Republic of Macedonia Macedonian Bank for Development Promotion Agricultural Credit Discount Fund BRINGING FINANCE TO RURAL PEOPLE MACEDONIA S CASE Efimija Dimovska EastAgri Annual Meeting October 13-14, 2010 Istanbul
I BACKGROUND The Agricultural Credit Discount Fund (ACDF) has been established in 2003 as a small autonomous unit under the auspices of the Ministry of Finance, with main objectives: to create a framework for a sustainable agricultural finance sector within the Macedonian banking system; to integrate the smallholder population in the banking system both as depositors and borrowers, and to reduce the risk to agricultural sector financiers through institutional and capacity building programs in support of sustainable commercial lending. ACDF was capitalized by an incremental credit line from an IFAD project, which was completed in 2007. Government of the Republic of Macedonia acknowledged the crucial role ACDF has played in the process of rural area development having in mind that provision of affordable and at the same time economically viable agricultural loans is a significant element in strengthening the rural economy and reducing poverty in the rural areas. Therefore, the Government of the Republic of Macedonia has reviewed the possibilities of identifying additional funds for providing low-interest loans for the agricultural sector. In 2007 the Government of the Republic of Macedonia brought decision to supplement the existing ACDF funds (from IFAD sources) with the revolving funds from the two World Bank Private Sector Development Loans (PSDL I and II), in order to increase the available funds for further agricultural crediting. Additionally, in 2008 the ACDF has taken over the responsibility for administration of the APEX Global Loan from the European Investment Bank, meaning new funds for the on-lending activities. Starting from July 1, 2010 ACDF has been operating within the Macedonian Bank for Development Promotion. II DESCRIPTION OF THE REFINANCING FACILITY The ACDF is administered as a discount or refinancing facility; i.e., participating financial institutions (PFIs), are eligible to draw down refinancing for a percentage of a sub-loan to qualifying beneficiaries at a rate of 80% that is set by the ACDF. PFIs are required to pre-qualify loans with the ACDF. PFIs pay interest for the discounted amount at a level of 0.5% annually that serves as a financial incentive for them to expand agricultural lending activity. The credit risk in on-lending operations is with the PFIs, which also provide a portion of the investment capital from their own funds (at least 20% of the loan amount). Each bank is allowed to apply their own lending policies to sub-loans (i.e., their own collateral requirements, repayment period, etc). Only the interest rates are defined in the Subsidiary Loan Agreement signed between the PFIs and the Ministry of Finance. Beneficiaries are required to contribute a minimum of 20% to the cost of the investment. PFIs will then repay the discounted portion of the sub-loan to the ACDF in constant EUR terms, and in
accordance with the repayment schedule set for the sub-loan. Individual subloans may also be indexed in foreign currency. ACDF strategy was the recognition of the family farm as the core entrepreneurial unit in the emerging market-oriented rural economy in Macedonia. By directing agricultural financial support to such it was expected not only to improve the standard of living of farm families but also to impact favourably on other rural poor without access to agricultural assets. Greater production entailed an increased labour requirement and contributes to absorbing new entrants to the labour force. Intensification of production has increased the demand for on-farm labour and suppliers of inputs, while increased output offered scope for private investment in processing and trading enterprises, thereby creating further employment opportunity and the means to enhance linkages in the rural economy. Three main categories of beneficiary were identified: rural/agricultural unemployed; poor agricultural households; and agricultural and other entrepreneurs in rural areas with their capacity to generate opportunities for incremental employment in the rural economy. The ACDF refinances a range of credit products including: - Primary production loans of max EUR 100,000 per borrower; - Agro-processing loans of max EUR 300,000 per borrower, and - Rural trading loans of max EUR 200,000 per borrower. ACDF activities are carried out in the whole territory of the Republic of Macedonia. Since the beginning of its operations ACDF has refinanced over 4700 loans in total amount of almost 48, 5 million EUR. This capital injection into the rural economy represents a substantial contribution to rural development from a scheme that has been fully operational for only six years. The overall amount of loans underestimates the total value of induced investment, since borrowers own equity contributions to the associated businesses are not included. III ACDF IMPACT Financial Institutions The provision of financial services to the rural and agricultural sector in Macedonia was rather limited until few years ago. The banks perception of the high risks in agricultural lending combined with high delivery costs and the profits enjoyed in lending in other sectors, inhibited formal financial services penetration into the agricultural financial market. Poor loan recovery with several donor-financed rural lending operations - compounds bank concern. Most banks had limited experience in dealing with small and medium-scale agricultural producers and their enterprises, and few trained staff to deal with rural clientele. In this environment, when the country s banks lend in the
agricultural sector, the borrowers tend to be large, commercial farming and agro-processing enterprises with well-established marketing channels for their products. One of the basic objectives of the ACDF was to create a framework for a sustainable agricultural finance sector within the Macedonian banking system, through the establishment of an agricultural re-financing facility. After six years of operation ACDF has achieved its major objectives, i.e. farmers and other rural entrepreneurs have become increasingly connected to the formal financial sector on a systematic and commercially viable basis. The appropriateness and success of the ACDF approach can be measured not only in terms of the absolute number and amount of loans refinanced, but also in terms of the wider effects induced among PFIs and the target population. The outreach of financial services expanded considerably, largely as a consequence of the ACDF. Nine PFIs now actively use the ACDF scheme to start their lending operations to small rural clients for the first time from their branch offices and have started to compete of clients by offering ACDF-refinanced loans. Sixty-three branches are now operated by the PFIs compared with 9 branches at the outset of the ACDF operations, while the number of locally based credit officers increased from 18 to 98. The expansion reflects PFIs growing involvement in the rural economy as a source of business and their greater confidence in the profitability of dealing with a rural client base. The enhanced competition in rural commercial lending led to reduced interest rates, easing of collateral requirements, improved and diversified access to financial services in rural areas, an increasing diversification of available loan products and quicker response times to loan applications due to the expanded branch network and increased autonomy in decision-making at branch level. This positive transfer of appropriate approaches to service delivery and products between banks is among the key measures originally identified for ACDF success. The achievement of the set objectives was a long process of joint cooperation between the financial institutions, ACDF, and other involved partners. A large number of activities were taken to overcome this situation. ACDF has organized and implemented significant number of capacity building and training programs for PFI staff, with a particular focus on loan appraisal techniques associated with farm business development and agro-processing enterprises. In total over 250 credit officers received training, contributing to the PFIs capacity to deal with rural customers and expand their branch networks. Training strengthened capacities in the PFIs to undertake an expansion of branch networks and develop agricultural lending in rural areas as a key area of their ongoing business. The excellent repayment rate (96%) of the ACDF refinanced loans is having direct effect on the increasing of the PFIs interest to expand their agricultural lending.
