Regulation, Supervision & Support of Non-Bank, Non-Cooperative Micro-Finance Institutions Prepared by: Dr. Detlev Holloh and Dr.

Transcription

1 In cooperation with Bank Indonesia and the Indonesian Ministry of Finance Regulation, Supervision & Support of Non-Bank, Non-Cooperative Micro-Finance Institutions Prepared by: Dr. Detlev Holloh and Dr. Hendrik Prins

2 REPORT: REGULATION, SUPERVISION & SUPPORT OF NON-BANK, NON-COOPERATIVE MICRO-FINANCE INSTITUTIONS Prepared by Dr Detlev Holloh and Dr Hendrik Prins Jakarta, 12 January

3 ACKNOWLEDGEMENTS This study on Regulation, Supervision and Support of NBNC MFIs was commissioned by GTZ-ProFI to provide continuing support to stakeholders from the Government, Bank Indonesia and the microfinance industry in developing a national microfinance strategy and roadmap. The authors would like to thank Dr. Michael Hamp and Mr. Jan Kerer from GTZ-ProFI for their extensive guidance. Kind support was also provided by Mrs. Corina and Mr. Daniel Weiss as well as by Mr. Ketut Nurcahya from the Bali office of GTZ-ProFI. The authors are greatful to Bank Indonesia for provining both insights and organizational assistance. Special thanks go to Mrs. Libraliana Badilangoe (Head of the BPR Research and Regulation Division, Jakarta) and her staff, and Mr. Indarto Budiwintono (BPR Supervisor, Semarang). The authors are also indebted to the many parties contacted during the study and field visits. We would like to thank all contact persons and respondents who provided assistance and information. We would like to extend special thanks to Prof. Aziz (BMT movement), Mr. Sentot Satria (World Bank/Kecamatan Development Project), Mr. Basuki Sri Hartono (Marketing Director, Bank Jateng), Mrs. Eny Dwi Parwati (Regional BRI office, Semarang), and to Mrs. Budi (Kecamatan Development Project, Semarang) Last but not least, we would like to thank the national consultants, Mr. Riza Primahendra and his research team from Bina Swadaya as well as Mr. Burhan, for their supporting research work and and kind assistance. Notwithstanding these acknowledgements, the authors retain full responsibility for this report.

4 CONTENTS page EXECUTIVE SUMMARY 2 Acronyms 7 A Introduction 9 B Introductory definitions & explanations (rural; window tiers; legal framework; prudential R&S) 11 C Background 14 D Recommended legal framework 18 E Structure & third window characteristics 22 F Design of regulatory & supervisory system prudential criteria 25 G Design of regulatory & supervisory system institutional framework 30 H Support & capacity building general principles 32 I Financial impact of the new Policy 36 J Impact of the new Policy outreach 40 K Financial viability of L-MFIs 46 L Assessment of future competitive position 47 M Deposit protection 48 N Other institutional structures 50 O Comments on microfinance Policy - implementation 53 P Summary - suggestions for inclusion in Roadmap TABLES 1 Current legal framework 17 2 Estimation of deposit thresholds and MFI numbers 18 3 Pyramid: the 4 tiers of MFIs (taking deposits from the public) 20 4 Pyramid: the window: conducive legal framework 21 5 Prudential criteria: capital, liquidity, lending limits 26 6 : assets classification and provisioning 27 7 Soundness rating systems 28 8 Possible capacity building providers 35 9 Estimated costs of supervision: L-MFIs Impact: estimated number of L-MFIs Impact: outreach to households Impact: outreach in numbers/amounts Viability of an average L-MFI Matrix: additional activities for inclusion in Roadmap 57 BOXES 1 Definitions; prudential/non-prudential R&S 12 2 MFIs in the grey area: inadequate legal framework 15 3 Summary of proposed legal framework 19 4 Important first step for improved legal framework 20 5 BUMDES 23 6 Governance: lessons to be learned 23 7 Summary of approach: regulation/supervision 25 8 Repeated: rationale for the new third window 40 9 BMT developments Dec Impact assessment long term impact of third window Important requirement for licensing L-MFIs Cooperatives involved in savings & loans Roadmap should recognize the two tiers of the third window 55 APPENDICES 1 Terms of reference for the Study 59 2 Example: feasibility study of a deposit protection system 62 3 Update of the Microfinance Landscape in Indonesia 63 4 Notes on cooperatives involved in financial services Executive Summary in Bahasa Indonesia / Ringkasan Eksekutif

5 EXECUTIVE SUMMARY Introduction. GTZ-ProFI has coordinated an exercise to assist stakeholders from the Government, BI and micro-finance industry to develop a microfinance Policy and strategy. The resultant National Policy and Strategy for Microfinance Development regards a non-bank/non-cooperative (NBNC) microfinance window as a crucial component within the future structure of the Indonesian microfinance landscape. A major pillar of the Policy is to establish a conducive legal framework for new MFIs, and to legalize the operations of existing MFIs, that are not microfinance banks or cooperatives. A comprehensive Roadmap to implement the Policy is currently being prepared. During November and December 2005, GTZ ProFI employed 2 international and 3 national consultants to conduct a study on Regulation, Supervision and Support of NBNC MFIs. The TOR include reviewing the Policy with a view to suggesting topics to be dealt with in the Roadmap. Urban/rural. The Report uses two definitions. The first is that of the Bureau of Statistics that uses a complicated formula that derives rural from a large number of criteria that include population density, access to social services, etc. The second is one commonly used by donors, where rural is defined as all areas excluding the 85 kotamadya (Regional capitals and municipalities) and 287 District capitals (ibu-kota kabupaten). MF landscape. Whilst there has been no fundamental change in the MF landscape over the past 5 years, it is evident that a few commercial banks are expanding their outreach to microfinance, although this is mainly to urban areas. The following families have shown substantial growth in volume terms: BPRs (although they operate mainly in urban and semi-urban areas), LPDs (Bali) and BMTs (mainly central & Eastern Java). However, the demand/supply gap at the village-level remains. Existing MFI families such as LDKP (excluding LPD) and BKD are stagnant. MFI embryos emerging from projects like UPK/D have not yet demonstrated a capacity to mobilize savings and operate sustainably. Inadequate legal framework. It has long been recognized that the legal framework for MF should improve. A major reason for the stagnant MFI industry, and lack of rural outreach, is the restrictive legal framework that (i) does not allow the establishment of new (NBNC) MFIs to take deposits from the public, and (ii) stifles the development of most existing MFI families since they operate illegally, or in a grey area. The existing two windows, i.e. for banks and cooperatives, are too restrictive. Only banks (which include BPRs) are allowed to take deposits from the public. Expanded outreach through BPRs is not feasible the central bank has a restrictive policy to new licenses, capital entry requirements have greatly increased, and in any case, most new BPRs are operating in large cities. The cooperative window is not a solution, as cooperatives can only deal with members. The third window. Accordingly, the MF Policy recommends a more conducive legal framework, that would enable a third window that would allow the operation of NBNC MFIs. This important improvement to the legal framework will enable NBNC MFIs to operate within two tiers, as follows: 2

6 a) MFIs licensed under a national regulation L-MFIs (L = licensed). This in turn will have two components: (i) new L-MFIs, and (ii) large existing MFIs that convert to L-MFI (large here is defined as MFIs with (total) deposits above a threshold of say Rp.200m (but see below - this threshold is too low and is not recommended). L-MFIs will be subject to prudential regulation and supervision (R&S). Very large L-MFIs, with deposits above a threshold, say Rp.5b, would have to get a license as BPR. b) MFIs licensed under Regional/District regulations. This will apply to small and medium MFIs - SM- MFIs - whose total deposits are below the threshold. In general, they will not be subject to prudential R&S, although Regional/District governments may require a weaker form of R&S or control. Then, there is the informal part of the MF sector the small groups (kelompok simpan pinjam, arisan at the village level), with limited membership, not aiming at expanding membership to the whole village population. The informal sector also includes small savings and loan groups established by NGOs, small Grameen replicators, very small MF institutions, credit-only MFIs, and MFIs which base lending on compulsory savings. The informal sector will be exempt from regulation. New legal framework. The improved legal framework can most feasibly be achieved by a Government Regulation (peraturan pemerintah) at the national level. But first the Banking Law must be amended to enable a government regulation to be issued to deal with deposit-taking by non-banks. The institutional framework for R&S of the two tiers should be as follows. First, an entity at the national level should be established as National Regulator and Supervisor NRS. This NRS will specify guidelines for regulation, and delegate actual regulation to Provincial governments, but any draft regulations of Provincial governments must be approved by the NRS (to ensure consistency nationwide for prudential management of MFIs). The NRS will also delegate supervision of L-MFIs to competent entities (most likely BPDs). The NRS will also determine the deposit parameters the suggested Rp.200m is far too low: it should be Rp.500m or Rp.1b. At the Regional level, there will Regional Regulators and Supervisors (RRS). Role of regions. The national-level legal framework will provide Regional and District governments with the power to issue regulations concerning the activities of SM-MFIs these do not have to be approved by the NRS, although Regional and District governments are likely to follow the NRS s recommendations of best practices. SM-MFIs will therefore be subject to some form of regulation. In general, they will not be subject to prudential R&S there is unlikely to be resources for this. The level of supervision/monitoring/control and enforcement will depend on the Regional/District regulations. It will be advisable that there is at least some degree of oversight, control and sporadic on-site inspections, because SM-MFIs are taking deposits from the public. Window characteristics. The Report provides indications of characteristics of L-MFIs and SM-MFIs. In general, new L-MFIs should only be allowed to operate in rural areas. MFIs operating within the window can open branches, and provide standard MF services such as deposits (time and savings), loans, and L-MFIs could also provide agency insurance services. L-MFIs have to operate as legal entities. Both L- MFIs and SM-MFIs would have to have proper governance; this includes meeting Fit & Proper Tests, and operating independently (licensing requirements for SM-MFIs will not be as strict as for L-MFIs). 3

7 Regulation and supervision. A R&S system was recommended for L-MFIs. In general, it will be up to Regional and District governments to decide what kind of regime is necessary for SM-MFIs the NRS will provide guidelines on prudential management (i.e. best operating practices) for SM-MFIs. The approach should be that the NRS designs a graduated/tiered approach to R&S of SM-MFIs that goes beyond simple registration. L-MFIs will be subject to prudential R&S, and the system recommended is modeled on that for BPRs, but with stricter requirements. BPR regulations derive from those for commercial banks, whilst the R&S of L-MFIs should follow sound practices for MFI R&S. The recommended regime includes the following: minimum capital amounts (Rp.200m is suggested for new L-MFIs), minimum capital ratio of 12% (BPRs are currently 8%), minimum liquidity ratio of 10% (BPRs - >4%), and strict legal lending (exposure) limits, eg. largest loan to one borrower as a percentage of capital = 5% (BPRs 20%). A strict asset classification/provisioning system is recommended, based on best international practices for MFIs. A soundness rating system based on CAMEL is also recommended, with the emphasis on objective evaluation criteria. Finally, it was recommended that the NRS should issue guidelines for sound credit policies, that can be implemented by L-MFIs and SM-MFIs. Capacity building. The Report recommends sounds practices for capacity building. The major requirement is that training should strengthen institutions, rather than be targeted at specific individuals. Supervision should be separated from capacity building/institutional strengthening. It is highlighted that to be effective, sustainable support systems are vital a good example is the Professional Certification Institute for MFIs (LSP LKM CERTIF) that ensures training quality standards and certifies achievement of professional standards based on standard and independent tests. On a practical level, an assessment was made of which entities could provide capacity building to various MFI families. For LPDs, the existing system appears to be quite effective (PLPDK based in districts support LPDs). For other LDKP, the BPD seems to mix supervision and support. BKD do receive some capacity-building support from BRI, but are not subject to any form of effective supervision. BMT are establishing Regional and national associations to provide capacity building, but are short of resources. Financial impact. The financial impact of the new Policy has been estimated. Costs for the NRS were partly based on the costs BI incurs at its head office for research and regulation of BPRs nationwide. It was estimated that the costs for the NRS would be some Rp.5b per year this cost would have to come from the national budget. If the NRS also has to supervise L-MFIs, this cost could be met from license fees. Costs the RRS may incur to R&S L-MFIs were partly based on the salary levels of BPD staff used to supervise LPDs. The level of cost will of course depend on the number of L-MFIs to be supervised. It was assumed that if there are 700 L-MFIs by year 3, then the cost could be Rp.6.7b p.a. this cost could also partly or totally be met from license fees. Supervision or control costs of existing SM-MFIs are already in the system. Rough estimates were also made of the costs of providing capacity building - the cost for 1 month, based on one consultant, would be about Rp.6m, in line with what domestic private consulting firms and accountants charge. Impact on outreach - MFIs. An estimation was also made of the impact the Policy may have on outreach in terms of (i) numbers of L-MFIs (new ones, and existing ones that convert), (ii) numbers of 4

8 households, and (iii) outreach aggregates in financial terms. Naturally, different assumptions will result in different estimates. As was repeated in the Report, the principal aim of the new Policy should be the establishment of new L-MFIs and SM-MFIs, rather than just to legalize existing MFIs! It was assumed that over a 4 year period, there could be 1,000 L-MFIs nationwide, of which 550 would be conversions of existing large MFIs, and 450 new L-MFIs. This compares to the impact of PAKTO 88 from 1988 to 1993, the number of new BPRs increased from 423 to 1,436, an average of 200 new BPRs per year (we estimate about 100 new L-MFIs per year). New L-MFIs will be established by private interests, and replications of the LDKP model (esp. LPD, BKK) esp. in outlying provinces. With respect to conversions of existing large MFIs to L-MFIs, most will come from LPDs and BMTs (in both cases, those that want to deal with the public). No estimations were made of numbers of new SM-MFIs it is likely that over time large numbers will be established once the enabling legal framework has been socialized. With a capital base of Rp.200m, L-MFIs can earn sufficient profits to operate sustainably and this profitability should encourage others to enter the sector. Properly managed SM-MFIs can also operate profitably. Impact on outreach households. Based on the numbers of L-MFIs, national census statistics, and numbers of customers per average BPR and LPD, estimations were made of the outreach to rural households. It was assumed that an average L-MFI would have the following number of customers: credit 547, savings 1,915, and deposit 164 (this seems low, but is the average for BPRs). Based on the foregoing, it was estimated that by the third year of implementation, there could loan disbursements per year of Rp.986b (loans outstanding of Rp.493b), with 574,500 savings accounts (Rp.402b) and 49,000 deposit accounts (Rp.148b). The long-term assessment is that over say a 10 year period, the impact in numbers of rural customers could equal that of the current level of BPR outreach: 2.3m loans, 6m savings accounts, 332,000 depositors. This would substantially narrow the demand/supply gap for rural micro-financial services. Competitive position. In general, the overall competitive position of MFIs under the window is unlikely to be adversely impacted by the slowly-increasing involvement of commercial banks in MF services. Banks generally prefer to operate in and around urban/semi urban areas, and new BPRs prefer to operate in urban/city centers. Existing large MFIs operating in urban areas, and SM-MFIs, will face competition from banks, but they face these challenges now. New L-MFIs will only be allowed to operate in rural areas, where bank outreach is limited. KSP/USP will increasingly be forced to deal only with members, i.e. not the public. Important strategies to expand outreach in rural areas include building on existing village MFIs, encouraging Provincial governments to replicate successful LDKP models, and supporting institutional strengthening of BMTs. Deposit protection. Banks, and therefore BPRs, are part of the nationwide deposit-protection system. The current level of deposit protection is Rp.100m per depositor. Members of KSP/USP are not part of this system. In the short to medium term, depositors in L-MFIs will also not be part of the system. However, international best practices require that MFIs that take deposits from the public should provide some protection to depositors, beyond that provided by R&S. In the short to medium term, an institutional support strategy is recommended that has two components: (i) loans from a Fund that is used to provide funding support to weak L-MFIs, and (ii) the provision of capacity building support to 5

9 provide funding support to weak L-MFIs, and (ii) the provision of capacity building support to weak L- MFIs. In the long term, a full deposit-protection system for L-MFI depositors should be considered. Institutional structures. The report also highlights the various institutional structures that should surround the new window. Apart from the NRS and RRS, these include an apex bank (apex financial institution), national MF secretariat (to implement the Policy), L-MFI institutional support system (probably implemented by the NRS and apex institution), some form of support system for SM-MFIs, Certif training system, and associations, eg. for L-MFIs, for LPDs, for BKDs, for BMTs, etc. Policy and Roadmap. Finally, the Report reviews the major elements of the MF Policy, with a view to making suggestions for incorporation into the draft Roadmap. Major additions that should be made relate to (i) the establishment of the NRS, (ii) first changing the Banking Law so that a government regulation on MF can later be issued, (iii) placing the emphasis of Roadmap activities on the establishment of new L-MFIs and SM-MFIs (rather than on just legalizing the activities of existing MFIs), and (iv) differentiating the two 3 rd window components into L-MFIs and SM-MFIs, and providing separate development paths for each. 6

10 ACRONYMS ADB b BI BKD BKK BMT BNSP BPD BPR BRI BTM BUMD BUMDES CAMEL CAR CU DPS DSP FOMFI GTZ KOMNAS KSP KUD LCS LDKP LKM LKURK LLL L-MFI LPD LPN LPS LSP MF MOC Asian Development Bank Billion Bank Indonesia: Central Bank of Indonesia Badan Kredit Desa: Village Credit Board Badan Kredit Kecamatan: Sub-District Credit Board, LDKP in Central Java, Bengkulu, Riau, South Kalimantan Baitul Maal wat Tamwil (Arabic term for: house & asset financing); non-bank microfinance institution, YINBUK/PINBUK Badan Nasional Sertifikasi Profesi National Professional Certification Board Bank Pembangunan Daerah: Regional Development Bank Bank Perkreditan Rakyat: People s Credit Bank -often wrongly translated as rural bank Bank Rakyat Indonesia: People s Bank of Indonesia, commercial state bank Baitul Tamwil Muhammadiyah - like BMT, but established by another Muslim movement Badan Usaha Milik Daerah: Business legal entity owned by provincial government Badan Usaha Milik Desa: Business legal entity owned by village Capital, Assets, Management, Earnings, Liquidity (soundness rating system) Capital Adequacy Ratio Credit Union (in Bahasa Indonesia: Kopdit) Deposit Protection System (in Bahasa Indonesia: LPS) Danamon Simpan Pinjam Bank Danamon s microfinance units Discussion Forum on Microfinance Policy Issues German Agency for Technical Cooperation Komite Nasional National Committee for the Promotion of Microfinance Koperasi Simpan Pinjam: Savings and Credit Cooperative Koperasi Unit Desa: Multi-purpose cooperative at sub-district level Loan Classification System Lembaga Dana Kredit Pedesaan: Rural Fund & Credit Institution Lembaga Keuangan Mikro microfinance institution Lembaga Kredit Usaha Rakyat Kecil: People s Small Business Credit Institution, LDKP in East Java Legal Lending Limit (loan exposures) Licensed MFI (licensed under a national law or regulation) Lembaga Perkreditan Desa: Village Credit Institution, LDKP in Bali Lumbung Pitih Nagari: Village Credit Institution, LPKP in West Sumatra Lembaga Penjamin Simpanan: Deposit Protection System Lembaga Sertifikasi Profesi professional certification institute Microfinance Ministry of Cooperatives and SMEs 7

11 MOF MFI m NGO NBNC NRS NTB NTT OJK PD PINBUK PLPDK PNM Pokja PPTA ProFI R&S Rp. RRS S&L SME SM-MFI t TA UPK/D UPKD US$ USP WB YINBUK Ministry of Finance Microfinance Institution Million Non-Government Organization Non-bank, non-cooperative (MFI) National Regulator & Supervisor Nusa Tengara Barat Nusa Tengara Timur Otoritas Jasa Keuangan Financial Services Authority Perusahan Daerah: legal entity owned by the Provincial government (see also BUMD) Pusat Inkubasi Bisnis Usaha Kecil: Center for the Incubation of Small Businesses, Regional Chapter of YINBUK Pusat LPD Kecamatan sub-district LPD centers Permodalan Nasional Madani: state-owned finance company for liquidity credit programs Kelompok Kerja Working Group on Microfinance Development under MOC Project Preparation TA Promotion of Small Financial Institutions (GTZ Program) Regulation & Supervision (includes enforcement) Indonesian Rupiah Regional Regulator & Supervisor Savings & Loans Small & Medium Enterprises Small & Medium MFIs (operating under Regional/District regulations) Trillion Technical Assistance Unit Pengelola Keuangan / Desa: Financial (revolving fund) management units at the sub District or village-level. These are project (Kecamatan Development Project, various Area Development Projects) units progressively becoming project-independent financial institutions. US Dollar Unit Simpan Pinjam: Savings and Credit Unit (of multi-purpose cooperative) World Bank Yayasan Inkubasi Bisnis Usaha Kecil: Foundation for the Incubation of Small Businesses 8

12 A. INTRODUCTION 1. GTZ-ProFI is advising stakeholders from the Government, BI and the micro-finance (MF) industry on development of a microfinance Policy and strategy. The recently prepared National Policy and Strategy for Microfinance Development regards a non-bank/non-cooperative (NBNC) microfinance window as a crucial component within the future structure of the Indonesian microfinance landscape. Consequently, setting a conducive legal framework for new MFIs, and by acknowledging and legalizing existing MFIs (other than microfinance banks and cooperatives), is seen as a major pillar of the proposed Policy. 2. GTZ-ProFI assigned the consultants to, in essence, assess the feasibility and impact of a third microfinance window for non-bank and non-cooperative MFIs, and giving empirical evidence regarding significance and relevance of a third microfinance window. The TOR relate only to the window and do not cover proposals to strengthen or extend the outreach of BPRs and cooperatives. 3. The detailed TOR are contained in Appendix 1. The assignment included the following specific tasks: a. Updating information about MFI families (based on nationally-available data and field research in Central Java, Bengkulu, NTB and Bali). b. Outlining the future structure of the 3 rd MFI window, a) with regard to legal and financial requirements (with special emphasis on the savings threshold) as well as supervision requirements, and b) with regard to ownership, governance, scope of business, and Regional focus as well as capacity building strategy. c. Outlining the design of the R&S system for NBNC MFIs at the Regional level. d. Outlining an overall support strategy e. Reviewing the concept of the MF Policy and strategy, including assessments of its political feasibility, its impact on a) cost of supervision and support structures, and b) the outreach and sustainability of 3 rd window MFIs, and c) its future competitive position in relation to bank and cooperative MFIs. 4. The study was carried out by two international consultants, Hendrik Prins and Detlev Holloh, and a national consultant team from Bina Swadaya, led by Riza Primahendra. Hendrik Prins (21 November 17 December) focused on the legal framework for the window, regulatory and supervisory aspects, financial impact of the new Policy on regulation/supervision and capacity building, impact on outreach, deposit protection and institutional structures. Detlev Holloh (14 November 9 December) focused on updating information about MFI families, coordinating the national consultants team (he also participated 9

13 in the field study in Central Java), and providing inputs with respect to support and capacity building requirements, and MFI governance and ownership issues. 5. The national consultant team was responsible for data collection both from national sources of information and through field studies in Central Java, NTB and Bengkulu. The national consultant team was also required to determine the cost structure of existing supervisory authorities, to assist in developing an overall support strategy, and to analyze the legal framework for microfinance. Riza Primahendra took part in the planning and organization of team activities until 15 November, and he rejoined the team on 30 November. Two Bina Swadaya staff carried out the field studies in Bengkulu and NTB (7-19 November, and part of December) as well as in Central Java (22-26 November 2005). 10

14 B. INTRODUCTORY DEFINITIONS & EXPLANATIONS 1. Introduction In the interests of clarity, we are going to define at this early stage what we understand by the terms rural, window, the legal framework, thresholds, and implications of Regional-based supervision. This will assist the reader to follow the window context throughout this Report. Of necessity, some of what is contained in this Chapter will be repeated in other Chapters of this Report. 2. Rural definition This Report refers to rural and urban. Two definitions are used for these terms: a. the Bureau of Statistics (BPS) has a complicated formula that derives rural from a large number of criteria that include population density, access to social services, kinds of business activities (eg. whether there is any farming in the area), access to transport, etc. b. we use a different definition for the purpose of determining an MFI's area of operation. We define rural as all areas excluding the 85 kotamadya (Regional capitals and municipalities) and 287 District capitals (ibu-kota kabupaten). See Table 11 where rural numbers are used to estimate outreach to households. BPS statistics show the rural population as 58% of the total population of 211m, whereas the consultants' figures 1 (based on the different definition) showed 64%. We have used the BPS figures as more indicative of rural in estimating outreach to households. 3. Third Window s tiers In essence, the third window consists of two tiers: a) MFIs licensed under a national regulation L-MFIs. This will have two sub-components: (i) new L- MFIs, and (ii) large existing MFIs that convert to L-MFI (large here is defined as MFIs with deposits above a threshold of say Rp.200m (see below - this threshold is too low). L-MFIs will be subject to prudential regulation and supervision (R&S) defined in Box 1 below. Very large L-MFIs, with deposits above a threshold, say Rp.5b, would have to get a license as BPR. b) MFIs licensed under Regional/District regulations. This will apply to small and medium MFIs SM- MFIs - whose total deposits are below the threshold. In general they will not be subject to prudential R&S, although Regional/District governments may require a weaker form of R&S or control. Note: not within the third window, but within the MF sector, is the informal sector these are the small groups (kelompok simpan pinjam, arisan at the village level), with limited membership and not aiming at expanding membership to the whole village population. These also include small savings and loan groups established by NGOs and Grameen replicators. The point is that the vast majority are not institutions. There may be some that are institutions, but they will be very small too small to be of concern to any Regulator. Whilst not subject to any specific regulatory framework, a MF law or regulation will not make their activities illegal (i.e. they will be exempt from any form of regulation). 1 The consultants figures were derived from detailed statistics provided by the BPS to the MOF s MF working group during At that stage, ProFI was providing TA to the working group. 11

15 4. Thresholds The Policy refers to thresholds, and mentions total deposits of Rp.200m (US$20,000) above which MFIs should be licensed as L-MFIs. Based on available and extremely limited supervisory resources, this low threshold level will put too much strain on Regional supervisors. They will have far too many L-MFIs to supervise. In addition, by international standards, the Policy s suggested threshold is far too low 2. Under an earlier Study for ADB, a threshold of Rp.500m was considered more realistic even this could result in some 700 L-MFIs by the third or fourth year after an enabling legal framework has been put in place. Maybe the threshold should be Rp.1b? As will be seen in Chapter G, the strategy is that a National Regulator & Supervisor (NRS), upon taking office, will review the MF landscape, and determine an appropriate threshold, based on available Regional resources for supervision. Because of the difficulty of obtaining information, the research for this Report was not able to provide guidance on appropriate threshold levels. Therefore, for the Roadmap, under the component R&S, an important activity will be to determine an appropriate deposit threshold for when MFIs must be licensed as L-MFI. 5. Legal framework The legal framework at the national level should establish a NRS. This institution will specify guidelines for regulation and delegate regulation to Provincial governments, but their regulations must be approved by the NRS (to ensure consistency nationwide for prudential management of MFIs). The NRS will also delegate supervision of L-MFIs to competent entities (most likely BPDs) these would also of course have to be empowered by an enabling provincial regulation. The national-level legal framework will provide Regional and District governments with the power to issue regulations concerning the activities of SM-MFIs these regulations do not have to be approved by the NRS, although Regional and District governments are likely to follow the NRS s recommendations of best practices. SM-MFIs will therefore be subject to some form of regulation. In general, they will not be subject to prudential R&S there is unlikely to be resources for this. The level of supervision/monitoring/control and enforcement will depend on the Regional/District regulations. It will be preferable that there is at least some degree of oversight or control, and sporadic on-site inspections, because SM-MFIs are taking deposits from the public. Box 1 Definitions: prudential/non-prudential R&S Prudential R&S refers to the regulations and activities central banks consider necessary to ensure that banks operate soundly and that depositors' funds are not placed at risk. BI, eg. regulates and supervises BPRs. BI, as Supervisor, has strict licensing requirements for BPRs, regulations for prudential management of BPRs (eg. regarding capital, liquidity, valuation of assets), requirements for providing detailed monthly information, and the Supervisor verifies the information and adherence to regulations through regular on-site inspections. In addition, the Supervisor has enforcement powers, eg. can withdraw the license, change management, impose penalties and as a last resort, liquidate BPRs. Non-prudential R&S usually refers to less-rigorous licensing (often just registration) and a requirement to provide periodical information. This regime is not recommended for SM-MFIs. Regional and District governments should pass regulations that impose some form of control or oversight of SM-MFIs operations. A preferable regime is one that would be a less strict/more simple system of prudential R&S i.e. a license is required to operate (the license should set some minimum standards regarding capital, management, eg.), there is a requirement for periodical financial information, and officials of the regional or District governments (or BPDs) can visit SM-MFIs occasionally to verify financial information and check adherence to standards. 2 An existing MFI with a deposit level of Rp.200m indicates total assets of say Rp.250m, and capital of say Rp.25m (US$2,500). This is far too low a threshold to make prudential R&S cost effective or of interest to any Regulator. 12

