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Melbourne APEC Finance Quarterly Issue 10, December 2010
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Welcome to the newsletter of the Melbourne APEC Finance Centre. We take this opportunity, in issuing our 10th edition, to also wish our readers Happy Holidays and a wonderful new year. In this newsletter, Andrew Wilson of Price Waterhouse Coopers shares the results of a comprehensive study undertaken in our region on Asian Funds Passporting; while Lisa Schutz of InFact Decisions provides an informative overview of the role of credit bureaus, and on proposed changes aimed at improving the nature and quality of information the bureaus gather and provide. APEC Study Centre Director Ken Waller, in his regular column, tells us about issues associated with mobilizing Public Private Partnerships in order to address major infrastructure requirements in the region. ASIA REGIONAL FUNDS PASSPORTINGAndrew Wilson is Asset Management Leader Australia, for Price Waterhouse Coopers.
The future of the Funds Management Business in Asia The Asia region is enthusiastic about the development of an Asia Region Funds Passport1 and appears ready to embrace the challenges involved in its establishment. PwC, acting in conjunction with the Australian Financial Services Council, recently undertook and published research to explore the benefits arising from the development of an Asia Region Fund Passport, as well as the regional attitudes towards this objective. The following is an executive summary of the full report, which readers are encouraged to review in its entirety by accessing the web link provided at the end of this article. Industry Support The report incorporates the views of leading funds management industry bodies and participants across the Asia region. More than eighty per cent of industry bodies and market participants surveyed endorse the development of an Asia Region Funds Passport. It is currently expensive and inefficient, and in some cases not possible, for fund managers to operate across the Asia region. An Asia Region Funds Passport would provide a uniform framework which would address some of these issues. The Economic and Demographic Fundamentals The establishment of the Asia Region Funds Passport is considered to be important to the growth and prosperity of the region’s funds management industry and in turn its ability to support growth across the region. The economic and demographic fundamentals of the Asia region support the view that it will be the “future growth engine” of the global funds management industry. The GDP growth rate in the Asia region is forecast to be double the rate of the rest of the world. Within the region, there are many developing economies with a need for investment capital to fund the expected significant growth in their GDP. There are also developed economies with established pension systems and/or high rates of saving that have funds available to invest. The population of the Asia region is over 4 billion, representing over 60% of the world’s population. It is expected to grow by 25% by 20502 and ageing of the population will be at its most rapid between 2010 and 2030.3 Increased levels of savings and investments will be required in order to fund the retirement of this ageing population while avoiding unsustainable pressure on government finances. Many economies have established pension and sovereign wealth funds in order to help fund the costs of these growing and ageing populations throughout retirement. The Benefits are Clear In addition to funding growth and supporting the liquidity and diversity of the capital markets in the region, the key benefits to the region of an Asia Region Funds Passport include:
Similar Regulatory Frameworks While there are diverse legislative and taxation requirements across the region, it was encouraging to note that most jurisdictions have similarities in their regulatory frameworks. For example, each jurisdiction requires the licensing of the promoter or issuer of the fund, the registration or approval of the fund itself and the registration or vetting of the offer documents. This will provide a strong platform for establishing an Asia Region Funds Passport. Europe May Provide Some Answers The increasing presence of UCITS compliant funds across Asia provides evidence that products which are established within an acceptable framework are very mobile. The region can look to the UCITS framework as a starting point for establishing an Asia Region Funds Passport. However, to be competitive the region will need to be innovative in both the design and ongoing operation of the Asia Region Funds Passport. Conclusion The region is ready to act. While there are definitely complex challenges that we will need to overcome as we move forward, they are not insurmountable and the benefits to the region could be substantial. The full report is hosted on, and can be downloaded via the following web page. 1 A multilateral framework which would enable a complying fund or other Collective Investment Vehicle in a nation that signs up to the passport framework to offer that product in each of the other signatory nations 2 Population Division of the Department of Economic and Social Affairs of the United Nations Secretariat, World Population Prospects: The 2008 Revision, http://esa.un.org/unpp, 07/10/2010 3 Pensions in Asia/Pacific: Ageing Asia must face its pension problems, OECD, www.oecd.org/els/social/ageing CORRECTING AN ACHILLES HEEL IN AUSTRALIAN RETAIL LENDING - POSITIVE DATA IN CREDIT BUREAUSLisa Schutz is CEO of Melbourne based analytics consultancy firm InFact Decisions
