What lies beneath? An opaque take on Cambodia’s shadow banking operations

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Source: National Bank of Cambodia

Away from the authorities’ gaze, the unregulated consumer lending market thrives, triggering unease in the banking sector over rising credit growth risk

Lurking in the underbelly of the Cambodian banking sector is a shadow operation that has stymied the financial authorities for several years.

No doubt these activities, which involve direct lending mortgage by housing developers and unofficial money lenders and pawnshops, have surreptitiously fed the economy, the scale of shadow banking, or recently identified as non-banking financial institutions, remains unclear in Cambodia.

Globally though, G20-endorsed Financial Stability Board, a body that monitors financial systems worldwide, noted that based on a narrow measure of shadow banking, the sector rose 1.7 per cent to $50.9 trillion in 2018. This market now represents 13.6 per cent of the total global financial assets.

Shadow banking was characterised, inter alia, as lacking disclosure and information about the value of their assets, and having little regulatory or supervisory oversight of the type associated with traditional banks.

Laura Ellen Kodres, division chief for International Monetary Fund’s (IMF) global financial stability division, asserted this in an article in 2013, further adding that shadow banking mimics traditional banking.

Unfortunately, it is neither subjected to international regulations such as the Basel III framework that mitigates risks in the banking sector nor anti-money laundering laws.

As such, they operate in absolute isolation of the regulated financial institution sector without supervision or data sharing, in this case with the National Bank of Cambodia (NBC) and Credit Bureau Cambodia (CBC).

In its Financial Stability Review last year, NBC rued that shadow banking activities had actively expanded as real estate developers were involved with credit provision or sale on credit to home buyers.

“Given the important role of developers in this sector while data availability is still limited, closer coordination from relevant authorities is needed to ensure sustainable and inclusive growth of construction and real estate sector in Cambodia,” the central bank wrote.

It inadvertently means that there is no way of knowing how big an individual’s debt exposure is, said Oeur Sothearoath, CEO of CBC, a credit reporting body set up under a 2016 prakas.

“Housing developers come under the Ministry of Economy and Finance (MEF) regulation. However, mortgage lending are not regulated by them. So, I am not sure if MEF has that data.

“We do not capture that data [too] and information on the risk is not shared with the banking sector. There should be cross discussions on this matter,” he added.

To make matters worse, the opaque operation does not sit well with questionable source of funds especially with European Commission’s identification of Cambodia as a high risk nation with deficient anti-money laundering and counter terrorism financing efforts.

This is in addition to the re-listing by intergovernmental money laundering watchdog Financial Action Task Force last year.

“Trade-wise, the effects would be devastating to the economy as the blacklist makes it difficult for countries to do business with Cambodia particularly where transactions are concerned,” said David Van, senior associate of Platform Impact, a public-private partnership consultant.

The worry is justified, more so when the non-banking financial sector is expected to pick up pace as the distressed economy drives a wedge through people’s livelihood.

The removal of pre-requisite criteria, such as good credit ratings, salary slips, down payments and guarantors, make turning to an alternative funding source desirable.

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Indebtedness bumped up

Four years ago, the ministry acknowledged NBC’s challenge in minimising the risks inherent in rapid credit growth and that Cambodia’s financial system was evolving fast whilst getting more interconnected.

It said the microfinance institutions nearly resembled the typical shadow banking system, as they offer alternate source of financing for small and micro enterprises.

“These emerging developments do create new challenges. At this juncture of the country’s financial development, a robust framework for financial sector oversight and supervision is a prerequisite to ensure resilience of the system to unexpected shocks,” the ministry said in the 2016 mid-year assessment of the macroeconomic monitor.

That was then, but now an anomaly in regulatory measures seems to have emerged as real estate developers are allowed to partake in the lending market, sans banking regulations and data sharing with NBC.

Ministry spokesman Meas Soksensan disagreed, saying that the financial flow within the sector is regulated in accordance to the government policy.

“It is coordinated through the economic and financial committee, an inter-ministerial consultation body chaired by the minister, [where we] take into account potential risks and avoid the domination of one or few sectors,” he told The Post.