16 6. Implications of Regional-based R&S As will be mentioned elsewhere in this Report, whilst the statement is be made that L-MFIs will be subject to prudential R&S (this statements is also made in the MF Policy), in practice, with supervision delegated to the provinces, R&S is not going to be as effective as that practiced by BI with respect to banks (commercial banks and BPRs). BPDs are more accustomed to provide guidance to MFIs, although even here their resources for this activity are generally speaking inadequate. No matter what is provided in regulations, it is probably not practical to think that they will be effective as supervisors and enforcers. This is why the institutional framework should make provision for an L-MFI institutional support scheme (a kind of indirect deposit protection see Chapter M), and why there should be an upper threshold (maybe total deposits Rp.5b) above which L-MFIs should be licensed as BPR (if they don't meet licensing requirements for BPR, then they would have to scale back their operations to below the threshold). One could ask why licence L-MFIs if R&S is less effective than for banks? (the wise words of caution: don t license what you can t supervise). One could reply that what is being proposed is better than the current system, with thousands of MFIs operating in a grey area and not being subject to any, or very poor levels of oversight. Indeed, the failure of a proportion of L-MFIs over time, with consequent losses for depositors, is the price that has to be paid to increase rural outreach. After all, BPR numbers have decreased from some 2,500 to just over 2,000 now a 20% reduction with hundreds being liquidated over a period of 5 years yet no one is saying that the BPR industry has not been a great success (although admittedly, depositors of most liquidated BPRs were covered by the blanket deposit-guarantee implemented after the financial crisis of 1997). 7. Caveat from consultants The consultants recommend that OJK (discussed in Chapter N, section 1) should be the NRS of L-MFIs, i.e. that supervision should be on the same qualitative level as for banks. Prior to this function being in the hands of OJK, the NRS should be responsible for R&S of L-MFIs, and this can be delegated to competent entities. As there are unlikely to be competent entities at the Regional level, the NRS should have sufficient staff, with branches in a few Regional centres, to effectively R&S L-MFIs. In addition, to prevent regulatory arbitrage (for which the most likely culprits could be LPDs), large KSP/USP should also be subject to R&S at the national level by the NRS, later OJK. Therefore, whilst the consultants agree that non-prudential R&S (or control) should be decentralized to Regional governments and BPDs, they do not agree with this happening for L-MFIs. The consultants consider that the Policy has sought an expedient but less than satisfactory solution to the issue of R&S of L-MFIs, instead of taking a more thorough financial-systems approach to the impact of licensing large MFIs that take deposits from the public (i.e. mainly from poor/low income rural savers). Nonetheless, the consultants, with misgivings, will follow the Policy s strategy of assuming that there are competent entities at the Regional level that can R&S L-MFIs. Note: if the preferable policy that L-MFs are subject to R&S by the NRS (later OJK) is implemented, then the outreach numbers in Table 10 1,000 L-MFIs nationwide by the end of year 4 can only be achieved if the NRS has sufficient resources to R&S such a number of L-MFIs

17 1. MF landscape C. BACKGROUND As will be seen from Appendix 3, in general there has not been a significant structural change in the Indonesian microfinance landscape during the last 5 years. A few commercial banks other than BRI have started to see the financial benefits of being involved in MF. Mandiri is apparently slowly expanding its MF outreach, but BNI has ceased its involvement. To date only Bank Danamon has developed a significant micro-banking outreach with more than 600 MF savings and credit units (Danamon Simpan Pinjam) in market places all over Java, Bali and more recently Aceh province. However, most commercial-bank MF expansion is unlikely to provide financial services to rural villages. The BRI Unit system with more than 4,000 sub-districts units remains the largest and most viable microfinance network in Indonesia. For the BPR industry the last 5 years were a period of consolidation. Appendix 3 provides an update of the current state of the various MFI families. 2. Demand/supply gap Strong MFIs needed. Despite the worldwide promotion of microfinance as a tool for fighting poverty, neither program microcredit or institutional microfinance has yet succeeded to significantly increase MF outreach to poor households. After years of equating microfinance with credit and credit with program credit, it has been increasingly acknowledged that expanding outreach to rural areas and alleviating poverty through microfinance requires sound microfinance institutions (MFIs) that are able to expand, and provide and sustain demand-oriented deposit and credit services. Demand/supply gap. Despite the wealth of institutional microfinance in Indonesia, most rural and lowincome households do not have sustainable access to financial services. The BRI Unit system (DSP see comment above) continues to focus on small urban and market centers, whilst much of the huge amounts of deposits mobilized flow out of rural areas. The consolidated BPR industry has shown remarkable growth, but only a minority of BPRs, usually in Java, have significant outreach to rural villages. Regional governments have stopped promoting the LDKP model; excluding LPD, most of this model s best institutions were/will be integrated into the BPR industry. What is left over is highly localized and almost equivalent to the successful system of village-owned LPDs in Bali. Village finance entities. The LDP system 3 provides one unique model for the strengthening or estabishment of village financial institutions within a comprehensive framework of regulation and technical support (although supervision and enforcement are not yet considered satisfactory). A less convincing model is the stagnant village credit boards (BKD), which suffer from inadequate regulation, supervision and technical support as well as from weak governance, management and market orientation. A revitalization of the BKDs would require structural reform of both their internal and external system elements. New MFI embryos emerging from revolving fund projects (UPKDs) have not yet demonstrated their capacity to convert to project-independent and sustainable MFIs. The gap is in rural villages. Whilst areas surrounding District and sub-district capitals, at least on the major islands, are relatively well served, the major demand-supply gap of institutional microfinance exists in rural villages. Depending on local conditions, this gap may be closed by expanding outreach of banks, cooperatives and/or NBNC MFIs. Whilst banks and cooperatives will continue to slowly expand 3 It should be noted that whilst the LPD system is very successful, this seems mainly due to unique features inherent to Bali and could be difficult to replicate elsewhere. Unique features include the Regional government s dedication to the system, support at all levels for the system (at Provincial and District levels), the unique disciplines upon borrowers within the desa adat i.e. customary (religious) village, and a profit-allocation system that prescribes specific percentages of LPD profits to be allocated for supervision and support, for rewarding LPD managers and staff, for religious activities, for Hindu temple upkeep. etc. 14

18 their outreach, it is the rationale of the third window strategy that for a long time to come sound NBNC MFIs will be needed to close this demand-supply gap either directly at the village level, or from District/sub-District government levels, or private-sector initiatives, that lead to the establishment of large numbers of new L-MFIs and new SM-MFIs. Need for the third window. In this view, the third window will typically consist of local-government, village- and private-sector owned institutions, the growth and sustainability of which will also depend on the existence and effectiveness of Regional/local systems of regulation, supervision, and support. Thus, technical cooperation (i.e. technical assistance) under a national legal framework for third window MFIs will have to be based on Regional/local development strategies. A different approach may be provided by the BMT movement, if organized and supervised from the national level. It should be noted that large BMT will have the opportunity to convert to L-MFIs this will enable them to deal legitimately with the public see Chapter J, and table 10 and box The current legal framework & status of MFIs Art. 16 of the Banking Law provides that any entity taking deposits from the public must be a bank, or otherwise authorized by Act (of Law). No other possibility is allowed. All the non-bank entities taking deposits from the public under Regional Laws or regulations (LDKP), or MOF authority (BKD), are either acting unlawfully or operating in a grey area, as they did not obtain licenses as banks (i.e. BPRs) as required by the 1992 banking Law. Box 2 summarizes the result of deficiencies in the legal framework, or viewed differently, non-compliance with the existing legal framework. Box 2 MFIs in the grey area inadequate legal framework existing MFIs a. BKD (4,482) and LDKP (1,700-2,000 mainly LPDs) more than 6,000 MFIs! - operate in a legal vacuum: they should have but did not convert to BPRs, therefore they are contravening banking Laws and regulations by taking deposits from the public without being registered as a bank (this is less serious for BKD, but serious for LPD). Note: LPD operate under enabling provincial laws -these laws are lower on the hierarchy of Laws than national Laws and regulations. b. most of the large LPD in Bali deal extensively with persons not living within the village, contrary to the provisions of their enabling Provincial regulation that restricts their business to the village c. most large KSP, and many USP, provide S&L services to non-members (or prospective members who don t become full members), contrary to the cooperative Law d. large numbers of BMT don t have a license to operate as KSP e. those 1,400 BMT that are licensed as cooperatives (this number may now have reduced to 1,000) are dealing mainly with the public - contravening the cooperative and banking Laws f. a large number of credit unions operate without a license as KSP g. NGOs that take deposits from the public are contravening the banking Law (this is common in most developing countries) new MFIs There is no legal framework to enable the establishment of new MFIs the only possibility is to seek a license as bank (i.e. BPR) or cooperative (i.e. KSP). This is severely constraining the development of the MF sector. Private-sector interests, and Provincial/District governments, cannot establish new MFIs. 15

19 4. Current legal framework too restrictive It is widely acknowledged that the current Indonesian legal framework is too restrictive the Banking and Cooperative Laws do not allow the operation of NBNC MFIs. In fact, the Indonesian legal framework for MFIs is well behind legal frameworks in many other developing countries. It has been argued that an additional window is not necessary because MFIs can register under the prevailing legal framework for BPRs (i.e. as micro-banks - but with operations confined to one province) or cooperatives (but then activities must be confined to members). 5. Reasons why the BPR window is not the solution: a. Industry consolidation: as a policy, BI is not permitting a large increase in BPR numbers. Total BPR numbers in March 2003 were 2,133 (over 2,500 in 1999); at the end of June 2005: 2,062. During the period 1999 to about 2003, very few new licenses were issued. During the period 2003 to November 2005, 82 new licenses were issued, but 68% were to BPRs operating in Provincial capitals. b. Capital requirements: in May 1999 BI substantially increased capital-entry requirements from the original Rp.50m as follows: Jakarta area Rp.2b, Provincial capital Rp.1b, other areas Rp.500,000. A BI Regulation of August further increased capital (although capital requirements in rural areas outside Java/Bali remain the same - i.e. Rp.500m). Capital requirements for rural areas in Java/Bali have now increased from Rp.500m to Rp.1b. This is too high for aspiring MFIs with operations in rural areas that wish to operate as BPR. For example, with a CAR ratio of 12% on a capital base of Rp.500m, a developed rural MFI would have total assets of Rp.5b, deposits of Rp.4b. This Rp.500m threshold would be too high for most rural MFIs, especially for those in the outer islands, or areas with low population densities. c. Rural banks? Although BPRs are often referred to as rural banks, a research project by BI in 2003 revealed that most BPRs are based in urban areas, i.e. in Provincial or District capitals. d. Regional focus: BPRs are concentrated in the Jakarta greater area, western, central and Eastern Java and Bali (these areas account for 80% of the total). Smaller numbers are scattered over other provinces, mainly Sumatra, Sulawesi and Kalimantan. 4 Art. 4, Bank Indonesia regulation number: 6/22/pbi/2004, concerning rural banks, enacted in Jakarta, and dated: August 9, This regulation provides capital requirements for new BPRs as follows: a) Rp.5b for a BPR established in the Capital City Territory of Jakarta; b) Rp.2b for a BPR established in a Provincial capital in Java and Bali and the Regencies or Municipalities of Tangerang, Bogor, Depok, and Bekasi; c) Rp.1b for a BPR established in a Provincial capital outside Java and Bali, and on Java and Bali outside the regions referred to in the above letter a and letter b (i.e. rural areas in Java/Bali); d) Rp.500m for a BPR established in another region outside the regions referred to in a, b, and c above (i.e. rural areas outside Java/Bali). 16

20 Illustration of the current legal framework: The following pyramid diagram illustrates the current deficient legal framework: Table 1 Current legal framework national laws: window 1 banks coops window 2 (BPRs) (KSP/USP) illegal or grey areas: LDKP (esp. LPD) BKD UPKs/UPKDs KSP/USP and BMT dealing with public INFORMAL SECTOR very small institutions (arisan - associations - groups - small NGOs - grameen groups) 17

21 D. RECOMMENDED LEGAL FRAMEWORK 1. The need for a conducive legal framework The National Policy & Strategy for Microfinance Development recognises that many thousands of MFIs are operating semi-legally or illegally as the current Indonesian legal framework does not fit the needs of all MFIs. It recognizes the need for a conducive legal framework by: a. acknowledging and legalizing MFIs other than microfinance banks and cooperatives. b. establishing a non-bank/non-cooperative (NBNC) microfinance window as one very crucial component within the future structure of the Indonesian microfinance landscape. It is foreseen to design a regulatory framework which enables MFIs to mobilize deposits from the public, without being subject to prudential regulation up to a (yet to be defined) amount of total savings (e.g. 20,000 US$). Above this threshold, MFIs would be subject to prudential regulation delegated to Regional authorities. As will be evident from this report, this Policy is considered to be generally sound, although as discussed in Chapter O, the emphasis should be more on the establishment of new MFIs to bridge the demand/supply gap (rather than dwelling too much on legalizing ). In addition, as mentioned, the consultants have reservations about the capacity of Regional institutions to provide effective R&S. 2. Deposit thresholds At this stage, it is important to have some idea about relative sizes of the thousands of existing MFIs that operate illegally (or in a grey area). In Chapter J, we use this information to estimate the impact of the Policy and conducive legal framework on MFI numbers and rural outreach. As discussed earlier, whilst the Policy document refers to a possible threshold of Rp.200m, a much higher threshold should be considered because the resources available for prudential R&S at the Regional level are very limited. At this stage, the only information on estimates of numbers of MFIs with deposits above a threshold are from an ADB study in 2002 see Table 2 below. Based on this, there are possibly up to 1,000 existing MFIs with deposits >Rp.500m, although KSP/USP are a large proportion of these. Table 2 Estimations of deposit thresholds & MFI numbers ADB Study >Rp.500m >Rp.1b LPD (Dec assessment: 195 >Rp.500m) Other LDKP (mainly BKK) BMT (confirmed by Dec assessment; maybe more) rd party private unknown KSP, USP UPKD nil nil 5 This information comes from a report prepared by one consultant (H. Prins) during his participation in a 2002 ADB PPTA for a rural microfinance project in Indonesia. As mentioned earlier, the current GTZ ProFI project s research team was not able to obtain current relevant numbers (eg. of number of MFIs with deposits >Rp.200m, >Rp.500m), as the information was not available in the time provided. 18

22 3. Summary: rationale for a conducive legal framework The proposed new legal framework should not constrain the continuing development of informal MF. The development of existing formal MFIs, and new MFIs, should be in a setting that provides a greater level of protection to depositors and that enables institutional strengthening through effective R&S and support for L-MFIs, and feasible control and support measures for SM-MFIs. In all cases, the priority should be that new MFIs are able to provide outreach to rural areas, particularly rural villages. An appropriate legal framework should have the following key components: a. establishes a conducive legal framework for the establishment of new non-bank, noncooperative MFIs in rural areas b. legalizes the operations of LDKP, BKD and other MFIs that never converted to BPRs c. sets out parameters so that MFIs know what can or can t be done with respect to deposit taking these parameters are discussed in Chapters E & F. 4. Achievement of legal framework As discussed, Art. 16 of the Banking Law provides that any entity taking deposits from the public must be a bank, or otherwise authorized by Act and Act means Act of Parliament. Therefore, there are two options: a. amend the Banking Law to enable a defined entity at the national level, such as the government or President, to issue a regulation or decree that enables the 3 rd window as defined, i.e. allows licensed MFIs to take deposits from the public, and enables the operations of SM-MFIs, and exempts the informal sector from any form of regulation. It is likely that a government regulation will be more appropriate mechanism. b. enact a new Act that allows, amongst others, licensed MFIs to take deposits from the public, etc. As will be discussed later, option a. above now seems to be the more feasible approach, esp. as a revised draft Banking Law is currently awaiting presentation to parliament. Implementing the above through discussions with BI/MOF, and drafting the amendment to the Banking Law (just one section) will be vital actions to be specified in the Roadmap. In addition, to reduce or remove opportunities for regulatory arbitrage, it will be advisable to amend the cooperative regulations to require large KSP/USP to comply with directives of the National Regulator & Supervisor - NRS. This is also an important action to be included in the Roadmap. 5. Summary of legal framework The following box summarizes the proposed legal framework: National: Banking Act (window 1) Co-operative Act (window 2) MFI Regulation 6 (window 3 national level) Box 3 Summary of proposed legal framework governs commercial and micro-banks (BPRs) is amended to allow the issue of a govt. regulation or President s Decree to create the legal framework for MFIs governs the savings/loan activities of cooperatives is amended to require very large KSP/USP to comply with directives of the NRS sets out parameters for deposit mobilization from the public by NBNC MFIs, i.e. the 3 rd window, i.e. it creates a legal framework for L-MFIs, and enables Regional governments 7 to issue regulations for the operation of SM-MFIs. 6 Note that what is proposed is not a MFI Law through an Act of Parliament, but a Government Regulation authorized by an Act of Parliament (through an amendment to the Banking Law). 19

23 Regional: Provincial laws/regulations (window 3 Regional level) District regulations, decrees (window 3 District level) creates a legal framework for SM-MFIs issues regulations for L-MFIs (subject to NRS approval) creates a legal framework for SM-MFIs (possibly under authority from a Regional regulation) Box 4 - Important first step for improved legal framework: However, prior to taking any action to change any laws, a first step for the Roadmap is to seek a Presidential Decree to entrench the MF Policy so that (i) a MF secretariat is established with relevant MF expertise; and (ii) the Secretariat has a budget with defined objectives. These actions are already in the ProFI-designed Roadmap, and are supported by the consultants. One related action for the Roadmap is to draft the Decree. Once a Decree has been issued, then concerned authorities will be more inclined to implement the Roadmap. 6. Illustration of the tiered window-structure The tiered structure will implement one of the main pillars of international best practices for MF regulation, as highlighted by the WB: enable a tiered (stepped) approach. This practice recognizes the benefits of developing a broad range of MFIs, and a corresponding set of tiers in regulation: progressing from registration as a basic minimum, to full-scale supervision. The pyramid structure below illustrates the concept and what is recommended for the Roadmap: Table 3 Pyramid: the 4 tiers of MFIs (taking deposits from the public) PYRAMID: 4 TIERS OF MFIs (MFIs taking deposits from the public) full Reg. & Supervision 1 BPRs national law deposit protection deposit threshold 2 L-MFIs Reg. & Supervision institution protection national regulation deposit threshold 3 registration and SM-MFIs no deposit protection control provincial/district regulations progression up the tiers 4 informal sector (exempt from regulation) (arisan - associations - groups - small NGOs - grameen groups) 7 It is not yet clear whether the national regulation should only authorize Regional governments to issue MF- related regulations, or whether the national regulation should also authorize District governments to do so. Possibly the best solution is for District government s capacity to issue MF-related regulations to be derived from an enabling Regionalgovernment regulation. 20

24 The structure of the proposed Law should take into account the present state of the industry, enable growth and development of MFIs and observe the best practices outlined above. MFI activities in the future will then be governed by two Laws and one regulation at the national level, and probably numerous regulations at Regional and District levels. 7. Illustration of the tiered window-structure We can use a pyramid diagram again to illustrate what the legal framework will look like once the proposed laws/regulations are passed: Table 4 Pyramid: the third window: conducive legal framework national law enables the regulation national laws govt. regulation 3 rd window banks coops. 3 rd window 1 - L-MFIs (converted LDKP, KSP, BMT, + new L-MFIs) dep. threshold: Rp.200m? regional 3 rd window regulation 2 - SM-MFIs LDKP (esp. LPD) BKD UPKDs moving up the tiers KSP/USP, BMT dealing with public, new SM-MFIs very small institutions - informal sector arisan - associations - groups - small NGOs - grameen groups 21

25 E. STRUCTURE & Third WINDOW CHARACTERISTICS 1. Third Window - characteristics As stated above, and repeated in this Report, the legal framework for the 3 rd window relates to two tiers: L-MFIs and SM-MFIs. As mentioned, the MF sector as a whole also includes the informal sector. We should now assess some characteristics of L-MFIs and SM-MFIs; at this stage, what follows is indicative only. objective: the primary function of L-MFIs and SM-MFIs is to mobilize funds from the public in rural areas, and to channel such funds to poor and low-income persons living in rural areas, and to their micro-enterprises. operations: L-MFIs - operations consist of taking deposits (savings and time), making loans, placing surplus funds with banks (or other entities authorized by the RRS), providing mobile deposit/credit services, acting as insurance agents (but not underwriting), investing in associations or institutional support schemes or deposit protection schemes, or otherwise related to its operations, or as authorised by the RRS. Operations not allowed include foreign exchange business, demand deposits (current accounts) although savings accounts will be offered. SM-MFIs will probably concentrate on deposit taking and making loans. area of operations and Regional focus: new L-MFIs will only be allowed to operate in rural areas this is because that is where the demand/supply gap is greatest, and because Regional authorities/banks have limited capacity to properly R&S L-MFIs. Existing MFIs that convert to L-MFIs are not restricted to rural areas. Regional regulations should limit L-MFIs area of operation to say districts and adjoining districts. Licensing will include a requirement that the majority of customers are based in rural areas. SM-MFIs can operate in urban/rural areas, but the enabling regulations should limit their area of operation to one District, or a number of contiguous villages. branches: L-MFIs can open branches in rural areas, with the approval of the RRS. The RRS will determine criteria for the opening of branches. It is unlikely that SM-MFIs will be allowed to open branches more likely they will have to depend on mobile services, and village posts. legal entities: L-MFIs must be legal entities, i.e. either limited companies or Regional enterprises (perusahan daerah) 8. SM-MFIs can be, but do not have to be, legal entities 9. The TOR enquire whether BUMDES (badan usaha milik desa), i.e. a village-owned enterprise, could become a legal entity that is suitable for the provision of financial services? 8 It is not considered legally sound for cooperatives to obtain licences as BPRs, as cooperatives are only allowed to deal with members, whilst BPRs can deal with the public at large. A cooperative can however be a shareholder of a PT company, and the company can apply for a BPR or L-MFI licence. 9 E.g. operating as a PT company is complex, as it requires shareholders, annual general meetings, payment of taxation, payment of dividends these activities are not suited to most SM-MFIs. 22

26 Box 5 - BUMDES: Article 213 of the Law on Regional Administration provides as follows: (1) A village may establish village-owned enterprises to correspond to its needs and potentials. (elucidation: Selfexplanatory) (2) The village-owned enterprises as referred to paragraph (1) shall comply with the prevailing laws and regulations. (elucidation: Village-Owned Enterprises refer to the legal entities as provided in laws and regulations) (3) The village-owned enterprises as referred to paragraph (1) may (take) borrowings in compliance to the prevailing laws and regulations. (elucidation: Self-explanatory). The above implies that BUMDES will be legal entities, once registered under an enabling Regional regulation. However, it seems clear that the Article envisages enterprises involved in business activities where borrowing is normal. Art does not refer to enterprises taking deposits and making loans, so this form of legal entity may not be appropriate for the provision of financial services. However, a draft regulation (PP = peraturan pemerintah) by the Ministry of Home Affairs, Art does forsee microfinance activities ownership: a legal entity that obtains a licence as L-MFI can be owned by any persons, or legal entity, deemed proper by the RRS. Re SM-MFIs, the same as above, but if not a legal entity, it can be owned or controlled by any group, association, or village government or village community, as approved by the RRS or District government. It is not intended that a few private persons can own a SM-MFI - see discussion below. structure governance: the management of L-MFIs and SM-MFIs should consist of at least a director/manager, accountant and cashier. In all cases, management of both kinds of MFI should meet Fit & Proper tests as laid down in Regional or District regulations. For SM-MFIs, the Fit component of the F&P test will have to be relaxed. For L-MFIs, the Fit component would not be as strict as for BPRs. Financial statements should be prepared and published as required by the RRS or District government. Financial statements for SM-MFIs should be simplified. Although commissioners are not generally considered effective in their role as internal supervisors, it is probably wise to require L-MFIs to have one properly qualified commissioner (who cannot also function as director/manager). Regional or District regulations may also determine governance requirements for SM-MFIs. The following box sets out lessons learned and guidelines for establishing proper governance structures for L-MFIs and SM-MFIs. Box 6 Governance: lessons to be learned: Findings of this study as well as findings of earlier studies (i.e., ProFI Baseline Surveys) show that most governance issues and needs are similar independently of the ownership model. Owner intervention and involvement in MFI management does seldom improve performance. Owners should focus on strategic policy-making, should delegate the function of controlling compliance with policies to a board of commissioners ("supervisory board ), should ensure management autonomy and make management fully responsible for implementing policies and achieving targets. Restriction of management autonomy has been highest for MFIs owned by Regional/local governments, which function as policy makers, regulators, supervisors, operators and providers of technical support at the same time. The management of the village administration-led BKDs does even not enjoy minimal degrees of autonomy. This has resulted in weak entrepreneurship and market orientation, conflict of interests, poor supervision and enforcement, and interference of local officials and fraud. Future models of government-owned MFIs should be characterized by functional differentiation between owners, commissioners, managers, regulators and supervisors. 23

27 Boards of commisioners (supervisory boards) have often been ineffective with regard to their control function, whilst board members have been intervening in operational decisions and/or have been involved in the MFI s business. Future governance models should prevent such intervention and involvement. Board members should be selected based on control capacity rather than based on their relationship to owners. An absence of, or effectiveness of, internal control has been a striking feature of poorly performing MFIs. For improving soundness and strengthening institutional development future organization and governance models need to include the internal control function, and regulations and supervision needs to enforce the effectiveness of this function. 2. Conceptual legal issues: In assessing the structure, conceptual legal requirements and third window characteristics, a number of related issues have to be considered: a. privately-owned SM-MFIs? Should these be allowed to operate, i.e. those not owned or controlled by Provincial, District or village governments, or groups and associations? It is considered that privately-owned MFIs should only be allowed to operate as licensed L-MFIs. One problem with the operation of privately-owned SM-MFIs is that they are not accountable to anyone; possibly Regional regulations may allow these to operates, subject to prudential controls? The consultants do not in general favour privately-owned SM-MFIs, as Regional control is unlikely to be effective. b. L-MFIs rural only? Should L-MFIs only be allowed to operate in rural areas? This should be approached from two perspectives: existing MFIs that convert to L-MFIs (because their deposits exceed the threshold, eg. Rp.200m), can continue to operate in rural or urban areas, depending on where they are currently operating new L-MFIs should only be able to operate in rural areas. This requirement is to facilitate and promote the expansion of financial services into rural areas, particularly into or near villages and clusters of villages. As mentioned, there are limited resources at the Provincial level for R&S, and these should be concentrated on gaps in the MF infrastructure the demand/supply gap is most acute in rural areas

28 F. DESIGN OF REGULATORY & SUPERVISORY SYSTEM -- PRUDENTIAL CRITERIA 1. Introduction This Chapter recommends a basic framework. It is not considered relevant for this Report to provide too much detail, eg. definitions of terms, penalties, enforcement provisions, etc. A more detailed prudential regime should be developed later. The box below summarizes the window s component parts. These are repeated so that the context of the prudential criteria are clear. Box 7 Summary of approach: regulation/supervision As discussed, under the third window there will be 2 MFI categories: (i) L-MFIs subject to prudential R&S, (ii) SM-MFIs subject to non-prudential R&S (or some form of oversight/control that may be similar to prudential R&S). The informal sector will be exempted from any form of regulation. 2. L-MFIs Introduction. It is recommended that the R&S system be a modified version of that which BI applies to BPRs 10, subject to the system being more simplified. However, in line with international best practices for R&S of licensed MFIs, a stricter loan classification system should be imposed on L- MFIs (because, as will be mentioned, the present system for BPRs is far too lenient), with stricter requirements in some other areas as well, eg. re capital and liquidity. This more conservative approach is justified by the fact that (i) L-MFIs will not be part of the deposit-protection system that only applies to banks and BPRs (where the coverage is R100m per depositor), and (ii) R&S of L- MFIs is unlikely to be as effective as for banks. More conservative system. As discussed above, the recommended regime for L-MFIs is more conservative than for BPRs, although BI may in 2006 adopt aspects of the more conservative regime recommended earlier by ProFI. How then can the R&S system for L-MFIs be considered simplified and not as rigorous as that for BPRs? The differences will mainly be as follows: a. a less strict Fit test for L-MFI directors/managers in the short term b. a simplified monthly report (eg. 5 pages instead of the BPR s 17 pages) c. a simplified on-site inspection report d. a more accommodating approach to infringements of regulations that occur due to oversight, error or not understanding the regulations. Licencing: the RRS should have the power to issue and withdraw licences. Licensing will follow normal procedures, eg. the following information should be provided: a. name, area of operations, type of business activities b. form of legal entity c. ownership of legal entity (so the Proper part of the Fit & Proper test can be applied) 10 During the period , GTZ ProFI provided advice to BI on an improved system of R&S for BPRs. Some of the recommendations regarding improved on-site supervision have been adopted. Regarding the regulations, BI has advised that the framework will be revised in ProFI s recommendations may then largely be adopted, although a lessrestrictive approach will be taken to the loan-classification system. 25

