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					         THE LAO PEOPLE’S DEMOCRATIC REPUBLIC
ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC




             Prepared by Mark Flaming of Frontier Ventures
                            15 March 2010




                         under contract with the

         Deutsche Gesellschaft fuer Technische Zusammenarbeit
   Microfinance in Rural Areas – Access to Finance for the Poor Project
                           GTZ/Bank of the Lao PDR
        ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC


1.   INTRODUCTION

This report presents the findings of an assessment of the legal, regulatory, and supervisory
framework that governs microfinance1 services in The Lao People’s Democratic Republic
(Laos). The assessment is carried out as part of the joint technical cooperation between the
German and Lao governments, with the objective of improving the framework for sustainable
financial services and access to financial services for poor households and micro, small and
medium enterprises.

The assessment is informed by a thorough review of laws and regulations (including decrees,
circulars, instructions and other forms of policy declaration), interviews with the regulatory
authorities, the relevant service providers such as banks, savings and credit unions, licensed and
semi-formal microfinance institutions (MFIs), and a review of off and onsite supervision
mechanisms in the Microfinance Unit of the Bank of the Lao PDR (BOL). The exercise is also
guided by the observations and priorities of BOL management with regard to access to finance
policy.

The document begins with a summary section that presents a succinct overview of the findings
and rationale for the different policy options. Chapter Three presents an overview of the relevant
laws, regulations and policy declarations that come to bear on microfinance services. The
following four chapters present a detailed assessment and specific recommendations for the four
sectors of services providers: commercial banks, deposit taking MFIs (DTMFIs), non-deposit
taking MFIs (NDTMFIs), and savings and credit unions (SCUs). The following chapter
summarizes other relevant industry infrastructure. And the final chapter deals with supervision
capacity in the BOL. Legal, regulatory and policy documents are cited selectively in the report
and a complete inventory of the documents consulted during the appraisal is included in the
annex.

2.   SUMMARY

2.1. Overview
The existing framework of policies, regulation and supervision establishes a sound foundation
for an inclusive financial system in Laos. The vision for a financial system that serves the entire
population with a diversity of sound and sustainable financial institutions is clearly articulated in
Government of Laos (GOL) policy statements (for example, PMO No. 273/2009). BOL
regulations reflect that policy vision with licensing options and regulations that enable
microfinance services across a range of service providers. And the BOL has specialized capacity
to supervise microfinance institutions. Laotian policy makers and regulators deserve recognition
for creating this foundation. It is similar to the vision and structure in many countries that have
strong microfinance industries.

At the same time, policy makers, regulators and service providers all voice their respective
concerns about various aspects of the framework, or lack of compliance with the framework,

1
 In this report, the work “microfinance” is used generally to refer to financial services for the lower income
population. The term may refer to services provided by any financial institution.


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                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
with the expectation that the situation can be remedied with modifications to existing regulations.
This appraisal is structured specifically to assist in identifying adjustments to current policy and
practice that will promote the development of the industry.

Every country with a robust microfinance                         The Timing of Regulation in Kampuchea
industry has passed through an evolution of its
                                                            The National Bank of Cambodia (NBC) issued its
regulation and supervision framework. In Laos,              first regulations (prakas) on the licensing of MFIs in
the adaptation process is rigorous for a particular         2000. By that time, a critical mass of microfinance
reason:                                                     organizations had developed strong management
                                                            skills, a viable business model, and had established
While Laos has adopted a generally sound                    long term relationships with foreign technical and
                                                            financial partners. This situation enabled the NBC to
access-to-finance regulatory framework, this                draft its first non-deposit taking MFI regulations with
framework has been established before the                   a clear view of the strengths and weaknesses of the
service providers have developed a sustainable              service providers as well as the trajectory of their
business model that is capable of significant               development. The MFIs continued to develop as
growth.                                                     non-deposit taking institutions until the NBC created
                                                            a deposit-taking MFI license in 2008.
Countries like Laos that issue regulations early in the development phase of the industry
typically have to make periodic modifications to maintain alignment between regulations and
market practice. The aforementioned concerns from policy makers and service providers are
simply an indication that further alignment is required. Towards this end, it is helpful to
distinguish between two areas where alignment is required.

     First, some of the most promising service delivery models are developing in directions
      that are not well supported, or are perceived to be unsupported, by existing regulation.
      This is the case with the commercial banks and the DTMFIs, and the issues can be
      addressed with relatively minor adjustments to regulations and policy.

     The second area is related to the organizations subject to the NDTMFI regulations.
      These organizations, the Village Development Funds (VDFs) 2, lack the resources and
      capacity to comply with basic reporting requirements or basic performance standards, and
      this makes them very difficult, if not impossible, to regulate and supervise effectively.
      This area requires a more fundamental policy decision between different options for
      regulating the sector.

2.2. Key Strategic Issues
The remaining chapters of this report treat the key regulation and supervision components in
detail. There are, however, several cross-cutting strategic issues that deserve mention here
because they have a profound influence on policy choices.

     The lack of public information on the financial market is likely the single most significant
      impediment to the development of the sector. Information about institutional
      performance, volume of services, numbers of customers, and pricing is critical for all
      participants in the market. Policy makers need this information to make good policy,

2
  The term Village Development Fund (VDF) will be used in the report to identify the community based revolving
funds that are known by many names in Laos.


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                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
       board members and managers need the information to benchmark their performance
       against the market, funders need the information to invest in strong institutions, and
       customers need the information to make informed choices. Even the most basic market
       information is unavailable in Laos.

    The current policy framework allows for a range of service providers. However, there
     are some policies that reflect a deliberate attempt to assign the different service providers
     to different segments of the market. While the intention of these policies and regulations
     is obviously to encourage the delivery of services to the poorer population, there is
     evidence that these policies are having the opposite effect. Some of these policies are
     restricting the institutions that have the best potential for leading the development of the
     microfinance sector. Less directive regulations would likely enable faster innovation and
     expansion of financial services to the poor.

    Both the analysis and recommendations presented in this report rely on a risked-based
     approach to the regulation and supervision of financial services. This approach assumes
     that the primary role of regulation and supervision is to ensure that financial institutions
     have adequate incentives and capacity to manage the risks associated with their business.
     The risk-based approach has been endorsed by the Basel Committee and by most
     regulators around the world because it facilitates a cooperative relationship between
     regulators and service providers that results in more effective risk management. It is also
     particularly well suited in a policy jurisdiction that also aspires to expand access to
     finance because regulations are designed to allow service providers to innovate and
     develop their business models. However, the risk-based approach can be challenging to
     implement where policy makers desire to direct the development of the market in specific
     ways. The challenge to policy makers, of course, is to define regulations that facilitate
     access to financial services without creating unintentional barriers that impede the service
     providers. This report aspires to identify ways to optimize the policy priority of
     expanding access with a risk-based approach to regulating the market.

