of Ps200 million ($8 million), while a local cooperative bank may have minimum share capital of as little as Ps20 million ($800,000).

The regulatory framework in the Philippines which enables rural banks and local cooperative banks to be established with modest capital requirements is a positive feature of the environment of microfinance in that country. Together with similarly favourable provisions in Indonesia, this provides a model for other countries in the region, since such banks have demonstrated their capacity to access the poor.

For MFIs wishing to expand their operations by accepting deposits from the general public, the requirements for obtaining a banking licence as a rural bank or even a thrift bank would not appear to be too difficult to overcome. At least two NGOs have already obtained licences as rural banks. The largest NGO engaged in microfinance, TSPI Development Corporation, is currently applying for a licence as a thrift bank, and a number of other NGOs are also looking at becoming banks.

4.2 Interest rates

Deregulation of interest rates in the banking sector, with respect to both deposits and advances, is now complete. This has established an environment in which the involvement of regulated financial institutions with microfinance can flourish if other conditions are favourable. Interest rate distortions in the market for microfinance, arising from the activities of government line agencies engaged in a proliferation of subsidised credit programs, are a continuing disincentive to private initiative in the field.

4.3 Prudential regulation and supervision

Regulatory and prudential requirements differ between the different types of banks. Capital adequacy ratios are generally the same for all banks at 10 per cent of risk-weighted assets. However, some large commercial banks are permitted to lend out 12.5 times their capital base with approval from the Monetary Board. Reserve requirements differ between the different types of banks. Since July 1997, the reserve requirement for demand, savings and time deposits and deposit substitutes is in general 13 per cent. However, there are lower requirements in the case of savings and time deposits for thrift banks (11 per cent) and rural banks (5 per cent). In addition to these reserve requirements, all financial intermediaries are required to maintain a liquidity reserve equal to 2 per cent of deposit liabilities and deposit substitutes, in the form of short-term market yielding government securities.

Bangko Sentral does not require that loans by banks be secured, except in the case of loans to directors, officers and stockholders. However, the central bank has issued detailed instructions concerning loan loss provisioning, and loans without collateral are treated differently to secured loans. Loans in arrears are divided into three categories based on a number of criteria, with a required loan loss provision of 25 per cent for the unsecured portion of substandard loans, 50 per cent for doubtful loans and 100 per cent for loss loans. The categorisation of loans depends in part on the security. For instance, an unsecured loan is generally classified as substandard where it is past due for more than ninety days, whereas a secured loan is generally only classified as substandard where it is past due for more than six months.

Reporting requirements are broadly similar for all banks. All banks are required to submit a weekly report to Bangko Sentral on their reserve holdings and capital position. In addition, they are required to submit a consolidated balance sheet on a monthly basis, and a quarterly report on income and expenses. All banks are required to have articles of incorporation and by-laws covering matters such as the stock and stockholders, meetings of stockholders, board of directors and similar matters.

Thrift banks and rural banks are exempted from all taxes and charges, except for income tax and local taxes and charges, for five years from the date they commence operations. Existing rural banks received tax exemption for five years when the Rural Banks Act 1992 was passed, while existing thrift banks also received tax exemption for five years under the Thrift Banks Act 1995.

5 Summary and recommendations

Poverty remains the most important development problem for the Philippines. The incidence of poverty is relatively high, due in part to a disappointing economic growth performance and the inequitable distribution of income. The Presidential Commission to Fight Poverty created by the Philippines government has identified major strategies to overcome poverty in which microfinance is given an explicit role.

The Social Reform Agenda of the government focuses on basic needs of the poor. The ‘flagship program on credit’ flowing from this agenda has resulted in a number of initiatives, among them the establishment of the People’s Credit and Finance Corporation (PCFC), a second tier financial institution. The establishment of the National Credit Council (NCC) has enabled the articulation of a strategy for microfinance in which the role of the private sector (including MFIs) is emphasised, and an enabling policy environment is to be established. The Philippines is unique in the degree to which an explicit role is accorded to microfinance in national poverty strategies, and in the coherence of the policy framework for microfinance (although much remains to be done to reconcile the practice of government agencies with that framework).

The Philippine financial system includes both commercial banks and a number of categories of smaller banks. These serve limited geographic areas and have comparatively low minimum capital requirements. Among the specialised government banks, the Land Bank of the Philippines plays a particularly important role in relation to microfinance and MFIs. A substantial degree of financial sector liberalisation has occurred since the early 1980s. Interest rate ceilings no longer apply for bank deposits or lending. However, the financial system remains relatively undeveloped.

In general, the banks do not provide financial services to poor clients. Small rural banks are best placed to do so and the World Bank has identified cooperative rural banks as capable of providing savings and credit services to the poor on a sustainable basis. The cooperative credit movement includes many grassroots microfinance institutions, some of which succeed in reaching the poor.