29 d. organisation and management; relevant experience as microfinance or bank manager/treasurer /accountant (in order to satisfy the Fit component). Over time, directors/managers of L-MFIs should comply with the same certification procedures as for BPRs directors/managers (i.e. to posses a diploma/certificate from Certif) e. capital see below 11 f. credit policy g. basic business plan, etc. Minimum capital amount: based on economic models see Chapter K it is estimated that the minimum capital requirement for an L-MFI should be Rp.200m. Naturally, the CAR ratio will increase depending on the level of assets. This is something the NRS will determine. The Rp.200m is well below (i) the Rp.500m capital requirement for the establishment of new BPRs in rural areas outside of Java/Bali, and (ii) the Rp.1b for rural areas in Java/Bali. It is therefore important to note that the lower capital levels (than for BPRs) should add significantly to L-MFIs numbers over time: most of the rural poor live in Java. NOTE re existing MFIs converting to L-MFI The minimum capital amount referred to above, of say Rp.200m, only applies to new L-MFIs. Existing MFIs (with deposits above the specified threshold) can be licensed with whatever capital amount they have 12, provided that the CAR ratio meets minimum standards, recommended at 12% - see Table 5 below. Prudential criteria: an overview of the recommended system of prudential criteria is compared with that for BPRs, and provided below: Table 5 Prudential criteria: capital, liquidity, lending limits capital 13 current BPR system =>8% of risk weighted assets (RWA) recommended for L-MFIs =>12% of RWA 14 liquidity (liquid assets to current liabilities) >4% >10% legal lending limit as a % of capital: -- unrelated persons - individual 20% 5% limit on the largest loans as a % of total loans or % of capital -- related persons (insiders) - aggregate none practice varies, eg. 5 largest loans <25% of capital, or 20 largest loans <25% of total loans 10% 5-10%? For L-MFIs, the RRS should obtain commitment letters from owners that they will support the L-MFI s capital if the ratio falls below the minimum levels determined by the RRS. 12 For example, an MFI with deposits of say Rp.500m is unlikely to have capital of Rp.200m. 13 Capital will be defined by the Supervisor. It would be too detailed to provide the full definition here. 14 For example, ACCION International recommends capital standards of 14-15%. In Indonesia, most BPRs have a CAR of more than 12%, even after implementation of a proposed stricter loan classification system. 15 For example, as a comparison: Bolivia 3%; Bosnia 5%; Ghana 10%; Nepal 5%; Uganda 1-5%; Peru 5%. 16 One can argue that the % should be 0%. Ghana has 2%, Uganda 1%. In Indonesia, it seems that managers expect to be able to access funds from the MFI. Regulations should control abuse of this. 26

30 The asset classification and provisioning system is recommended as follows. As noted, the current system for BPRs is not considered satisfactory. Table 6 Asset classification/provisioning current BPR system recommended for L-MFIs asset classification for loans: 17 loan period - months provisions repayments or interest payments: 18 required - % period - months provisions required - % standard =<3 0.5 =<1 2.5 overdue sub-standard >3 =<6 10 >1, =<3 25 overdue doubtful >6, <= >3, <= 6 50 overdue loss > >6 100 The asset classification system should require provisions to be made. In making provisions, the value of collateral held should not be taken into account (current BPR regulations allow provisions to be reduced by 80% of the value of collateral held!). Soundness-rating system. In 2003 ProFI recommended a simplified soundness-rating system for BPRs this may be implemented in the future. This report will not go into the details of the recommended system. The simplified system is derived from CAMEL, called "CAEL", because the management component has been removed. In practice BI s on-site supervisors find it difficult to assess management on a consistent basis, 19 hence this subjective criteria was removed, with the emphasis on purely objective criteria 20. The concept is that if the objective benchmarks have been achieved, then one can infer that management sound. BI s current soundness-rating system uses a complicated formula that relates points to variances above and below specified benchmarks (the formula s complexity can be reduced - as the consultant has done in the past - by preparing a table from which readings can be taken). Basically, once the points have been determined, the rating follows the points as follows: sound: points (hence, eg. for BPRs, capital of 10% - see below earns 100 points, and 8% earns 81 points). For L-MFIs, 12% earns 100 points, and 10% 81 points). The same system applies to the other criteria. fairly sound: points less sound: points unsound: <51 points. 17 This is based on loans with monthly repayments. It would be too detailed to outline the regime for loans with lumpsum repayments, weekly, daily and bi-weekly installments. 18 BI s current system for BPRs is derived from that for commercial banks, and is not appropriate for micro-banks (microfinance). The recommended system follows international best practices eg. ACCION standards, and Philippines and Ghana. 19 Also, management is assessed once a year, at the annual on-site inspection this assessment remains until the next on-site inspection. This kind of system does not therefore take into account any deterioration in management since the last inspection. The assessment of management is based on 25 questions. Some supervisors are more experienced than others, also leading to inconsistent assessments of management. 20 In general, international best practice supports objective criteria. Subjective criteria can be considered later when supervisors are more experienced. Rating agencies, that have the required expertise, use subjective and objective criteria. 27

31 Hence, for example, a BPR with 90 points is rated Sound, and one with 70 points fairly Sound. The simplified system is compared to the existing BPR system as follows: Table 7 Soundness rating systems current BPR system recom. for L-MFIs soundness rating: CAMEL system % of camel benchmark % of CAEL benchmark Capital % % Assets: - classified (i.e. non-performing) assets to total assets 25 < % not used - non-performing loans to total loans not used 40 <10% - actual provisions to required provisions 5 100% not used Management 20 subjective not used Earnings profit to total assets 5 not used - expenditure to income 5 < % 20 < % Liquidity - liquid assets/current liabilities 5 >4 5% 10 >10% - loans to total deposits + capital 5 <90% not used 100% 100% Monthly reporting system. A simplified version of the current Laporan Bulanan (monthly report) that BPRs send to BI should be developed. Basically, the system produces a balance sheet and income statement. Eight additional schedules provide information on loans by term, industry, collectability, insider loans, inter-bank assets, other assets, and with detailed information requirements for savings and term deposits, inter-bank liabilities and other liabilities. BI will revise the reporting system in 2006, but is more likely to add-to, rather than to reduce, the amount of information provided. A simplified system can be developed in due course for L-MFIs. Basically, the system would incorporate some of the scheduled information onto the face of the balance sheet. Credit policy. It would be beneficial for the NRS to issue guidelines for sound credit policy. This could be adopted or adapted by all MFIs. This could include sensible provisions such as, eg. not to make long-term loans, not to make new loans to persons already in default with existing loans, etc. 3. SM-MFIs Regional or District authorities have two options, depending on the level of resources available: a. a simplified form of R&S - i.e. based on the regime for L-MFIs, but more simplified, or b. non-prudential R&S where the emphasis is more on registration, and provision of periodical financial information, followed by some form of control or oversight. As mentioned, the NRS will issue guidelines for prudential management (or minimum standards for sound operations) of SM-MFIs, and these should be implemented. These can be based largely on the regulatory framework for L-MFIs. The minimum standards should relate at least to capital, liquidity, soundness rating system, loan classification and provisioning system, legal lending limits, and templates for financial reporting. As resources for supervision will be limited, one can no longer refer to supervision but rather to monitoring or control. The regime for SM-MFIs could then consist of: 28

32 a. compliance with a prudential framework (minimum standards) for sound operations b. provision of at least quarterly or semi-annual financial statements to the Monitor/Supervisor/Controller c. the reliance by the Monitor on a form of off-site supervision, based on reviewing periodical information submitted by SM-MFIs. There would have to be a mechanism, and resources, to enable the Monitor to take corrective action for breaches of the regulations; there would need to be periodical on-site visits. Licensing and other requirements for SM-MFIs should be similar to that for L-MFIs. There will not be any licensing/registration requirements for the informal sector. As with L-MFIs, the RRS or Monitor should have the power to enforce penalties and to close SM-MFIs that do not comply with Provincial or District regulations. 29

33 G. DESIGN OF REGULATORY & SUPERVISORY SYSTEM - INSTITUTIONAL FRAMEWORK 1. The National Regulator & Supervisor The government regulation on MF should create an entity that is the National Regulator & Supervisor (NRS) at the national level. The NRS must ensure that regulations at national and Regional levels with respect to L-MFIs closely adhere to the following principles: controls on entry of L-MFIs through sound licensing requirements; R&S that also entails enforcement, and unsound L-MFIs should be liquidated if capacity building and other funding-supporting measures have failed. Some of the functions of the NRS should include: a) determine an operational budget and funding (planning for this should have taken place before passing the regulation on microfinance) b) make an inventory of all MFIs with deposits above various thresholds, to determine at which threshold level MFIs have to convert to L-MFIs. c) determine which entities at the Regional level have the capacity to R&S L-MFIs, and if not, what capacity building or other actions are required major inputs from donors will be required here. This should be an important component of the Roadmap. Note: as was mentioned earlier, even with capacity building, the ability of BPDs to provide effective R&S will probably remain weak. There are two options: (i) recognize that whilst L-MFIs will be subject to supervision at the Regional level, this will not be at the same level as for banks/bprs, or (ii) require the NRS to supervise L-MFIs through its own staff, until there is adequate Regional capacity. The latter is the recommended approach, although it is assumed in this Report that this may not happen in the short term. d) determine requirements for prudential R&S for L-MFIs, and related sound operating (prudential) guidelines for SM-MFIs. e) regulate and supervise L-MFIs. The NRS will recommend best standards for R&S of L-MFIs to Provincial governments, and draft Provincial government regulations will have to be approved by the NRS. The NRS will delegate supervision to Provincial governments, that in turn will delegate to competent entities. The latter are likely to be BPDs f) issue guidelines for best standards of prudential management for SM-MFIs to Provincial governments, who will be authorized by the national MF regulation to issue regulations related to SM-MFIs. As for L-MFIs, the objective is to apply consistent standards nationwide. Provincial government regulations relating to SM-MFIs however do not have to be approved by the NRS. As mentioned, because of limited resources, it is likely that in most provinces, SM-MFIs will be subject to non-prudential R&S (or variances of this) because most Provincial entities do not have the necessary resources. As with L-MFIs, it is likely that the controller will be the BPDs. Note: although in strict terms SM-MFIs will usually be subject to non-prudential R&S, it is best to translate the activity as supervision -, i.e. pengawasan. g) further functions of the NRS include maintaining a data-base of all MFIs, advise on capacity building requirements for MFIs generally, and liaise closely with the National MF Committee or like-named entity or Secretariat established by Presidential Decree (currently it is called the Discussion Forum on MF Policy Issues - FOMFI). 30

34 2. The Regional Regulator & Supervisor The Policy requires a RRS to be responsible for R&S of all third window MFIs. It is recommended that the RRS has the following primary functions: a) issue prudential regulations for the R&S of L-MFIs for approval by the NRS b) issue non-prudential regulations for the R&S (or oversight/control) of SM-MFIs. These regulations should broadly follow the recommended guidelines of the NRS for prudential management of SM-MFIs. c) supervise L-MFIs, under delegated authority from the NRS d) implement best practices, or control, for SM-MFIs, as required by Regional or District regulations. Note that in some situations, the NRS may not delegate supervision of L-MFIs to RRS, where for example it considers another entity more competent. Such an entity could be a national association. For example, the BMT movement has recently established an Association at the national level that will be responsible for establishing a database of BMT and rating BMTs. Such an association may in the future be able to supervise BMT through Regional offices. 3. The Roadmap should clearly list the two separate entities The Roadmap should clearly list the two separate entities involved in prudential, and non-prudential, regulation and supervision, at national and Regional levels, and should detail activities to implement their functions. 31

35 H. SUPPORT & CAPACITY BUILDING GENERAL PRINCIPLES 1. Introduction If stakeholders are asked what core problem MFIs experience, they would most likely answer human resource problems. And asked to mention the solution to the problem, they would most likely answer training and guidance. Guidance has been an omnipresent function of projectimplementing government agencies, and training has been an omnipresent element of project budgets. Both training and guidance, however, have seldom been focused on institution building and sustainability objectives. Various studies have pointed to the fact that training carried out for BPRs and LPDs do not positively correlate with institutional performance. Future third window strategies should be based on a new understanding of support and capacity building. Support and capacity building should comprise all approaches necessary for building strong third window institutions, and third window strategies should focus on institutionalizing these approaches. 2. Training should strengthen institutions Training remains an important approach to capacity building. However, training will have a positive institutional impact only, if it transfers the individual skills and competences relevant for sound MFI management, and if it is linked to mechanisms that help to transform individual into institutional learning. This can be achieved by complementary approaches: a) using a training management approach that includes training needs assessments, evaluation of the training contents and delivery, and the evaluation of training impact at the institutional level; b) standardizing skills and competences as well as their transfer through accredited trainers and training institutes; c) ensuring the existence of standard skills and competences by obligatory certification based on standard examinations ; and d) requiring MFI owners to employ certified managers by regulation and enforcing this through effective monitoring and supervision. Despite the above mentioned approaches, the role of training in solving institutional and management problems is always limited, because institution building requires intensive and ongoing attention, and the high variance in institutional situations requires attention to the specific needs of individual MFIs. Institutional strengthening deals with the development of management systems and, therefore, requires needs-based management consultancy provided to institutions rather than training provided to individuals. To ensure high quality standards, management consultants should be able to document their skills and competences (probably by undergoing an accreditation process), and they should have access to information necessary for analyzing institutional and financial soundness. The latter is given for MFI supervisors, and these supervisors usually should also have analytical and advisory capacity. Thus, where independent management consultants are either not available or too expensive, technical support may become closely related to supervision. At least, management consultancy should be based on supervision results. 32

36 3. Separate supervision & technical support Supervision and technical support functions should usually be clearly separated to avoid conflict of interest and lacking enforcement of sound practices. Supervision is a formal act in which compliance with regulations is examined and ideally enforced. Technical support, especially management consultancy, is a process that works from inside and by means of communication rather than enforcement. This separation should at least be established for those third window MFIs (i.e. L-MFIs) that become subject to full prudential regulation and supervision. A gradually different understanding of supervision may become relevant for other third window MFIs, which usually must strengthen governance, organization, and management before developing into large deposit mobilizers like L-MFIs. Off-site and on-site supervision can become powerful tools of sound institution building, if supervision staff transform their analysis and knowledge into direct management advice being followed up with enforcement. Because of the probable conflict of interests, however, enforcement power should be placed with a separate body of the supervisory agency. 4. Sustainable support systems The required support and capacity building is not a one-time intervention delivered by short-term projects. What is needed is sustained access to institutionalized training and certification, management consultancy, supervision and other support functions. The lack of such sustainable and professional support systems has been a major constraint for the development of almost all MFIs other than the BRI Units. Future third window strategies should focus on institutionalizing the required support services and strengthening institutions in delivering good quality services. An important step was made with the establishment of the CERTIF Institute (Lembaga Sertifikasi Profesi Lembaga Keuangan Mikro CERTIF). The Institute standardizes skills and competences required for BPR directors and managers, manages/oversees training delivery through accredited trainers and training institutes, and ensures the existence of standard skills and competences through a standardized examination and certification process. The LPD system has already been using the services of the Institute. The CERTIF approach should be made an indispensable part of future third window capacity-building strategies. Another product of the CERTIF approach are qualified trainers and training institutes, which are capable of running a training-management system as mentioned above. The training and accreditation of trainers and institutional training managers should also be a major concern for future third window capacity building strategies. 5. Regional focus The sound development of third window MFIs needs an enabling national framework, but it will mainly depend on local economic, social, and political conditions as well as on the locally available human resources and institutional infrastructure. National institutions will not be able to reach out to all small MFIs, and the high variance in local conditions will need locally adjusted solutions. Taking into account the dynamics of local autonomy (i.e., see the variety of District regulations for UPKDs), it is highly recommended to establish comprehensive and consistent regulatory and supervisory frameworks at the Provincial level. Technical support systems must be locally available and, if possible, locally institutionalized, though it is possible that players such as the CERTIF Institute organize their services nationally. Wherever possible, a Regional systems approach should be applied for developing and strengthening the third window industry. A good example for such a systems approach is the LPD system, which includes institutionalized regulation, supervision and technical support. 33

37 6. Costs of support and capacity building Some cost estimations have been made in Chapter I. However, at this point of time quantifying the costs of the support systems described before has only limited use. Major parameters such as the type and number of future third window MFIs (especially those below the deposit threshold) as well as the regions and institutional partners of such support systems are not yet known. It is clear that development costs can initially not fully be borne, especially not by small third window MFIs. Subsidies should focus on institutional capacity building both for the MFIs and for their support systems. To support institution building, subsidies should be made part of the institutions budgets and balance sheets rather than be used for financing project services or external service providers. The institutions should be required to make increasing provisions for contracting services, while subsidies would be provided on a declining basis. Over time budgets and balance sheets should show increasing independence and self-sufficiency in financing technical support and similar services needed from external sources. A strong instrument for institutionalizing and sustaining financing of technical support is the the pooling of technical support funds for an entire MFI family. This has been successfully demonstrated by the LPD system in Bali. This instrument would also allow for cross-subsidizing between stronger and weaker members of the MFI family. 7. Implementation: entities providing capacity building The terms guidance and support should be avoided, as the Indonesian translation conveys a very informal arrangement e.g. just the collection of data. Therefore, the more appropriate terms that should be used are "capacity building", or "institutional strengthening". With respect to implementation, capacity building can best be approached from the perspective of the kinds of MFIs involved. In most cases, the BPDs will also have the role of providing capacity building. BPDs should then in theory have three separate divisions: (i) for supervision (for L-MFIs), (ii) for control or oversight (for SM-MFIs), and (iii) for capacity building. 21 In practice, the BPD is likely to treat all MFIs the same, i.e. a mixture of a little bit of supervision, some control and quite a lot of guidance this is what happens in practice with LPDs 22. This is not a perfect system but is probably all that can be expected in the short to medium term. As mentioned, as with supervision and/or control, at the Regional level, the BPDs are the most feasible providers of capacity building activities to support most MFIs. The role is not appropriate for national commercial banks or large BPRs, as there may be a conflict of interest. Branches of the Regional governments (such as Biro Ekonomi) do not have the required skills to provide capacity building. In the case of BMT, capacity building services will continue to be provided by their national and Regional associations, but the movement as a whole requires substantial additional resources to provide effective services to members. PNM is an institution with its head office in Jakarta, and it has a large Regional network with large numbers of staff. It is already providing capacity building services to large BMT and BPRs. This role could be expanded to include other MFIs. 21 For historical reasons, Bali has 16 District units that employ 4 persons each, called PLPDK. These units, that used to be the Supervisor of LPDs, have also always provided capacity building to LPDs. It is unlikely that the support and capacity-building system in Bali can be replicated in other provinces. 22 LPDs rated sound or fairly sound very seldom get visited maybe once every few years. When visits do take place, the team consists of an officer from the BPD (Supervisor), PLPDK (guidance) and a representative of the District (government) office s Biro Ekonomi. 34

38 Table 8 Possible capacity-building providers L-MFIs SM-MFIs existing: LPD PLPDK PLPDK other LDKP BPD BPD BKD see earlier discussion uncertain; BPDs? uncertain BMT industry associations PINBUK, YINBUK, PNM UPKD District governments: BPDs? new: LDKP replications by provinces, districts BPD BPD privately-owned L-MFIs private consultants not allowed New privately-owned L-MFIs would have to pay for capacity building there are large numbers of private companies, accountants, firms and NGOs that provide these services. The RRS could compel L-MFIs to access appropriate capacity-building services if the RRS considers that any L-MFI is less sound or unsound. 35

39 I. FINANCIAL IMPACT OF THE NEW POLICY 1. On regulation & supervision 1.1 Introduction The impact has been assessed on a number of levels: a. for regulation and supervision: at national and Regional levels b. for capacity building: at Regional levels as mentioned in Chapter H, there is not enough information at present to make accurate estimates of the financial impact. Broad approximations however are made below. 1.2 Costs - National Supervisor This is a new role, hence a new cost. It is assumed that the NRS will have similar costs to the regulation, licensing and research division of BI s BPR directorate (located at its Head Office in Jakarta). The annual cost for 12 professional persons, including remuneration, education, training, travelling and other costs, amounts to Rp.6.5b (US$650,000) 23. This does not include additional costs for support staff, office supplies, and office rent. However, BI s remuneration levels are extremely high by national standards. Whilst it is recognized that a premium must be paid for the best staff, it is assumed that the NRS s staff will not be quite so highly paid. It is assumed that the NRS will be located either at a government entity (like the OJK), or BI, or a government entity like PNM. It is assumed that the NRS does not have branches staff will travel extensively to Regional locations (if it is also involved in supervision, then it will have to have branches, but it has been assumed that this will not be the case). It is assumed that the total cost per year, including remuneration, travel (a major expense, because the NRS does not have branches), training & workshops for Regional supervisors, support staff, electricity, supplies and rent for premises, will be in the region of Rp.5b (US$500,000) per year. This cost will have to come from the national budget provision for this should be made in the national microfinance regulation. This should also be in the Roadmap. 1.3 Costs - Regional Supervisor Costs for the RRS were derived from the costs the BPD in Bali incurs to R&S LPDs 24, and based on the consultant s previous work experience with the BPD in Bali in As noted before, BPDs are the most feasible Regional supervisors for L-MFIs, and probably also for SM-MFIs. 23 Based on discussions with BI staff on 28 November A ProFI team visited the BPD Bali during 8 & 9 December 2005 to assess costs of supervision and support, and to obtain current industry statistics. For R&S of LPDs, the BPD has one dept. head earning Rp.8m per month, 2 in the HO each earning Rp.5m per month, and 11 in the branches each earning approximately Rp.3m per month (the latter is an estimate). There are 14 supervisors therefore in total. Average cost per month for 13 supervisors excluding the manager is: Rp.3.3m. Say Rp.3.5m. So Bali s BPD has only 14 supervisors dealing with on and off-site supervision of 1,302 LPDs that is 93 LPDs per Supervisor. Assuming 3 on-site inspections per month (very high by most standards) by each Supervisor, then only 36 of the 93 LPD will be subject to an annual on-site inspection. Clearly, most LPDs are not subject to on-site supervision. Enquiries with the BPD reveal that LPDs rated sound or fairly sound are rarely visited. This is not an effective system, and one has to wonder about its fundamental soundness. 36

40 The costs will depend on the number of L-MFIs to be supervised, and to what extent Regional regulations require a BPD to supervise or control SM-MFIs. It is assumed that there are no extra costs for control of existing SM-MFIs these non-prudential control costs are already in the system, for example: LPDs and the balance of LDKP that do not convert to BPRs or to L-MFIs are already subject to control by the BPDs. Large ones will have to become L-MFIs. the BMT system is subject to some control through cooperative inspectors (Dinas Koperasi), now employed by the District government. Large ones that wish to deal with the public will have to become L-MFIs. BKD network if BI ceases to pay BRI for supervision of BKD, then it is assumed that the costs for control of the BKD network will be borne by the BKD themselves, through fees paid to the a RRS. It is unsure what entity will provide supervision or control of BKD, if BRI is no longer involved. Possibly a BPD. 1.4 Operational costs The financial impact of the new Policy therefore relates mainly to the costs of the NRS and the RRS s costs of R&S of L-MFIs. The cost estimates for R&S of L-MFIs are contained in the following table. Note that the total number of L-MFIs are derived from conversions of existing large MFIs to L- MFI, and new L-MFIs. The basis for the projection of numbers of L-MFI is contained in Chapter J. Table 9 Estimated costs of supervision: L-MFIs (there are rounding differences re number of supervisors needed) year 1 year 2 year 3 number of L-MFIs average supervisors per LMFI 10 number supervisors needed costs each per month: Rp'm total per month per year - Rp'm A 903 2,210 3,868 number of managers costs of each - Rp'm per month total per month per year - Rp'm B total per year Rp'm A + B 1,095 2,527 4,450 add for admin, support staff, 50% 547 1,264 2,225 travel, etc. total cost per year: Rp'millions 1,642 3,791 6,675 dollars 164, , ,486 37

41 The costs of supervision by year 3 could be Rp.6.67b. It is feasible that this is partly or totally funded by L-MFIs as a licence fee this is an important strategy to investigate. The economic model in Chapter K assumes total deposits & savings (Rp.1.8b) per average L-MFI. A licence fee of 0.4% on these total deposits = Rp.7.3m per year per average L-MFI. It is assumed that by year 4 there could be 1,000 L-MFIs. The total licence fee would then be Rp.7.3b just enough to fund supervision costs of say Rp.6b Rp.7b. Ideally, it would be good for the costs to be borne jointly by L-MFIs and the Provincial government, so that the latter is aware of the ongoing importance of R&S of L-MFIs. 1.5 Capital costs It is assumed that the RRS's capital cost of computers and other office equipment will be covered by donors and/or the Regional governments. Using say 46 supervisors as the base (the level in year 2), the capital cost could be US$69,000 (US$1,500 per Supervisor). Likewise for the costs of transport: assume 1 motorcycle per Supervisor, then the cost will be another US$69,000. Assume three managers have (2 nd hand) vehicles, each costing US$15,000 = US$45,000. Total capital costs would then be: US$183,000 (Rp.1.8b). 1.6 Basis for estimated number of supervisors Details of the number of L-MFIs are contained in Chapter J. As can be seen in the above table, it is assumed that each Supervisor is responsible for 10 L-MFIs. BI s current average is that each Supervisor (who deals with off-site and on-site supervision) is responsible for 5 BPRs 25. However, the BI ratio is not considered indicative, as BPRs are on average substantially larger than prospective L-MFIs; this means that BI often has to send 3-4 supervisors on one on-site inspection. A more appropriate ratio is considered to be 1 Supervisor for 10 L-MFIs this is the ratio on which cost estimates have been based and is in accordance with international standards for micro-banks (for licensed MFIs). Based on the above assumptions, the costs of supervision of L-MFIs would be Rp.1,642m in the first year, rising to Rp.3,791m in the second year, and Rp.6,675m in the third year. The major cost of regulation will be covered by the NRS. It is not possible to estimate the costs of regulation that will be incurred by Regional and District governments (under the recommended system, Regional/ District regulations have to conform with standards set at the national level by the NRS). 2. On capacity building Existing MFIs: L-MFIs & SM-MFIs The impact can best be assessed by looking at each MFI family. See the MFI Landscape summarized in Appendix Based on discussions with BI on 28 November As at this date, the supervisory division was responsible for 261 BPRs in "Jabotabek" (Jakarta and surrounding municipalities). BI s BPR directorate employs 37 staff and 14 contract staff = 51 supervisors for 261 BPRs, i.e. 5 BPRs for each Supervisor. BI used to contract-out a large percentage of inspections to accounting firms, but has now ceased this practice due to the employment of contract staff, and a simplified on-site inspection report recommended by ProFI. 26 The TOR refer to the costs of support structures. 38

42 LDKP: for LPDs (part of the LDKP family) 27, there is no impact, as a support structure through the PLPDK is already in place. The major component of the remaining LDKP are the BKK in central Java, all of which are going to be eventually merged into one huge BPR per district. These merged BPRs will be able to access private sources for capacity building, and will be able to pay market rates for such support. BMT: the most likely source of capacity building is their NGO PINBUK (that provides technical support), and PNM (that provides support and funding). Here also, the user pays principle should be adopted for BMT that have converted to L-MFIs. SM-MFIs however may require subsidised services to enable them to develop later into L-MFIs. Financing for such services would have to come from Regional/districts budgets and donors (the latter through PINBUK and PNM). It is difficult to find a reasonable basis on which to estimate the cost. Assumptions for the costs of supervision for L-MFIs showed an average cost per Supervisor of US$595 per month, i.e. US$137 per week. 28 If one assumes that there are 1,000 operating BMTs (based on discussions with the industry chairperson), and say 300 become L-MFIs over time, then 700 SM-MFIs (i.e. small & medium sized BMTs) would require capacity building services. The cost for one person per year for say 2 weeks per BMT would then be US$274 (Rp.2.74m). For the industry as a whole (1,000 BMT), the cost would be US$274,000 (Rp.2.74b) per year. UPKD there is little prospect in the medium term that many can become L-MFIs, although a large number could be come SM-MFIs. 29 Here, the costs of capacity building would have to come from Regional/District governments and donors. GTZ for example may fund capacity building services for UPKD in NTB and NTT. 2.2 New L-MFIs These can be divided into two categories: LDKP replications, and new L-MFIs. LDKP replications: it is assumed that the BPD acts as both Supervisor and provider of capacity building services. Costs of supervision have been calculated to be on average US$842 per MFI per year 30. One can assume a similar cost for capacity building. For SM-MFIs, the cost could be 50% of the above, say US$421 each per annum. As above, the costs would have to be paid directly by L- MFIs, but the costs for SM-MFIs would have to be subsidised by Regional/District governments and donors. New privately-owned L-MFIs: here the same reasoning as above applies, i.e. the costs of capacity building would have to be paid for by each L-MFI. 27 The Regional regulation (Perda) that enables the operation of LPDs requires 5% of their profits to be allocated to supervision and support. 28 See Table 9. Total cost was Rp.1.642b for 23 persons (including 2 managers) in year 1, i.e. US$595 (Rp.6m) average each per month. The cost includes travel and overheads. This is close to what the consultant heard that private sector consultants and accountants charge, i.e. about Rp.5m Rp.6m per month per person. 29 As can be seen in the Appendix 3, some 2,500 were originally established under a World Bank project. Many will not survive. Discussions with Dr Hieman (who wrote a report on the UPKDs in NTB), reveal that of the 245 in that area, maybe 20% can evolve into SM-MFIs. 30 See costing of supervision. For example, in year 2, US$379,055 for 450 L-MFIs = US$842 each. 39