2.3. Key Recommendations
This report presents detailed findings and recommendations related to a broad range of GOL
policies, BOL regulations and BOL supervision practice. The following summary is meant to
identify the sequence and relative importance of the key decisions.

     Engage service providers in a structured dialogue process around key policy
        decisions
This report presents recommendations based on analysis and comparison with other markets.
But these recommendations are only meant to be guidelines for decisions that should be worked
out in the Laotian context, between the regulator and the industry. The most positive force in an
emerging microfinance industry is a close working relationship between the regulator and the
service providers. Jacque Trigo, who was one the Superintendent of Banks during the early
period of the Bolivian microfinance industry, identifies this as the key factor in the development




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                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
of the Bolivian market.3 The Laotian market is now at the stage where the most efficient policy
and regulatory changes will be based on consultation.

      Enable the commercial banks to provide services at any level of the market.
At the present, the most capable and resourced financial institutions with emerging microfinance
operations are commercial banks. These banks have the capacity to play a leading role in the
development of the sector, with benefits for all organizations and customers. If the BOL
supports this development, clear communication with the banks will be the first important step.
A solution is also needed that exonerates microfinance operations from the interest rate spread
limit. In the medium term, the BOL will need to develop specialized supervisory capacity to
deal with bank microfinance operations.

      Enable the Deposit Taking MFIs to mobile resources and diversify services
The DTMFIs will likely require the same kind of foreign financial and technical support that has
catalyzed the development of other successful microfinance industries. Allowing foreign
investment in DTMFIs is an important first step in attracting strategic partners to Laotian
institutions. At the same time, the maximum loan limit should be adapted to enable the DTMFIs
to diversify their services as they develop capacity. This will enable the DTMFIs to serve
customers wherever they cannot access commercial bank services.

      Develop a risk-based approach to regulation of the Non Deposit Taking MFIs
The report outlines two policy options for a more practical and risk-based approach to regulation
of the Village Development Funds (VDFs). Both account for the challenges associated with
supervision of the VDFs and the limited promotional value of regulating the sector.

      Development of a career track for specialized microfinance supervision in the BOL
The BOL has a solid foundation for its specialized microfinance supervision capacity. Staff
training and staff retention will be key to developing this capacity as the sector grows.


3.   STRUCTURE OF RELEVANT POLICY, LEGAL AND REGULATORY
     INSTRUMENTS

The Laotian financial system is structured with a market-driven orientation that has evolved
since the launch of this policy direction in 1986. Beginning in 2003, there are a series of policy
statements and action plans, with endorsement from the Prime Minister’s Office (PMO), related
to the development of a sustainable rural and microfinance sector. These same policies are
integrated into the broader financial sector policy expressed in PMO No. 273/2009: Decree on
the Approval and Proclamation of the Strategic Plan on the Development of the Monetary-
Financial Institute System from 2009-2020. These policy statements articulate a clear vision for
a market-led financial system with a diversity of sound and financially viable service providers
that reach the entire population.


3
 Loubière, Jacque Trigo, Patricia Lee Devaney and Elisabeth Rhyne (2004). Supervising & Regulating
Microfinance in the Context of Financial Sector Liberalization: Lessons from Bolivia, Colombia and Mexico.
Report to the Tinker Foundation


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                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
The aforementioned decree reaffirms the general mandate and role of the BOL regarding
regulation and supervision of financial markets, as established in the Law on the Bank of Lao
(1995) and subsequent decree PMO No.40/2000.4

Banking activities are governed by Law No.3/2006: Law on Commercial Banks, and by a canon
of decrees, circulars, instructions, agreements, guidelines and regulations issued by the BOL in
its regulatory and supervision capacity.

It is equally important to acknowledge the body of PMO decrees that either affect the
implementation of existing laws, (for example, PMO No.275/2009: Decree on Implementation
of Commercial Bank Law) or address specific issues relevant to banking activities (e.g., PMO
No.55/2006: Decree on Anti-Money Laundering).

It is also relevant to note that the state-owned commercial banks (SOCBs) are also governed by
specific laws and regulations that are not treated in this appraisal.

Finally, the appraisal devotes particular focus to the three recent regulations that establish
licensing options for specialized microfinance service providers: BOL No.4/2008: Regulation for
Deposit-Taking MFIs; BOL No.2/2008: Regulation for Non-Deposit Taking Microfinance
Institution; BOL NO.3/2008: Regulation for Savings and Credit Unions.


4.   THE COMMERCIAL BANKING SECTOR

4.1. Overview
According to the IFC 2008 Lao PDR Financial Sector Diagnostic, the financial sector is
generally shallow with low levels of intermediation. Deposits were only 27% of GDP in
December 2007, and banks were still highly liquid, deploying only 38% of deposits in loans that
equaled only 11% of GDP.

The banking system has a mixture of public and private, local and foreign-owned banks: Six
foreign owned bank branches, four private or joint venture banks, three SOCBs and one non
deposit taking policy bank (Nayoby Bank) that is a promotional vehicle for GOL policies. The
SOCBs have suffered from chronic operational problems, poor repayment, inadequate
capitalization and regulatory forbearance. In addition, the Lao Postal Savings Institute (LPSI)
provides financial services to public sector employees, and operates under a special license from
the BOL.5

Banking infrastructure is sparse and limited to Vientiane and regional population centers. At 0.8
branches per 100,000 people, branch penetration is among the lowest in the world. At June 2008
(IFC 2008), there were 82 branches and 130 sub-service units. Banks estimated the current total
of ATMs at around 300 (vs. 59 in the 2008 IFC report), spread between non-interoperable

4
  Article 5.1 lists the following duty of the BOL: To administer and supervise the operations of commercial banks
and financial institutions under its supervision to ensure the stability and the development of the banking system and
financial institutions.
5
  BOL #11 of 16 Oct 2000. However, the LPSI is required to comply with the DTMFI regulation, BOL No.4/2008.


                                                        -5-
                             GTZ/Bank of the Lao PDR
          ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
systems. The BOL reports an expansion of money transfer services in 2008, with two agents of
Coninstar, five agents of Western Union and two agents of Money Gram. Data was not available
on service levels, however.

The BOL and the SOCBs have the widest branch network in the main provincial centers and
other financial institutions report that they have been able to use these branches for cash handling
between their own branches as they have expanded operations into the provinces.

