Supply versus Demand

 

SUPPLY LEADING FINANCE

(Source: Money & Banking in Papua New Guinea – Bank of Papua New Guinea)

 

Since the 1960’s, Papua New Guinea has pursued a supply leading approach to rural finance in line with the recommendations of the World Bank.

Under the traditional supply leading approach, the lack of credit is viewed as a constraint on development and justifies the provision of financial services in advance of an effective demand for them. The lack of demand undermines financial viability necessitating government or donor agency funding. Central characteristics of such an approach are the creation of a development bank, subsidised interest rates and selective credit policies to channel credit to priority areas. The supply leading approach places emphasis on (supply of) credit which, in Papua New Guinea, has been reflected in the many government schemes to increase its availability.  

Credit Supply vs savings Mobilisation

Since the 1990’s, this approach has been criticised for its overemphasis on credit supply to the detriment of savings mobilisation. Given that a fundamental problem facing many developing countries is the scarcity of domestic capital in relation to the size of the investment required to achieve desirable growth rates, efforts to raise savings should have received greater attention.

The supply leading approach introduced many initiatives to facilitate and complement bank lending.

These include:

·     Credit Guarantee Scheme – to reduce risks faced by commercial banks where the

·     government contributes 40%, borrower 20% and commercial bank 40% of total loan.

·     National Investors Scheme to provide funds for feasibility studies.

·     Rural improvement Program

·     Electoral Development Fund

 

There have been few specific government initiatives devoted to savings mobilisation. The savings and loans movement was one initiative explicitly designed to encourage thrift but after the movements initial growth the rural savings and loan societies fell rapidly into > decline and neglect.

The rapid expansion of bank agencies until the mid-1980’s was another initiative which failed to make any meaningful difference to rural savings habits.

 

Micro-Credit Schemes

The early to mid-1990’s were a difficult time for rural finance. The period saw the collapse of the savings and loan network, severe financial problems at the Rural Development Bank, the continued decline in the number of bank agencies and the increase in non-performing agriculture sector loans across all institutions following the collapse of world prices.

The World Bank (1997) noted that nearly three decades of public sector reform in rural financial intermediation had not fostered any sustainable institutions or improvements for small-holder credit.

The continuing need to find effective means of meeting rural financial needs has led Papua New Guinea to follow the example of Bangladesh and other South East Asia countries through the introduction of micro-credit schemes. These schemes differ fundamentally from formal banking in that they are directed towards developmental objectives and poverty alleviation not profit maximisation.

Yet other supply lead micro-credit schemes including the Liklik Dinau Abitore Trust and Women Credit Schemes failed to impact savings mobilisation.

 

The PNG Development Bank

Since the 1970’s, the Papua New Guinea Development Bank has offered four types of lending programs.

1. Short Term Hire Purchase for equipment and vehicles financing.

2. Large scale loans for commercial and rural development.

3. Small scale loans for agriculture development initiatives.

4. Mini loans for very small amounts to purchase outboard motors etc.

 

In addition to its lending activities, the Development Bank has been involved in its own project promotions through its projects division, established in 1974, as a venture capital type operation. The objective of the division was to identify, plan, fund and supervise viable enterprises which could be owned or managed by Papua New Guineans. It initiated a number of non-financial businesses such as cattle farms, piggeries, and a poultry processing project and obtained shareholdings in construction, supermarkets and car rentals.

The Rural Development Bank purchased a number of expatriate owned enterprises for resale to Papua New Guineans and, in 1974, it introduced the “Stretpasin Stoas Scheme”. The scheme involved the Bank purchasing trade stores for transfer to store managers once they proved themselves competent in running the business. This is arguably the most successful business scheme in PNG during the past 30 years.

However a principal factor undermining the Development Bank’s viability has been the maintenance of subsidised, constant nominal interest rates. A 1972 Report on Banking noted that concessionary interest rates were basically an inefficient form of subsidy and that it was difficult to ensure that the benefits flow on to those for who they are intended.

 

Supply Deficiencies

Deficiencies under the supply leading approach include:

1. Focus on supply of credit not on mobilisation of savings.

2. Supply driven approach in a demand driven business environment.

3. Dependency on external funding.

4. Centralized power to the supplier (and their agents) of funds, which led to the politicising of financial institutions and bureaucratic inefficiencies.

