COUNTRIES. Financial Sector Issues and Analysis Seminar. The World Bank. October 20-24, The World Bank/ FSE Operations and Policy

Transcription

1 HOUSING FINANCE IN DEVELOPING COUNTRIES Financial Sector Issues and Analysis Seminar The World Bank October 20-24, 2003 Olivier Hassler The World Bank/ FSE Operations and Policy 1

2 WHY IS HOUSING FINANCE IMPORTANT 1. Direct benefits Allows immediate improvement of living conditions while spreading the cost of a major investment Helps households to build an asset Alleviates direct provision by the government. (Limited capacity, governance and moral hazard issues) Fosters housing supply 2. Indirect benefits Strong inducement to save Stabilization of the banking system Support of bond market development 2

3 HF MARKET DEPTH: % OF GDP 100% NETHERLANDS 88% UK 62% USA 53% GERMANY 51% MALAYSIA 21% FRANCE 19% THAILAND 16% CHILI 12% HUNGARY 7% TUNISIA 6% MEXICO 5% BRESIL 4.5% IRAN 2.5% ALGERIA 1.5% PAKISTAN 0.6% GHANA 0.5% 90% 80% 70% 60% 50% 40% 30% 20% 10% Sources: EMF, World Bank 0% 3

4 HOUSING FINANCE MARKET DEPTH The market depth does not only depend on the HF system: 1. Affordability begins with prices/incomes relationship: An indicator: median income/median price relationship Ratios notably above 4 = limited capacity to repay a loan (except if large downpayment). = Primarily land use and construction cost issues 2. Macro economic environment. Unemployment, high inflation, volatile interest rates stunt the provision of HF. Improved conditions can spark the growth (Ex: Algeria, Pakistan) 3. The role of government Relatively low depth in financially developed systems: sometimes due to large share of public housing 4 Ex: France, Chile

5 HOUSING FINANCE MARKET DEPTH Conversely, the depth (or high growth) is sometimes related to large government support. Ex: USA: large interest tax deductibility (0.6% GDP), govt backing of FHA/VA (15% market), GSE implicit guarantee (over 50% market) Netherlands: total interest and (de facto) amortization tax deductibility, govt backed guarantee fund Hungary: subsidies on mortgage bond financed loans, tax exemption for mortgage bond holders, tax break for mortgagors on top of direct demand subsidies 5

6 QUINTESSENTIAL GOAL OF HOME FINANCE: LONG MATURITIES Algeria impact of maturity extension for a DA 1 Mln unit Income distribution (DA 1,000 / month) Affordability limit N=7 years (i:14%) Affordability limits N= 20years (i:14%) Affordability limit N= 20 (i:8%)

7 KEY IMPLICATIONS OF LONG MATURITIES 1. Credit risk: the longer the horizon, the larger the uncertainty 2. Financial risks: Securing liquidity = often a challenge Generally, high sensitivity to interest rate fluctuations The lack of appropriate risk management tools leads to the rationing of the supply - at best, financial institutions lend to high income groups with consumer finance vision 7

8 STRUCTURE OF THE PRESENTATION 1. Securing home loans - Tools and options 2. Funding - Tools and options 3. Frequent policy issues 8

9 SECURED LENDING 9

10 I) FUNDAMENTALS 1. Property rights: Legal and operational status Clear titles/ Validation of informal possession Frequent issues stemming from allocation of government land Frameworks for condominium, real estate development and sale of incomplete construction Efficiency of transfers, in particular tax wise: a condition for a secondary property market (mortgage collateral pointless otherwise) 10

11 SECURED LENDING I) FUNDAMENTALS 2. Land title and lien registration systems Critical functions: Validation /verification of entries Integrity Chain of titles Integrated LIS (geographical mapping/ ownership /security rights) Information of the public at large 11

12 FUNDAMENTALS (Land title and lien registration) Major conditions: Legal principles ( deed or title registration? Does registration create rights Torrens or German systems?) Tax duties and registration charges Can be a deterrent for recording (in particular ad valorem fees), hampering formal sales or mortgage rights efficiency Computerization Institutional arrangements [Securitization requires easy and cheap circulation of security interests] 12

13 II) EFFICIENCY OF MORTGAGE COLLATERAL Unenforceability leads to rationing, higher lending cost, concentration on upper-end groups Frequent weaknesses: numerous judicial steps, clogged courts, judicial attitudes, no evictions A growing trend : direct power-of-sale by lenders (Parate execution, Sri Lanka) Balance of rights/power must be found: explicit motivations and timeframe for appellate rules, fair auction prices, recourse if deficiency, guarantee against abuses (recovery officers in India) 13