Despite this generally limited sector capacity, a number of microfinance initiatives are emerging
in the commercial banking sector. Both Nayoby Bank and the Agricultural Promotion Bank
(APB) report to be issuing group loans in the K10 – 20 million (USD1200 – 2400)6 range. The
APB reports almost 100,000 clients organized in 13,100 groups in this program, as well as over
100,000 deposit accounts. ACLEDA, a Kampuchean bank with proven proficiency in
microfinance operations, was licensed in 2008 and reports 4500 borrowers and 7500 savers at the
time of the study in January 2010. Phongsavan Bank has also launched an aggressive micro
lending program and reports over 10,000 borrowers of loans less than K20 million, and 104,000
savings accounts. Finally, the LPSI reports over 14,000 savings accounts with an average
balance of K2.85 million (USD340) and 4100 loans averaging K9.9 million (USD1200).7

At this point in time, the commercial banks are uniquely resourced to play the leading role in the
development of the microfinance sector in Laos. The commercial banks possess capital,
liquidity, infrastructure and reputation to leverage into a viable business model for microfinance
services. Most importantly, they are capable of accessing technology and technical assistance
from foreign partners capable of supporting the development of best practice microfinance
service delivery.

This is not to suggest that all commercial banks are likely to move down market. But at least
two private banks are already. ACLEDA’s mother institution in Kampuchea is one of the most
successful financial institutions in the world with a large range of microfinance products and
customers. ACLEDA Bank Laos was launched to repeat that success in what ACLEDA sees as
a market with similarities to Kampuchea. Phongsavan Bank has also mobilized considerable
resources from foreign providers with specialized expertise and clearly aims to compete with
ACLEDA in the market currently unserved by other banks.

With such resources, banks like ACLEDA and Phongsavan will have several important effects
on the industry. They are likely to innovate quicker and expand faster than any of the specialized
MFIs. They are also capable of offering a complete range of savings, credit, payment and money
transfer services. If Laos follows a similar course as Kampuchea, the MFIs will benefit
significantly from the early success of the banks. The prestige of microfinance services will
increase with public awareness, institutions will imitate the good practices of their competitors,
and more quality human resources will be attracted to the sector.


4.2. Effect of Regulations Related to Microfinance Operations

6
    An exchange rate of K8,400 = USD1 is used to convert currency amounts, with some rounding.
7
    The LPSI provides services exclusively to salaried public sector employees.


                                                       -6-
                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
Regulations on commercial bank operations are generally conducive to microfinance operations,
with the notable exception of the interest rate spread cap. Although banks (and MFIs) routinely
require land as collateral, this is not a prudential requirement. BOL No.277/2007 specifically
authorizes banks to issue loans to individuals or groups using group guarantees. Loan
classification and provisioning requirements are clearly designed for more traditional
commercial loans and are not strict enough for microcredit operations. However, this does not
impede banks from making micro loans in any way. 8

The single but very significant barrier
to microcredit operations in
commercial bank regulation is the
limit on the spread between deposit
and lending rates. BOL
Announcement #111/2006 set that
limit at 5% per year. This is well
below the operating cost ratio of the
most efficient MFIs in the world, and
farther still from operating cost ratios
in the region. DTMFIS, SCUs and
even VDFs are charging in the range
of 4% per month. Even in a
relatively more developed market like
Kampuchea, the average annual
percentage rates on small loans is
between 30-40% per year (see graph). Deposit rates are less than 5 percent.

That micro loans are more costly to manage has been demonstrated in every market in the world.
And likewise, restrictions on interest rates have had the consistent effect of discouraging
financial institutions from providing credit to low income populations who require small
amounts.

Banks also report their perception that the BOL wishes to discourage banks from providing
services at the lower end of the market. There is no official policy statement to this effect.
However, banks perception of the intentions of the regulator are often enough to influence their
business decisions. BOL officials have expressed concern that competition with banks might
harm the DTMFIs and SCUs and that these specialized institutions need to be “protected” in
their early years.

4.3. Key Recommendations
The following recommendations derive from the assumption that the commercial banks are the
most likely driving force in the development of microfinance services in Laos. The following
actions would encourage and facilitate commercial bank development of microfinance services:


8
 Performing loans are < 90 days in arrears and subject to a 0.5% general provision. Substandard loans are 90-179
days in arrears and subject to a 20% provision. Doubtful loans are 180-379 days in arrears and subject to a 50%
provision. And loans greater than 380 days in arrears are classified as loss and provisioned at 100%.


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                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
      Clear communication from the BOL encouraging commercial banks to innovate and
       expand services to lower income groups;
      Elimination of the interest rate spread limit for microloans.


5.   DEPOSIT TAKING MICROFINANCE INSTITUTIONS

5.1. Overview
The DTMFI license is available to limited liability companies that have registered and acquired a
business license from the Ministry of Commerce.

There are currently four MFIs operating with the DTMFI license. The combined deposits and
portfolio of the sector are, respectively, K12.3 billion (USD1.5 million) and K10 billion (USD1.2
million); the largest has over half of the total amount.


                                                  # Member / client       Total deposits    Gross loan Portfolio
           DTMFIs
           Ekphattana DTMFI                                   1,230         3,941,945,325         2,753,355,250
           Newton DTMFI                                       2,764         1,400,208,000           900,481,000
           Saynyaisamphanh DTMFI                              5,953         6,964,705,701        6,440,137,397
           Champa Lao DTMFI                                     184             5,000,000                438,572
                                          Total              10,131        12,311,859,026       10,094,412,219
                                          (USD)                       $         1,465,698   $         1,201,716
           Lao Postal Savings Institute                      17,888        38,639,270,000        36,327,390,000
                                          (USD)                       $         4,599,913   $         4,324,689


The figures illustrate that the sector is incipient and the MFIs are still very young and small. By
comparison, LPSI has three times the deposits and portfolio of the four DTMFIs combined.
Phongsavan Bank’s small loan program has as many borrowers as the entire DTMFI sector.

BOL supervisory staff, as well as industry sources, express concern over the generally weak
management capacity of the DTMFIs. Information technology and accounting capacity is
reported to be particularly weak and problematic. Most of the DTMFIs are using a simplified
version of Microbanker and are unable to generate adequate management reports, or submit
reports in the standardized BOL format. One DTMFI manager stated clearly that the sector
needs access to foreign technical assistance to develop the management capacity required to
grow.