5. One of the persistent deficiencies in the banking system has been the limited availability of long term lending to small to medium sized Papua New Guinean enterprises and households.

This deficiency reflects both supply and demand factors and many government

schemes, such as Credit Guarantee Scheme and the Small Scale Business Credit Facility were designed to redress this problem.

 

Small Business Development Corporation

The most recent initiative is the Small Business Development Corporation (SBDC) with the support of the government. The scheme provides a maximum 80% guarantee coverage on loans obtained by small enterprises from participating financial institutions. In the event of default, the SBDC pays the loan liability of the borrower, in whole or in part. It will then step into the shoes of the bank or become a co-lender, by way of an assignment of the rights and interests on the loan and its underlying collaterals to be executed by the original lender in favour of the SBDC.

 

An important lesson from Papua New Guinea’s experience since independence is that structural or functional changes alone can do little to change the savings habits or increase credit demand. Both are conditioned by more than purely technical factors.

 

The supply leading approach is based on supply of money to mobilize people. It focuses on money and not people. This system is dependent on money to drive economic development.

Clearly the supply leading approach, after 30 odd years, has failed to mobilise domestic savings and failed to increase credit demand especially in rural areas. It is highly unlikely any supply leading approach can change the savings habits or increase credit demand in a demand driven system. According to the UNDP Poverty Report, PNG and its people are worse off today than pre-independence days.

Surely it is time to look in other directions to develop new innovative initiatives. PV HomeSchool is clearly one alternative.

DEMAND DRIVEN FINANCE

The demand driven approach is based on people development first to create demand for credit.

Without an entrepreneur class in PNG, it is highly unlikely that sufficient demand for credit can be generated in the micro or informal sector to sustain a micro bank. This means human development takes priority especially holistic human development. Holistic human development is about the development of a person, which includes the physical, mental, spiritual, emotional and financial. The accumulation and use of money is just one by-product of holistic human development where we teach financial literacy. Unfortunately, no other training institutions in PNG teach financial literacy.

 

The Grasruts Femili Moni Gaden

The Grasruts Femili Moni Gaden is an initiative of students of the EDTC Personal Viability Training Course (PV), which is also known as “Grasruts Yunivesiti” and which includes a component to teach people how to mobilise family savings.

It appears that this is the first time in the history of Papua New Guinea that grassroots people have initiated a commitment to mobilise family savings and to set up their own Grasruts Bank to satisfy the demand they have created by themselves.

The Grasruts Bank is clearly demand driven.

Another component of PV teaches people how to produce to satisfy family needs. This component is actually creating demand for credit. The PV Program, a demand driven system, was launched in 1996. The PV Program is a process whereby people of all ages and various education background, are given the opportunity to develop their own personal viability and to attain prosperity including self-reliance and financial independence.

Therefore, the PV Program has created a demand for a financial institution to cater for surplus savings of grassroots people and the demand for financial assistance when entrepreneurs enter the formal business sector.

The Grasrut Bank shall be 100% funded by domestic savings of grassroots people. It will be 100% owned by grassroots Papua New Guineans from 20 provinces.

This grassroots initiative is radically different to all existing supply leading institutions as it shall not seek external funding. However, assistance is required in the areas of banking technology, expertise and management.

 

8 key issues

The demand driven approach of the Grasrut Bank focus on 8 key issues:

1. Mobilisation of savings.

2. Entrepreneur and business development in communities. Lack of credit is not a constraint. Lack of demand for credit and lack of business viability are the constraints.

3. Commercial interest rates shall apply to all loans to ensure viability of the Bank.

Personal viability of entrepreneurs is a major factor contributing to arrears. In this situation, concessionary interest rates do not alleviate the problem of arrears.

4. A mechanism or process to provide quality control.

5. A national marketing and distribution system.

6. On going research and feasibility studies.

7. Supervision or extension services.

8. Entrepreneur training.

CRUCIAL PRE-FEASIBILITY FACTORS

It is our opinion that any organization that wishes to develop a sustainable financial institution to service the informal sector must create a conducive environment for sustainability first. The conducive environment includes:

1. Savings Mobilization.

2. Demand for credit.

3. Human assets.

After 9 years we have achieved 1 & 2 but we have not achieved 3.

The PV HomeSchool is designed to specifically develop human assets.

The PV Program continues to address these issues. In particular, the PV Grading system was designed specifically to develop and measure the viability of an entrepreneur as an asset.