43 J. IMPACT OF THE NEW POLICY - OUTREACH 1. Introduction This Chapter will assess the impact in terms of numbers of existing MFIs that may convert to L-MFIs, new L-MFIs, and the impact on outreach to rural households. The first part of this Chapter will estimate the impact in terms of number of L-MFIs. The second part will assess outreach potential. Although it is difficult to predict the impact of the new Policy in terms of numbers of MFIs and outreach to households, some estimations can be made. The impact will be at various levels: 2. Impact is at various sizes of MFI We have not estimated the impact in terms of numbers of new SM-MFIs. Information with respect to L- MFIs is a more accessible. The impact can be assessed as follows: a. existing large MFIs will become L-MFIs, provided of course that they meet licensing requirements of the RRS - one aim of the Policy b. new L-MFIs will be established (the main aim of the Policy) c. new SM-MFIs will be established (the main aim of the Policy) d. new and existing SM-MFIs will evolve into L-MFIs another aim of the Policy. Box 8 Repeated: rationale for the third window It is important to stress that the MF Policy confirms, and the Roadmap will implement, a key World Bank recommendation: the financial system should create an enabling environment re policy, regulation and supervision for the development of a range of MFIs that can operate on a sustainable basis and can offer a variety of services to the poor and lower income households. There should be a range of MFIs because of the diversity of demand and markets and to expand outreach. 3. Impact: the new system will strengthen MFIs In all cases, for existing MFIs, prudential R&S & capacity-building will strengthen L-MFIs, and various forms of control/supervision, and capacity building, will strengthen SM-MFIs. Stronger MFIs will gain greater public confidence, thereby increasing deposit mobilization and making more funds available for credit expansion especially in rural areas, as the emphasis will be on the establishment of new MFIs in rural areas. 4. Impact on numbers of MFIs With respect to numerical outreach, some estimates can be made of the impact of the new Policy on projected numbers of L-MFIs, existing and projected new L-MFIs. The assumption is that the deposit threshold for compelling large MFIs (that are taking deposits from the public) to be licensed as L-MFIs will be Rp.500m (per MFI). An earlier ADB study has been referred to above see Table 2. Based on this study, it was estimated that the following MFIs exceeded the threshold: BMT; 200 LPDs and 50 other categories of MFI see table below. It is assumed that by the end of year 4, 550 existing large MFIs have been licensed as L-MFIs. A prime objective of the new Policy will be to stimulate the formation of new L-MFIs. It is estimated that over a 4 year period, the cumulative number of new L-MFIs is 450. This seems a reasonably conservative estimate: over a 5 year period, BPR numbers increased from 423 in 1988 (the year of banking reform PAKTO 1988) to 1,436 in some 200 per year. 31 See page 63 of the ProFI Microfinance Institutions Study, March 2001, prepared by Dr D. Holloh. 40

44 Table 10 Impact: estimated number of L-MFIs cumulative totals IMPACT NEW POLICY ON NUMBER OF L- MFIs year 1 year 2 year 3 year 4 existing BMT, BTM LPD other: Swamitra, LDKP, BKD new privately owned LDKP model replicated total L-MFIs Impact: existing MFI families The national regulation on MF will require existing MFIs to comply with the law within a specified period say 3 years. The impact with respect to major existing MFI families could be as follows: as discussed above, no LPD converted to BPR, as required by the 1992 Banking Law and related regulations. Regulatory forbearance has enabled them to expand in volume and numbers. If the banking law, and proposed MF regulation at the national level, is enforced, then large LPD will be compelled to obtain a license as (i) BPR, or (ii) L-MFI (if their deposits are above say Rp.500m but below say Rp.5b), or (iii) KSP (i.e. cooperative). It is likely that many LPD will prefer to convert to the easier KSP regime, rather than to BPR or L-MFI. This is why steps should be taken to prevent regulatory arbitrage. Nonetheless, it is hoped that many LPDs will see the benefits of converting to BPR or L-MFI 32, therefore the table above has assumed that over time, some 200 large LPDs will convert to L-MFIs. many large existing BMT 33 that wish to deal with the public (as most are doing at present), are likely to convert to L-MFIs. They could continue to operate illegally, but it is likely that many see the benefits of operating as L-MFI; in any case, they will have to convert if the cooperative law is enforced! 34 Leaders of the BMT movement state that a large number of BMT will convert to L-MFIs in the past, many BMT wanted to obtain a licence as BPR, but the capital requirements were too high (even higher now), and entry requirements too strict (in addition, BI has taken a very restrictive approach 32 The main benefits would be to take deposits from the public and improved R&S. If they convert to BPR, then there is deposit protection. On the other hand, LPDs would have to become legal entities to be licenced as BPR or L-MFI - this would be difficult for them, given their unique system of village ownership. And, implementing the profit-sharing system would not fit easily into a "legal entity" framework. In addition, LPD's profits would be taxable! At present, they are not taxed, giving them an unfair advantage over BPRs. 33 Note: BMTs and BTMs operate on Islamic-banking principles. Islamic banking is showing remarkable growth. The Jakarta Post on 26 November 2005 reported that the Islamic-banking related assets of the major banks grew by more than 34% during the first 9 months of The BMT movement stated that its assets by the end of 2005 have more than tripled since the levels of (when they are about Rp.300b). 34 Many BMT claim that they comply with the Cooperative Law, because they deal with prospective members. This is usually a fiction. Art. 18 of Government Regulation 9 of 1995 (that implements Art of the Cooperative Law of 1992) provides that KSP/USP can deal with members, prospective members (associates), and other cooperatives and their members. Art provides that prospective members shall become full members after a period of no later than 3 months and by contributing the initial savings. In the majority of cases, BMT, and many KSP, do not implement this provision. The reason is that the owners (members, usually the founders) do not want additional (full) members, because then they have to share profits with them! 41

45 to licensing new BPRs see earlier comments on this). BTM are like BMTs, but have been established by another Muslim movement. 35 Box 9 BMT Developments: December 2005 The Managing Director of the BMT movement, Prof. Amin Aziz, told the writer on 27 October 2002 that a large number of the bigger BMT would be interested in converting to L-MFI. He repeated this on 29 November The BMT family held a national congress from 30 November to 2 December 2005 some 600 of the largest BMT attended. On 12 December 2005, the Executive Director of PINBUK (that promotes and provides capacity building to BMT), stated that the 3 rd window was discussed at the Congress, and that a large number of BMT expressed interest in converting to L-MFI. 36 The Congress agreed to establish a new Association BMT Indonesia ASBINDO. This will be a legal entity (registered association), and its main function would be to establish a data-base for BMT, and to provide a rating for all operating BMT. The Executive Director agreed that PINBUK should continue to provide promotion/guidance, and that ASBINDO may in the future be able to function as a Supervisor, as it will have branches in all the regions. PINBUK is very keen on capacity building support from donors. PINBUK could not provide financial information for the industry as a whole (this is held in the regions), but confirmed what was earlier stated, that total assets of some 1,100 BMT (there may be more) now amount to about Rp.1.5 trillion (US$150m). PINBUK states that based on information from Regional offices: 600 BMT have total assets Rp.200m Rp.500m 300 BMT have total assets Rp.500m Rp.1b 100 BMT have total assets >Rp.1b Based on the above averages, the consultant estimates that total assets are more in the region of Rp.750b to Rp.1,000b Impact: new L-MFIs Table 10 assumes 450 new L-MFIs (i.e. not existing ones converting to L-MFIs) by the end of year 4. This is an average of about 110 per year this seems feasible; as mentioned, after PAKTO 1988, about 200 new BPRs were established per year. Ownership characteristics of L-MFIs and SM-MFIs were been discussed in Chapter E. The active promotion of the Regional/local government-owned LDKP model should be revived to replicate successful examples such as the BKKs in Central Java in provinces outside of Java and Bali. The LPDs rather than the BKDs provide a good model for village-owned MFIs, and even part of the BKDs, and other village level initiatives if still existing, should be reactivated along this model. The same is true for the UPKDs that still have to clarify ownership and governance. Also the sub-district level UPKs? still need to define post-project ownership and governance structures. With respect to outreach assumptions, naturally, other assumptions will result in different numbers of existing MFIs converting to L-MFI, and different numbers of new L-MFIs emerging. The estimations above assume that over a 4 year period, there could be a total of 1,000 L-MFIs, spread across the rural areas of Indonesia. Estimations have also been made of the outreach that the new L-MFIs will have to rural households see below. 35 BTM = Baitul Tamwil Muhammadiyah. Some are linking up with PINBUK. During 2003, when the consultant, through ProFI, was working with the MOF s MF working group, information was obtained about BTMs. There were at that stage over 800 BTMs, some very large. No doubt some of them would also like to convert to L-MFIs. 36 They thought that under a MF law, the upper limit when they must convert to BPR was Rp.1b, which they found was a problem. It was pointed out that the upper limit is more likely to be Rp.5b of deposits. 37 Assume 600 with an average of Rp.350m, and 300 with an average of Rp.750m, and 100 with an average of Rp.4b, then the total comes to Rp.836b. 42

46 Note that at this stage, no assumptions have been of the numbers of new SM-MFIs that will be established. 7. Impact on outreach to rural households - numbers An estimation has been made of outreach to rural households if the Policy and conducive legal framework is implemented. Other consultants could arrive at other outcomes. The consultant believes that his estimations are feasible, because two bases are used: a. National Bureau statistics: firstly, an assessment was made of the feasible client base for a typical L-MFI, based on population data supplied by the Statistics Office. See table 11 below. It was assumed that an L-MFI will cover 6 villages (there are 16 per kecamatan), and that 60% of the 2,736 households in the 6 villages currently have no access to MF. Within this target market, credit outreach was assumed at 20%, with the major outreach being in savings accounts (70% - households can have more than one savings account). Using this basis, we arrived at the average number of rural customers per average L-MFI: credit 547, savings 1,915 and deposit 164. b. BPR and LPD statistics: secondly, the above was compared with the outreach of BPRs and LPDs. Credit outreach for the average L-MFI was much less than for BPRs and LPDs, but this is reasonable, since (i) the demand in rural villages is probably more for savings services; (ii) BPR credit numbers are high because most operate in urban areas, (iii) LPD credit numbers are distorted by about 20 very large LPDs, and (iv) population densities in the rural areas where most L-MFIs will operate will be far lower than those for BPRs and LPDs, especially outside Java/Bali. On the other hand, it is noted that many existing MFIs that convert to L-MFI are operating in urban areas only the operations of new L-MFIs will be restricted to rural areas. Table 11 Impact on outreach: numbers of households reached OUTREACH: HOUSEHOLDS: total population millions 211 rural millions 58% 123 total villages rural 58% rural population per village 3,420 households per village assume L-MFI covers 6 villages 6 4,561 (16 villages per kecamatan) households for potential outreach 4,561 assume 60% no access to finance 60% 2,736 target market (BRI study) assume outreach: % of target average number average number LPD customers market L-MFI BPR customers 6 villages 1 village credit 20% 547 1,400 1, savings 70% 1,915 3,000 5, deposit 6%

47 8. Impact on outreach to rural households - amounts The above estimates the number of clients per L-MFI. In order to estimate outreach in financial terms, averages from BPRs and LPDs were again used see Table 12 below. The estimate was that the average loan size would be Rp.3m (BPR: Rp.7m), savings account Rp.700,000 (Rp.1,175,000) and deposit Rp.3m (Rp.4.4m). Now, based on the estimated number of new L-MFIs, their client profile, and loan, deposit and savings sizes, one can estimate outreach in number of accounts and amount. The details are in Table 12 below. This shows that in year 3, there could be 164,000 new loans with a value of Rp.493b. But the BPR and LPD data relates to loans outstanding. MFI loans are short term, so disbursements are more relevant. Assuming that loans are on average for less than 6 months duration, then total loans disbursed could be 328,000 (164,000 times 2), valued at Rp.986b. Table 12 Impact: outreach in numbers & amounts OUTREACH IN NUMBERS, AMOUNTS average sizes - Rp. L-MFI average BPR average LPD loan 3,000,000 7,000,000 savings account 700,000 1,175,000 deposit account 3,000,000 4,400,000 4,000, ,000 9,000,000 OUTREACH NEW L-MFIs year 1 year 2 year 3 number of L-MFIs - cummulative new loans number , , ,182 amount 3,000,000 total 1,641,824,249 billions (loans outstanding) US$ 16,418,242 32,836,485 65,672,970 new savings number 1, , , ,500 accounts amount 700,000 total 1,340,823,137 billions US$ 13,408,231 26,816,463 40,224,694 new deposit number ,418 32,836 49,255 accounts amount 3,000,000 total 492,547,275 billions US$ 4,925,473 9,850,945 14,776,418 As can be seen from the above table, by the end of the third year, there could be 574,500 savings accounts, with a total value of Rp.402b. The above deal only with new L-MFIs, i.e. we are assessing incremental outreach. Existing MFIs that are large and convert to L-MFIs will also expand their operations. The projections (in Table 10) show some 1,000 L-MFIs by the end of year 4, of which 55% are existing large MFIs that have converted to L-MFI, and 45% are new L-MFIs. 44

48 Table 12 assumes loans outstanding for an average L-MFI is Rp.1.641b, and one can assume on average, total assets would be Rp.2b. This compares to the average total assets of one BPRs of Rp.9b, and average loans outstanding of Rp.7b. Because L-MFIs will be much smaller than BPRs, and concentrated in rural areas, the size and volume estimations appear feasible. Box 10 Assessment: long-term impact of third window It is possible that implementation of the Policy, over a ten year period, could result in a level of outreach that is equal to that of BPRs in number, although not in size. This will significantly expand rural outreach. BPR outreach at the end of June 2005: number of loans: 2,331,000 (but at least 4,662,000 disbursements per year) number of savings accounts: 6 million number of deposit accounts: 332,000. Achieving this level of outreach will be the major achievement of the MF Policy. Outreach will be mainly to rural villages, where the outreach of BPRs and BRI-units is very limited. 45

49 K. FINANCIAL VIABILITY OF L-MFIs 1. The TOR refer to an assessment of the financial viability of NBNC MFIs. There has not been sufficient time for assessments and sensitivity studies based on various capital sizes. Therefore, we have assessed the financial viability of an average L-MFI. SM-MFIs should follow the same model. The estimation is based on a minimum capital base of Rp.200m. From this capital base the balance sheet structure has been derived from BPR and LPD industry averages. Because most L-MFIs will be based in rural areas (remember that only new ones will be confined to rural areas), we have assumed that funding comes mainly from small savings deposits (for BPRs, most funding is from very large time deposits). 2. The table below sets out the balance sheet structure and estimated profitability. The latter is based on the average profitability levels of BPRs and LPDs. Table 13 Viability of an average L-MFI Viability of average L-MFIs total Rp.. capital 200,000,000 retained profits 124,000, ,000,000 savings 1,350,000,000 deposits 486,000,000 bank loans 270,000,000 other funds: govt., apex inst., PNM etc. 270,000,000 total 2,700,000,000 cash, bank placements 487,912,084 loans 1,620,000,000 less: provisions - 55,298,580 other assets 216,333,694 total 2,700,000,000 profit to total assets 2.5% 67,500,000 to capital 20.8% 3. The above table shows a net return (i.e. after tax) on capital of 20.8%, well below BPR 38 and LPD industry averages. The profit level of Rp.67.5m is high enough for L-MFIs to pay an annual licence fee of 0.4% of total deposits = Rp.7.3m per year. Empirical evidence of MFIs with smaller balances sheets, i.e. with total assets in the range of Rp.750m to Rp.2b (small BPRs, LPDs, BMTs, for example) are able to earn sufficient returns on capital to operate viably. 38 Based on figures for the BPR industry at the end of June 2005, total capital and reserves was Rp.2,212b. Profit for the 6 months was Rp.355b, so estimate for the year is Rp710b, 32% of capital. This is probably too high, as BPRs typically only make provisions for bad loans at the end of the year. For the full year ended 2003, e.g., the return on total capital was 25%. The return on total assets in 2003 was 3.4%. Similar figures for LPDs. 46

50 L. ASSESSMENT OF FUTURE COMPETITIVE POSITION 1. The emphasis is on new MFIs In general, there is no doubt that a third-microfinance window will contribute to closing the demandsupply gap in rural areas. Existing NBNC MFIs are not proving effective in this regard. With some exceptions such as the LDPs in Bali, and BMT in Java, the impact of existing MFIs has been decreasing rather than increasing during the last years, mainly because of the lack of an enabling legal framework. Thus, the legitimation for establishing the third window comes only to a smaller extent from the need to «legalize» currently operating MFIs, and to a much greater extent from the fact that the currently existing legal framework has been inhibiting the growth of new non-bank non-cooperative MFIs being able to close the gap. 2. Banks are not positioned to operate in and around rural villages Increasing outreach to rural and low-income households that do not have sustainable access to institutional microfinance is closely related to the competitive position of NBNC MFIs. The competitive position of BKKs and LPDs that focused on moving into these under-served markets has been excellent. Commercial banks have been lacking the comparative advantage of these village-based institutions, and most BRI units and BPRs have not been willing or able to challenge this comparative advantage. As discussed earlier, most BPRs are in fact operating in urban areas. BRI s units have excellent outreach but they too tend to concentrate on denser populated areas, and where they are in rural areas, their credit outreach is limited due to their policy of lending mainly to salaried workers i.e. not geared to the micro-enterprises of poor or low-income households. As mentioned, commercial banks are increasingly targeting microfinance as an expanding business window for them. However, apart from their focus on denser populated areas (to achieve economies of scale for an expensive branch network), their focus is more on attracting savings. This will to a limited extent impact negatively on the 3 rd window. However, banks more onerous collateral requirements and time-consuming procedures for granting credit, mean that on the credit side, they cannot effectively compete with MFIs. BPRs can so compete, and will be competitors for 3 rd window MFIs, but as mentioned, BPRs are more concentrated in urban centers, with limited rural outreach. In addition, as discussed before, the BPR industry may be growing in volume terms, but very few new BPRs are being licensed (and where they are, this is mainly in urban centres). 3. The third window s rural/village positioning will protect it Also the future competitive position of third-window MFIs will not deteriorate, if they focus on villagebased services and on strengthening a sense of ownership/belonging of the village clientele. The LPDs in Bali have been strengthening their position within the most competitive environment throughout Indonesia. Even more aggressive BRI and BPR strategies will not easily swamp away strong institutions that have been sustaining close and longer customer contact at the village level. Furthermore, the ProFI Baseline Surveys found that strong BPRs and LPDs were not negatively affected by increasing competition. Outside of Java and Bali, third window MFIs serving villages would seldom meet other financial institutions trying to enter the same market. A major question, however, is whether third-window stakeholders will be able to initiate and develop strong institutions outside of Java and Bali, and whether the stakeholders of still existing LDKPs and BKDs in Java will be willing to go along the BKK and/or LPD or similar models

51 M. DEPOSIT PROTECTION 1. Introduction The authorities on international best practices recommend that if deposits are taken from the public, then some form of deposit protection system (DPS), or institutional support system, should be implemented. The former provides direct protection, the latter indirect. Both systems will be briefly discussed. The TOR refer to considering contingent liabilities and stability of the micro-financial system on a nationwide or Regional or local basis. Contingent liabilities will only arise if there is a DPS or if Supervisors make statements that imply some kind of DPS. Statements like: supervision guarantees deposits should be avoided. There is no systemic risk at the national level, or, apart from LPDs in Bali, at the Regional level. BI has liquidated hundreds of unsound BPRs without much adverse impact on the BPR system as a whole. Liquidations of BPRs in Bali did tarnish their reputation there for a while, to the benefit of the LPD system. Liquidation of one or more of the very large LPDs in Bali will certainly have a systemic impact in that province but, it is likely that this will be cushioned through support from the BPD and Regional government. The infrastructure supporting LPDs in Bali is very strong. In the context of R&S and deposit protection, it is worthwhile to dwell on the objectives of R&S. R&S protects the financial system, or parts of the financial system, through control over entry, and enforced exit of unsound institutions. In addition, with respect to L-MFIs, R&S sets out detailed requirements for prudential management of L-MFIs (eg. requiring minimum capital and liquidity levels, the proper valuation of assets, management to be suitably qualified, etc.). This promotes institutional strengthening and sustainability of L-MFIs and of course SM-MFIs to the extent implemented. Accordingly, in the absence of adverse external shocks 39, the impact of R&S is to reduce the risk of large numbers of L-MFIs failing. Effective R&S can therefore be considered to be a form of indirect protection of depositors. L-MFIs should however make it clear outside their premises, and in all documents and financial statements, that they are not part of the nationwide LPS (DPS) that covers only bank depositors. As will be recommended below, any MFI that takes deposits from the public should be part of a system that minimizes the risks of failure. Two kinds of system can be considered. 2. Direct: limited DPS Ideally, the best system would provide direct protection, i.e. if an L-MFI is liquidated, depositors are paid a percentage of deposits. Deposits in the context of deposit protection is defined to include time and savings deposits. For all MFIs, savings deposits have much smaller balances than time deposits (eg. BPRs: average Rp.1.2m versus Rp.4.4m). In fact, most BPR funding is from time deposits, and most balances are very large. 40 The basis should be that any DPS for L-MFIs protects small rural depositors. To reduce moral hazard, the basis could be that term deposits are not covered, but savings deposits are covered up to say 75%. Appendix 2 contains an example of a model of a DPS for L-MFIs. As will be seen in the model, to be sustainable, a large Fund is necessary to meet deposit claims. The major variable in designing any DPS is the number of L-MFIs expected to be liquidated in any one year. 39 It is now well-documented how well the BPR industry survived the 1997 Asian financial crisis. Whilst most of the some 200 commercial banks were insolvent, most BPRs continued to operate soundly and in fact to increase their business base. 40 The consultant, with BI, conduct research on BPR deposit sizes in Of total deposits, most large BPRs depositors had balances exceeding Rp.20m. These large deposits, in value terms, accounted for over 70% of total deposits in value terms. 48

52 3. Indirect: institutional protection mechanism Alternatively, L-MFIs could pay a support contribution amount, based on total deposits, with the intention that the income goes into a Support Fund that is used by the RRS (or eventually an Apex Institution) to protect weak L-MFIs. This form of support could entail capital injections, or long term loans, or shortterm liquidity support. The above financial support would have to be supplemented by technical support to prevent a repeat of the problem. This then is an institutional-support system, and does not purport to be a DPS with a defined level of coverage. The RRS could be responsible for implementing the support mechanism. If the support system cannot save the L-MFI, then depositors would lose part or all of their deposits (depending on liquidation proceeds). GTZ ProFI drafted a Regional Law for LPDs in 2001 that contained the basis of such a institutional support system. Funding was not from a premium on deposits, but from the profit-share that is unique to the LPD system. The Fund is managed by the BPD. Elements of the system could be replicated in other provinces. Box 11 Important requirement for licensing L-MFIs It should be noted that one of the criteria for licensing should be that the owners or founders of L-MFIs have the capacity to increase an L-MFI s capital when necessary this is also a form of institutional support mechanism. 4. Assessment Feasibility studies of the two options and levels of cover and premiums etc. will have to be prepared. This is another activity for the Roadmap. The consultants recommend as follows: a. the indirect system will probably be the more appropriate strategy in the short to medium term as the industry develops. It will also be less complex to implement and there is no requirement for a substantial Fund to meet deposit claims. As mentioned, this kind of system is being implemented by the Provincial government in Bali for LPDs. b. in the longer term, once the industry has developed to the stage that there are large numbers of L- MFIs, and the level of soundness of the system is more apparent 41, then consideration should be given to designing and implementing a full DPS. The discussion above relates to L-MFIs. What about SM-MFIs? The same considerations should apply, however, only institutional-support schemes will be feasible. Therefore, for SM-MFIs, the NRS should ensure that Regional or District governments implement a support scheme for such MFIs. This is another activity for the Roadmap. The LDKP family is unique in that there is either a support scheme (as for LPDs), or some implicit guarantee for non-lpd LDKPs because they are owned by Provincial/District governments. With respect to all the other non-bank families, they have no direct or indirect deposit protection. These include all savings cooperatives, all CUs and BMT, and all BKD. Within the MF sector, only the depositors of BPRs and BRI s units are protected. This does give them some competitive advantage over nonbank MFIs, but probably only with respect to large depositors. 41 A DPS, at inception, is only feasible for L-MFIs that are rated Sound. 49

53 N. OTHER INSTITUTIONAL STRUCTURES Institutional pillars to implement the MF Policy and to enable the establishment and operation of sustainable MFIs include the following: 1. National Regulator & Supervisor The amended BI Act of 2004 implements provisions of the earlier Act that requires a separate Supervisory entity (OJK) to be established to take over from BI the function of bank supervision and regulation from A draft OJK Law has been prepared. Until OJK is operational, BI will continue to regulate & supervise banks. The BI Act does not empower BI to supervise non-banks, eg. L- MFIs. As mentioned, a microfinance law or regulation would have to create a national Supervisor with the functions outlined in Chapter G. It is preferable that the NRS is the OJK. The Elucidation of Art. 3 of the draft OJK Law provides in essence that OJK is the only institution that is delegated by the Government to independently regulate and supervise financial services sector activities. Clearly, this should include microfinance activities. Whilst MF activities in value-aggregate are a small part of the total financial sector, MF itself is a very important activity because of its outreach to millions of households. Changes to the draft law should be made to enable OJK s role as NRS of L-MFIs. 42 Update: at a meeting with the MOF on 29 November 2005, we were advised that the above recommended changes have not yet been made to the draft law. Making the changes should now be part of the Roadmap. The President is going to re-submit the draft OJK law to parliament quite soon. 2. Regional Regulator & Supervisor This was also discussed above in Chapter G. The NRS will delegate the functions of R&S of L- MFIs to competent Provincial entities, i.e. to Regional Regulators & Supervisors (RRS). As discussed, these are likely to be BPDs. Regional regulations relating to L-MFIs will have to be approved by the NRS. The NRS will not be responsible in any way for SM-MFIs, these being the sole responsibility of Regional/District and village governments and BPDs. However, the RRS, through the NRS, will issue guidelines for prudential regulation or management for SM-MFIs. 3. Apex Bank or financial institution ProFI is currently engaged in a policy dialogue with BI, PNM and Perbarindo with respect to establishment of an apex institution that will provide funding to BPRs. Such an institution should also eventually provide funding to L-MFIs. It seems that the ProFI view is that formation of an apex bank 42 Therefore, the following additions should be made to the OJK draft Law. Art. 11 sets out that OJK is concerned with (a) banks, (b) insurance companies, (c) pension funds, (d) capital market, (e) futures trading and (f) social security entities. Add: (g): such other financial-services sector activities as OJK may determine, or as required by Law. Art gives OJK power to delegate its tasks as follows: (a) BI for banking, (b) BAPEPAM for capital markets (c) MOF for insurance etc. and (d) Futures Board for futures etc. Add: (e) such other competent entity as OJK may determine for other financial-services sector activities. This competent entity would be the NRS, that in turn can delegate supervision to Regional supervisors. 50

54 is the best solution. 43 Its main function should be to mobilize surplus funds within the entire MF system (eg. from BPRs, L-MFIs, BMT etc.) and channel these funds to viable participants in the MF system that have a deficit of liquidity or a shortage of funds for lending. In addition, the Apex Bank would be the focal point for receiving donor funds, to be on-lent to participating viable MFIs (eg. to BPRs, L-MFIs, BMT etc.). It would be preferable for the Apex Bank to also take deposits from the public in its own right, thereby generating additional funding for MF activities nationwide. The concept has always been that BPRs should eventually own an interest in the proposed apex bank. BI has recently advised that earlier ProFI recommendations to change the Banking Act to allow BPRs to make investments has been retained in the draft changes to the banking law. The consultants support the concept of an Apex Bank 44. This should be an action in the Roadmap. 4. Microfinance unit or committee: national level During discussions between ProFI and MOF in 2003, MOF stated that it would establish a MF unit within the MOF. It had earlier established a MF working group to assess the legal framework for MF. It appears as though there is no longer any interest in establishing such a unit. 5. National MF Committee (present draft documents refer to a National MF Body Badan Nasional, BaNas) An early draft of an LKM law required the MOF to promote the passage of a Presidential Decree to establish such a Committee. A development since 2004 is that a national coordinating committee for MF development has been established (KOMNAS) besides a MF working group (Pokja) under the Ministry of Cooperatives and SME. Such a committee should monitor and develop MF Policy, promote the national development of MF, and determine whether national policy objectives for poverty alleviation and income generation are being met by the MF Industry. It is noted that GTZ ProFI, working with the WB and MOC, is aiming for passage of a Presidential Decree to formalize such a committee this will be a vital first step in implementing the MF Policy. 6. Deposit or institutional protection system As discussed in Chapter L above, an institutional support system should be established for L-MFIs. Eventually, consideration should be given to establishing a DPS for L-MFIs. It would be advisable for the RRS and BPDs to also establish institutional support mechanisms for SM-MFIs. 7. The CERTIF Institute: Certification of MFI professions The CERTIF Institute, and its implications for capacity building, was already mentioned in Chapter H. Initiated by a pilot project implemented by BI/ProFI, the CERTIF Institute was establihed in July 2004 and accredited by the Ministry of Manpower under the name of Lembaga Sertifikasi Profesi Lembaga Keuangan Mikro CERTIF (LSP LKM CERTIF) Professional Certification Institute for Microfinance Institutions, in April The CERTIF Institute has now a national mandate, and is 43 This will not be a new commercial bank, as capital requirements are too high. It can t be one BPR, as BPR s activities are limited to one province. It could be a number of BPRs, linked under a holding company. It would be preferable for the founders of the Apex Bank to acquire ownership of an existing small commercial bank, and then convert this into the Apex Bank. The bank would have to have branches. MFIs could be shareholders of the Apex Bank. 44 This can be implemented through the purchase of an existing small commercial bank. Earlier discussions with PNM revealed that they are very interested in this option. 51

55 licensed to develop standards and certification programs for various MFI professions. In July 2005, licensing, regulatory, and supervisory functions were transferred to the new Badan Nasional Sertifikasi Profesi (BNSP) National Professional Certification Board. The Institute standardizes skills and competences required for BPR/MFI directors and managers, manages/oversees training delivery through accredited trainers and training institutes, and ensures the existence of standard skills and competences through a standardized examination and certification process. By September 2005, 679 BPR directors had passed the CERTIF test. The Institute had prepared/accredited 9 training partners (usually Regional BPR associations) and 84 trainers. 46 training courses had been organized for 1,161 BPR directors. In cooperation with LPD stakeholders in Bali, the Institute prepared a certification program for LPD managers, which will be implemented in In accordance with the Institute s misssion and business model, the future CERTIF program may also include similar approaches to training, examination, and certification for other third window MFIs, especially L-MFIs. 8. Associations Management consultancy inputs and other needed support services are not easy to procure outside of Java and Bali. Though some services can be procured from universities, NGOs, or private firms, it is advisable to institutionalize such services into secondary MFI federations, or to make these federations responsible for the procurement of such services. Future third-window strategies should include the establishment of MFI federations and building up their service capacity. Consideration should therefore be given, over the medium term, to establish industry associations for L- MFIs and possibly also SM-MFIs. This could replicate PERBARINDO 45, the BPR association, and the association being established in Bali for LPDs. The Roadmap should therefore make provision for the establishment of an association of L-MFIs, especially as outreach projections show that over the long-term, there could be up to 1,000 L-MFIs. 45 Although so far, most of these associations have not been successful in providing capacity building services to members, except perhaps the PERBARINDO consulting unit in East Java. 52