5.2. The regulatory framework
BOL No.4/2008: Regulation for Deposit-Taking MFIs establishes a generally adequate
framework for specialized deposit taking MFIs. The DTMFIs are shareholder based limited
liability companies, allowing for private investment. Licensing eligibility criteria and procedures
are well defined. Governance, management and operational requirements are also appropriately
defined. The K1 billion (USD120,000) initial capital requirement is low relative to the amount
that is actually required to launch a successful MFI, but it is on par with many other jurisdictions



                                                       -8-
                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
with healthy microfinance sectors. Very importantly, the loan classification and provisioning
requirements are aligned with best practice standards.

The DTMFIs are evolving and already struggle with aspects of the broader regulatory framework
that deserve attention. Most of these issues originate outside of the prudential framework. For
example, there appears to be some uncertainty about the appropriate classification of the
DTMFIs in at least two domains. First, the procedures for business registration (based on MOC
Announcement No. 0530/2002 and No. 0538/2002) distribute registration responsibilities for
different types of companies to Ministry, Provincial and District level authorities. It is not
immediately clear where DTMFIs fall in the classification. There may be several challenges
associated with uncertainty about where to register, but the main concern is the implication for
tax status. Tax status is determined by the Ministry of Finance. Currently the DTMFIs are
subject to a 35% net income tax9. Some industry members feel it should be lower.

There also appear to be challenges with tax authority regulations. The DTMFIs are struggling to
comply with regulations related to the structure of the chart of accounts and, most importantly,
the recognition of loan loss provisions as tax deductible expenses. The classification of loan loss
provisions as an expense is clearly defined for commercial banks in Article 8.0 of the BOL No.
6/2004. The same general principle and language is applied in the DTMFI regulation, and Part
VI clearly identifies provisions as expenditure. In any case, the treatment of loan loss provisions
and write-offs is a vitally important aspect of prudential regulation and this should be recognized
for tax purposes as well.

The main condition of the DTMFI regulations that merits further consideration is the restriction
of loan size to a maximum of K10 million (USD1200).10 This limits the ability of the DTMFIs
to diversify their portfolios, and this will have at least two negative implications for clients.
First, there is a sizable demand for loans greater than K10 million that is not met by commercial
banks. As the DTMFIs expand geographically, they would be able to serve more of the
unbanked population without this limitation. Secondly, DTMFIs will have a higher operating
cost ratio if they are limited to small loans, and this will result in higher interest rates for the
poorest borrowers.11

Some part of this restriction is no doubt driven by the legitimate concern about the capacity of
the DTMFIs to manage larger loans. This can be addressed, however, by simply limiting the
maximum loan size to a percentage of capital, as it is in Article 41 of the SCU regulation. For
example, a limit of 1% of capital would result in a K10 million limit on a DTMFI with the
minimum capital of K1 billion. The advantage to this is method is that the maximum limit grows
with the capital base, which is a reasonably good proxy for the capacity of the institution to
manage loan risk.



9
  Article 40, Tax Law
10
   This limit is embedded in the definition of a “micro-loan” in Article 2, although the clause also gives the BOL the
authority to change the amount from time to time.
11
   This can be observed in Kampuchea, for example. ACLEDA’s cost structure is much lower than the specialized
MFIs because ACLEDA has maximized economies of scale and scope. The MFIs have been focused on small credit
operations exclusively and they have not been able to bring their costs down to match ACLEDA.


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                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC

Finally, the single most important regulation that                   Foreign Investment in MFIs:
affects the potential of the DTMFIs is the prohibition         Comparing Kampuchea with Viet Nam
                                                           The benefits of foreign investment in MFIs can
against foreign investors, issued by the PMO in            be illustrated with a comparison of the
CPMO No.634/2009. Foreign partners have played a           microfinance industries in Kampuchea and Viet
catalytic role in the development of virtually every       Nam. Viet Nam has dedicated significant
microfinance industry in the world. Increasingly, the      resources to providing financial services
best of the technical and financial partners are           through its state-owned policy banks. The legal
                                                           and regulatory framework has discouraged
insisting on partnering as shareholders. This has had      private initiative and strictly limited foreign
significant benefits for MFIs in general: they require     involvement. In contrast, the Kampuchean
less start up funding, their strategic partners are more   government has provided neither strong policy
engaged and motivated, and their presence enhances         guidance nor resources to the development of
the credibility of the MFI and its access to other         the microfinance sector. Foreign investors
                                                           were allowed, however, and they provided
funding sources. Laotian DTMFIs aspire to reach the        abundant financial and technical resources to
level of their Kampuchean counterparts and to do this      Kampuchean MFIs. Consequently Kampuchea
they will need to access the same foreign resources        has a thriving microfinance industry, with MFIs
that fueled development in Kampuchea.                      that are comparatively more developed than in
                                                           Viet Nam. The foreign investors hold minority
                                                           strategic interests, and management of the
With the current restriction on foreign investment, the    institutions is dominated by Kampuchean
DTMFIs operate at a significant disadvantage to the        nationals.
commercial banks. The DTMFIs will likely need the
resources of foreign partners if they are to develop the capacity to expand the scope and scale of
services. Moreover, the importance of the DTMFI license will increase significantly as the
minimum capital requirements for commercial banks is raised from K100 to K300 billion
(USD11.9 to 35.7 million). When that occurs, the DTMFI license will be the only vehicle
accessible to a specialized institution that aspires to serve the lower end of the market. Making
the DTMFI license more flexible will allow those institutions to fill any part of the gap left by
the commercial banking sector.

5.3. Key Recommendations
The following recommendations support a strategy for enabling the DTMFIs to mobilize the
necessary resources to expand their operations and compete with the commercial banks at the
lower end of the market.
     Allow foreign investment and ownership of DTMFIs;
     Clarify the status of loan provisions as a deductible expense for tax purposes; and,
     Replace the current maximum loan size of K10 million with a limit on maximum loan
       exposure to 1 percent of capital.


6.   THE NON-DEPOSIT TAKING INSTITUTIONS (Village Development Funds)

6.1. Overview
The NDTMFI regulations were issued to govern the numerous village development funds
(VDFs) that are wide spread throughout the country. There are an estimated 5,000 VDFs in
Laos. In its various forms, the VDFs are identified as a fundamental part of the GOL’s policy
initiatives for addressing poverty in general and rural development in particular. They have been



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                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
funded, promoted and supported by a wide range of donor agencies, ministries, organizations and
associations.

The VDFs are village based organizations that manage their own savings and credit fund; some
borrow funds or have received start up grants from a support organization. They are managed by
a management committee comprised of local leaders. The VDFs are semi-formal organizations
in the sense that they are typically granted permission to function by some level of Laos’
decentralized authority structure – at the village, district or provincial level. Few if any of the
VDF’s have registered at the ministry level or with the tax authorities. Only six have been
registered as NDTMFIs by the BOL.