Australia noticeably lags global best practice in data sharing An Achilles Heel in Australian retail lending? Given Australia’s comparative success in surviving recent global banking turmoil, it may come as a surprise that we lag noticeably behind global best practice in the area of sharing data via credit bureaus. Currently, Australian lenders have no independent verification of overall indebtedness when they assess credit via credit bureaus. This situation is on the verge of changing, with the Government intending to release draft legislation by the start of 20111. Status Quo Currently, when a lender makes a decision about whether to grant a consumer access to credit, they must rely on the information in the application form, any other customer information they have and credit bureau data. In Australia, unlike many parts of the world, credit bureaus hold information about defaults, bankruptcies and the number of enquiries made by lenders (a proxy for credit activity) with only the name of current credit providers to hint at the extent of borrower commitment. Missing is detail about any credit facilities that are not in significant delinquency (judged as 90 days past due)2. This information about performing loans tends to be referred to in the industry as “positive” data, to be contrasted with “negative” data which refers to adverse events currently stored by Australian credit bureaus. There is another way for lenders to get more information; in theory they can physically telephone each financial institution a consumer discloses on their application form to seek a “banker’s opinion” under the industry’s code of practice. However, to do this for every loan application would be cost prohibitive and this type of inefficiency is exactly what credit bureaus were designed to remedy. Applying for credit – in practice Perhaps the best way to explain how credit bureaus affect the lending process is to reflect on how they used to operate in a world before computers. Originally, credit bureaus stored index cards for borrowers. In the Australian context, the card would have the borrowers’ identification, whether or not they had defaulted on any credit facilities, how many enquiries there had been from lenders (a proxy in effect for credit appetite), any bankruptcies or other court judgments and which lenders they have facilities with. Since the data is only as good as the weakest link, the role of the credit bureaus was not just to hold the data, but to make sure that all lenders were regularly sending good quality information on all their borrowers so all the files were up to date. When applying for credit, the borrower would give permission for the lender to call up the credit bureau to find out what was on the credit file and that information would be used as part of the risk assessment process. It’s all about trust – private reputational mechanisms Credit bureaus are private, for profit entities that developed to help address the classic information asymmetry issue – borrowers have information about their ability to repay and repayment track record - which lenders do not have. In the past, the bank manager knew everyone in town, knew a borrower’s family, where they worked and their track record of financial prudence (or not). The benefits of technology mean retail lending costs are lower than in the past, but without that face to face contact, lenders need a way to assess risk. So, credit bureaus create a reputation mechanism. Other examples of formal and informal reputational mechanisms include law courts, gossip and eBay buyer and seller reviews. All of these mechanisms support the enforcement of private contracts, which in turn underpins a market based economy. The value of the information – academic research One key study provides insight into the value of the additional information. Professors Barron and Staten3 showed the value of the positive data on lenders’ ability to correctly identify good and bad risks. In that study they used US data (where both positive and negative credit bureau information is available) and built lending models both with and without the extra information. They found that without positive information, bad debts were likely to be upwards of 60% higher than they otherwise would be, because lenders made less accurate risk assessments. MasterCard commissioned ACIL TASMAN in 2004 to review this research and in their submission to the Australian Law Reform Commission in 20084, suggested a cost to the Australian economy of $5.3bn from not sharing the positive data. What does the $5.3bn represent? Without positive data, lenders may charge higher interest rates and limit access to credit. That’s leaving aside the social cost of not sharing the information, being more borrowers getting into trouble and the community impact of their financial difficulties. How much information is too much – the recommendations The challenge for the Australian Law Reform Commission (“ALRC”) has been to balance the competing interests of consumer privacy with the ability of lenders to accurately access capacity to repay debt and hence meet their responsible lending obligations. Additionally, a concern raised during the consultation process was the potential for lenders to use this additional information for marketing purposes – as is done in the US and UK. The model proposed (and supported by all stakeholders) excludes marketing uses and is limited to five additional pieces of information: the type of credit accounts opened by an individual, the dates the accounts were opened and closed (if they were closed), the limits of each open account, and certain details regarding re‐payment history over the past two years. While there is no doubt that this is an extremely encouraging development for the Australian industry, there are three issues worth mentioning. What is left on the table – and what’s the cost? 1. Outstanding Balance One omission was the current balance outstanding for each facility. The result of this is that when lenders assess loans in the future, they will be paying attention to limits but not current obligations. A crucial point often missed is the fact that Barron and Staten explicitly used current balance in their assessment of the benefits of positive information. In other words, by not including this data, there is a strong likelihood that Australia will enjoy less of the benefits of positive data. How much of the estimated $5.3bn is at risk? We could consider the Australasian Retail Credit Association submission to the ALRC. Without outstanding balance added, they estimated that the predictive value would drop to 74% of the 100% of value available with full positive information sharing. So, very simplistically, up to 26% of the value may be left on the table5. 