56 O. COMMENTS ON MICROFINANCE POLICY - IMPLEMENTATION 1. Introduction Finally, the TOR (see Appendix 1) require the consultants To review and analyze the concept of the microfinance Policy and strategy in (i) general, and (ii) all legal and supervision aspects in particular, taking into account the current political environment, and (iii) to assess the political feasibility of the Policy; the latter based on discussions with ProFI, BI and members of the Discussion Forum on Microfinance Policy Issues (FOMFI). The TOR also require a discussion of the extent to which implementation of the concept is politically feasible at the Provincial and District level with regard to budget allocations and implementing regulations. Discussions were held with ProFI staff, BI, Lisa Shrader (of the WB/MOC, advising on the Roadmap), international consultants and leaders of the BMT movement. Team members have also visited MFIs and their supervisors in Central Java, NTB, and Bali. Discussions were not held with FOMFI. However, both international consultants are familiar with the Indonesian MF sector and one consultant has been working before with the authorities to establish a legal framework for MF. It was later agreed with ProFI that the focus of this Chapter should be on topics to be included in the Roadmap, i.e. on implementation of the National Policy. 2. Comment on individual Policy components: In general, the consultants support the Policy, and see no problem with its political feasibility. Provinces and districts will be pleased that there will be a legal framework for establishing L-MFIs and SM-MFIs. It is unclear how feasible it will be for regional/district governments to make budget allocations for R&S, control and support of MFIs. It is assumed however that these entities will see the benefits of implementing the MF Policy, and will make the necessary funds available. Obtaining the necessary funding should be an important component of the Roadmap. a) Reorientation of the role of government This Policy component states: "phase out programs with interest rate subsidies and targeted credit schemes". This is a sound objective and has been advocated by donors for some years now. However, it is recognized that in the short to medium term, it will be difficult to achieve. Under IV.1. reorienting the role of government, the following statement is made: assume a promotional role by supporting and funding of institutional development, capacity building and training of staff of financial institutions and by supporting and allocating funds to refinance microfinance institutions. It would be advisable for any funding or support to be indirect. In the past, direct fund allocation from the government has tended to be a means of government intervention. Indirect funding support should be stressed in the Roadmap. b) A conducive environment for viable microfinance In the above context, the MF Policy document provides as follows: "enable a range of different types and tiers of MFIs beyond banks and financial cooperatives to meet the diversity of demand for financial services especially in rural areas and provinces outside Java and Bali (note however: most of the rural poor live in Java); legalize the activities of non-cooperative and non-bank microfinance institutions, including deposit taking from the public within certain geographical limits and thresholds." See comments below. 53

57 From discussions with MOF and BI, it seems that there is little appetite for the previously mooted LKM Law i.e. a MFI Act of parliament, at the national level, to implement the conducive environment for MFIs. One Policy is to legalize 46 the activities NBNC-MFIs. A concern is the emphasis on legalizing their activities. Of more importance is a conducive legal framework for the establishment of new L-MFIs, and of course, SM-MFIs. This should be clearly highlighted in the Roadmap and Roadmap implementation, i.e. a conducive legal environment is required for two reasons: (i) for the establishment of new MFIs so that the demand/supply gap at the village level can be alleviated, and (ii) to legalize the activities of existing NBNC-MFIs. Under V.2. c) the Policy states that MFIs taking deposits below the threshold (i.e. SM-MFIs) will be nonprudentially regulated. This may be true generally speaking, but this does not preclude regional/district governments from setting prudential standards for the operation of SM-MFIs, and from in fact imposing a form of prudential R&S, as is the case presently in Bali with LPDs. Regional and district governments should be encouraged to ensure some control over SM-MFIs this should also be reflected in the Roadmap. Under Policy Elements IV.2, the statement is made that an improved legal framework will allow NBNC- MFIs at the village level to take deposits within a certain threshold. It should be noted that not all NBNC-MFIs will operate at the village level. The Roadmap implementation should take this into account, so that the improved legal framework will allow NBNC-MFIs located in villages, or with outreach to villages, to take deposits etc. Under Policy Elements IV.2, the second para. states that responsibility for a sound NBNC-MFI sector ultimately lies with the Provincial governments. This is more true for SM-MFIs than for L-MFIs. The Roadmap implementation should make it clear that the responsibility for sound L-MFIs rests with the NRS, whilst for SM-MFIs, responsibility rests with the RRS. Box 12 Cooperatives involved in savings/loans Under section b. in Ch. V.2 of the Policy, referring to MF cooperatives, the statement is made that the existing legal framework for MF cooperatives does not need revision! The consultants disagree with this. However, this is not in their TOR. For the assistance of ProFI, and the Roadmap, extracts of an earlier report on cooperatives involved in savings and loans is provided in Appendix 4. As will be seen, whilst the Cooperative Law may not need revision, a number of implementing regulations dealing with KSP/USP require revision and improvement. These relate e.g. to the rating system, loan classification system, and the absence of a regime of sanctions and penalties. Apart from the inadequate regulatory framework, the systemic problem for the cooperative industry relates to very weak supervision and enforcement. The Roadmap implementation should require a revision of a number of regulations relating to the regulation & supervision of KSP/USP. Unless the authorities improve the legal framework for S&L cooperatives (i.e. KSP/USP), and remove opportunities for regulatory arbitrage, the impact of a sound MF Policy will be reduced, to the detriment of meeting the Policy objective of reducing the demand/supply gap at the village level. The Roadmap should therefore make improved R&S of KSP/USP an important part of its implementation plans see further discussion below. As mentioned, it would be preferable for large KSP/USP to be subject to R&S by the NRS. 46 The consultant has been involved in discussions about a legal framework for MF since The authorities, especially the MOF, have always been pre-occupied with legalizing existing MFIs, since they were aware of the deficiencies of the 1992 Banking Act. When a draft LKM law was presented to the Cabinet Secretariat (SETKAB) for approval in 2003, as a precursor to submitting the draft to parliament, the Cabinet referred the draft back to the MOF for further study the reason was that the MOF explained the draft law in terms only of legalizing existing MFIs. 54

58 c) Improved prudential regulation and more effective supervision The Policy requires: create a level playing field for MFIs and prevent regulatory arbitrage 4 ; protect small depositors by promoting prudential regulation, supervision and enforcement of those regulations; Whilst this is a sound Policy, the Roadmap implementation should stress that instead of promoting prudential R&S etc. the authorities should require prudential R&S. Box 13 The Roadmap should recognize the 2 tiers within the 3 rd window The draft Roadmap seen to date (version 13 December 2005) refers only to the third window. It sets out activities for the 3 rd window. It refers to 3 rd window support, etc. A major shortcoming is that the Roadmap does not clearly state that the 3 rd window has two tiers. Each tier needs a separate strategy with separate activities. We will repeat the important concepts here. There will be a third window for microfinance. MFIs can then operate as banks (i.e. BPRs), or cooperatives (i.e. KSP or USP), or under the window. The 3 rd window has two tiers: a. large MFIs with deposits over the threshold. Note: once L-MFIs deposits exceed another threshold, possibly R5b, then they would be compelled to seek a licence as BPR. b. small and medium MFIs (SM-MFIs) with deposits below the threshold. As mentioned, in addition to the above, there is the informal sector of all savings & credit groups and other informal related groups and associations. These will be exempted from regulation. d. Implementation milestones The consultants make informal reference to the following, which is also not part of their TOR. These suggestions are for inclusion in the Roadmap: a. Under Implementation Milestones, V.3, prudential R&S, there is mention of changing regulations to ease the opening of BPR branches, esp. in rural areas. The Roadmap should contain a provision that BI will give priority to approving applications for branches in rural areas. 47 b. It is noted that under V.3. b), there is reference to developing a rating system for cooperatives. The cooperative legal-framework (law and regulations) already has a rating system. See appendix 4 for detailed notes on the legal framework for cooperatives involved in financial services. e. Regulatory arbitrage Regulatory arbitrage has been referred to above. The concern is that many existing large MFIs, or new MFIs, will prefer to operate as KSP instead of as L-MFI or SM-MFI. There is no problem with this, provided that they comply with the cooperative law, and deal only with members. If they wish to take deposits from the public, then they should operate as BPRs or L-MFIs (or SM-MFIs). As 47 For example, if a BPR already has an urban-based branch, and wants to open another branch, then BI could require the BPR to open the additional branch in a rural area. 55

59 enforcement of the cooperative law is weak (i.e. little enforcement measures against KSP that are dealing with the public), the most feasible method to protect depositors is to require large KSP (and large USP) 48, to be subject to R&S at the national level, i.e. by the NRS (who can then delegate to competent entities). This can be implemented by provisions in the government regulation on MF. f. Institutional development and capacity building The Policy refers to concentrate government efforts on creating and supporting institutional development and capacity building". This should be more developed in the Roadmap. In the details of the Policy, reference is made to human resource development and institutional capacity building (Ch. IV.4). However, in the further details in V.4, this now becomes promotional aspects. These aspects relate mainly to facilitate funding through apex structures, provide capacity building for MFIs, linking MFIs with banks, etc. It is not clear who would be responsible for achieving these objectives this should be made clear in the Roadmap. Whilst it is possible to think of regional and district governments providing financial support for R&S of L-MFIs, and for various forms of non-prudential R&S (i.e. control, oversight and the like) for SM- MFIs, it is not clear that the authorities would fund capacity building. One could argue that the industry, through industry associations, or individual MFIs (i.e.user-pays), should fund capacity building. Possibly the authorities can subsidize such activities? LPDs are one of the most successful models of MFIs in the world, but they have always funded their own capacity building activities through allocating part of their profits to a Fund that is used for this purpose by the BPD and Regional governments (some funds also filter through to District governments, i.e.the Bupati). These funds pay for support and guidance. As mentioned, it is not considered likely that this kind of support system can easily be replicated in other provinces. g. Institution or secretariat at the national level Additional to the four aspects listed above the government will establish an institution in charge of research and promotion of microfinance in order to ensure the efficient implementation of the national Policy and strategy and to further analyze the development process. This institution will also have the task to monitor implementation of the national Policy and strategy and to evaluate its effectiveness with respect to poverty reduction goals. This is a sound Policy objective. The consultants agree with ProFI and the WB consultant that a dedicated full-time body is required, and such a "Secretariat" (this seems like the best term) should be established at the national level by an appropriate regulation or decree. At this stage, a Presidential Decree seems the most feasible. The enabling decree should establish the national secretariat s objectives, composition of staff and budget. As mentioned earlier, it was initially the plan to establish such a body at the MOF. However, it would be best if this new national body operates independently of any government ministry. It should be made clear in the Roadmap that the Secretariat is not directly involved in MFI R&S or related activities the appropriate entity responsible for these activities is the NRS, and at the Regional levels, the RRS. A key role for the Secretariat would be responsibility for the various promotional aspects referred to in the Policy, Ch. V.4. These aspects relate mainly to facilitate funding through apex structures, provide capacity building for MFIs, linking MFIs with banks, etc. These items are already in the Roadmap. 48 An earlier Report by one consultant (H. Prins) for ADB in 2003, estimated that there are only some 200 KSP and 100 USP with deposits >Rp.1b. 56

60 P. SUMMARY: SUGGESTIONS FOR INCLUSION IN THE ROADMAP A comprehensive draft Roadmap has already been prepared by GTZ ProFI and the World Bank. This Chapter will concentrate only on the topics relevant to the consultants TOR, and will summarize suggestions already made in the body of the report for inclusion in the Roadmap. Table 14 Matrix: additional activities for inclusion in Roadmap Activity area Role of the government conducive legal framework additional activities - suggestions for inclusion in Roadmap ensure that govt. funding for R&S and support is provided through associations and other intermediaries, and not directly to MFIs operating under the 3 rd window change the banking law to allow a govt. regulation to be issued to create the legal framework for the 3 rd window (in consultation with BI) ensure that the legal framework for the 3 rd window gives a priority to the establishment of new L-MFIs in rural areas work with the MOF to change the current draft of the OJK law to ensure that OJK has final responsibility for R&S of L-MFIs R&S 3 rd window establish an institution called the National Regulator & Supervisor (NRS) to R&S L-MFIs. Funding to come from the national budget. option: consider a legal framework that makes the NRS responsible for R&S of very large KSP/USP; develop strategies to prevent regulatory arbitrage (to prevent large MFIs dealing with the public from converting to KSP, instead of L-MFI) NRS to determine thresholds above which large MFIs should be licensed and subject to prudential R&S, and to develope a tiered system for R&S that moves from registration, to non-prudential R&S (including control/oversight), to full prudential R&S. NRS to design a prudential R&S system for L-MFIs for adoption by provincial/district governments NRS to design a non-prudential R&S system or control system for SM- MFIs for consideration by provincial/district governments or their nominees NRS and RRS to determine strategies for funding R&S and support; assess feasibility of L-MFI annual license fees as a funding source for R&S 3 rd window support develop separate strategies to promote the development of both components of the window, i.e. for L-MFIs SM-MFIs NRS and RRS to develop mechanisms to protect depositors through funding/technical assistance for institutional strengthening of weak L- MFIs in the long term consider a full deposit protection system RRS and BPDs to develop a form of institutional support system to strengthen weak SM-MFIs. 57

61 Promotion establish an apex bank for the MF industry. Initially this will only cover BPRs, but activities should later be expanded to L-MFIs and other MF families as feasible. promote the development of associations for L-MFIs, BMT and possibly BKD, and source funding for development of these associations, so that they can provide capacity building to members Family: BKDs Replications LDKP models BMT family conduct a feasibility study to assess whether the BKD industry can be revitalized under a different institutional environment, so that sound BKD can develop deposit products and expand outreach. develop a strategy to socialize the new legal framework, so that provincial/district governments can promote the establishment of new L- MFIs and SM-MFIs in areas where they are currently not operating, or not operating successfully develop a strategy to socialize the new legal framework to BMT as many of them are very interested in operating as L-MFIs ============================ report ends ============================ 58

62 APPENDIX 1 PROFI Program - PN Terms of Reference - Study on Regulation, Supervision and Support of Non-Bank / Non-Cooperative Microfinance Institutions (MFIs) Background Although a broad and differentiated microfinance landscape exists, micro-entrepreneurs in Indonesia, particularly in rural areas, lack access to sustainable financial services. Many of the thousands of institutions and organizations are providing (micro) financial services semi-legally or illegally as the current Indonesian legal framework does not fit the needs of all microfinance institutions. In order to overcome this problem, stakeholders from the Government, Central Bank and the industry are currently developing a comprehensive Microfinance Policy and Strategy. The main pillars of the policy are: a) phasing out of subsidized government credit schemes and re-allocating those funds for capacity building and support structures of a commercially viable microfinance industry, b) setting a conducive legal framework by acknowledging and legalizing microfinance institutions other than microfinance banks and cooperatives, c) improving regulation and supervision for all types of microfinance institutions and d) concentrating government efforts on creating and supporting institutional development and capacity building. The non-bank/non-cooperative microfinance window mentioned above will be one very crucial component within the future set-up of the Indonesian microfinance landscape. It is foreseen to design a regulatory framework which enables microfinance institutions to mobilize deposits from the public, without being subject to prudential regulation up to a (yet to be defined) amount of total savings (e.g. 20,000 US$). Above this threshold, microfinance institutions would be subject to prudential regulation delegated to Regional authorities. ProFI implements a Regional Microfinance Development Project in NTB and NTT as one of its program components. A key objective is to develop suitable regulatory and supervisory frameworks for the non-bank / noncooperative MFIs. Especially the UPKD type has been set up as MFI in this category. Ideally, feasible approaches in these regions can provide valuable lessons for other provinces. A number of issues need to be further analyzed and discussed (such as the figure for the thresholds) in order to fully assess the short- and long-term implications of such a policy and strategy. Purpose of the Assignment The international consultants shall provide in-depth analysis of the feasibility and impact of the creation of a third microfinance window as outlined in the proposed National Policy and Strategy for Microfinance Development in Indonesia. With this, empirical evidence regarding significance and relevance of a third microfinance window shall be given. They will be supported by up to three national consultants who will be in charge of in-depth analysis of the particularities of the Indonesian microfinance environment. Activities of the Assignments I) Activities of the International Consultants: I.I) Dr. Hendrik Prins a) To review and analyze the concept of the microfinance policy and strategy in general, and all legal and supervision aspects in particular, taking into account the current political environment, and to assess the political feasibility of the policy; the latter based on discussions with ProFI, BI and members of the Discussion Forum on Microfinance Policy Issues (FOMFI). It shall also be discussed to which extent implementation of the concept is politically feasible at the Provincial and District level with regard to budget allocations and implementing regulations. b) To outline the structure and conceptual legal requirements for non-bank/non-cooperative microfinance type concerning capital and liquidity requirements, asset classification, soundness rating and reporting. The most crucial assessment will be on the savings threshold, which will largely depend on the results of the field survey to be conducted by the national consultants. 59

63 c) To develop (a) questionnaire(s) that will enable the national consultants to conduct field trips in selected provinces/regions of the country to obtain up-to-date statistics on the various MFI families and costs of supervision. The questionnaire(s) is (are) to be approved by ProFI prior to the field survey. Integrate commentary of the second international consultant. d) To assess the financial impact of the new policy for the government institutions on the national and Regional level concerning cost of supervision and support structures. This will be based largely on BI s experience in R&S of BPRs, and on an analysis by the local consultants of the cost structure of existing supervisory authorities, such as Bank Indonesia regarding BPRs, BRI regarding BKD, the Ministry of Cooperatives and SME, BPDs in Bali, East and Central Java and NTB, in order to calculate funds needed for supervision of non-bank/non-cooperative MFIs (based on the estimated number of legalized MFIs). e) To outline the design of the regulatory & supervisory system for non-bank/non-cooperative MFIs at the Regional level including the division of tasks between the various Regional government bodies, such as Regional parliament, Governor s office, BPD. Furthermore to define the role of national government agencies in this process (nation-wide data collection for policy advice, monitoring standards, etc.) and the cooperation between national and Regional institutions. f) To comment based on the results of j) & k) on the implications of such system on depositors protection, need and room for deposit protection schemes, or institutional support schemes, and risks and potential costs for the government/local government/provincial assemblies associated with it/them. Issues to be addressed include contingent liabilities and stability of the (micro-) financial system on a nationwide or Regional or local basis. I.II) Dr. Detlev Holloh g) To act as team leader and to liaise with the ProFI team. In this capacity, the team leader will coordinate the activities of the study team after consulting with the second international consultant. This may require ad-hoc arrangements and adjustments of the team s work plan and itinerary. h) To closely cooperate with the team of national consultants in the regions as well as in Jakarta - on the respective scope of work assigned to them; a.o., comment on the questionnaire(s) that will be provided to the national consultants for their field survey. This task includes to supervise the empirical field work of the team of national consultants and to guide the team in elaborating best quality of empirical data. i) To support the ProFI team reviewing and analyzing the concept of the microfinance policy and strategy in general, taking into account the current political environment, and to assess the political feasibility of the policy; the latter based on discussions with ProFI, BI and members of the Discussion Forum on Microfinance Policy Issues (FOMFI). In this respect, the TL will liaise closely with the other international consultant. j) To outline the structure for the non-bank/non-cooperative microfinance type concerning ownership, governance, scope of business, and Regional focus, with special focus on capacity building and support strategy. Law 32/2004 makes provision for a Badan Usaha Milik Desa. The suitability of this legal body for MFIs in the envisaged 3 rd window shall be assessed. In addition, the prospects of existing 3 rd window regulations of non-bank / non-cooperative MFIs in the framework of the NTAADP (SK Bupati) shall be assessed. k) To assess the impact of the new policy on (a) the microfinance landscape in terms of numbers of microfinance institutions and outreach, (b) the financial viability and sustainability of non-bank, noncooperative MFIs. One of the main goals of the microfinance policy is to close (or narrow) the demand-supply gap at the village level for savings & credit; the impact assessment shall, thus, focus on (c) whether all segments of microentrepreneurs and savers can be reached in the future (with a particular view on e.g. farmers and agri-businessmen, women, clients requiring loan sizes between Rp. 5 and 50 million). l) To assess the future competitive position of non-bank, non-cooperative MFIs in relation to bank and cooperative MFIs (i.e. BPRs, BRI units, Danamon Simpan Pinjam, DSP, and rural KSP). Discuss with the relevant authorities projected development/outreach of BRI units, DSP, KSP and BPRs, and regarding the latter, especially regulatory changes that will allow significant branch expansion into rural areas. m) To develop an overall support strategy (training and consultancy) and model of building provisions (indicative funding requirements and funding mechanisms). 60

64 II) Activities of the National Consultants: n) To study and evaluate study reports by ProFI (such as of Holloh, Prins, Hiemann, Budastra, Winship, Patten, Seibel etc., see ProFI virtual library on and analyze relevant secondary data of different sources. [Bp. Riza Primahendra, Bp. Iman Budi Utama, Bp. Sulpicius Widyono, Rimbananto S. Hut] o) To assist the international consultants in their tasks and to provide background information on the Indonesian microfinance sector, by concentrating on the recognized microfinance institution families since the microfinance policy emphasizes a phasing out of all unsustainable microcredit schemes. [Bp. Riza Primahendra, Bp. Iman Budi Utama, Bp. Sulpicius Widyono, Rimbananto S. Hut] p) Based on the questionnaire(s) developed by the international consultants, and based on field trips to Central Java, Bengkulu, NTB and Bali, to analyze types, characteristics and numbers of MFIs of the current microfinance landscape and to provide a classification scheme which takes into account ownership, governance and financial structure (loan sizes, overall deposits, deposit sizes, outreach, etc.). [Bp. Riza Primahendra, Bp. Iman Budi Utama, Bp. Sulpicius Widyono] q) To determine the cost structure of existing supervisory authorities, such as Bank Indonesia regarding BPRs, BRI regarding BKD, and BPDs in Bali, NTB, Semarang and Bengkulu regarding LDKP, and Regional associations where relevant, e.g. BMT, credit unions etc. [Bp. Iman Budi Utama, Rimbananto S. Hut] r) To assist developing an overall support strategy based on smart subsidies and provisions by MFIs. [Bp. Riza Primahendra, Bp. Iman Budi Utama, Bp. Sulpicius Widyono] s) To analyze the legal framework for microfinance with a particular focus on the implication of decentralization laws on concepts like delegated regulation and supervision. To assess the implications of the new policy (particularly concerning legal status and specifications made therein on savings threshold) on existing Regional solutions. [Rimbananto S. Hut, Bp. Riza Primahendra, Bp. Iman Budi Utama] Confidentiality All information and documentation given to the consultant is strictly confidential and may be used only for the purposes of completing this assignment. All documentation and illustration material must be returned immediately on completion or termination of the assignment. Amendments of the Terms of Reference These Terms of Reference may be amended in writing only, subject to the agreement of both parties. Timing, Location of Assignment This assignment of the study team shall commence on 17 October 2005 and must be concluded 17 December 2005, including outward and return journeys, work done off-location and report writing. The schedule of the team of consultants in detail shall be as follows: H. Prins: 17 November 17 December 2005, up to 30 consulting days thereof 2 days off-location. D. Holloh: 11 November 09 December 2005, up to 27 consulting days thereof up to 5 days off-location (until the joint report is finalized). Team of national consultants: 17 October 15 December 2005, up to 53 consulting days each expert (at least one week off due to Idul Fitri holidays!). During the period 15 until 27 November, Bp. Riza Primahendra will not be part of the team. Bp. Iman Budi Utama joins the team from 9 November until 8 December only. It is recognized that the team of consultants for this assignment will coordinate their activities and responsibilities in a self-managed fashion, including the international consultants location of assignment. Two days of the international consultants input will be delivered off-locations in advance of arrival in Indonesia. Reporting Submission of a synthesis report (max. 30 pages excl. annexes) as individual MS-Word files in English. Jakarta, 21 October,

65 APPENDIX 2 EXAMPLE: FEASIBILITY OF A DEPOSIT PROTECTION SYSTEM The table below contains one example of a feasibility for a DPS for L-MFIs. The balance sheet is derived from that for BPRs, and is similar in size to the projections in Table 12. The assumption is that there are 1,000 L-MFIs over time. Total savings per average L-MFI were projected at Rp.1.35b and it is assumed that of this, 75% is covered (i.e. individual savings balances are protected up to 75% of the amount the so-called haircut is 25%). It was assumed that 25 L-MFIs are liquidated per year. The payout to depositors then is 25 times Rp.1.35b times 75% = Rp.25.3b. Premium income is assumed at 0.6% of total deposits (the current level for BPRs is 0.4%. Hence, total premium income is Rp.11b to pay claims of Rp.25.3b. EXAMPLE: DEPOSIT PROTECTION SYSTEM: Rupiah number of L-MFIs 1,000 total average savings of each L-MFI 1,350,000,000 total deposits of one L-MFIs 486,000,000 1,836,000,000 premium (on total) 0.60% premium income on savings and deposits 11,016,000 one L-MFI A 11,016,000,000 1,000 L-MFIs close per year (only protect savings) 25 33,750,000,000 assumed % to total savings covered 75% payout to savers B 25,312,500,000 shortage A-B 14,296,500,000 fund (assume income 10%) Rp 142,965,000,000 $ 14,296,500 Developing feasibility models for DPS is a complex operation. The above is a very simple example. It was assumed for example that there is sufficient surplus on liquidation of the 25 closed L-MFIs to pay liquidation costs. The model shows a shortfall of Rp.14.3b. To be sustainable, the shortfall should be covered by income from a Fund. Assuming income on the Fund of 10% p.a., then the Fund should be Rp.143b (US$14,296,000). Obviously a large number of variables can be used to produce different outcomes, 49 particularly with respect to the number of L-MFIs liquidated in a year. 49 The consultant, working for ProFI in 2002, and in cooperation with BI, studied best practices for DPS, and over a period of 6 months, prepared a feasibility study for a DPS for BPRs. The intention was that to some extent aspect of the German cooperative banking system could be replicated. A deposit protection company was going to be formed that would conduct audits of BPRs, etc. The plan was not proceeded with when it was discovered that the DPS for commercial banks would place a cap on protected deposits at Rp.100m, far in excess of what is usual for developing countries. It was not considered feasible to establish a Fund large enough to protect this high level of deposits. Subsequently, the MOF agreed to include BPRs in the banking DPS (called LPS), and at the same level of protection as for commercial banks. 62

66 APPENDIX 3 Update of the Microfinance Landscape in Indonesia Introduction The ProFI Microfinance Institutions Study carried out in 2000 provides a good basis for this update of the Indonesian microfinance landscape. This update is based on nationally available data and field visits to Central Java, Bengkulu and West Nusa Tenggara (NTB). It focuses on new developments and the most relevant non-bank non-cooperative MFI families with regard to institutions, regulation, supervision and support rather than repeating the detailed description of the MFI families that was already presented in the ProFI MFI Study. 1. Overview: Relevant Changes in the Microfinance Landscape ( ) In general there has not been much structural change in the Indonesian microfinance landscape during the last 5 years. Commercial banks other than BRI have started to see opportunities in microbanking but do not yet play a significant role. Bank Negara Indonesia (BNI) tried to integrate microbanking units into its branches. While some 150 units were operating in 2003, the units were closed in 2005 for unknown reasons. Currently, there is only Bank Danamon aggressively trying to enter the microbanking market. The Bank established more than 600 so-called Danamon Simpan Pinjam (DSP) branches, all in Sumatra, Java and Bali (more recently also in Aceh) with some 5,000 employees. The field visit in Central Java did not produce evidence that these usually urban- and market-oriented units contribute to increasing outreach to rural villages. Various reports indicated that the rapid credit expansion has produced unsound practices and significant loss for the Bank. Bank Mandiri has been planning to set up 300 micro units. Also this will increase competition in urban and market centers rather than expand outreach to rural villages. The BRI Unit system with more than 4,000 sub-districts units remains to be the largest and most viable microfinance network in Indonesia. It has continued its unprecedented success in deposit mobilization, but has also remained weak in expanding its credit outreach significantly beyond the sub-district centers and fixed income earners. For the BPR industry the last 5 years were a period of consolidation. Facing a severe crisis during the 1990s, the number of BPRs decreased from 2,427 (03/2000) to 2,067, mainly because of liquidations and mergers. Mergers of BPR-LDKPs decreased their number from 630 to 533, and further mergers of them are planned in Central and East Java. These consolidation efforts have resulted in improved performance and new growth. The percentage of sound and fairly sound BPRs increased from 62% (03/2000) to 85% (06/2005), and both total deposits and loans outstanding increased by more than 5 times. Microfinance cooperatives are said to experience a new dynamic and improved performance. National data available do not show exciting growth for both savings and credit cooperatives (KSP) and savings and credit units of cooperatives (USP). While the number of more than 35,000 units is impressive, these units did not developinto strong deposit mobilizers. The well-known structural problems of the cooperative system continue to exist, while the window is increasingly used by institutions either lacking legal alternatives or trying to avoid effective prudential regulation and supervision. The Credit Unions (CU, Kopdit) have always been an important example for the viability of a bottom-up cooperative movement in Indonesia. Since the deregulation of the cooperative sector, an increasing number of the more than 1,000 primary CUs have been registered as cooperatives and most Regional Chapters have established secondary cooperatives (Puskopdit). 63