The NDTMFI regulation authorizes the VDFs to carry out “microfinance activities” that are
more narrowly defined than for the licensed DTMFIs or SCUs. Specifically, the NDTMFIs may
extend micro loans and accept “compulsory deposits.” In addition, the regulation allows the
NDTMFIs to accept up to K200 million (USD2,400) of “voluntary deposits,” which are
distinguished by the ability of the depositor to withdrawal on demand. In the universe of 5000
VDFs, an estimated 400 have mobilized deposits in excess of K200 million. About 15 VDFs
have reached K1 billion (USD120,000). However, the question of whether these are
“compulsory” or “voluntary” deposits are in practice difficult to answer. This issue is very
relevant to the BOL’s options for regulation of the VDFs, and it is discussed in detail below.

The NDTMFI regulations require any organization that carries out microfinance activities to
register under the regulation. There is no specific requirement for the type of legal organization,
nor is there a minimum capital requirement. Licensed NDTMFIs are subject to regulations,
reporting requirements, various operating and organizational requirements, and annual on-site
supervision. The failure of the VDFs to comply with the NDTMFI regulations is indicative of a
number of challenging conditions that are recognized by the BOL as well as the network support
organizations (NSOs)12 that support the VDFs.

One of the most revealing conditions is the lack of any reliable data on the VDF sector. The
NSOs readily recognize that they themselves lack confidence in any numbers they collect from
their associated VDFs. The BOL Microfinance Unit supervision staff has similar concerns about
the NDTMFIs they examine. This is a reflection on the capacity of the VDFs, their isolation, and
on the inability thus far of the NSOs to significantly improve the situation.

The weak management capacity of the VDFs is widely recognized. Management Committees
often lack the necessary skills to manage the VDF. Moreover, their governance structure is
deeply rooted in political and social realities of the village and therefore decisions about who
borrows and when loans get repaid and how much money the Management Committee spends
are ultimately subject to local social dynamics.

The VDF’s also appear to be universally reluctant to acknowledge the authority of the BOL and
the NDTMFI regulation. The Prime Minister’s Office clarified the authority of the BOL to issue

12
  The term “network support organization” (NSO) will be used to refer to all of the organizations or associations
that support VDFs. This term shall include, for example, the Lao Women’s Union (and its partner organizations
CODI and FIAM) and the GTZ-supported associations.


                                                       - 11 -
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
regulations, and instructed all political authorities to observe that authority, in PMO No.5/2007.
Despite this clarification, the VDFs are not registering with the BOL. And local authorities do
not appear to be enforcing compliance with the BOL regulations.

These problems associated with VDFs are not unique to Laos. VDFs struggle with similar
problems wherever they exist, for the same reasons that can be observed in Laos. The isolation
and de facto autonomy of VDFs makes any kind of technology transfer or outside supervision
inherently difficult. The isolation also reduces the options for efficient intermediation. A village
of net savers, for example, cannot easily lend their surplus to net borrowers. This distorts saving
and borrowing decisions and prices.

The autonomy of the VDF also limits the capacity and, ultimately, viability of any NSO that
aspires to support a large network of VDFs. In the VDF model, the NSOs have limited
opportunities for earning intermediation margins or fees from the VDFs and therefore the NSOs
themselves struggle to achieve a sustainable business model. For these reasons, NSOs often
struggle to build the capacity, or maintain sufficient credibility, to adequately support a network
of VDFs. In contrast, a financial institution that takes deposits and lends to village based
solidarity groups is typically able to earn enough revenue to support an adequate management
infrastructure.

6.2. Regulatory Issues and Challenges
The view is widely held throughout the industry that the NDTMFIs regulations are not
adequately adapted to the VDFs. This view is often voiced with the corresponding expectation
that adapting the regulations would somehow result in better compliance and more effective
regulation of the VDFs. This assumption deserves careful scrutiny, however. Given the nature
of the VDFs, it is highly unlikely that prudential regulation and supervision could ever improve
the safety or the performance of the VDFs in sufficient measure to justify the enormous cost that
would be associated with the effort. More importantly, the vast majority of the VDFs are not
engaging in a form of financial intermediation that merits prudential regulation. The evidence
and rationale for this conclusion merit careful explanation.

The VDFs have inherent weaknesses: poor management capacity, weak governance, and
geographic dispersion. And these weaknesses undermine their capacity to comply with even
basic regulation, reporting requirements, or supervision. For example, the NSOs that support the
VDFs comment that aspects of the NDTMFI chart of accounts or reporting formats “do not fit”
the common practices of the VDFs. But this is more a reflection on the poor accounting and
management skills of the VDFs. The chart of accounts and reporting formats of the BOL use
very basic accounting conventions. The VDF’s struggle to accommodate them because they do
not have the ability to produce basic financial statements or performance reports. Likewise,
concern about loan classification and provisioning regulations are more a reflection of the
undisciplined repayment management of the VDFs, rather than the regulations. The widespread
lack of repayment discipline in the VDFs would make compliance with the BOL loan
classification and provisioning regulations very costly. The provisioning expenses would likely
eliminate any dividend payment on member shares.




                                               - 12 -
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
There also appear to be significant challenges with enforcing VDF compliance with regulation in
general. All existing VDFs have been granted permission to operate from some local level
authority. To date, almost all of the VDFs have ignored, or are unaware of, the PMO instruction
confirming the authority of the BOL and the requirement of all VDFs to register as NDTMFIs.

These conditions impose significant costs on any attempt to supervise the VDFs. The human and
financial resources required would already be extremely high. But there is also a hidden political
cost as well. The credibility of the regulator can easily suffer as large numbers of the VDFs fail
to comply with regulation. This undermines the moral authority of the regulator by establishing
a widespread precedence of non-compliance that may encourage similar behavior from other
regulated institutions.

The conclusion of this analysis is that a traditional approach to enforcing regulation through
supervision is likely to generate high costs and frustration for the regulator, with little
improvement in the compliance and performance of the VDFs or the protection of their
members.

Moreover, the vast majority of VDFs conduct activities that are not, in most jurisdictions, subject
to prudential regulation and supervision. Informal or semi-formal savings and loan groups exist
in various forms all over the world and they are typically not subject to regulation in large part
because these organizations are simply a collection of members who are directly involved in the
management of their own funds. Even when these groups also receive funding from external
sources, they still don’t intermediate deposits in a way that warrants prudential regulation.