Soksensan explained that ‘technically registered’ or ‘official’ real estate developers operating under the actual mechanism should not be considered as shadow banking.

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Ministry of Economy and Finance spokesman Meas Soksensan. Post Staff

“The current practice allows all Cambodians to possess a home. Another example model that the government is trying to enforce is the so-called affordable housing loan,” he said.

Evidently, the issue is sensitive, seeing that several industry players who were approached declined to elaborate, including the NBC and Housing Developers Association of Cambodia.

Treading cautiously, In Channy, president of Association of Banks in Cambodia, said it is a matter for the government to address, as there are two regulators.

“Pawn shops are regulated by the MEF [while] real estate and property developments are regulated by MEF and Ministry of Land Management, Urban Planning and Construction,” noted Channy, who is also president and group managing director for Acleda Bank Plc.

In the absence of data from the non-banking sector, regulated financial sector information might be able to shed some light on the credit sector.

For instance, World Bank said as of December 31, 2019, the share of outstanding bank credit financing to construction, real estate and mortgage sectors, excluding microfinance and shadow banking credits, stood at 31.3 per cent to $7.7 billion of the banking sector, compared to $5.6 billion or 27.9 per cent in 2018.

The share, which is equivalent to 28.6 per cent of the gross domestic product last year, is larger than 22.8 per cent when the construction boom went bust after being triggered by the 2008-2009 global financial crisis.

World Bank said a potential effect on the microfinance sector is through the losses of household incomes with rising laid-off workers from the tourism, garment and construction sectors. To date, more than 150,000 workers across the board have been laid-off or facing pay cuts.

This is expected to push up the level of indebtedness among rural households beyond 40 per cent, as previously indicated in the Cambodia Socioeconomic Survey 2017.

The survey by the National Institute of Statistics also found that outstanding loans and credit from microfinance (and credit operating) sector accounted for 52.3 per cent of debt owed by rural households.

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No-rule borey loans

An economic analyst, who spoke on conditions of anonymity, argued that MEF and NBC should be the only regulator of housing loans by banks while developers should be banned from offering home financing.

“Developers should not be allowed to provide loans because it is messy and they charge higher interest rates than banks. The credibility of loan applicants are also not vetted properly,” the analyst said.

Housing loans by developers (who build borey or gated communities) might seem alluring to home owners because approval criteria are less strict, which helps first time owners who have little or no savings to acquire loans that cover the total cost of the house.

“I didn’t have to put down a deposit for the house and I was offered a full loan. If I had gone to the bank, they would run various credit checks which is time consuming,” said Try Sopheak, a retail shop manager, who owns a home in a borey near Sen Sok, Phnom Penh.

The 35-year-old father of two took out a loan of $90,000 with a 12 per cent interest rate in 2014. Last year, he remortgaged his two-bedroom house when he faced difficulty servicing the monthly debt.

While the initial conditions are somewhat compassionate, the repercussions of loan defaults and late payments are rather draconian.

“If you delay a payment by five days, the penalty is $24 and if you don’t service the loan for two or three months, they immediately seize the house and auction it,” he said.

The lack of regulation on this home financing sector poses a risk on customers who are not protected by the law and might face complications in seeking legal recourse.

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For May Tola, it was the only option she had after being rejected by two commercial banks because she could not foot the 30 per cent deposit for her house.

“My initial plan was to seek bank financing but I could not fulfil the criteria. It was easier with the borey financing because all I needed to produce were my husband’s and my identity cards and our thumbprints.

“Approval was immediate but we pay the price of high interest rate of 10 per cent per year compared to the banks’ average seven per cent interest rate. We also end up paying more for the interest compared to the principal sum,” said the 26-year-old clerk.

Tola is among thousands who have taken out loans with their developers and more are expected as affordable units, some 30 per cent of 28,000 units, come into the market this year.

So, what happens next? Is the government concerned over the credit risk growth?

“We [will] supervise the growth of every sector and try to balance [the expansion],” Soksensan said, reiterating that all decisions will go through the economy and finance policy committee.

But, that does not answer the question.