2. Marketing All stakeholders agreed to exclude marketing, and given privacy concerns and the fact that incumbent lenders have nothing to gain by allowing rivals and new entrants access to positive information, this result comes as no surprise. Professors Barron and Staten argue that marketing activity enables a more competitive marketplace – there is no doubt that access to positive data would make new entrants more confident about marketing to unknown consumers. The contrary view would be that excessive competition encourages more and more aggressive lending practices which increases the risk of consumer indebtedness. This argument, given recent banking traumas, is significant. However, there will still be marketing - it will just be less fine tuned than it needs to be and new entrants are at a disadvantage. 3. Telecommunications Providers As of 1 January 2011, the Responsible Lending obligations under the National Consumer Credit Protection Act (“NCCP”) will be in force, creating a category of lenders called Responsible Lenders. It is beyond the ambit of this article to discuss this, suffice to say that only responsible lenders under this package of legislation will have access to the repayment history data elements. Telecommunications companies are not likely to seek this accreditation due to the overhead of having to come under the Responsible Lending obligations of NCCP. And so, they will not have access to all the extra credit bureau data (and nor will they be providing it to the credit bureaus). As consumers spend increasingly large amounts on mobile phones and telephony services, this is an interesting issue which will further limit the benefits of the additional information. The cost is not just that telcos make less informed decisions, but also, other lenders get access to a reduced pool of data which limits their decision accuracy. A worst case would be that the other lenders choose not to use the repayment history information, judging that implementation costs are not worth the effort because the telcos are not in. Lender participation in credit bureaus is optional – the key is reciprocity – they can only access what they share. The way forward Compliance for most lenders under the NCCP commences in Jan 2011. Given draft legislation on positive data is likely around the same time, one might expect implementation no earlier than 2012. In October this year, the Hon Brendan O’Connor MP encouraged the industry to commence reworking the Credit Reporting Code of Conduct as soon as possible. So between responding to the draft legislation and amending the code of conduct, 2011 will be a busy year. The ALRC also recommended, and the Government accepts, the need to review the revised credit reporting provisions five years after their introduction. In conclusion There is no doubt that the system wide changes required to adopt positive information data sharing will be significant and beneficial. In the context of the National Credit Code Package responsible lending obligations, the case for positive data is strengthened further still. Perhaps, for observers outside of the Australian context, two higher level observations might emerge: Firstly, this is an interesting case study of Australia’s approach to governance. The level of industry and regulator interplay, the consultative and largely collaborative approach and the depth of analysis seems be characteristic of Australian financial services regulation. Secondly, a cautionary note might be sounded on the dangers of not legislating for the end game. For countries that have not adopted information sharing in credit markets, the learning might be to legislate at the outset for positive data sharing even if there is a phased implementation. Once a regime is established, Australia’s experience shows just how hard it is to change. And if we could wind back the clock, one wonders whether Australia would choose a more comprehensive approach to credit bureau data. 1 Sen. O’Connor speech on 13 October 2010 to Industry at Australian Institute of Credit Management National Conference, as a response to recommendations from Australian Law Reform Commission Report 108 (2008) – Review of the Privacy Act 1988 http://www.austlii.edu.au/au/other/alrc/publications/reports/108/index.html 2 For detail of what is in a credit file currently – see following page from Veda Advantage, one of the Australian credit bureaus has a download example report http://www.mycreditfile.com.au/dotAsset/514934.pdf - the other consumer bureau is run by Dun and Bradstreet (Australia) and their consumer FAQ is https://www.dnbcreditreport.com.au/faqs/index.aspx 3 Barron, J. M. and M. Staten (2003): “The Value of Comprehensive Credit Reports: Lessons from the U.S. Experience”, in M.J. Miller (ed.), Credit Reporting Systems and the International Economy, Boston: MIT Press [also available online http://www.privacyalliance.org/resources/staten.pdf] 4 ACIL Tasman, Comprehensive Credit Reporting: Main Report of an Analysis of its Economic Benefits
for Australia [Prepared for MasterCard International] (2004)
http://www.consumer.vic.gov.au/CA256902000FE154/Lookup/CAV_Credit_Review_Submissions/$file/16Mast 5 Assumes move from option “ALRC + Delinquent + Repayment” to “Full” option p.31 for options, p.16 for results ‐ Australasian Retail Credit Association submission to ALRC ‐ study by Four major banks, Citibank & GE Money http://arca.net.au/members/documents/ARCA%20submission%20(111207).pdf PROMOTING PUBLIC PRIVATE PARTNERSHIPS IN REGIONAL INFRASTRUCTUREKen Waller is the Director of the Australian APEC Study Centre at RMIT.