Even though the NDTMFI regulations make a clear distinction between “voluntary” and
“compulsory” deposits, it is unlikely that this distinction can be applied in a practical way to the
VDFs. There is no reliable information on VDF activity, so the nature of the contract with the
VDF members, and what occurs in practice, cannot be verified. However, what is known about
the VDFs is that repayment of loan principal is often extended indefinitely or at least without
regard to the initial loan agreement. This means that the deposits which fund those loans cannot
be repayable “on demand.” In practice, some VDF members deposit their money and some
member borrow the money and the determination of when the loan gets paid back and when the
depositor can withdrawal is worked out by the management committee with the members.
Therefore, the key question to consider here is whether the VDFs are capable of making a
“voluntary” deposit any more liquid (accessible on demand to the member) than a
“compulsory” deposit.” The evidence available on the VDFs suggests that most of them are not
capable of this level of liquidity management. But even more importantly, it is highly unlikely
that the regulator would ever be able to monitor the liquidity management capacity of the VDFs
with enough accuracy to make a meaningful distinction between compulsory and voluntary
deposits.

The NSOs operate under various legal mandates. Most NSO activities are not subject to
prudential regulation. Technical support to the VDFs and even lending to the VDFs do not
involve intermediation of public deposits. However, at least two of the GTZ-supported NSO
associations have registered as NDTMFIs themselves in an attempt to gain formal recognition
from the BOL. The GTZ-supported NSOs actually intermediate surplus funds between VDFs



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                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
and this intermediation may in fact merit supervision. Unfortunately, the NDTMFI regulation is
not well suited to NSO activity.

6.3. Recommendations For A Risk-based Approach to Regulation of the VDFs
The foregoing analysis provides the BOL with a technical justification for a reduction in the
regulatory and supervisory regime for the VDFs. Two options are presented below.

 Option 1: Elimination of Registration and Supervision of NDTMFIs
In a strictly risk-based approach to prudential regulation, the most practical way to deal with the
VDFs would be to change the NDTMFI regulation and eliminate any requirement for registration
or supervision by the BOL. This study supports this option with two main conclusions. First,
that the supervision of the VDFs is costly and ineffective because of the limited capacity of the
VDFs. It is unlikely that any outside regulator could ever protect the interests of VDF members
better than the VDF members are able to protect themselves. And secondly, that the VDFs are
not intermediating deposits in a way that warrants prudential regulation.

In addition, any reference to “voluntary deposits” should be removed from the regulation. The
NDTMFI regulation could state explicitly that any organization may manage the compulsory
deposits of its members and lend to its members. This would clarify that the VDFs are not
intermediating demand deposits and that their members are solely responsible for the
management of their own funds. The regulation could even go farther and prohibit any promise
of withdrawal on demand or the payment of interest, only allowing the distribution of net income
as dividends. In fact this is currently the most common practice.

In addition, Art. 14.3 could be modified to establish a maximum amount of total deposits that a
VDF can manage before it is required to apply for either a DTMFI or a SCU license. There
would be clear justification for an amount of K1 billion. At this size, the VDF would have
enough funds to meet the minimum requirements for a DTMFI or an SCU. Equally important,
this limits the BOL’s responsibility to a manageable number of newly licensed MFIs.

In contrast, Art. 20 (b) which mandates NDMFIs to convert to a DTMFI or SCU when revenues
exceed K1 billion seems unnecessary, since this limit is not related to any prudential concern
about deposits.

The main advantage of this approach is that it establishes a more practical criterion to distinguish
which kinds of institutions require prudential regulation and supervision to protect their
depositors, and which institutions do not. It also enables the BOL to focus its resources
exclusively on the supervision of the DTMFIs and SCUs. This uses regulatory resources to
manage the most significant risks in institutions that are capable of complying with regulation
and supervision requirements. This might appear to abandon the possible promotional effects of
registering the VDFs. However, in its current form, the NDTMFI regulation does not appear to
have a promotional effect. In fact, the refusal of the VDFs to recognize the authority of the BOL
nullifies any benefit of the NDTFMI regulation and simply undermines the authority of the BOL
in its primary role as the prudential regulator.




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                             GTZ/Bank of the Lao PDR
          ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
In summary, this proposal to eliminate any registration and supervision requirements in the
NDTMFI regulation solves a political problem for the BOL and drastically reduces supervisory
costs, with little if any adverse impact on the VDF sector. But the rationale is not merely
practical, and it does not abandon the VDFs or its members. The proposal is based on the main
conclusion of this appraisal that enforcing compliance with the current NDTMFI regulations is
not ever likely to have any significant beneficial impact on the VDFs or add any protection for
its members. The recommendations below regarding the NSOs are designed to enable these
organizations to play the primary promotional role in developing the VDFs.

 Option 2: Simplification of the NDTMFI regulation
If, however, the GOL determines that some sort of official registration with the BOL is required,
then recommendations for how to adapt the NDTMFI regulations for this purpose are offered
below.

The third pillar of the Basel Core Principles – disclosure and transparency – provides the
foundation for a market-based approach to regulating the VDFs as NDTMFIs. The strategy of
this approach is to maximize the ability of the members to exercise their own control over the
management of their VDF. In simple terms, the most effective regulatory regime for the VDFs
would consist of three components:
     a simplified annual report to the BOL13;
     regulations that require the Management Committees to report to their members, and,
     A mechanism for public disclosure of which VDFs are complying with the regulations.

This approach would focus the role of the BOL on three main activities related to the NDTMFIs:
     Registration of the NDTMFIs.
        The current registration procedures in the NDTMFI regulations are adequate for this
        purpose.
     Collection of annual reports from the NDTMFIs.
        For this purpose, the current reporting formats could easily be reduced to a single page
        consisting of a simple balance sheet and income statement, a summary of number of
        members, and a loan report.
     Public dissemination of key information that will enable any stakeholder associated with
        a VDF or NDTMFI to exercise their voice regarding the management of the
        organizations. The BOL can obviously use its website for publishing information. But
        the BOL can also likely make creative use of other television or radio communication
        channels more likely to reach the members of the VDFs and NDTMFIs, their
        management committees, the NSOs, and the local authorities. In any case, the basic
        information for disclosure would be:
            o A list of which VDFs have complied with their legal obligation to register as an
                NDTFMI;
            o A list of NDTMFIs that have complied with annual reporting requirements;
            o The average interest income ratio (interest income/average assets);
            o The average expense ratio (expenses/average assets);
            o The average dividend payout


13
     See Annex II: Non Deposit Taking MFI Annual Report Format


                                                    - 15 -
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
The same recommendation presented in Option 1 to eliminate any reference to “voluntary”
deposits applies to this option as well, for the same reasons. Likewise, the obligation to apply for
a DTMFI or SCU license should be set at K1 billion of total deposits.