67 A similar tendency can be found with regard to the Baitul Maal wat Tamwil (BMTs), which operate based on Syariah principles. While the organization is modeled on cooperative principles, the increasing registration of BMTs as cooperatives seems to be due to the lack of legal alternatives. National information as well as evidence from Central Java indicates that there is now a significant number of BMTs that have been growing into large financial intermediaries, which are mobilizing deposits from the public. According to national information (PINBUK), there are now 100 BMT with assets larger than Rp. 1 billion and about 1,000 other BMT with assets larger than Rp. 200 million. Overview of Relevant MFI Families (amounts in Rp. billion, accounts in,000) MFI Family Date Number Number of Deposits Loan Portfolio of units members Accounts Amount Accounts Amount BRI Units 06/2000 3,694-24,883 18,055 2,627 6,713 12/2004 4,046-30,924 29,990 3,311 21,335 BPR 03/2000 2,427-4,837 2,252 2,197 2,632 06/2005 2,062-6,330 12,280 2,740 14,005 LDKP 06/2000 1, BKD 06/2000 4, /2005 4, KSP 12/2000 1, ,771 n.a. 186 n.a. n.a. 12/2004 1, , ,157 USP 12/ ,224 10,957,394 n.a. 1,586 n.a. n.a. 12/ ,435 11,298,529 5,015 1,452 10,440 13,466 Credit Unions 12/1999 1, ,989 n.a 118 n.a /2004 1, ,531 n.a. 339 n.a. 958 BMT 11/ (reporting) 2005 (see box 9, page 36) UPK Kecamatan (reporting) n.a. 272 UPK Desa (NTB/Bengkulu) n.a. 3 n.a. 96 Sources: ProFI Microfinance Institutions Study (2001); Bank Indonesia ; Bank Rakyat Indonesia ; Regional Development Banks; Ministry of Cooperatives; Pinbuk ; Kecamatan Development Project, Provincial and District governments in Central Java, Bengkulu and NTB; Gema PKM and Bina Swadaya. The Lembaga Dana Kredit Pedesaan (LDKP) have been for long successful models of non-bank noncooperative MFIs. However, the highly successful LPD system with an outreach to almost all Balinese villages and households seems to be the only growing and surviving LDKP model. The governmentowned LDKPs such as the BKKs in Central Java and the LKURK in East Java have been acquiring BPR licences or will be merged into either existing or new BPRs. Other Regional governments may follow this way. Regional governments virtually stopped to actively promote the government-owned LDKP model as a third microfinance window. With the exception of the BUKP in Yogyakarta, there is not much evidence that other LDKP systems can play a significant role in developing this window. The Badan Kredit Desa (BKD) did not experience significant growth during the last 5 years. They even lost a large part of their customer base, and they maintained features that have been constraining their development since long. The BKD industry lacks dynamism because governance, organization, operations and products have hardly changed since decades; because management continues to depend on the village bureaucracy, while management capacity has been build up externally (i.e., in BRI) without aiming at institutional strengthening; and because they mobilize deposits on behalf of BRI rather than 64

68 investing deposits into loan portfolio expansion. While many BKDs may not be relevant for the 3 rd microfinance window, a new regulatory, supervisory and support framework accompanied with getting governance and management right may enable at least a part of the industry to develop into effective and growing village-level financial intermediaries. Current Evidence of Relevant 3 rd Window MFIs (amounts in Rp. billion, accounts in,000) MFI Family Date Number Number of Deposits Loan Portfolio of units members Accounts Amount Accounts Amount LDKP 06/2000 1, * 1,784-1,319 1, ,472 BKD 06/2000 4, /2005 4, BMT 11/ (reporting) ,100 (see box 9, page 36) UPK Kecamatan (reporting) 08/ n.a. 272 UPK Desa (NTB/Bengkulu) ** 07/ n.a. 3 n.a. 96 Sources: ProFI Microfinance Institutions Study (2001); BRI, BPDs; Pinbuk ; KDP, AADP projects. * Includes the LPD in Bali and the BKK in Central Java. See also the LDKP table on page 60. ** Another 855 UPKDs were established in South Sulawesi, Southeast Sulawesi and East Nusa Tenggara. The Unit Pengelolaan Keuangan (UPK/D) emerged from local resource management and revolving fund projects, and many of them are now developing into a new type of post-project microcredit institutions operating at both the village (UPKD) and sub-district (UPK) levels. It is not known how many of some 2,500 units establsihed may have the chance to survive. While their mother projects have been terminated, an adequate legal/regulatory/supervisory/support framework is urgently needed to enable a sound institution building of the currently relatively well performing UPK/Ds. The UPK/Ds have not yet started to mobilize deposits to a significant degree. But, many of them would do so under a new enabling framework. UPKDs in NTB and Bengkulu are usually perceived as deposit mobilizing institution. Several District governments issued regulations that see UPKDs as deposit mobilizing financial institutions. Several District governments have been issuing regulations that legalize UPKDs as nonbank non-cooperative village financial institutions with the right to mobilize savings (see below). The national legal and regulatory framework for non-bank non-cooperative MFIs has not changed. The lack of the third microfinance window produced a variety of Regional initiatives. The Balinese Government strengthened the LPD system by a new regulatory and supervisory framework. While the Governor has the authority to licence, regulate and supervise the LPDs, supervision authority is now delegated to the BPD and supervision instruments were improved. A similar structure exists for the BKKs in Central Java. However, the new Provincial approach is oriented at Bank Indonesia regulations and aims at merging all BPR-BKKs and BKKs into District-level BPRs with a branch network at the sub-district level. The most recent approaches are District decrees about the UPKDs in Bengkulu and NTB. The decrees in NTB legalize the UPKD as a non-cooperative non-bank village microfinance institution that as a legal entity has the right to mobilize deposits, without clarifying the legal entity, ownership and governance. In Bengkulu, the decrees allow accepting voluntary savings from non-members, and in 2 cases they allow for accepting members from outside the village. Almost all decrees conflict with national laws, are inconsistent, and lack clarity with regard to ownership and governance. In Bengkulu, they tend to intervene into the governance and management of the UPKDs. 65

69 2. Lembaga Dana Kredit Pedesaan (LDKP) Background. The term Lembaga Dana Kredit Pedesaan (LDKP) or Rural Credit Fund Institution summarizes various sorts of local non-bank microfinance institutions that were established on initiative of Provincial governments in the 1970s and the 1980s. Common features of LDKPs are: they are owned by Provincial/District governments or by villages, and they operate at the village or sub-district level; they are licensed and regulated by Provincial governments; they are technically supported and supervised by the government-owned Regional Development Banks (BPD). The national legal and regulatory framework for LDKPs has not changed since 1992 when the banking act and following regulations acknowledged them as BPR candidates and required them to seek a BPR license until A Bank Indonesia decree of 1999, which significantly increased licencing requirements, virtually closed the BPR market for the remaining LDKPs, while the lack of an adequate nonbank legal and regulatory framework continued to exist. Situation in As of June 2000, the former strength of the LDKP industry had considerably suffered from the conversion of many of its best institutions to BPRs. 57% of the remaining ones were the 912 village-owned Lembaga Perkreditan Desa (LPD) in Bali, which had resisted conversion and accounted for more than three quarters of the total assets and savings mobilized by the still existing 1,600 LDKPs. The only other relevant LDKP type in terms of total assets and deposit mobilization were the Badan Kredit Kecamatan (BKK) in Central Java. While 350 of them had already acquired a BPR license, the remaining 160 institutions still covered some 30% of the sub-districts in Central Java with an outreach to around 200,000 customers. LDKP systems other than the LPDs and the BKKs were the Lembaga Kredit Usaha Rakyat Kecil (LKURK) in East Java, the Lumbung Pitih Nagari (LPN) in West Sumatra, the Badan Kredit Kecamatan (BKK) and Lembaga Pembiayaan Usaha Kecil (LPUK) in South Kalimantan, the Lembaga Perkreditan Kecamatan (LPK) in West Java, and the Badan Usaha Kredit Pedesaan (BUKP) in Yogyakarta. By the end of 2000, 71 of 193 LPNs, 67 of 223 LKURKs, 62 of 144 LPKs, 20 of 36 BKKs in South Kalimantan, and 46 of 52 active Lembaga Kredit Pedesaan in West Nusa Tenggara had acquired BPR licenses. With the exception of West Sumatra and South Kalimantan, therefore, the relevance of the LDKP industry was greatly limited to Java and Bali. Development until By the mids of 2005, the savings-led LPD system has further strengthened its model role for the development of village-owned MFIs in Indonesia. The Balinese Government established an improved regulatory and supervisory framework in 2003 (see below). LPDs operate now in almost all Balinese custom villages with an unprecedented deposit outreach: the number of deposits accounts is now twice as high as the number of households in Bali. The model of government-owned LDKPs at the sub-district level appears to be a phase-out model and is not anymore actively pursued. While the 160 BKK in Central Java experienced an outstanding growth during the last five years, the Government has decided to merge all BPR-BKKs and BKKs into one BPR each at the District level. A similar development took place in East Java, where the 67 BPR-LKURK and the 156 LKURK are being merged into one BPR operating from the Provincial capital. It is not clear whether other Regional Governments will follow this way. In general, however, the empirical relevance of this LDKP model is significantly decreasing, although it has been for long a successful example for the potential of and need for a non-bank non-cooperative microfinance window. 66

70 Relevant LDKP Families (amounts in Rp. million) Name Date Number Total Loan Portfolio Deposits / Province of units Assets Amount Accounts Amount Accounts LPD 03/ , , , , ,104 / Bali 08/2005 1,304 1,637,461 1,174, ,583 1,272,039 1,010,073 BKK 06/ ,912 51, ,720 43, ,680 / Central Java 06/ , , , , ,321 LKURK 06/ ,274 9,113 n.a. n.a. n.a. / East Java 10/ ,318 10,354 n.a. 3,394 n.a. LPN 06/ ,503 1,929 10, ,204 / West Sumatra 2005 n.a. n.a. n.a. n.a. n.a. n.a. BKK/LPUK 06/ ,082 3, / S. Kalimantan 11/ ,029 5,495 12, LPK 06/ ,959 11,167 16,646 4,926 24,764 / West Java 2005 n.a. n.a. n.a. n.a. n.a. n.a. BUKP 06/ ,268 8,670 27,150 2,477 32,625 / Yogyakarta 10/ ,726 16,981 n.a. 8,429 n.a. Sources: ProFI Microfinance Institutions Study (2001) ; Bank Indonesia branches and Regional Development Banks in Denpasar, Semarang, Surabaya, Banjarmasin, Yogyakarta. The Lembaga Perkreditan Desa (LPD) has become an indispensable part of the financial system in Bali. They have an outreach to almost all Balinese custom villages and households. The entire loan portfolio and more than three quarters of the total assets of the LPD industry are being financed by deposits. Total deposits, loans outstanding, and assets increased by more than 4 times during the last 5 years. As of June 2005, the Regional Development Bank rated 85% of the LPDs as sound and fairly sound. On average, LPDs had mobilized deposits approaching the Rp. 1 billion mark. However, there is an extremely high variance with total assets ranging from some Rp. 10 million to Rp. 72 billion. 536 of 1,227 LPDs, for which individual assets information was available, had assets lower than Rp. 250 million, whereas 289 LPDs had assets larger than Rp. 1 billion. In 2002/2003 the Balinese Government established a new regulatory and supervisory framework for the LPD system. Provincial regulation number 8/2002 defines the LPD as a village-owned enterprise being part of the village assets. The Governor is authorized to licence, regulate and supervise the LPDs. Deposit mobilization is limited to the village members. Technical assistance is to be provided by District guidance boards (PLPDK), which are coordinated through a Provincial guidance board (PLPDP). Supervision is carried out on the basis of monthly LPD reports and quarterly rating reports. Governor s decree number 95/01-C/HK/2003 delegates the supervision authority to the Regional Development Bank (BPD). Governor s decree number 12/2003 provides the supervision and rating design. A further step towards strengthening the LPD system has been the preparation of a certification program for LPD managers in cooperation with the CERTIF Institute (Lembaga Sertifikasi Profesi LKM MFI Professional Certification Institute). The program, providing training and examinations for LPD managers based on standardized skills and competence requirements, will be implemented in

71 LPD Consolidated Balance Sheet (June 2005) Assets Million Rp. % Liabilities & Equity Million Rp. % Inter-bank assets 389, Savings deposits 684, Loan portfolio 1,174, Time deposits 597, (-) Loan loss provisions (23,080) (1.4) Equity* 338, Other assets 50, Other 26,444 1,6 TOTAL 1,637, TOTAL 1,637, Source: Regional Development Bank, Denpasar. * Includes reserves and profit/loss By the mid 1990s, the Badan Kredit Kecamatan (BKK) system in Central Java consisted of a network of 510 sub-district units and 3,500 village service posts. Though the system was considerably weakened by the conversion of its best 350 units to BPRs, the ProFI MFI Study of 2000 found that the BKKs were the only LDKPs other than the LPDs effectively intermediating between depositors and borrowers. During the last 5 years, the 160 BKKs experienced an outstanding growth, with average assets increasing from Rp. 424 million to Rp. 2.4 billion. As of June 2005, deposit mobilization exceeded the total loan amount outstanding and contributed to 78% to total assets. 85% of the loan portfolio was classified as standard. Only 26 BKKs had assets smaller than Rp. 1 billion, while in 52 cases assets exceeded Rp. 2.5 billion. The amount of deposits mobilized exceeded Rp. 1 billion in 107 cases and Rp. 2 billion in 56 cases. BKK Consolidated Balance Sheet (June 2005) Assets Million Rp. % Liabilities & Equity Million Rp. % Inter-bank assets 67, Savings deposits 200, Loan portfolio 296, Time deposits 100, (-) Loan loss provisions (8,799) (2.3) Equity 49, Other assets 30, Other 36,959 9,6 TOTAL 386, TOTAL 386, Source: Regional Development Bank, Semarang. The Governor of Central Java has the overall regulatory and supervisory authority. The Regional Development Bank (BPD) is responsible for technical support and carries out supervision on behalf of the Governer. The recently improved performance and growth of the BKKs has been supported by a new regulatory and supervisory framework closely oriented at the BPR regulations of Bank Indonesia. Provincial regulation number 19/2002 emphasizes the character of BKKs as deposit mobilizing financial intermediaries and requires a paid-up capital of Rp. 1 billion for each BKK. 50% of the capital will have to be pledged by the Provincial government, 42.5% by the District/ municipality governments, and 7.5% by the BPD. Organizational and supervision provisions are similar to those for BPRs. Supervision and rating instruments are the same as for BPRs. In principle, the Provincial government does not make a difference in handling its BPR-BKKs and its BKKs. This is closely related to the decision to merge all BPR-BKKs and BKKs into District level BPRs (one per District) with branches at the sub-district. Thus, the remaining BKKs will either be converted to BPRs or become branches of BPR-BKKs. Other LDKPs. There is not much evidence that other LDKP systems such as those in West Java, West Sumatra, Yogyakarta and South Kalimantan have been growing to significant local microfinance industries. Because of the legal and regulatory gap between the banking and cooperative windows, Provincial and District governments have stopped to actively promote the government-owned LDKP model as a non-bank non-cooperative microfinance window. 68

72 Assessment. The development of the BKK system clearly shows the dilemma of a non-bank noncooperative MFI strategy. For more than 20 years the LDKPs served as the model for a non-bank noncooperative microfinance window. The lack of an alternative legal framework, however, pushed many of them into the bank window, while other local MFIs registered as cooperatives, although a properly regulated and supervised non-bank non-cooperative window might have been more appropriate for their development and for expanding outreach to and at the village level. While the need for the third microfinance window is increasingly acknowledged, the empirical relevance of the LDKP model has continuously been decreasing. In 2000, the ProFI MFI study concluded that, with the exception of West Sumatra and South Kalimantan, the relevance of the LDKP industry was greatly limited to Java and Bali. In 2005, it appears that the strategy of Regional governments to integrate the remaining LDKPs into their BPR systems will leave Balinese LPDs as the only relevant LDKP system. The only chance to either revive other LDKP systems or initiate the establishment of similar new systems is the legalization and appropriate regulation of the third microfinance window between the banking and cooperative sectors. 3. Badan Kredit Desa (BKD) in Java Background. BKDs are village credit boards with historical roots dating back to colonial times. In the 1970s, GOI lost its interest in the BKD system and gave high priority to developing a uniform and instrumental cooperative system. While the BKD system lost strategic relevance, the 1992 Banking Act virtually closed the possibility to expand the system. BKDs are operated by a commission chaired and controlled by the village head. Special accountants (Juru Tata Usaha JTU) are appointed by the District head and carry out the administrative work for 5 to 10 BKDs. Supervision and technical guidance is being carried out by BRI branches. This setup as well as the regulatory, supervisory and support framework (see below) has not changed since the ProFI s MFI Study in Situation in As of June 2000, there were 4,566 active BKDs with average assets of Rp. 56 million, an average loan portfolio of Rp. 32 million, average inter-bank assets (mainly BRI savings products) of Rp. 21 million, and average deposits of Rp. 5 million. The average BKD served 159 borrowers and 131 depositors. More than 90% of the units and their business were concentrated in East Java, Central Java and Yogyakarta. The ProFI MFI Study concluded that the BKD industry lacked dynamism. It had not succeeded to expand its customer base and to develop into effective financial intermediaries at the village level. With governance and management not having changed over decades of dynamic economic development, the industry tended to loose its role in the local economy. Development until As of June 2005, the number of active BKDs had decreased to 4,482 units. During the last 5 years average assets increased by Rp. 15 million to Rp. 71 million, the average net loan portfolio to Rp. 42, and average inter-bank assets to Rp. 24 million. While average deposits increased from Rp. 5 million to Rp. 11 million, deposit mobilization contributed less than half to assets growth and deposits mobilized were placed to BRI deposit products, which made up 83% of inter-bank assets. While the average balance sheet structure changed slightly in favor for the loan portfolio on the assets side and for deposits on the liability side, the BKD industry lost 46% of its credit and 22% of its deposit outreach as measured by the number of current borrowers and depositors. The average number of deposit accounts decreased from 131 to 104, and the average number of loans outstanding plunged from 159 to

73 BKD Development (Amounts in Rp. Million) Province Data Number Total Gross Loan Portfolio Deposits as of of units Assets Amount Accounts Amount Accounts West Java 06/ ,796 9,507 90,951 1,186 57,320 06/ ,890 8,060 26,332 1,763 23,498 Central Java & 06/2000 1,823 71,869 36, ,924 9, ,929 Yogyakarta 06/2005 1,797 85,945 49, ,537 20, ,518 East Java 06/2000 2, , , ,972 12, ,483 06/2005 2, , , ,896 28, ,877 TOTAL 06/2000 4, , , ,847 24, ,732 06/2005 4, , , ,765 50, ,893 Source: Bank Rakyat Indonesia. Central Java While national statistics do only allow for this general assessment, field data from Central Java show a high variance in the BKDs financial performance. The regional BRI office in Semarang supervises the northern part of Central Java covering 15 districts with 996 active BKDs. As of September 2005, these BKDs had average assets of Rp. 58 million, while the district average ranged from Rp. 8 million to Rp. 123 million per BKD. District averages for deposits ranged from Rp. 3 million to Rp. 36 million per BKD. On average, 48% of total assets were placed to BRI deposit products, while deposit mobilization contributed 26% to the total amount of BKD funds. BKDs in Pekalongan Municipality and the Pekalongan and Batang Districts, Central Java (September 2005, amounts in Rp. million) 171 BKDs 15 smallest* 15 medium* 15 largest* Ø % Ass Ø % Ass Ø % Ass Ø % Ass Total Assets Inter-bank Assets 68 63% 14 53% 69 63% % Net Loan Portfolio 36 34% 10 40% 36 33% 89 30% Deposits 27 25% 7 28% 29 26% 69 23% * 5 for each of the 3 municipality/districts. Source: Bank Rakyat Indonesia, regional office in Semarang, Pekalongan and Batang branches. The Pekalongan municipality, and the Pekalongan and Batang districts has 171 BKDs with average assets (Rp. 108 million) double as large as for all 1,062 BKDs. Assets ranged from Rp. 4 million to Rp. 472 million, and deposits ranged from Rp. 2 million to Rp. 187 million. 59% of all BKDs had assets and 99% of them had deposit liabilities lower than Rp. 100 million. None of them had mobilized deposits larger than Rp. 200 million, and only 14% had assets larger than this amount. A comparison between the 5 smallest, 5 medium, and the 5 largest BKDs in each of the 3 municipality/districts indicates that assets growth has been partly dependent on the extent of deposit mobilization. However, the structure of assets shows that the proportion of inter-bank assets (mainly BRI deposit products) increases with assets size. Thus, deposit mobilization is not used to expand the BKDs own business. Regulation, Supervision and Technical Support. The regulatory, supervisory and technical support framework has not changed since BKDs are acknowledged as BPRs in word, but are neither regulated nor supervised as secondary banks. Their tiny sizes and lack of dynamic given, it is widely acknowledged that the BKD industry lacks a non-bank regulatory framework necessary to support its development. BRI has been continuing to supervise and to provide technical guidance to the BKDs on behalf of Bank Indonesia. Supervision and guidance is carried out by special BRI branch staff, the BKD 70

74 Mantri who are responsible for 18 to 24 BKDs. Bank Indonesia covers the costs of supervision based on BRI s annual budgets. Technical guidance and supervision policies as well as reporting requirements and formats are described in BI s BKD Guidance and Supervision Guidelines (1997). Supervision reports include financial statements and a loan portfolio classification system, but there is no rating system for BKDs. BRI monitors, reports and guides, but it lacks enforcement power. The currently legal basis for BRI s supervision role is Bank Indonesia Regulation No. 6, 13 December BRI s reporting requirements according to this regulation also include semi-annual assessments of the BKDs capacity to operate as BPR. Rather than clarifying the status of BKDs as non-bank MFIs, this unrealistic vision has been carried on since the new banking act of Assessment. The conclusions of the ProFI MFI Study remain valid. The BKD industry lacks dynamism. Its governance, organization, operations and products have hardly changed since decades of changing demand for financial services. BKDs are not growing and independent financial intermediaries at the village level. Rather than expanding outreach during the last five years the BKD industry has lost a great part of its customer base. Their management continued to depend on the village bureaucracy, while management capacity has been build up externally (JTU, BKD Mantri) without resulting in institutional strengthening. If BKDs mobilize deposits to a significant extent, they do this on behalf of BRI (deposit products are BRI products) rather than for letting their own business grow. Internal governance problems and lack of institutional capacity building as well as BRI s multiple involvement (supervision, technical support, own business interests) are major constraints for the industry s development. The BKD industry, in general, has comparative advantages. It operates within a limited and familiar environment that allows keeping up close contact with its clientele and easily acquiring information about this clientele. The large number of existing BKD provides a good basis for developing a strong network organization of village-level financial institutions. While not many BKD have made use of such comparative advantages and would currently qualify for the new non-bank non-cooperative window, a new regulatory, supervisory and support framework accompanied with getting governance and management right may enable at least a part of the industry to develop into effective and growing village-level financial intermediaries. 4. Unit Pengelolaan Keuangan (UPK) at Sub-District and Village Level Background. Unit Pengelolaan Keuangan (UPK) are Financial Management Units that have been established by World Bank-financed projects such as the Kecamatan Development Project (KDP) and the Area Development Projects (ADPs) in Bengkulu, West Nusa Tenggara (NTB), Central Sulawesi, and Southeast Sulawesi. The UPKs of the KDP operate as sub-district units, whereas the UPKDs of the ADPs operate as village units. However, both were established for the purpose of managing block grants earmarked for being participatively allocated to small infrastructure projects, economic and social activities. Aiming at alleviating poverty and improving local governance, the core of the World Bank-financed projects has been a demand-led and participative model of local resource management that places funds, planning responsibility and decision-making power to village communities. At the time these projects were incepted they neither expected that communities would opt for allocating huge parts of the block grants to revolving funds nor had the projects the objective to develop microfinance institutions. However, based on decentralized decision making power and changing project strategies, many of the UPK/Ds have developed from project financial management units to revolving fund managers and to 71

75 microcredit institutions, nowadays with post-project and independent governance and organization structures. World Bank reviews in 2001/2002 pointed to the gap between this ongoing development and the lack of microfinance expertise and technical assistance provided to the UPK/Ds. While the ADPs had been reoriented to focus on microfinance objectives and basic elements of institutional development in 2000/2001, the KDP started to strengthen its microfinance design and institutional capacity building with the inception of the 2nd and 3rd KDP phases in 2002/2003. The ADPs have been terminated, while the KDP offers follow-up services to UPKs having upgraded from KDP-1 and KDP-3. The unstable financial and institutional situation of most UPKs and UPKDs given, the World Bank s preparation of a Sustainable Microfinance Project (SMFP) in 2003/2004 intended to provide the urgently needed follow-up. Acknowledging that a considerable number of the UPK/Ds have been contributing to increase credit outreach to low-income households in rural villages, the project design aimed at sustainable institution-building and at developing the legal, regulatory and supervisory framework required for achieving this objective. The project has not come into effect. Situation in The above-mentioned development of UPK/Ds was not predictable at the time of the ProFI MFI Study in Although data quality for many regions is poor, KDP data available at the national level show two tendencies. On the one hand, many UPKs, and partly all UPKs in certain areas such as East Nusa Tenggara (NTT), appear to be bankrupt, with about one third of the loan fund probably be lost. On the other hand, there is now an increasing and large number of relatively well-performing UPKs with the chance to sustain operations under adequate regulatory and supervisory frameworks. UPKD data from Bengkulu show a similar tendency. The report Rural Microfinance Development NTB (November 2005) points to deteriorating conditions, also because of the technical assistance gap after project termination in But, seeing chances for viability and sustainability on the basis of a new approach to UPKD development, the report recommends a technical assistance project aiming at sound institution building within a new conducive regulatory and supervisory environment. As of August 2005, 842 UPKs reported to the Regional KDP management units. Aggregated data at the national level indicate that, taking loan portfolio quality into account, the average UPK would still have net assets of about Rp. 400 million, an amount by far sufficient to break even, if managed properly. Most of the best performing UPKs are located in Central Java and Yogyakarta. Their performance has been continuously improving during the last 2-3 years. Most of the loans classified as doubtful or loss are old loans that are carried on as there is no clear write-off policy. There are more than 200 relatively sound UPKs with average net assets of more than Rp. 700 million. UPKs have not yet started to mobilize deposits. But, many of the UPKs having now operated successfully for more than 3 years are seeking for new business models as well as for adequate legal and regulatory frameworks. 72

76 UPK/D Performance in 2005 (amounts in Rp. million) UPK UPK C. Java/ Yogyakarta UPKD Bengkulu UPKD NTB UPKD Sulawesi/NTT 08/05 10/05 07/05 n.a.* ** Number of units Total assets (gross) 429, ,770 56,852 53,884 n.a. Cash & Inter-bank assets 152,776 38,795 10,568 n.a. n.a. Gross loan portfolio 271, ,946 42,185 40,363 n.a. Deposits - - 1,450 2,213 n.a. Loan fund*** 397, ,720 50,683 40,363 n.a. Profit/Loss 29,975 20,631 3,988 n.a. n.a. % doubtful/loss **** 27% 12% 22% n.a. n.a. Average gross assets n.a. Average net assets n.a. n.a. Sources: KDP National Management Consultant ; KDP Regional Management Unit Semarang ; Regional Planning Board Bengkulu. * NTB data were taken from : Hiemann et al, Rural Microfinance Development NTB, November 2005 ; the report records the existence of 245 UPKDs. ** Latest information available from 03/2003 ; does not allow for estimating current performance. *** Usually considered as equity capital, but not in all cases legally clarified. **** Not always clear whether amounts refer to arrears or total loan amount classified as doubtful/loss. UPKD information was only available for Bengkulu and West Nusa Tenggara (NTB). A first GTZ appraisal of the UPKD in NTB (2003) concluded that they have been the best performing UPKDs of all ADPs and that about the quarters of them would qualify for a follow-up project aiming at sustainable institution-building. The ADP was terminated in 2003, and the GTZ-ProFI report Rural Microfinance Development NTB (November 2005) points to deteriorating performance. Nonetheless, it seems that still a considerable number of the UPKDs would be able to grow and sustain operations, if an adequate institutional development strategy is applied and enabling legal, regulatory and supervisory frameworks are in place. Currently, 229 of the 245 operating UPKs in NTB have average assets of Rp. 235 million, of which three quarters are placed in the loan portfolio. Future loan portfolio analysis must show to which degree this gross loan portfolio can be considered part of the UPKDs net assets. The UPKD in Bengkulu have been developing remarkably well as compared to earlier assessments. The GTZ appraisal of 2003 estimated that only about 40% of the then operating UPKDs in Bengkulu could qualify for a future technical assistance project. However, improved technical assistance inputs by Bina Swadaya, which in contrast to the ADP in NTB used a member-based approach, seem to have successfully improved UPKD performance. By July 2005, the 368 operating UPKDs had average net assets of Rp. 129 million. Reports from this study s field visits show two tendencies: the number of UPKDs qualifying for a future sustainability approach has been significantly increasing, while performance has started to deteriorate since the termination of technical support in August this year. With the project being terminated at the end of this year, a technical assistance follow-up is urgently needed to avoid the situation currently experienced in NTB. UPKDs have not yet mobilized deposits to a significant degree, with deposits seldom making up more than 5% of total assets. However, it is important to notice that both UPKD regulators and UPKD owners do usually consider the UPKD as a deposit mobilizing institution. An enabling legal and regulatory framework accompanied by institutional capacity building will most probably provide an impetus for at least part of the UPKDs to develop into savings-led financial intermediaries. Current approaches to local UPKD regulation. Both in NTB and Bengkulu there are a range of local regulations either already being issued or still under preparation. These regulations take either the form 73