14 II) EFFICIENCY OF MORTGAGE COLLATERAL Rule of conduct: distinction between good faith and willful defaulters pre-foreclosure arrangements statutorily protection in case of life accidents, unemployment, forced overindebtedness Individual bankruptcy concept (USA) Specific regulatory schemes (continental Europe), ISMI scheme in UK Critical role of credit information sharing systems: information on debt (positive/ negative) +, if meaningful, indication of willingness to pay. Consistency with privacy laws to ensure 14

15 III) MORTGAGE INSURANCE - FUNCTIONS 1) Remedy to mortgage rights deficiencies Foreclosure often a lengthy, costly and uncertain process outsourcing to insurers Examples: Algeria (SGCI), France (Credit-logement), Jordan (JLGC), Slovenia, West bank Gaza (PMIF) Purpose: improved efficiency Loan criteria: same as lenders, or more restrictive (LTV in particular) Coverage: anticipation of forced sale proceeds, loss sharing provision Cost borne by borrowers Often high cost for the value. Requires specific conditions to be successful 15

16 III) MORTGAGE INSURANCE - FUNCTIONS 2. Higher risk coverage Loans with increased expected losses -Typically: higher-than-normal LTV,an indicator of probability of default as well as of severity of loss Examples: USA, UK, Canada, Australia,Thailand (on going) Purposes: efficiency (large number law, credit risk modeling, geographical diversification), secondary mortgage market requirements (Fannie/Freddie in the USA) Criteria: LTV > 75% or 80% Coverage: first loss 20% to 30% typically, excludes catastrophic losses Cost borne by the borrower Instrumental in bringing market discipline and standards 16

17 III) MORTGAGE INSURANCE - FUNCTIONS 3) Reaching moderate-income groups Examples US (FHA, historical model), Canada (CMHC), Continental Europe, Mexico (SFH), Baltic states, Kazahkstan Social purposes Criteria: - High LTV (first buyers in particular) - Price limits (often median price or more) - Blemished credit history Coverage: 70% to 100% (catastrophic losses covered) Government backing - typically: actuarial reserves, but last resort support (catastrophic risk) Cost: typically borne by the borrowers, but lowered 17 by the government backstop

18 IV) SAVINGS-FOR-HOUSING SCHEMES Dedicated prior savings can be an important credit risk mitigant: equity building + customer screening. Most systematic model: Chile In addition, in specific frameworks the German SFH contract (extension to Eastern Europe transition economies): second mortgage or unsecured loan, complementing the mortgage bond funded loans - an alternative to M.I. Mechanism: 5 to 7 year savings period, near right to borrow, preset rates below market, small volumes (typically 20% -30% of the home price). Issues: - inflationary context - inducement to over subsidize 18

19 ACCESS TO HF AND PRIOR SAVINGS Algeria - Simulation of increased downpayment (DA 1.5 Mln house, 20 year / 8% mortgage) income distribution Affordability limit - 10% downpayment Affordability limit- 25% Downpayment Affordability limit- 40% Dowmpayment 19

20 EXPANDING H.F. TO LOWER INCOME GROUPS 1. Financial assistance necessary, but must be leveraged 2. Insurance techniques, but difficult to introduce in early stages of a market: few data available, bigger risk of adverse selection and moral hazard pricing difficult, high cost 3. Govt credit risk alleviation: must promote market discipline and be a last resort recourse (latter risks amplified if guarantee or lending provided by governments or state housing banks. Numerous examples of nonpayment culture). Sunset provision for mature stages 4. Promotion of finance through specialized networks and instruments: Cooperative banks, credit unions 20

21 EXPANDING H.F. TO LOWER INCOME GROUPS 5. Microfinance for housing A recent development of micro-credit Limited capacities, often more fitted to rural areas (Urban: land scarcity and price issues, less community based conduct) Can play a useful role: incremental housing, often needed improvement or extension, informal property forms and alternative securing methods Needs links to the formal sector (pooling, micro-finance as a department of mainstream banks) 6. Borrowers with informal sector income: a special approach based on a combination of: Low LTV Preliminary savings phase Higher rate Know-your-customer principle 21

22 BALANCED FUNDING 22

23 DEPOSIT BASIS Bank deposits are an important component of Home finance - about 70% in continental Europe, still 35% in the US A cheap source of funds that can be stable But stability is not always granted: Currency run Political instability Weak deposit insurance Import component of construction industry Rather than overpay term or savings, yet semi-liquid deposits - a frequent temptation-, the ability of accessing the capital market is critical for lenders not only for non-deposit taking specialized institutions Mortgage securities = a vehicle to foster bond market development 23

24 SECURITIZATION A commonly known tool - prone to cross-border transactions -. Framework in more than 25 emerging economies, especially East Asia and Latin America). Through the sale of assets (conditions to qualify as a true sale) to an independent SPV, allows the transfer of : Liquidity risk Interest rate risk, in particular prepayment option Credit risk potentially, thus relieving lenders from capital constraints 24