PPPs – a US$8 trillion challenge for the region APEC Leaders and Finance Ministers endorse efforts to promote PPPs in the region’s economies. The challenge of mobilizing private sector finance to work with public finance is a daunting task; this despite the massive needs for infrastructure in the region and concerted efforts by multilateral development banks and official export credit agencies to reduce risks in financing long-term projects. The Asian Development Bank estimates that the region must spend a further $US 8 trillion over the next decade on meet critical energy, transport, communications and other physical and social infrastructure needs. The challenge for the region is shared by both developed and developing members of APEC. Ageing infrastructure in developed economies has to be replaced and modernized and new infrastructure is required to meet the requirements of rapidly urbanizing developing economies. The flow of private funds remains subdued The initial impact of the global financial crisis on infrastructure financing resulted in rising risk premiums, a shortening of long-term bond paper to support financing and heightened risk aversion by investors. While some of these constraints have dissipated to some extent, and while more finance is being allocated by multilateral developments banks to support project financing and while some economies have introduced guarantee systems to help reduce risks, the flow of private funds into PPP activity in the region remains subdued. Analysis by APEC public sector officials and by private sector specialists who advise APEC Leaders through the APEC Business Advisory Council (ABAC), highlights some major challenges yet to be overcome if private finance is to be mobilized on the scale needed to support a serious expansion in infrastructure spending. Some challenges are of a high-level nature. They reflect the fact that capital markets in some regional economies are under-developed and are as yet unable to convert pools of savings in those economies into long-term financial instruments needed to support infrastructure. Another high-level challenge is that of reducing the risks arising from foreign exchange exposure by a borrowing economy when it seeks to utilize foreign funds. Instruments to do this and hedging facilities are simply not available to some economies. Demonstrating the benefits to the community is a complex task Major challenges confront ministries and policy makers in determining infrastructure priorities and in determining processes in which PPPs become accepted by communities generally. Demonstrating the benefits that can accrue to a community by involving private sector financing and management is often not easily achieved. Building political and community trust is a complex and time-consuming process as is determining how risks may be shared by the public and private sectors. ABAC has been developing a concept to help build trust between public and private sector stakeholders and with a focus on the provision of advice by highly experienced private sector experts to political leaders in APEC’s developing economies. This proposal envisages the creation of an Asia Pacific Infrastructure Partnership or APIP. An APIP is on the regional agenda but more work is needed At the APEC meetings in Yokohama in November this year, public and private sector infrastructure specialists and multilateral agencies confirmed the massive financing needs of the region and discussed strategies for dealing with that problem – mainly through support by multilateral development banks and through new policies in some developing economies – for example a guarantee fund has been established in Indonesia. Malaysia has also introduced policies for the corporatization of some nationally owned enterprises and which will involve private sector participation. These developments represent important reforms in some regional economies and important measures by multilateral agencies to support PPP development. But it is clear that measured against the scale of infrastructure financing needed in the region, some of the high-level challenges noted above will constrain the development of the market for PPPs in some economies for some time to come. More work is needed if the concept of the APIP is to be realized. Concrete support is needed by high-level private sector proponents of PPPs and by leaders and ministers in APEC economies if the APIP concept is to get traction and if it is to play a constructive role in bringing private sector finance and expertise in a much more concerted way into the region’s infrastructure development. APEC is promoting a series of initiatives At the official level, APEC has taken a series of initiatives to promote PPPs in the region. A most recent pathfinder initiative makes the important observation that despite the massive infrastructure needs of the region only a relatively few projects have been completed in recent years. The initiative notes that the lack of negotiating experience in many emerging markets at negotiating and delivering PPP projects and concerns over “sign-off” on complex projects by ministers and others are some of the major causes of the low take-up of PPPs. To meet this need, APEC Finance Ministers endorsed a Pilot Mentoring Scheme to be implemented in 2011. This is a joint initiative by Australia, Singapore and the World Bank and it will seek to provide hands-on technical assistance to a group of targeted emerging economies to identify and successfully implement prospective PPP projects. With support from the Victorian Government, the Melbourne APEC Finance Centre, a facility managed by the Australian APEC Study Centre, is associated with APEC’s initiatives to promote PPPs in the Asia Pacific region. The Centre promotes the involvement of Partnership Victoria and Melbourne’s private sector groups and the academic fraternity in PPP work in the region.
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