The Philippines has a dynamic NGO movement, with some 500 NGOs providing microfinance services, although so far only a small proportion are seriously concerned to operate on a sustainable basis. There is a large number of government credit programs designed to provide financial services to the poor, many of which employ microfinance institutions as conduits to channel credit to the poor. Perhaps as many as 140 such programs exist, involving scores of line agencies of government; these are characterised by inefficiency, unsustainability due to the prevalence of subsidies, leakage of benefits to the non-poor, duplication of services, the distortion of financial markets and the discouragement of private initiative.

Arrangements for direct support

Channel government lending through MFIs

The National Credit Council (NCC) has among its objectives to rationalise government lending programs, develop a national credit delivery system and encourage private sector participation. Rationalisation of government credit activity requires that line agencies should focus their involvement in credit programs on technical assistance and capacity building. Government lending to the very poor should be conducted by specialised government financial institutions (most notably PCFC) and be channelled through microfinance institutions. Donor agencies should also be encouraged to channel support for microfinance through PCFC, and to avoid funding unsustainable credit operations mounted by line agencies. NCC’s efforts at rationalisation confront powerful bureaucratic and political interests. These must be overcome. Since the term of the current Administration expires in mid-1998, the time available to the council is limited, and sustained political support at the highest level will be required for it to complete its task.

Allow even-handed support for MFIs

The People’s Credit and Finance Corporation (PCFC) is a second tier institution responsible for nurturing and funding sustainable microfinance institutions. It faces the challenge of preparing itself for privatisation while performing these tasks and extending the outreach of the MFIs with which it is dealing. PCFC is currently funding a wide range of MFIs. It funds institutions, not programs or models. However, a major multilateral loan for PCFC has been provided exclusively in support of MFIs replicating the Grameen Bank approach. The World Bank has noted that undue emphasis on Grameen replication as the only way to reach the ultra poor may discourage the expansion of other successful models in the Philippines. PCFC should be permitted to be even-handed in its support of MFIs. This even-handedness should apply also to the ‘pass-on’ rates of interest applied in PCFC’s funding programs. If these are permitted to differ according to the source of the funds, distortions will be introduced into the microfinance market.

PCFC’s drive to profitability is necessary to permit privatisation to take place. But the obligation to support capacity building for MFIs places a strain on the corporation’s profitability. It will be necessary either to quarantine the costs of capacity building from normal operating costs for the purpose of calculating profit and loss or, alternatively, for the government and donor agencies to make special arrangements to permit the corporation to perform its institutional development role. After privatisation the government will need to accept substantially greater responsibility for capacity building of MFIs. In this regard the Punla sa Tao model of public/private partnership appears to be promising. It should be adequately resourced and be creatively involved in collaboration with PCFC and the microfinance sector.

Directed credit schemes, in the Philippines as elsewhere, are diminishing in importance. This process should continue; direction of credit is not a cost-effective solution, especially in the Philippines where conditions are favourable for market forces increasingly to provide the necessary microfinance services.

Encourage commercial bank involvement with microfinance

Financial linkages between banks and specialised microfinance institutions are one means by which microfinance can be integrated with the formal financial sector. Tax breaks available to the charitable foundations of private commercial banks have permitted them to explore such relationships. A number of banks which commenced financing MFIs in this way are now making the transition to fully commercial financing, although current economic difficulties in the Philippines are retarding this process. The publication of positive guidelines in support of such linkages as has been done in India by NABARD would be helpful in overcoming the conservatism of the commercial banks in relation to such activities. Bangko Sentral would be the appropriate agency to encourage private commercial banks in this regard.

Notwithstanding current economic difficulties, market forces, arising from the progressive impact of financial sector liberalisation, and a growing awareness of the potential for savings mobilisation are factors at work in support of linkages. Mainstream commercial banks are acquiring or setting up small banks for this purpose and display growing interest in agency arrangements with NGOs. This is a positive development and should be encouraged.

Support rationalisation of government credit schemes

A multiplicity of government credit schemes has flourished in the Philippines: up to 150 such schemes involve more than 40 line agencies of government. In general, these supply-led and subsidised government credit programs have proved ineffective in tackling poverty. Moreover, by distorting microfinance markets, subsidies have impeded the advance to sustainability of genuine MFIs. Rationalisation would mean that credit would be administered by financial institutions (principally PCFC) while line agencies would confine themselves to providing technical assistance in the areas of their special competence. This is an appropriate objective and the necessary political leadership should be summoned to achieve it.

Regulation of non-bank microfinance institutions

Clarify tax-exemption procedures for NGOs

The broad regulatory framework for NGOs in the Philippines is conducive to their growth by reason of its light touch. However, there appears to be some anomaly in the taxation treatment of NGOs compared with rural banks and cooperatives. The procedures for exempting bona fide NGOs from tax should be clarified and simplified and such exemptions should not unreasonably be withheld.