25 SECURITIZATION BENEFITS / LIMITS 1. - Re-allocation of liquidity and market risks to investors - Freeing of resources for new activities - Capital relief for the originator - possibility of tailor-made investment vehicles 2. As the long take-off periods (often 5-7 years) demonstrate, requires market maturity, not to be confused with the design of a legal framework: - Absent a credit risk market (investors, insurers), very expensive internal credit enhancement tools - series of data and option valuation capabilities - expensive for small volumes 25

26 MORTGAGE BONDS A decentralized, covered debt instrument: double security level General obligation of the issuer Lien on loan portfolio in case of insolvency A regional instrument: continental Europe and Latin America, Ongoing geographical and technical diversification: Euro zone (about 20% of mortgage loans) European transition economies (Poland, Hungary, Bulgaria, Cz Republic ) Latin America (Peru, Colombia..), following the textbook Chilean success (MB= 72% of residential mortgages) Import of structured finance methods (MBS emulation) 26

27 MORTGAGE BONDS /MECHANISM Regulated quality of the pledged portfolio - LTV (typically 60% to 75%) Cover principle Modern version: Net Present Value, an incentive to A/L management Specific supervision Bankruptcy privilege: Cover asset ringfencing, exclusion from bankruptcy estate (special legal provision needed) Priority claim of bondholders If deficiency, ideally, prior claim over other assets Little need for overcollateralization (contrarily to the old US mortgage bonds) 27

28 MORTGAGE BONDS BENEFITS / LIMITS 1. - Rating enhancement (1to 3 notches typically) and stabilization, without selling the best assets and deteriorating performance ratios - Simple instrument (more liquidity prospects) - Economical (explicit legal framework vs complex structured transactions) 2. - Rigidity towards interest risk management, especially prepayment risk - If pass through structure: may not be cost efficient (prepayment option pricing in Chile) - Often mixed portfolios, including commercial real estate loans 28

29 SECONDARY LIQUIDITY FACILITIES Centralized refinancing institutions that pool the funding requirements of lenders and issue bonds Examples: Malaysia (Cagamas Berhad), Jordan (JMRC), Algeria (SRH), USA (FHLB system) Lend (with overcollateralization), or buy with recourse: bring long term liquidity, do not take over credit risks Typically owned by their users, sometimes with government/central Bank participation or support (USA) Specialized, low cost intermediaries Frequently catalyst effect on the primary market Drawback: an additional layer of intermediation 29

30 SAVINGS FOR HOUSING SCHEMES Not only a credit risk tool, also a funding instrument capable of attracting at least medium term resources. Open to the informal sector. Strict linkage between savings and loans raises difficult A/L issues ( pre-set lending rate, option to borrow difficult to hedge, liquidity balance), especially acute in a closed system organized at a single institution level (German model) More efficient as an incentive for savings with market rate remuneration + discount on subsequent loans (North Africa), or criteria for public assistance (Chile) 30

31 ARE THERE RECIPES FOR OPTIMAL FUNDING? 1. Transformation risk and combination deposits/capital market: Ratio depends on the stability of demand and other quasi liquid deposits. At least, a permanent access to capital market must be arranged to avoid distressed situations An equilibrium parameter: a scale of remunerations reflecting risks (market, credit) differences 2. Choice between capital market instruments: Role of market maturity Simple bonds more suited to a nascent capital market Choice between centralized/ decentralized model depends on borrowing volumes and originators ratings Long term fixed rate loans with quasi free prepayment options in favor of MBS. 31

32 FREQUENT POLICY ISSUES 32

33 DEALING WITH HIGH INFLATION High inflation prospects kill long term investment Fixed nominal interest rates to be excluded, but variable rates can be non-affordable Indexation? Capable of securing investors But major risk: discrepancy income/ price evolution Dual indexation can also lead to massive credit risk (Colombia, Venezuela, Ghana) Is Chile s success replicable? Key: macro-economic policy Avoid loan profiles that can be time bombs once inflation recedes 33

34 INDUCING MARKET EXPANSION AND EFFICIENCY Sometimes, banks are reluctant to develop housing finance - even when liquid-, or act as an oligopoly that gives the priority to high margins over high volumes. Some initiatives can be damaging for the supply of finance in the long run: credit direction, margin control, state run lending entity Competition increases supply and narrows margins Promotion of specialized institutions (India, Mexico, Egypt)? Implies adequate funding sources Promotion of second tier specialized institutions that can have a catalytic impact 34

35 INDUSTRY SPECIFIC REGULATORY PROVISIONS 1. Prudential rules Limitation of financial mismatches Attention to potentially risky loan profiles Risk weighting of residential mortgages: lower than normal if efficient collateral Prevention of regulatory arbitrage and monitoring of risk reallocation 2. Consumer protection 3. Mortgage securities regime if well secured: use as collateral (repos, payment systems), investment guidelines, risk weight 35