Like in Option 1 Art. 20 (b) which mandates NDMFIs to convert to a DTMFI or SCU when
revenues exceed K1 billion seems unnecessary, since this limit is not related to any prudential
concern about deposits.

 Recommendation: Formalization of the role of the NSOs
Regardless of which of the first two options are selected for the NDTMFI regulations, the BOL
can clarify the regulatory status of the NSOs with significant benefit to the sector.

At a minimum, the regulatory status of the NSOs that intermediate funds between VDFs should
be clarified. There is reasonable cause for supervising this activity, since it involves the deposits
of members of the VDF who likely cannot control the investment decisions of the NSO. The
DTMFI license could be appropriate, if it can be made to accommodate the ownership structure
of the NSOs.

If the NDTMFI regulation is retained in the form described in option two, then it is in the interest
of the BOL to enlist the support of the NSOs in assisting the VDFs with compliance with the
regulation. For example, if the NSOs do become subject to BOL regulation, the BOL could
mandate that they only work with VDFs that are in compliance with the regulatory regime.

7.   OBSERVATIONS ABOUT SAVINGS AND CREDIT UNIONS


7.1. Overview
BOL NO.3/2008 establishes a complete regulatory framework for savings and credit unions
(SCUs). The regulations appear to be modeled on conventional SCU laws and regulations, as
they address all the necessary areas of licensing, corporate governance, operations, and reporting
operations.

As of January 2010, eleven SCUs are licensed by the BOL. As the table indicates, the sector is
comprised of very small organizations, with combined assets of K13.5 billion (USD1.6 million).
                                              # Member /   Registered                       Shareholder                        Gross loan
     Savings and Credit Unions                                              Total assets                    Total deposits
                                                 client     capital                           capital                           Portfolio
     Rural Development Cooperative
                                                    971     200,000,000     4,033,199,453    388,186,282    3,263,026,584     2,795,420,250
     Naxaythong
     Credit Cooperative for the Support of
                                                    580      50,000,000      793,287,561      41,038,208       83,498,073      528,180,232
     Small Production Units
     SCU Vientiane                                   402      35,000,000      417,376,428      68,210,200     111,858,089       252,841,000
     SCU Seno                                      1,799      14,400,000    3,159,919,793     808,000,000     140,750,962      1,926,695,095
     SCU Laung Phrabang                              854      44,690,500      748,394,949     156,970,000     284,317,637       609,717,343
     SCU Thakhek                                     125     104,000,000      556,950,113     121,800,000     413,792,500       513,600,000
     SCU Houamchayphattana                           609     147,400,000      439,717,025     186,300,000      87,989,000       997,604,000
     SCU Paksong                                   1,296     299,800,000    1,480,363,255     811,000,000     287,055,000     1,295,067,000
     SCU Huasae Chalearn                             375     271,000,000      455,175,013     260,581,418      85,000,000       341,812,494
     SCU Thoulakhom                                  665     495,062,028      788,597,299     379,272,000     265,790,000       266,906,500
     SCU Mittaphap                                   359     219,188,000      624,106,552     451,158,000               -       936,500,000
                                     TOTAL         8,035   1,880,540,528   13,497,087,441   3,672,516,108   5,023,077,845    10,464,343,914
                                      (USD)                      223,874        1,606,796         437,204         597,985         1,245,755




                                                                   - 16 -
                          GTZ/Bank of the Lao PDR
       ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
The SCUs are subject to a minimum capital requirement of K100 million (USD12,000). Their
operations are governed by guidelines and reporting requirements that are similar to the
DTMFIs, except that SCU may only provide services to members.

The SCU regulations are particularly robust regarding internal audit controls and the rights of the
members to hear periodic financial reports. This could serve as a model for a similar but
simplified version for the NDTMFIs.

The SCU regulations also link the maximum loan size to capital in a manner that could adapted
for the DTMFIs. Article 41 of the SCU regulations limits the total loan exposure to any member
to a maximum of 10% of total capital. For an SCU with the minimum capital of K100 million,
the maximum loan size would be K10 million, which is the same as the absolute maximum for
the DTMFIs. However, the maximum for the SCU will increase as capital increases from
retained earnings.14

One manager in the industry reported that SCUs are not allowed to provide demand savings
accounts, that is, savings accounts that bear no interest and that may be withdrawn on demand.
The regulations do not explicitly prohibit this practice, however.

The SCU regulations provide a traditional regulatory and supervisory framework for the SCU
sector. The challenges the SCUs face are institutional and are not related to regulation. The
institutions themselves are very small, and they suffer from the same weaknesses that very few
SCUs in developing markets overcome. Since they are member organizations, they cannot
attract investors that bring management and technical expertise. They lack the resources to hire
good managers or pay competitive salaries. And because they are confined to servicing their
members, they have limited ability to grow and expand into new markets. These conditions are
not unique to Laos, but they will likely have the same effect in Laos as they do in many other
countries.

7.2. Key Recommendations
The main recommendation regarding the SCUs is to increase the initial capital requirement.
Ideally, it would the same K1 billion that applies to the DTMFIs. If that is not possible, a
minimum of K500 million might be effective enough. The higher minimums will reduce the
workload of the BOL and limit the licenses to institutions that are large enough to comply with
regulation and supervision.

The higher minimums are also more aligned with the risk-based approach proposed for the
VDFs. On a practical level, there is likely little significant difference between a licensed SCU
with less than K1 billion and a VDF. In fact, most of the SCUs were VDFs originally. If the
NDTMFI regulation is changed to require a license at K1 billion in deposits, then it is consistent
to set the minimum capital (or capital + deposits) for the SCU at the same level. Currently
licensed SCUs can be given a reasonable time to meet the new requirements.


14
   Member shares do not appear to be included in the calculation of capital. This may be worth further consideration
because member shares or obligatory deposits could significantly raise the effective capital available to cover loan
risk.


                                                       - 17 -
                             GTZ/Bank of the Lao PDR
          ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
8.      INDUSTRY SUPPORT AND GENERAL ISSUES

8.1. The Microfinance Working Group (MFWG)
The MFWG was established in 2007 by industry practitioners as an organization for general
information exchange and collaboration. In many microfinance industries, the association plays
two important roles that could also serve the sector well in Laos. First, the association can
represent the service providers in ongoing discussions with policy makers, and especially the
BOL. At the same time, industry associations often play a lead role in educating members,
particularly around compliance and reporting issues, and publishing industry data. Both of these
roles are required in Laos and the MFWG is uniquely positioned to assume leadership in these
areas.