Allow NGOs to expand handling of savings

NGOs are not permitted to accept deposits from the general public; informal deposit-taking relationships with clients occur in a legal grey area. NGOs should be permitted to collect compulsory savings from clients in connection with the provision of other microfinance services. In the same context, they should probably also be permitted to handle voluntary savings while satisfying agreed standards of accounting and reporting. The review of the Banking Act may provide an opportunity to consider these issues.

With regard to the broader issue of a separate regulatory framework for MFIs, it is relevant to note that most observers in other countries do not think MFIs should be subject to official prudential regulation and supervision. This much is clear from the other country studies conducted in parallel with our work in the Philippines. The answer is more likely to lie in the development of effective mechanisms for self-regulation, perhaps combined with guidance from second tier institutions.

Establish coordinated performance and accreditation standards for MFIs

It is clear that some setting of standards for MFIs would be appropriate. Agencies with oversight of MFIs, notably PCFC, but also the National Credit Council and LandBank, are in a position to exert influence. For the credit cooperatives, the deposit insurance facility being created by NATCCO may also provide the opportunity for setting standards, perhaps leaving the Cooperative Development Authority more free to concentrate on its developmental functions for the great mass of cooperatives.

The National Credit Council is equipped to articulate regulatory standards, although it does not have the working relationship with MFIs enjoyed by PCFC. LandBank (for credit cooperatives implementing government programs) and NATCCO (for private grassroots cooperatives) are also positioned to play a role. All have commenced to set criteria for accreditation for MFIs, and to define performance standards for them.

It is important that there be coordination between the standards set by these agencies; if the National Credit Council is to have a continuing existence this function could rest with it. Otherwise, PCFC should accept responsibility for coordinating standards for MFIs. In this regard, the experience of PKSF in Bangladesh should prove instructive.

Where initiative exists within the private sector to self-regulate, this is usually preferable to having standards imposed. Considerable progress has already been made by the Microfinance Coalition for Standards and the two major microfinance networks, APPEND and PHILNET. The work of the Developing Standards for Microfinance Project is receiving support from USAID. This could lead to the development of systems for capacity measurement for MFIs and a rating system which would be useful to domestic financial institutions and government and donor agencies.

It is appropriate to continue support for the development of a regulatory and supervisory framework by the microfinance industry itself, leading to a system of accrediting NGOs. To the extent that this goes beyond self-regulation, close liaison between the microfinance coalition, PCFC, the National Credit Council and other interested agencies should be encouraged.

Regulation of banks

The present regulatory provisions which make it relatively straightforward for successful MFIs to obtain rural or thrift banking licences should be maintained or even liberalised further. The modest capital requirements for establishing small banks are a positive feature of Philippine legislation.

References

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• Center for Community Services.1997. Coop Review: Profile and Performance of NATCCO Affiliates. National Confederation of Cooperatives, Quezon City.

• Chua, Ronald T. 1996. Microenterprise Development in the Philippines: A Country Review. Study prepared for the Asian Development Bank, Manila.

• Intal, J. Ponciano & Llanto, Gilberto. 1998. ‘Financial reform and development in the Philippines, 1980–1997: Imperatives, performance and challenges’. Discussion paper no.98–02, Philippines Institute for Development Studies, Manila.

• LandBank. 1996. Annual Report 1995. Land Bank of the Philippines, Manila.

• Llanto, Gilberto M., Garcia, Edgardo & Callanta, Ruth. 1996. ‘An assessment of the capacity and financial performance of microfinance institutions: The Philippine Case’. Discussion paper no.96-12, Philippine Institute for Development Studies.

• Luang, Eduardo & Vasquez, Malena. 1997. ‘Philippines’. In Regulation and Supervision of Microfinance Systems ed. Craig Churchill. The Microfinance Network, Washington D.C.

• Microfinance Coalition for Standards. 1997. NGO microfinance standards: A conceptual framework. Preliminary draft, September.

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• NATCCO. 1990. The Cooperative Code of the Philippines. National Confederation of Cooperatives, Manila.

• NATCCO. 1996. NATCCO Annual Report. National Confederation of Cooperatives, Manila.

• Punla Development Trust. Empowering the Poor to Help Themselves. Manila (nd).

• Republic of the Philippines, House of Representatives. 1997a. Draft bill for an Act institutionalizing a national strategy for poverty alleviation. 5 May.

• Republic of the Philippines. 1997b. Social Reform Agenda: 1997 Poverty Alleviation Fund. Manila.

• del Rosario, Ramon S. 1995. The Philippine Financial System: An Overview. Asian Institute of Management, Eugenio Lopez Foundation, Manila.

• World Bank. 1996. A Strategy to Fight Poverty: The Philippines. World Bank, Washington D.C., March