Today the financial institutions clearly see the potentials of the agricultural sector, as well as the effects from investing in it. Observing new, profitable investment opportunities in rural economies, various financial institutions have gradually started to lend also their own funds to rural projects, sometimes under new, specific products.this is pretty evident in the change of the loan portfolio of the financial institutions, where the share of the agricultural portfolio in the total portfolio is continuously increasing. For illustration, the combined agro-portfolio of seven of the PFIs in 2002 was a small EUR 6 mill., representing 1.3% of the total portfolio. At the end of 2007, this figure was EUR 90 million, which was 7.8% of the total outstanding loans. Beneficiaries The refinancing operation successfully reached smaller-scale, asset poor households through primary production loans, which together constituted 94% of total loans by number and 57% by loan amount. The ACDF s most obvious impact on the beneficiaries is the decrease of rural poverty in the period of its implementation. The outcomes from the regular monitoring and assessment show that the borrowers in the primary production develop their business and become economically stronger with the realized investments. They have increased their family business incomes by an average of 30% and their use of hired labor by 23%. The value of the assets and the equipment, as well as the production capacities, increases with the investment in equipment, livestock, installation and mechanization. The refinanced investments have in many cases contributed to modernization of the processing factory equipment and more generally, to re-structuring of the way the whole rural value chains operate with their suppliers, which are crucial factors for reaching higher quality product standards and for opening of new export opportunities for rural products. The ACDF also influences the unemployment rate by increasing the engaged labour at the farm and enterprise level. The very poor, including those without agricultural assets, gained access to seasonal employment arising from production increases, enhanced marketing and hence increased employment requirements for product handling, sorting and packaging at the processor level.
IV PROBLEMS ASSOCIATED WITH LENDING TO REMOTE RURAL BORDER AREAS The location of PFIs operations is to a large extent governed by the availability of PFI facilities for on-lending and the location of economically active farmers and entrepreneurs interested to develop their businesses on commercial terms. As observed in the case of ACDF, some parts of the country, particularly remote mountain border areas, which are one of the poorer areas, continued to be relatively under-represented. ACDF makes continuous analysis of the PFIs credit operations and policies on quarterly basis, particularly regarding: - Loan application and evaluation problems and constraints; - Rejected/approved loan applications by PFIs' credit committees (the most common reason for rejection of the loan applications by PFI's); - Length of loan applications processing; - Loan Recovery; - Portfolio quality. The received information form the PFIs can be summarized in the several types of problems they are facing in the process of providing loans to the rural clients in the mountain border area (some of these problems are applicable for other areas as well): - Profitability of agricultural and rural operations is poor and can t generate the cash flows needed for adequate debt-servicing; - High transaction cost: ex. average loan size of the ACDF primary production loans is EUR 6,190 and the typical client is a rural farmer difficult to be reached. Those types of loans are characterized by relatively very high transaction cost; - Poor road infrastructure and difficulties to reach the clients; - Collateral issue: Low value property, if accepted as collateral difficult to be sold if loan defaults. No property lists, no possibility to perform registration of collateral of right mortgage. Not defined ownership of the real estate property. - Difficulties in obtaining building permits for investments in production facilities: there are no detailed urban plans for the remote rural areas resulting with long procedures for transformation of agricultural land to construction land. - High real lending risk given that rural borrowers usually generate income from a sole source i.e. only agricultural production. - No documented trade between cross-border villages.
V CONCLUSIONS Can we take advantage of the ACDF s experience to address these problems? ACDF illustrates that with appropriate, tailored, commercially driven support measures in place, confidence of financial institutions in rurally based lending can be generated, including in the perceived high risk areas of lending to individuals in remote rural areas. The ACDF results also showed quite clearly that rural farmers and small-scale entrepreneurs are able to invest successfully on the basis of commercial borrowing and thereby markedly improve their incomes. Design of an appropriate subsidized financial product, targeting the rural population in border areas will be considered as one of the solutions to overcome the problems they are facing in obtaining finances for their investment. Collateral issues can be mitigated with an adequate government owned guarantee scheme. While initially offering incentives to all interested financial institutions to expand their rural operations, the longer-term objective of these interventions has been that the banks and other financial operators would increasingly start to consider rural small and medium-scale producers and enterprises as a part of their mainstream clientele that would in the future be served wholly with the banks own resources. In the short- to medium-term, the Macedonian Government s emphasis on rural development as part of the EU convergence process is expected to ensure that preferential refinancing rates continue to be available through ACDF to encourage higher levels of PFI investment in agriculture and related industries and serve rurally-based customers.