77 of District regulations (Peraturan Daerah) that, as in the case of the LPD regulations in Bali, must be approved by the parliament, or the form of decrees of District heads (Keputusan Bupati). The following regulations were found: (1) NTB: Keputusan Bupati Bima Nomor 581 Tahun 2003 tentang UPKD. (2) NTB: Keputusan Bupati Lombok Barat Nomor 25 Tahun 2003 tentang UPKD. (3) Bengkulu: Peraturan Bupati Rejang Lebong Nomor 313 Tahun 2005 tentang UPKD. (4) Bengkulu: Peraturan Bupati Kepahiang Nomor 02 Tahun 2005 tentang UPKD. (5) Bengkulu: Rancangan Peraturan Daerah Kabupaten Bengkulu Selatan Nomor Tahun 2005 tentang UPKD. (6) Peraturan Bupati Bengkulu Utara Nomor Tahun 2005 tentang UPKD. (7) Peraturan Bupati Lebong No. 163 Tahun 2005 tentang UPKD. NTB: The GTZ-ProFI report Rural Microfinance Development NTB (November 2005) point to flaws in the first decree issued by the head of the Bima District. These flaws relate to lacking clarity of ownership, governance, and lacking provisions on enforcement. The decree allows for deposit mobilization from the village community. The second decree issued by the head of the West Lombok District legalizes (sah) the UPKD as a non-cooperative non-bank village microfinance institution. Operations are confined to the village and include deposit mobilization. The decree holds that the UPKD as legal entity has the right to mobilize deposits. The legal status should be acquired by registration to Pengadilan Negeri based on Ordinasi 25 September 1939 tentang Perkumpulan Indonesia (Staatsblad Tahun 1939 Nomor 570). Guidance and supervision authority is given to the local government. Bengkulu: The regulations issued by 5 districts in Bengkulu are similar though inconsistent regulations with lacking clarity regarding several respects: Status of regulation: Except of regulation (4) regulations are defined as by-laws for all UPKDs. By-laws must be issued by the UPKD owner rather than the Regulator. Legal status: The UPKD is legalized (disahkan) as an economic enterprise, villageowned, or a community-owned institution. Ownership of UPKD capital is not clearly regulated, and capital is confused with liabilities as sources of funds. Business: The UPKD is described as a profit-oriented and deposit-taking organization. All regulations explicitly provide for accepting voluntary savings from non-members. Note that provisions on membership are unclear and in 2 cases allow for accepting members from outside the village. Organization and governance: Annual members assembly as highest authority, management, working group, supervisory board, and members. It is not clarified how to become a member and whether this includes financial obligation. Rather than focusing on skills and competence, management is to be elected for a maximum period of 5 years. Management is not autonomous in decision-making as the regulations require a working group responsible for loan appraisals and being directly responsible to the members assembly. Except of regulation (2), which regards loan appraisals as recommendations to management, loan appraisals are equated with loan decisions. Intervention: The regulations include interventions in UPKD operations: provision on interest rates (4), provision on members duties and rights (right to receive same service), allocation of income (also to social purposes) rather than profit. Assessment. The development of the UPK/D systems described above indicates that there is some potential for at least part of them to develop into a third microfinance window. Though the UPKDs usually use the member terminology, there is not really the need and interest for developing them into the cooperative window. However, the longer an alternative framework is not in place the more stakeholders 74

78 will be inclined to link up with the local cooperative system. While there is some potential, the systems urgently need clarification in terms of ownership, governance, and regulation. Current local regulations conflict with national laws and include provisions that are not conducive to the sound and independent institution. In the context of local autonomy, this situation shows that there is an urgent need for complementing the work on national legal and regulatory frameworks with the work on local legislation and regulation. It also shows that preventing districts from issuing regulations that legalize units that are not legal entities and are obviously conflicting with national laws require an active national role (Ministry of Home Affairs) for ensuring a consistent 3 rd window strategy. One solution currently discussed, the village enterprise (BUMDES) status, seems not to be a direct solution because is does not automatically provide for a legal entity such as Perseroan Terbatas (PT), Perusahaan Daerah (PD), or cooperative. 75

79 NOTES ON COOPERATIVES INVOLVED IN FINANCIAL SERVICES 50 APPENDIX 4 KSP/USP 51 Overview of family 1. The cooperative movement can be divided into three distinct families: a. BMT, Islamic based cooperatives, initiated by an independent NGO, most of which are now registered as Islamic cooperatives (Koperasi Syariah) under the cooperative Law. b. Credit Unions (Koperasi Kredit), also initiated by an independent NGO, most of which are not registered as cooperatives see discussion in Chapter D. c. cooperatives registered with and promoted by the government and MOC. This particular family has for long been one promoted by the government, i.e. mainly a top-down approach This section is concerned with those cooperatives falling under category (c) above, and here there are 3 groups: a. multipurpose cooperatives that include a S&L unit, called USP Kopta (Unit Simpan Pinjam). Most of these operate in urban areas. At the end of there were some 31,000 USP, with total savings of Rp.1,345b (US$150m). Most units are very small with average deposits per unit of Rp.43m. It is estimated that some 100 USP have total assets >Rp.1b. b. very small multipurpose cooperatives (Koperasi Unit Desa - KUD) operating at the sub-district level, mainly in rural areas. There are some 5,200 KUD with total deposits of Rp.341b (US$39m), total assets Rp.433b. KUD in particular have in the past been used as channels for government programs providing subsidized credit. c. cooperatives whose only activity is S&L: Koperasi Simpan Pinjam (KSP), of which there are 1,186, with some 520,000 members. Included in this total are some 300 Credit Unions that have registered as cooperatives. At the end of 2000, the KSP industry had total assets of Rp.466b, financed mainly by savings of Rp.186b 40% and capital of Rp.202b 43% (but this includes (i) compulsory savings, and (ii) loans from other cooperatives and government programs of Rp.104b). 54 About 100 KSP have total assets or deposits >Rp.1b. Funding is These notes are extracts from a report the consultant prepared during an ADB Rural Microfinance PPTA in Information based on discussions at the MOC with Nahid Hudaya, deputy chief, 8 October 2002, and Ibu Dewi, divisional head, Institutional Development Policy, KSP, on 10 October 2002, and information provided by them. For further information on cooperatives, refer to the GTZ ProFI MF Study. 52 For interesting notes on the background to the sector, see the GTZ ProFI Study, pages This is the most recent data available, and was provided by the MOC. The statistical information provided is not correct. Total loans are shown as Rp.575b (Rp.299b for DKI Jakarta area), but total assets are only Rp.466b. Most likely the loan figure is too high. 76

80 through contributions when becoming a member (simpanan pokok), compulsory savings (simpanan wajib) from members, and deposits from anyone. 3. As a general rule, the cooperatives referred to above excluding the CUs do not follow the provisions of the Cooperative Law that require cooperatives engaged in S&L to deal only with members. KSP in particular deal with members and the public. 4. KSP believe that not enough guidance is being provided by the Regional offices of the MOC. Supervision is not effective: in general, they see officers of MOC (dinas koperasi) only once a year at the annual meeting. Most want to expand their funding based by dealing with non-members. Regulation Cooperative Law 25 of Art. 43.2: the excess of service capability can be utilized to fulfil the needs of society which are non-members. This is explained in the Elucidation as follows: The excess of capacity can be utilized by the cooperative society to do business with non-members with the objective of optimizing the economy of scale in the sense of increasing the business volume and decreasing cost per unit as to render the greatest advantage to its members and to socialize the cooperative in society. The MOC agrees with the consultants interpretation, that this is intended for trading/producer/consumer coops., where non-members usually have to pay a slightly higher price for goods. As will be seen below, cooperatives involved in S&L should only deal with actual or aspiring members. 6. Art allows a cooperative providing S&L to also deal with members of other cooperatives and/or their members. This is not a sound provision: cooperatives should deal only with their members. 55 Art provides that S&L business can be carried out as one of the business activities, or the only business activity. Art states that the carrying out of savings/loans business is arranged by government regulation the relevant implementing regulation is No. 9 of 1995 see below. Art. 46 provides that a cooperative can be dissolved on the basis of a decision reached at a meeting of members, or a government decision. Government Regulation 9 of 1995 (this implements Art of the Cooperative Law of 1992) 7. Art. 14 states that KSP/USP must give attention to capital, liquidity, solvency and profit (some criteria but no ratios are provided). Art. 14.2c states that equity capital and loan capital shall 55 Some may debate this statement. It is true that in developed countries like Germany cooperatives deal with the general public. The consultants believe that in developing countries the disciplines of the cooperative philosophy should be maintained. 77

81 balance: debt should therefore not exceed 100% of capital. Art. 18 provides that KSP/USP can deal with members, prospective members (associates), other cooperatives and their members. Art provides that prospective members shall become full members after a period of no later than 3 months and by contributing the initial savings. These provisions seem clear: KSP/USP can deal only with members or persons that become members within 3 months - this relates to deposits and credit. 8. Art. 19 provides that lending should follow sound principles. Art. 21 provides that the members meeting shall determine the maximum limit of loans to members, directors and supervisors. LLL are therefore up to each cooperative to determine: this is a major departure from banking Laws, where LLL are specified. Art. 22 provides that surplus funds can be invested through purchase of shares in the capital market. This is not sound. This provision was also in the 1992 Banking Law, but was removed in Art.s 24 and 25 provide that promotion and supervision shall be performed by the Minister, who shall stipulate prudential provisions for cooperative business. Art. 27 provides that KSP/USP shall be inspected, and art. 28 contains sound enforcement measures that include liquidation. 10. The regulation of is drafted in general terms, and covers most provisions to be expected in a general enabling regulation. There are also provisions for guidance, dissolution, penalties, transition. Therefore, somewhat similar in scope to the May 1999 BPR regulation. Decree 351 KEP 1998 (replaces Decree 226/KEP 1996) 11. This replaces the earlier decree and is a much more comprehensive implementing framework. Key features are as follows: a. Chapter 1.1 confirms that KSP/USP deal with members, complying prospective members, other cooperatives and/or their members.. b. Chapter 2.2 provides that there must be at least 20 members. Minimum capital for KSP is Rp.50m, for USP Rp.15m. Chapter 4.4 defines capital as members contribution (simpanan pokok), compulsory savings (simpanan wajib), and any grants or capital participations. Chapter 4.4 provides that initial capital as defined above should not be reduced, therefore compulsory savings cannot be withdrawn before there is a replacement by new members The cooperative Law definition of capital includes compulsory savings that can normally be withdrawn when a member leaves the cooperative or membership is cancelled. A better definition of capital is (initial) membership contribution plus retained earnings, as only these amounts are available to meet loan losses. 78

82 c. Chapter 6 provides for guidance (through the MOC) and reporting, with some details on what should be reported. A KSP or USP with a total volume of loan disbursements of at least Rp.1b over a 12 month period should be audited by a public accountant or Cooperative Audit Service. Soundness ratings of KSP, USP shall be conducted by a Soundness Rating Official from the MOC (there is a separate decree on soundness ratings see below). Decree 194 of 1998 on soundness rating (replaces Decree 227, 1996) 12. This Decree contains implementing guidelines for determining a soundness rating for KSP/USP. This is loosely-based on the CAMEL system for banks. The appendix contains standard financial statements. A summary of the key provisions is as follows: Capital is defined as initial contribution, compulsory savings (?), grants and reserves. The ratio relates capital to total assets loans are defined as loans outstanding problem (risky) loans are those without collateral (?). There are three measures (i) loans to members as a % of total loans presumably the intention here is to measure loans to members against an aggregate that includes loans to aspiring members, other cooperatives, and members of other cooperatives) (ii) problem loans to total loans (iii) loan provisions made against what should be made. Note: there is a loan classification system for loans with various payment schedules, eg. regarding monthly repayments: standard: overdue less than 1 month substandard: overdue >2, but not more than 3 months doubtful: overdue more than 3 months, and loan can be recovered (?) and collateral is at least 75% of the loan, or loan cannot be recovered, and collateral is at least 100% of the loan bad: if the loan does not fulfil the above criteria or fu fulfil the doubtful criteria and there were no repayments for 21 months (?) after being classified as doubtful The above is a most unsound system: collateral should be excluded from the classification, and the 21 month term is far too generous. 57 In addition, no quantitative provisions are prescribed: the amount of provisions are up to each KSP/USP. Profitability is rewarded based on three criteria: pre-tax profit to total income, to total assets, and operating expenses to operating income. 57 The above is then weighted as for the present BPR system, eg. sub-standard is weighted 50%, doubtful 75%, bad 100%. This is not a sound system. 79

83 Liquidity is the ratio of loans to funds received (capital, debt, capital participation, savings/ deposits). This is not really a liquidity ratio, as capital is included. Risk reserves are funds set aside from after-tax profits. With BPRs, the cost comes from pre-tax profits, based on a loan classification system. The LCS for cooperatives is used only for the rating system. The BPR system more developed here as under-provisions are deducted from capital. 13. Based on the definitions above, the CAMEL system is as follows: KSP/USP CAMEL rating system Factor definition weighting % benchmark max. points CAPITAL ratio capital to total assets 10% 20% 100 ratio capital to non-performing loans 10% 100% 100 ASSETS loans to members to total loans 10% >60% 100 problem loans to total loans 10% 0% 100 actual loan provisions to what should be made 10% 100% 100 MANAGEMENT the same 5 factors as for BPRs (capital, assets, management, profits, liquidity) 25% 100% EARNINGS profit before tax to total income 5% 5% 100 profit before tax to total assets 5% 10% 100 operating expenses to operating income 5% <90% 100 LIQUIDITY loans to funds received (includes capital) 10 <90% As mentioned, the above CAMEL rating-system is similar to the one for commercial and rural banks. The same point system as used for banks is followed, so sound is 81 to 100, fairly sound (FS) 66 to 80, less sound (LS) 51 to 65, and unsound (US) less than 51. As with banks, adjustments can be made to reduce a rating one level, eg. for violation of regulations, improper loans. The major deficiencies of the system are that the loan classification system does not realistically assess non-performing loans, there is no compulsory provisioning requirements, and the liquidity ratio has little to do with liquidity. 59 Finally, there are no sanctions for a low soundness rating. The intention of the rating system is to notify the management of KSP/USP that improvements have to be made. Decree 09/KEP/1999, On Controlling KSP, USP 15. This Decree deals with controlling measures by the MOC for KSP/USP. Controlling measures include guidance to cooperatives, monitoring financial performance, rating assessments, and inspections, especially of those that mobilize funds from non-members. The MOC states that the latter refers to aspiring members. Basically, the Decree provides that Provincial and District level cooperatives are controlled by the respective departments of the MOC. Inspections are targeted at cooperatives with total assets of at least Rp.1b. Inspections and ratings result in recommendations for improvement. There is no mention of sanctions 16. Gaps and deficiencies There is reasonable regulatory framework for KSP/USP. Deficiencies include: 58 Management is rated based on an assessment of 25 factors. The highest assessment is 4 points per questions, hence the maximum is 100 points. This is copied from the banking system. 59 A more common ratio is loans to total deposits/savings, but this is more a measure of financial intermediation than of liquidity. A liquidity ratio should measure liquid assets to short-term liabilities. 80

84 a. the absence of a prudential framework with sanctions and penalties. LLL are left up to members of cooperatives, the loan classifications system is too lax, there are no requirements for loan-loss provisioning, and collateral can be used to reduce provisions. b. capital is not properly defined, and there are no sanctions for a capital ratio of less than 20% c. the CAMEL rating system should be simplified and improved; there should be sanctions for a low rating d. cooperatives should deal only with members, and should not be allowed to do business with other cooperatives (only through an apex), or with other cooperatives members. e. cooperatives should not be allowed to invest in listed securities f. the supervisory regime is unclear; one regulation refers to guidance, another to supervision, another to controlling measures (apparently this is because the various regulations were issued by different departments of the MOC). In late 2002, the MOC was assessing issues of concern to it, such as: prospective (borrowing) members not becoming full members after 3 months; savings should only be raised from members; possibly loans could in future be made to the public (i.e. not only members); there is no minimum CAR for KSP/USP; the rating system is not being properly conducted, and when the ratings are made, there is no impact on the cooperative or public perception of the cooperative; some investors are using the cooperative legal framework as a guise to conduct S&L activities. The MOC is presently reviewing the Cooperative Law and regulations. One option being considered is to allow deposits from the public, but to require loans to be made only to members. Supervision & enforcement Guidance would be a more appropriate term than supervision. Guidance used to be provided by the Regional offices of the MOC, but under decentralization, these offices have now been absorbed by the provinces, who have delegated guidance functions to the districts (kabupaten). Although practice varies from province to province, in general there is no system whereby officers of the Kabupaten s cooperative division (Dinas Koperasi) regularly visit KSP. Hence, on-site inspection, as is generally understood, is absent. Contrary to what some uninformed commentators may think, the MOC has, by and large, put in place quite a sound legal and regulatory environment for cooperatives. The ministry is aware of the shortcomings in the system. The problem is that it, and the regional (decentralized) offices, have totally inadequate resources to implement and enforce the legal framework. Policy issues relate to: a. improving the regulations; these can be modelled on the improved regulations for BPRs b. clarifying in the regulations that KSP/USP can only deal with members c. separate guidance and supervision d. the improved regulations should require KSP/USP to pay for supervision and guidance, so that sufficient resources are available for this purpose. e. encourage the Authorities not to use cooperatives for channeling and subsidized lending programs; any funds provided should be on a commercial basis. Subsidized funds could be provided only for specific purposes, eg. purchase of fixed assets, computers, training, etc. 81

85 RINGKASAN EKSEKUTIF Pendahuluan. Sebuah studi sudah terselenggara dibawah koordinasi GTZ-ProFI dalam rangka mendukung para pemangku kepentingan dari Pemerintah, BI dan industri keuangan mikro untuk mengembangkan sebuah Kebijakan dan Strategi bagi Pengembangan Keuangan Mikro. Kebijakan dan Strategi Nasional Pengembangan Keuangan Mikro mengganggap pembentukan window keuangan mikro bukan bank bukan koperasi (B3K) sebagai unsur krusial dalam struktur lanskap keuangan mikro masa depan Indonesia. Pilar utama Kebijakan adalah menyusun sebuah kerangka hukum kondusif untuk pendirian LKM-LKM baru, dan melegalisasi kegiatan operasionil dari LKM-LKM yang sudah ada, yang bukan bank mikro atau koperasi. Roadmap lengkap untuk melaksanakan Kebijakan itu sekarang sedang disiapkan. Selama bulan November dan Desember 2005, GTZ-ProFi sudah menugaskan 2 orang konsultan internasional dan 3 orang konsultan nasional untuk menyelenggarakan studi tentang Pengaturan, Pengawasan dan Dukungan bagi LKM B3K. Kebijakan melalui TOR dikaji kembali disertai saransaran untuk dilaksanakan oleh Roadmap. Perkotaan/pedesaan. Laporan menggunakan dua macam definisi. Definisi pertama dari Badan Pusat Statistik (BPS) dengan perumusan yang agak rumit dimana pengertian pedesaan berasal dari sejumlah kriteria termasuk kepadatan penduduk, akses layanan sosial, dsb. Definisi kedua adalah yang lebih umum digunakan oleh para donor, dimana pedesaan diartikan sebagai seluruh daerah diluar ke 85 kota (ibukota provinsi dan kotamadya) dan 287 ibukota kabupaten. Lanskap KM. Selama 5 tahun ini tidak terjadi perubahan yang mendasar dalam lanskap KM, namun demikian beberapa bank umum sudah meluaskan jangkauan mereka terhadap keuangan mikro, walaupun ini sebagian besar didaerah perkotaan. Lembaga-lembaga berikut menunjukkan pertumbuhan pesat dari segi jumlah: BPR (meskipun sebagian besar kegiatan mereka didaerah perkotaan dan semi-perkotaan), LPD (Bali) dan BMT (terutama di Jawa Tengah & Jawa Timur)). Namun demikian, masih tetap ada kesenjangan antara permintaan dan penawaran ditingkat desa. Berbagai keluarga LKM yang ada seperti LDKP (tidak termasuk LPD) dan BKD tidak mengalami kemajuan (mandek). Berbagai embrio LKM yang ditimbulkan proyek-proyek seperti UPK/D belum menunjukkan kemampuan untuk menghimpun simpanan dan menjalankan kegiatan operasionil secara berkesinambungan. Kerangka hukum kurang memadai. Sejak lama diakui perlunya penyempurnaan kerangka hukum KM. Alasan utama kemandekan industri LKM dan kurangnya jangkauan ditingkat pedesaan, adalah karena terbatasnya kerangka hukum yang (i) tidak memperkenankan pendirian LKM B3K baru untuk menghimpun simpanan masyarakat, dan (ii) lumpuhnya pengembangan sebagian besar keluarga LKM yang ada, karena mereka menjalankan kegiatan yang menyalahi hukum, atau berada didalam suasana ketidakpastian. Kedua window yang sudah ada, yakni bank dan koperasi, bersifat terlalu membatasi. Hanya bank (termasuk BPR) yang boleh menghimpun simpanan masyarakat. Meluaskan jangkauan melalui BPR juga dianggap kurang sesuai kebijakan bank sentral yang bersifat membatasi pengeluaran izin operasionil baru, semakin beratnya persyaratan kecukupan modal, serta bagaimanapun juga, sebagian besar BPR baru memilih menjalankan kegiatan operasionil dikota besar. Sedangkan Window koperasi bukan pemecahan, karena pada prinsipnya koperasi hanya boleh melayani para anggota. Window ketiga. Oleh sebab itu, Kebijakan KM merekomendasikan adanya kerangka hukum yang lebih kondusif, yang memungkinkan pembentukan window ketiga yang memperkenankan LKM B3K untuk terus menjalankan kegiatannya. Penyempurnaan kerangka hukum yang penting ini memungkinkan LKM B3K menjalankan kegiatan operasionil dalam dua tingkatan, sebagai berikut: 82

86 c) LKM yang diberi izin berdasarkan peraturan nasional - L-LKM (L = licensed atau diberi izin). Ini terdiri dari dua komponen: (i) L-LKM baru, dan (ii) LKM besar yang sudah ada yang berubah menjadi L-LKM (besar disini diartikan sebagai LKM dengan (jumlah) simpanan diatas batasan tertentu misalnya Rp.200jt (namun lihat dibawah batasan ini terlampau rendah dan tidak direkomendasikan). L-LKM tunduk kepada peraturan dan pengawasan (P&P) berdasarkan prinsip kehati-hatian. L-LKM yang sangat besar, dengan simpanan diatas batasan tertentu, misalnya Rp.5m, perlu mendapatkan izin operasionil sebagai BPR. d) LKM yang diberi izin berdasarkan peraturan daerah (Provinsi/Kabupaten). Ini berlaku untuk LKM kecil dan menengah - SM-LKM yang jumlah simpanan mereka dibawah batasan. Pada umumnya, mereka tidak perlu tunduk pada P&P berdasarkan prinsip kehati-hatian, tetapi para pemerintah Provinsi/Kabupaten mungkin mempersyaratkan bentuk P&P atau pengendalian yang lebih sederhana. Selanjutnya, ada bagian informil dari sektor KM yakni berbagai kelompok kecil (kelompok simpan pinjam, arisan ditingkat desa), dengan keanggotaan yang terbatas, tanpa adanya keinginan meluaskan jumlah anggota keseluruh penduduk desa. Sektor informil juga memasukkan berbagai kelompok simpanan dan kredit kecil bentukan NGO, replikator Grameen kecil-kecil, berbagai lembaga KM yang sangat kecil, berbagai LKM yang hanya menyalurkan kredit, dan LKM-LKM yang mendasarkan pemberian kredit kepada tabungan wajib. Sektor informil dikecualikan dari pengaturan Kerangka hukum baru. Kemungkinan terbesar bagi tercapainya penyempurnaan kerangka hukum adalah melalui pengeluaran Peraturan Pemerintah ditingkat nasional. Tetapi pertama-tama Undangundang Perbankan perlu dirubah untuk memungkinkan dikeluarkannya peraturan pemerintah yang menangani penggalangan simpanan oleh lembaga bukan bank. Kerangka kelembagaan dua tingkatan P&P tersebut sebaiknya sebagai berikut: Pertama, sebuah badan ditingkat nasional perlu dibentuk sebagai Badan Pengatur dan Pengawas Nasional (National Regulator and Supervisor) atau NRS. NRS ini akan memperinci garis pedoman bagi pengaturan, dan mendelegasikan pengeluaran peraturan yang sebenarnya kepada para pemerintah Provinsi, namun setiap rancangan peraturan pemerintah Provinsi wajib memperoleh persetujuan terlebih dahulu dari NRS (untuk memastikan adanya konsistensi secara nasional bagi pengelolaan LKM berdasarkan prinsip kehati-hatian). NRS juga mendelegasikan pengawasan L-LKM kepada badan (badan-badan) yang dianggap mampu (kemungkinan besar BPD). NRS juga menetapkan parameter simpanan batasan Rp200jt yang disarankan adalah terlampau rendah: sebaiknya Rp500jt atau Rp1m. Ditingkat Provinsi, perlu dibentuk Badan Pengatur dan Pengawas Provinsi (Regional Regulators and Supervisors) atau RRS. Peran wilayah. Kerangka hukum tingkat nasional memberi wewenang kepada pemerintah Provinsi dan Kabupaten untuk mengeluarkan peraturan yang mengatur kegiatan SM-LKM ini tidak perlu mendapatkan persetujuan dari NRS, walaupun pemerintah Provinsi dan Kabupaten mungkin mengikuti rekomendasi NRS mengenai kebiasaan terbaik. Oleh karena itu SM-MFI akan tunduk kepada semacam bentuk pengaturan. Secara umum, mereka tidak perlu tunduk kepada P&P berdasarkan prinsip kehatihatian karena sumber daya mungkin belum tersedia untuk keperluan ini. Tingkatan pengawasan/pemantauan/pengendalian dan penegakan akan tergantung pada peraturan Provinsi/Kabupaten. Paling tidak disarankan adanya semacam tingkatan pengawasan, pengendalian dan pemeriksaan langsung sewaktu-waktu, karena SM-LKM menghimpun simpanan masyarakat. Ciri-ciri khas window. Laporan ini menyediakan petunjuk tentang ciri-ciri khas L-LKM dan SM-LKM. Secara umum, L-LKM sebaiknya hanya diperkenankan menjalankan kegiatan operasionil didaerah pedesaan. LKM yang menjalankan kegiatan dalam window boleh membuka kantor cabang, dan menyediakan pelayanan KM standar seperti simpanan (deposito berjangka dan tabungan), kredit, dan L-LKM mungkin juga menyediakan jasa agen asuransi. L-LKM wajib beroperasi sebagai badan hukum. 83

87 L-LKM dan SM-LKM kedua-duanya akan melaksanakan tata kelola yang baik; termasuk disini memenuhi persyaratan uji kemampuan dan kepatutan (fit & proper test), menjalankan kegiatan operasionil secara independen (persyaratan untuk memperoleh izin operasionil sebagai SM-LKM tidak seketat untuk L-LKM). Peraturan dan pengawasan. Sebuah sistem P&P direkomendasikan untuk L-LKM. Secara umum, akan tergantung pada pemerintah Provinsi dan Kabupaten untuk menetapkan sistem macam apa yang dipilih bagi SM-LKM NRS akan menyediakan garis pedoman tentang pengelolaan berdasarkan prinsip kehati-hatian (yakni kebiasaan operasionil terbaik) bagi SM-LKM. Cara pendekatan adalah NRS merancang pendekatan P&P yang bertahap/bertingkat dari SM-LKM yang lebih luas dari hanya pendaftaran diri. L-LKM akan tunduk pada P&P berdasarkan prinsip kehati-hatian, dan merekomendasikan sistem yang mengacu pada model yang berlaku untuk BPR, tetapi dengan persyaratan yang lebih ketat. Peraturan BPR berasal dari peraturan yang berlaku bagi bank umum, sedangkan P&P L-LKM perlu mengikuti kebiasaan terbaik P&P LKM. Sistem yang direkomendasikan termasuk sebagai berikut: jumlah kecukupan modal (disarankan Rp200m untuk pembentukan L-LKM baru), rasio kecukupan modal 12% (BPR sekarang 8%), rasio kecukupan likuiditas 10% (BPR - >4%), dan batas maksimum pemberian kredit yang agak ketat, misalnya penetapan kredit terbesar untuk satu peminjam sebagai persentase modal = 5% (BPR 20%). Sebuah sistem perhitungan kolektibilitas/penyisihan penghapusan aktiva produktif direkomendasikan, berlandaskan kebiasaan internasional yang terbaik bagi LKM. Sebuah sistem penilaian tingkat kesehatan yang mengacu kepada CAMEL juga direkomendasikan, dengan penekanan pada kriteria evaluasi obyektif. Terakhir, direkomendasikan bahwa NRS mengeluarkan garis pedoman bagi kebijakan pemberian kredit yang sehat, untuk dapat dilaksanakan oleh L-LKM dan SM-LKM. Pengembangan kapasitas. Laporan ini merekomendasikan kebiasaan terbaik bagi pengembangan kapasitas. Persyaratan utama adalah bahwa pelatihan seharusnya memperkuat lembaga, daripada hanya tertuju untuk individu-individu tertentu. Pengawasan harus dipisahkan dari pengembangan kapasitas/penguatan kelembagaan. Dititikberatkan bahwa agar efektif, adalah sangat penting bahwa berbagai sistem pendukung itu berkesinambungan sebuah contoh yang baik adalah LSP LKM CERTIF yang memastikan kualitas standar pelatihan dan mengesahkan pencapaian standar profesi berdasarkan standar yang berlaku serta ujian yang independen. Ditingkatan yang praktis, penilaian sudah dilakukan untuk mengetahui badan (badan-badan) yang tepat untuk menyediakan pengembangan kapasitas bagi berbagai keluarga LKM. Untuk LPD, nampaknya sistem yang ada sekarang sudah cukup efektif (dukungan pada LPD dari PLPDK berdasarkan kabupaten). Untuk LDKP lainnya, BPD nampaknya mencampuradukkan pengawasan dengan dukungan. BKD memang memperoleh semacam dukungan pengembangan kapasitas dari BRI, tetapi belum tunduk pada bentuk pengawasan efektif manapun. BMT sedang dalam taraf membentuk asosiasi-asosiasi ditingkat Provinsi dan nasional untuk menyediakan pengembangan kapasitas, tetapi sedang menghadapi kendala dalam kecukupan sumber daya. Dampak keuangan. Dampak keuangan dari Kebijakan baru sudah diperkirakan. Biaya NRS didasarkan sebagian pada biaya yang dianggarkan BI dikantor pusatnya untuk keperluan riset dan pengaturan BPR diseluruh Indonesia. Diperkirakan bahwa biaya NRS kira-kira Rp5m per tahun biaya ini ditutup dari anggaran nasional. JIka NRS juga harus mengawasi L-LKM, biaya ini dapat ditutup dari biaya perizinan. Biaya yang mungkin dianggarkan RRS bagi P&P L-LKM didasarkan sebagian pada tingkat gaji karyawan BPD yang mengawasi LPD. Tingkat biaya itu tentu saja tergantung pada jumlah L-LKM yang diawasi. Diasumsikan sekiranya ada 700 L-LKM ditahun ke 3, maka biaya dapat mencapai Rp6,7m per tahun biaya ini juga sebagian atau seluruhnya dapat ditutup dari biaya perizinan. Biaya pengawasan atau pengendalian SM-LKM yang sudah ada sudah tersedia didalam sistem. Perkiraan kasar juga dibuat mengenai biaya untuk penyediaan pengembangan kapasitas biaya untuk 1 bulan, yang 84

88 didasarkan pada satu orang konsultan, kira-kira Rp6jt, sesuai dengan yang rata-rata dibayar kantor konsultan swasta setempat. Dampak jangkauan LKM. Perkiraan juga dibuat tentang kemungkinan dampak Kebijakan terhadap jangkauan berkenaan dengan (i) jumlah L-LKM (yang baru, dan yang sudah ada tetapi berubah wujud menjadi L-LKM), (ii) jumlah rumah tangga, dan (iii) agregat jangkauan dalam istilah keuangan. Tentu saja, asumsi yang berbeda akan menghasilkan perkiraan yang berbeda. Sebagaimana diulang dalam Laporan, tujuan pokok dari Kebijakan baru seyogyanya adalah pendirian baru L-LKM dan SM-LKM, daripada hanya melegalisasi LKM-LKM yang ada! Diasumsikan bahwa sesudah lewat 4 tahun, ada sekitar L-LKM diseluruh negara, 550 dari antaranya adalah konversi dari LKM-LKM besar yang sudah ada, dan 450 L-LKM baru. Ini sebanding dengan dampak PAKTO 88 dari 1988 hingga 1993, dimana jumlah BPR baru meningkat dari 423 menjadi 1.436, atau rata-rata 200 BPR baru per tahun (kami perkirakan sekitar 100 L-LKM baru per tahun). L-LKM baru didirikan oleh pihak swasta, berupa replikasi model LDKP (terutama LPD, BKK) dan sebagian besar diprovinsi-provinsi diluar Jawa dan Bali. Sehubungan dengan konversi dari LKM-LKM besar yang sudah ada menjadi L-LKM, sebagian besar akan datang dari LPD dan BMT (mereka yang ingin melayani masyarakat umum). Perkiraan tidak dibuat mengenai jumlah SM-LKM baru sesudah kerangka hukum yang memungkinkan selesai disosialisasi, dan dengan lewatnya waktu, maka besar kemungkinan banyak didirikan SM-LKM baru. Dengan modal dasar Rp200jt, L-LKM dapat menghasilkan laba cukup untuk beroperasi secara berkelanjutan dan hasil ini akan mendorong pihak lain untuk memasuki sektor. SM-LKM yang dikelola dengan baik juga dapat beroperasi secara menguntungkan. Dampak jangkauan rumah tangga. Berdasarkan jumlah L-LKM, statistik sensus nasional, dan ratarata jumlah nasabah per BPR dan LPD, berbagai perkiraan sudah dibuat tentang jangkauan untuk rumah tangga pedesaan. Diasumsikan bahwa secara rata-rata L-LKM akan mempunyai jumlah nasabah sebagai berikut: kredit 547, tabungan 1.915, dan deposito berjangka 164 (ini kelihatannya kecil, tetapi adalah rata-rata untuk BPR). Berdasarkan yang disebut terlebih dahulu, maka diperkirakan bahwa hingga pelaksanaan tahun ketiga, terjadi pencairan kredit per tahun sebesar Rp986m (kredit berjalan Rp493m), dengan jumlah rekening tabungan (Rp402m)) dan rekening deposito berjangka (Rp148m). Menurut penilaian jangka panjang sesudah 10 tahun maka dampak dalam jumlah nasabah pedesaan dapat menyamai tingkat nasabah jangkauan BPR sekarang sebanyak: 2,3jt kredit, 6jt rekening tabungan, rekening deposito berjangka. Pada pokoknya ini memperkecil kesenjangan permintaan/penawaran bagi jasa keuangan mikro pedesaan. Posisi persaingan. Secara umum, posisi persaingan menyeluruh LKM dibawah window rasanya tak mungkin dilanda dampak merugikan dari keterlibatan perlahan tetapi makin meningkat dari bank-bank umum dalam menyediakan pelayanan KM. Pada umumnya bank lebih suka beroperasi dipusat perkotaan. LKM-LKM besar yang ada yang beroperasi didaerah perkotaan, dan SM-LKM, akan menghadapi persaingan dari bank, tetapi mereka sedang menghadapi tantangan ini sekarang. L-LKM baru hanya boleh menjalankan kegiatan operasionil didaerah pedesaan, dimana jangkauan bank adalah terbatas. KSP/USP akan semakin dipaksa untuk hanya menangani para anggota, yakni bukan masyarakat umum. Berbagai strategi penting untuk memperluas jangkauan daerah pedesaan termasuk membangun LKM-LKM desa yang sudah ada sekarang, mendorong para pemerintah Provinsi untuk melakukan replikasi model LDKP yang sukses, dan mendukung penguatan kelembagaan. Penjaminan simpanan. Bank, dan oleh karena itu BPR, merupakan bagian dari sistem nasional penjaminan simpanan. Tingkat penjaminan simpanan sekarang adalah Rp100jt per pemilik dana. Anggota KSP/USP tidak termasuk sistem ini. Dalam jangka pendek hingga menengah, para pemilik dana dalam L-LKM juga bukan bagian dari sistem tersebut. Namun demikian, kebiasaan internasional terbaik menyarankan bahwa LKM yang menghimpun simpanan masyarakat perlu memberikan 85

89 semacam perlindungan kepada para pemilik dana, diluar yang diberikan P&P. Dalam jangka pendek hingga menengah, sebuah strategi dukungan kelembagaan direkomendasikan yang memiliki dua komponen: (i) pinjaman dari sebuah Fund yang tersedia untuk memberikan bantuan dana kepada L- LKM yang lemah, dan (ii) penyediaan pengembangan kapasitas untuk membantu L-LKM yang lemah. Dalam jangka panjang, dibentuknya sebuah sistem penjaminan simpanan sepenuhnya bagi para pemilik dana pada L-LKM perlu dipertimbangkan. Struktur kelembagaan. Laporan ini juga menitikberatkan kepada berbagai struktur kelembagaan yang perlu mendampingi window baru. Disamping NRS dan RRS, ini termasuk bank apex (lembaga keuangan apex), sekretariat nasional KM (untuk melaksanakan Kebijakan), sistem pendukung kelembagaan L-LKM (mungkin dilaksanakan oleh NRS dan lembaga apex), semacam sistem pendukung bagi SM-LKM, sistem pelatihan Certif, serta berbagai asosiasi, misalnya untuk L-LKM, untuk LPD, untuk BKD, untuk BMT, dll. Kebijakan dan Roadmap. Akhirnya, laporan ini mengkaji kembali berbagai unsur utama Kebijakan KM, dengan harapan merumuskan berbagai saran untuk dapat dimasukkan kedalam rancangan Roadmap. Banyak tambahan perlu dibuat bersangkutan dengan (i) pembentukan NRS, (ii) terlebih dahulu merubah Undang-undang Perbankan sehingga kelak dapat dikeluarkan peraturan pemerintah yang mengatur KM, (iii) menekankan kegiatan Roadmap pada pembentukan L-LKM dan SM-LKM baru (daripada hanya melegalisasi kegiatan LKM yang sudah ada), dan (iv) membedakan kedua komponen window ke 3 dalam L-LKM dan SM-LKM, serta menyediakan dua jalur pengembangan terpisah bagi mereka masing-masing. B. PERKENALAN DEFINISI & PENJELASAN 1. Pendahuluan Demi kejelasan, maka pada tahap awal ini kami akan menegaskan apa saja yang kami maksud dengan istilah pedesaan, window, kerangka hukum, batasan, dan implikasi dari pengawasan berlandaskan Provinsi. Ini akan membantu pembaca mengikuti konteks window sepanjang Laporan ini. Karena dianggap penting, maka sebagian dari yang tercantum dalam Bab ini diulang kembali dalam Bab-bab lain dari Laporan ini. 2. Definisi Pedesaan Laporan ini menyinggung istilah pedesaan dan perkotaan. Kedua definisi berikut digunakan untuk menerangkan kedua istilah ini: c. Badan Pusat Statistik (BPS) menggunakan rumus yang agak rumit untuk mengartikan pedesaan dari sejumlah besar kriteria termasuk kepadatan penduduk, akses pelayanan sosial, berbagai jenis kegiatan bisnis (misalnya apakah didaerah ini ada pertanian), akses pengangkutan, dll. d. kami menggunakan definisi yang berbeda dalam menentukan daerah operasi LKM. Kami mengartikan pedesaan sebagai seluruh daerah diluar ke 85 kota (ibukota Kabupaten dan kotamadya) dan 287 ibukota kabupaten. Lihat Tabel 11 dimana statistik pedesaan digunakan untuk memperkirakan jangkauan terhadap rumah tangga. Angka statistik BPS menunjukkan jumlah penduduk pedesaan sebanyak 58% dari keseluruhan 86

90 jumlah penduduk 211jt, sedangkan angka dari konsultan 60 (yang didasarkan pada definisi berbeda) menunjukkan 64%. Kami gunakan angka BPS untuk mengindikasikan pedesaan dalam memperkirakan jangkauan rumah tangga. 3. Tingkatan-tingkatan window ketiga Pada dasarnya, window ketiga terdiri dari dua tingkatan: c) LKM yang diberi izin berdasarkan peraturan nasional L-LKM. Ini mempunyai dua sub-komponen: (i) L-LKM baru, dan (ii) LKM-LKM besar yang sudah ada yang berubah wujud menjadi L-LKM (besar disini diartikan sebagai LKM dengan jumlah simpanan diatas batasan misalnya Rp200jt (lihat dibawah batasan ini terlampau rendah). L-LKM akan tunduk pada peraturan dan pengawasan berdasarkan prinsip kehati-hatian (P&P) sebagaimana diartikan dalam Kolom 1 dibawah. L-LKM yang sangat besar, dengan simpanan diatas batasan, misalnya Rp5m, diwajibkan mendapatkan izin operasionil sebagai BPR. d) LKM yang diberi izin berdasarkan peraturan Provinsi/Kabupaten. Ini akan diberlakukan bagi LKM kecil dan menengah SM-LKM dengan jumlah simpanan dibawah batasan. Secara umum, mereka tidak tunduk pada P&P berdasarkan prinsip kehati-hatian, walaupun pemerintah Provinsi/Kabupaten mungkin mempersyaratkan semacam P&P atau pengendalian yang lebih longgar. Catatan: bukan berada dalam window ketiga, tetapi dalam sektor KM, adalah sektor informil ini adalah berbagai kelompok kecil (kelompok simpan pinjam, arisan ditingkat desa), dengan keanggotaan terbatas dan tidak ada maksud meluaskan jumlah anggota keseluruh penduduk desa. InI juga termasuk berbagai kelompok tabungan dan kredit kecil bentukan NGO dan replikator Grameen. Persoalan disini adalah bahwa sebagian besar bukan lembaga. Mungkin sebagian kecil adalah lembaga, tetapi mereka sangat kecil terlampau kecil untuk memperoleh perhatian dari Pengawas manapun. Sementara tidak tunduk pada kerangka pengaturan khusus, maka undang-undang atau peraturan pemerintah tentang KM tidak akan membuat kegiatan mereka melanggar hukum (mereka akan dikecualikan dari setiap bentuk pengaturan). 4. Batasan Kebijakan menyinggung berbagai batasan, dan menyebut jumlah simpanan sebesar Rp200jt (US$20.000) diatas mana LKM wajib mendapatkan izin operasionil sebagai L-LKM. Berdasarkan sumber daya pengawasan yang keberadaannya sangat terbatas, maka tingkat batasan yang rendah ini akan terlampau berat membebani para pengawas Provinsi. Terlalu banyak L-LKM yang harus mereka awasi, karena sesuai dengan standar internasional, batasan yang disarankan oleh Kebijakan sangat terlalu kecil 61. Menurut studi ADB sebelumnya, diperkirakan bahwa batasan Rp500jt dianggap lebih wajar bahkan ini akan mengakibatkan keberadaan sekitar 700 L-LKM ditahun ketiga atau keempat sesudah diberlakukannya sebuah kerangka hukum yang memungkinkan. Barangkali batasan seharusnya Rp1m? Sebagaimana dilihat di Bab G, maka strateginya adalah bahwa Badan Pengatur dan Pengawas Nasional atau National Regulator & Supervisor (NRS), sesudah diberlakukan, akan mengkaji kembali lanskap KM, dan menetapkan batasan yang lebih sesuai, berlandaskan ketersediaan sumber daya Provinsi bagi pengawasan. Karena kesulitan dalam memperoleh keterangan, maka riset 60 Angka yang disebut konsultan berasal dari perincian statistik BPS yang diberikan kepada kelompok kerja Depkeu pada tahun Pada waktu itu. ProFi sedang menyediakan bantuan teknis kepada kelompok kerja Depkeu. 61 LKM yang sudah ada dengan jumlah simpanan Rp200jt, menandakan perkiraan jumlah aktiva Rp250jt, dan perkiraan modal Rp25jt (US$2.500). Ini batasan yang terlalu kecil untuk membuat P&P berdasarkan prinsip kehati-hatian menjadi efektif biaya atau berkepentingan bagi Pengawas. 87

91 untuk Laporan ini tidak dapat memberikan panduan berkenaan dengan tingkat batasan yang dianggap lebih sesuai. Oleh karena itu, bagi Roadmap, dibawah komponen P&P, salah satu kegiatan yang penting adalah menetapkan batasan jumlah simpanan yang sesuai dimana LKM wajib mendapatkan izin sebagai L-LKM. 5. Kerangka hukum Kerangka hukum ditingkat nasional perlu membentuk NRS. Lembaga ini akan memperinci garis pedoman bagi pengaturan dan mendelegasikan pengaturan kepada pemerintah Provinsi, tetapi peraturan yang mereka keluarkan perlu lebih dulu mendapat persetujuan NRS (untuk memastikan konsistensi diseluruh Indonesia bagi pengelolaan LKM berdasarkan prinsip kehati-hatian). NRS juga akan mendelegasikan wewenang menyelenggarakan pengawasan L-LKM kepada badan (badan-badan) yang dianggap memiliki kemampuan (besar kemungkinan BPD) ini tentu saja juga berdasarkan pemberian wewenang dari sebuah peraturan provinsi yang memungkinkan Kerangka hukum tingkat nasional akan memberi wewenang kepada pemerintah Provinsi dan Kabupaten untuk mengeluarkan peraturan tentang kegiatan SM-LKM peraturan ini tidak perlu mendapatkan persetujuan dari NRS, walaupun pemerintah Provinsi dan Kabupaten kemungkinan besar mengikuti rekomendasi kebiasaan terbaik dari NRS. Oleh karena itu SM-LKM akan tunduk pada semacam peraturan. Pada umumnya, mereka tidak tunduk pada P&P berdasarkan prinsip kehati-hatian karena kemungkinan besar belum tersedia sumber daya untuk keperluan ini. Tingkatan pengawasan/pemantauan/pengendalian dan penegakan akan bergantung pada berbagai peraturan yang dikeluarkan oleh pemeritah Provinsi/Kabupaten. Lebih disukai bahwa sekurang-kurangnya ada semacam tingkatan pengawasan atau pengendalian, dan pemeriksaan langsung sewaktu-waktu, karena SM-LKM menghimpun simpanan masyarakat. Kolom 1 Definisi: P&P berdasarkan /tidak berdasarkan prinsip kehati-hatian P&P berdasarkan prinsip kehati-hatian adalah berbagai peraturan dan kegiatan yang dianggap penting oleh bank sentral untuk memastikan bahwa semua bank menjalankan kegiatan operasionil secara sehat dan tidak menempatkan dana milik para penyimpan dalam risiko. BI misalnya menyelenggarakan pengaturan dan pengawasan BPR. BI, sebagai Pengawas, memberlakukan syarat perizinan yang ketat bagi BPR, memberlakukan peraturan pengelolaan BPR berdasarkan prinsip kehati-hatian (misalnya berkenaan dengan modal, likuiditas, penilaian aktiva), kewajiban menyediakan informasi bulanan secara terperinci, dan Pengawas memeriksa kebenaran informasi dan ketaatan terhadap berbagai peraturan melalui pemeriksaan langsung secara teratur. Sebagai tambahan, Pengawas memiliki wewenang untuk menegakkan peraturan, misalnya mencabut izin, merubah susunan pengurus, mengenakan denda dan sebagai upaya terakhir, melikuidasi BPR. P&P yang tidak didasarkan pada prinsip kehati-hatian biasanya terkait dengan kelonggaran dalam pemberian izin (seringkali hanya pendaftaran) dan syarat menyediakan informasi berkala. Sistem ini tidak disarankan bagi SM-LKM. Pemerintah Provinsi dan Kabupaten perlu mengeluarkan peraturan yang memberlakukan semacam bentuk pengendalian atau pengawasan kegiatan operasionil SM-LKM. Sistem yang lebih disukai adalah sistem P&P berdasarkan prinsip kehati-hatian yang lebih lunak/kurang ketat yakni perlunya izin untuk dapat beroperasi (izin perlu menetapkan beberapa standar minimum berkenaan dengan modal, pengelolaan), adanya kewajiban mengirimkan informasi keuangan secara berkala, dan para pejabat pemerintah Provinsi dan Kabupaten (atau BPD) dapat sewaktu-waktu mengunjungi SM-LKM untuk memeriksa kebenaran informasi keuangan dan memeriksa ketaatan terhadap berbagai standar/norma. 6. Implikasi P&P berlandaskan Provinsi Sebagaimana dikemukakan ditempat lain dalam Laporan ini, sementara dinyatakan bahwa L-LKM akan tunduk pada P&P berdasarkan prinsip kehati-hatian (pernyataan ini juga dikemukakan dalam Kebijakan KM), maka dalam kenyataan, dengan didelegasikannya pengawasan kepada pemerintah provinsi, P&P tidak akan seefektif yang diberlakukan BI kepada semua bank (bank umum dan BPR). 88

92 BPD lebih terbiasa membina LKM, walau disinipun sumber daya untuk kegiatan ini secara umum kurang memadai. Tak peduli yang tercantum dalam peraturan, barangkali kurang praktis untuk berpikir bahwa mereka selalu efektif bagi para pengawas dan penegak peraturan. Inilah mengapa perlu dibentuk penyisihan bagi sebuah skema pendukung kelembagaan L-LKM (semacam penjaminan simpanan tidak langsung lihat Bab M), dan mengapa diperlukan batasan atas (mungkin jumlah simpanan Rp5m) diatas mana L-LKM wajib mengupayakan izin operasionil sebagai BPR (jika mereka tidak mampu memenuhi syarat perizinan sebagai BPR, maka wajib menurunkan skala operasi mereka hingga dibawah batasan). Orang mungkin bertanya mengapa mengeluarkan izin operasionil sebagai L-LKM jika P&P kurang efektif dibandingkan P&P bagi bank? (orang bijaksana berkata; jangan memberi izin untuk apa yang anda tidak sanggup awasi). Orang mungkin berkilah bahwa yang diusulkan itu lebih baik dari sistem yang ada sekarang, dimana ribuan LKM beroperasi dalam suasana ketidakpastian dan tidak tunduk pada pengawasan samasekali atau tunduk pada tingkat pengawasan yang sangat buruk. Memang, akan gagalnya sebagian L-LKM dengan lewatnya waktu, dengan konsekuensi kerugian bagi para pemilik dana, adalah harga yang harus dibayar untuk meningkatkan jangkauan pedesaan. Betapapun, jumlah BPR sekarang sudah berkurang dari sekitar menjadi lebih sedikit penurunan sebesar 20% sesudah dilikuidasinya ratusan BPR dalam jangka waktu 5 tahun tetapi tidak seorangpun yang berkata bahwa industri BPR bukan keberhasilan yang besar (walaupun diakui bahwa para pemilik dana dari sebagian besar BPR yang dilikuidasi menerima ganti rugi dari program blanket depositguarantee yang dilaksanakan sesudah terjadinya krisis keuangan tahun 1997). 7. Keberatan para konsultan Konsultan merekomendasikan bahwa OJK (diuraikan dalam Bab N, seksi 1) sebaiknya menjadi NRS dari L-LKM, agar supaya mutu pengawasan setara dengan mutu pengawasan terhadap bank. Sebelum fungsi ini berada ditangan OJK, NRS perlu bertanggung jawab atas P&P dari L-LKM, dan ini dapat didelegasikan kepada badan (badan-badan) yang dianggap memiliki kemampuan. Oleh karena kemungkinan besar tidak tersedia badan yang memiliki kemampuan ditingkat Provinsi, maka NRS perlu mempekerjakan karyawan yang cukup banyak, dengan cabang-cabang dibeberapa Provinsi, agar mungkin secara efektif menyelenggarakan P&P L-LKM. Sebagai tambahan, untuk mencegah terjadinya arbitrasi pengaturan (besar kemungkinan LPD), maka KSP/USP juga wajib tunduk pada P&P ditingkat nasional oleh NRS, dan kelak OJK. Oleh karena itu, sementara para konsultan setuju bahwa P&P (atau pengendalian) yang tidak berdasarkan prinsip kehati-hatian perlu didesentralisasi ke pemerintah Provinsi dan BPD, mereka tidak setuju bahwa ini terjadi untuk L-LKM. Para konsultan beranggapan bahwa Kebijakan sudah mencari pemecahan yang cepat tetapi kurang memuaskan untuk menetapkan P&P L-LKM, daripada melakukan pendekatan sistem keuangan yang lebih menyeluruh tentang dampak pemberian izin operasionil kepada LKM-LKM besar yang menghimpun simpanan masyarakat (yakni sebagian besar berasal dari para penabung pedesaan yang miskin dan berpenghasilan rendah). Namun demikian, para konsultan, dengan perasaan was-was, akan mengikuti strategi Kebijakan yang mengasumsikan tersedianya badan yang memiliki kemampuan ditingkat Provinsi yang mampu menyelenggarakan P&P L-LKM. Catatan: Jika kebijakan yang lebih disukai adalah bahwa L-LKM tunduk pada P&P oleh NRS (kelak OJK) dilaksanakan, maka angka jangkauan dalam Tabel L-LKM untuk seluruh Indonesia diakhir tahun ke 4 hanya dapat tercapai jika NRS memiliki sumber daya yang cukup bagi penyelenggaraan P&P L-LKM yang demikian banyak

93 Q. RANGKUMAN: BERBAGAI SARAN UNTUK DIMASUKKAN KEDALAM ROADMAP Rancangan Roadmap yang lengkap sudah disiapkan oleh GTZ ProFi bersama dengan Bank Dunia. Bab ini hanya memusatkan pada topik-topik relevan untuk TOR para konsultan, dan merangkum berbagai saran yang sudah dituangkan dalam laporan untuk dimasukkan kedalam Roadmap. Tabel 14 Matriks: tambahan kegiatan untuk dimasukkan Roadmap bidang kegiatan Peran pemerintah Kerangka hukum kondusif kegiatan tambahan - saran-saran untuk dimasukkan Roadmap pastikan bahwa pendanaan dari pemerintah bagi P&P serta dukungan disediakan melalui berbagai asosiasi dan perantara lain, dan tidak langsung kepada LKM-LKM yang mengoperasikan window ke 3 merubah undang-undang perbankan untuk memungkinkan terbitnya peraturan pemerintah untuk menciptakan kerangka hukum bagi window ke 3 (dengan konsultasi bersama BI) pastikan bahwa kerangka hukum bagi window ke 3 memprioritaskan pendirian L-LKM baru didaerah pedesaan bekerjasama dengan Depkeu untuk merubah rancangan sekarang dari undang-undang OJK untuk memastikan bahwa OJK kelak bertanggung jawab atas P&P L-LKM P&P window ke 3 membentuk lembaga yang disebut Badan Pengatur & Pengawas Nasional atau National Regulator & Supervisor (NRS) untuk P&P L-LKM. Pendanaan berasal dari anggaran nasional pilihan: pertimbangkan kerangka hukum yang menjadikan NRS mempunyai tanggung jawab atas P&P dari KSP/USP yang sangat besar; kembangkan srategi untuk mencegah terjadinya arbitrasi pengaturan (untuk mencegah LKM-LKM besar yang melayani masyarakat umum berubah menjadi KSP, daripada L-LKM) NRS menetapkan batasan diatas mana LKM-LKM yang besar wajib mendapatkan izin operasionil dan tunduk pada P&P berdasarkan prinsip kehati-hatian, dan mengembangkan sebuah sistem P&P bertingkat yang beralih dari pendaftaran kepada P&P yang tidak didasarkan pada prinsip kehati-hatian (termasuk pengendalian/pengawasan), menuju pada P&P yang sepenuhnya didasarkan pada prinsip kehati-hatian NRS merancang sistem P&P berdasarkan prinsip kehati-hatian bagi L- LKM untuk diadopsi oleh pemerintah provinsi/kabupaten NRS merancang sistem P&P atau sistem pengendalian yang tidak didasarkan prinsip kehati-hatian bagi SM-LKM untuk dipertimbangkan oleh pemerintah provinsi/kabupaten atau pihak yang ditunjuk mereka (nominee) NRS dan RRS menetapkan strategi untuk pendanaan P&P dan pendukungnya, menilai kelayakan biaya izin tahunan L-LKM sebagai sumber pendanaan untuk P&P 90

94 dukungan untuk window ke 3 Kembangkan strategi-strategi yang terpisah untuk mempromosikan pengembangan kedua komponen dari window, yakni bagi: L-LKM SM-LKM NRS dan RRS mengembangkan mekanisme untuk melindungi para pemilik dana simpanan melalui bantuan pendanaan/teknis bagi penguatan kelembagaan L-LKM lemah pertimbangkan pembentukan penjaminan simpanan sepenuhnya dalam jangka panjang RRS dan BPDs mengembangkan suatu bentuk sistem pendukung kelembagaan untuk memperkuat SM-LKM yang lemah membentuk bank apex bagi industri KM. Pada awalnya ini hanya akan menjamin BPR, tetapi kelak kegiatannya diperluas ke L-LKM dan keluarga KM lainnya jika memungkinkan mempromosikan pengembangan asosiasi-asosiasi untuk L-LKM, BMT dan mungkin BKD, dan sumber pendanaan bagi pengembangan asosiasi-asosiasi ini, sehingga mereka mampu menyediakan penembangan kapasitas untuk para anggota mereka Promosi Keluarga: BKD Replikasi model LDKP Keluarga BMT menyelenggarakan studi kelayakan untuk menilai apakah industri BKD dapat direvitalisasi dibawah lingkungan kelembagaan yang berbeda, sehingga BKD yang sehat dapat mengembangkan produk-produk simpanan dan memperluas jangkauan mengembangkan sebuah strategi untuk melakukan sosialisasi kerangka hukum yang baru, sehingga pemerintah provinsi/kabupaten dapat mempromosikan pendirian L-LKM dan SM-LKM baru didaerahdaerah dimana mereka sekarang belum beroperasi atau belum beroperasi dengan sukses mengembangkan sebuah strategi untuk melakukan sosialisasi kerangka hukum baru kepada BMT karena banyak dari antara mereka yang sangat tertarik untuk beroperasi sebagai L-LKM Appendices end

95 Deutsche Gesellschaft für Technische Zusammenarbeit (GTZ) GmbH - Grman Technical Cooperation - Dag-Hammarskjold-Weg Eschborn / Deutschland T F E info@gtz.de I ProFI Jakarta Bank Indonesia Radius Prawiro Building, 2nd Floor Jl. MH. Thamrin No. 2 Jakarta Indonesia T + 62 (0) F + 62 (0) E gtzprofi@indosat.net.id I