8.2. Credit Information Bureau (CIB)
The CIB is housed in the BOL.15 The CIB currently services commercial banks only, and only
loans greater than K50 million (USD6,000). Banks send in loan reports by fax and the data is
manually entered into a database by CIB staff. The CIB responds to bank requests within a
three-day period. The CIB currently manages about 500 inquires per month.

8.3. Depositor Protection Fund (DPF)
The DPF was established in 1999, guided by the regulations issued by the BOL in BOL
No.283/1999. Participation in the DPF is obligatory for banks, but apparently only about 14
banks comply. The DTMFIs do not participate currently, but Article 19 of the regulations
establishes this obligation.

8.4. Anti-Money Laundering (AML)
The legal framework for AML was established in PMO No.55/2006: Decree on Anti-Money
Laundering. Article 13 establishes the basic requirement for all institutions (including financial
institutions to verify the basic identification documents of any parties conducting transactions.
The article also indicates that that specific requirement will be established under separate
legislation.

At least one bank reported that customer due diligence (CDD) requirements were manageable
and do not create a barrier for access because most Laotians have a national identity card. The
same source reported that there are minimal CDD requirements for low value accounts.16

9.      OBSERVATIONS AND RECOMMENDATIONS ABOUT SUPERVISION
        CAPACITY

The BOL has established solid foundational capacity for supervision of the microfinance sector.
Specialized supervision capacity is housed in Microenterprise Unit (MU) of the Banking
Supervision Department. The examination manual, developed with the assistance of ADB
consultants, is excellent. At this incipient stage of sector development, the supervisory toolkit of
the BOL is far more sophisticated than the service providers.


15
     Regulations for the CIB were neither identified nor consulted during the analysis.
16
     This was not verified nor were the specific regulations found during this analysis.


                                                          - 18 -
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
The MU staff conducts off and on-site examination of the DTMFIs, the NDTMFIs and the
SCUs. Offsite assessments are conducted on monthly call reports and on-site inspections are
currently conducted every semester for the DTMFIs. The MU examiners report the same
challenges that all examiners face in the early phase of industry development. The onsite
examinations often reveal discrepancies with the monthly reports. The MU examiners have
formal procedures for addressing discrepancies or compliance issues, and documenting
agreements with MFI management about remediation.

Nevertheless, this point still illustrates that effective supervision requires much more than well
developed reporting formats and examinations manuals. The BOL’s supervisory capacity will
develop with the sector and the following observations are meant to signal areas where the BOL
might benefit from additional capacity building as it becomes necessary.

The most significant weakness in BOL supervision capacity is related to data management.
Currently, all of the institutions use their own software and fax in reports in their own formats.
MU staff has to interpret the reports and manually enter the data from the fax copies into the
standardized report formats in EXCEL worksheets. With the current number of licensed
institutions, this system is cumbersome and no doubt produces occasional errors from typical
data entry or interpretation mistakes. But with any growth of the sector this challenge will
become unmanageable. The MU will need an information technology platform that allows
licensed institutions to transmit data electronically in standardized data format.

Although the MU examiners build reports for each MFI from their monthly call reports, the MU
does not publish any consolidated data, either on individual institutions or on the sector.
Publication of MFI and sector data is critical for the development of the sector. When published
from a reputable source such as the BOL, this data establishes standards that become useful to
MFI managers, aspiring funders, and other stakeholders. The supervisors in countries like
Bolivia and Peru have established an impressive precedent for publication of MFI data on the
supervisor’s website.

The BOL will also benefit from a long term plan for developing and retaining professional
capacity in the MU. The MU appears to have suffered in the past years from frequent staff
rotation as the more experienced examiners moved on to other positions in the BOL. Staff
retention is a common problem in banking regulators and this is most effectively addressed with
a clear career path that retains enough senior examiners to maintain a high professional level in
the unit. A robust program of staff training is also important to build expertise as the level of
sophistication of the sector increases. MU staff themselves are clear about skills they would like
to develop: English language, accounting and financial analysis, loan inspection techniques, and
specific training in Microbanker (the software program used by most of the DTMFIs).

The BOL will also need to build some microfinance appraisal capacity into the banking
supervision department. Currently, the specialized skills are housed in the MU. However, as
this report points out, several of the commercial banks have microfinance operations and some of
these banks are likely to expand significantly.




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                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC
Finally, the BOL can also build capacity over time in the external auditors that perform the
annual audits on the financial institutions. The BOL can issue terms of reference that require the
auditors to verify specific areas that will asset the BOL in its overall supervision program.
Portfolio audits and verification of loan performance reporting are particularly important.




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                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC

             ANNEX I: Inventory of Laws, Regulations and Policy Documents


Law No.3/2006: Law on Commercial Banks
   Definition of “banking” includes deposits for payment services
   Requires participation in Deposit Guarantee Scheme
   Promotes international cooperation (art.9)
   Art. 57 requires quarterly publication of balance sheet and annual publication of financial
     statements and auditor’s opinion.
   Allows internet banks (that have no physical offices)
   Art.60 refers to internet bank use of third-party agents “who shall be under the
     supervision of the BOL.”

Law No.11/2005: Enterprise Law
   Supersedes Business Law, No.005/1994
   The state encourages enterprise to cooperate with foreign countries to attract resources.
   Defines types of legal entities.
   No mention of categorization for tax purposes.

MOC Announcement No. 0530/2002 and No. 0538/2002 and subsequent Notification On
Procedure for Business Registration in Lao P D R. (Ministry of Commerce, Domestic Trade
Department (Business Registration Division)

PO No.29/1995 Decree of the President of the Lao PDR on the Promulgation of the Law on
the Bank of the Lao PDR.
     Mandates BOL to regulate and supervise commercial banks and financial institutions.

PO No.46/2005: Decree of the President of the LAO PDR on the Promulgation of the Tax
Law.


PMO No.40/2000: Decree on the Organization and Activities of the Bank of Lao PDR
   Clarifies key aspects of BOL mandate, duties, and operations.

PO No.73/2004: Decree of the President of the Lao PDR on the Promulgation of the
Amended law on the Promotion of Investment
   Governs direct foreign investment
   Allows DFI in all forms

BOL No. 6/2004: Regulation On Loan Classification requirement for Commercial Banks
which are under the Supervision of the Bank of the Lao PDR.
    Loan classification
    Provisioning requirements
    Guidelines for loan restructuring
    Provisioning and write off accounting



                                               i
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC

           ANNEX I: Inventory of Laws, Regulations and Policy Documents
BOL No.247/2007: Agreement on Classification of Non Performing Loan Reserve Position.

BOL No.278/2005: Guideline to Implementation of Some Articles of Regulation BOL
No.6/2004
    Clarifies criteria for “well-secured” loans
    Defines classification of loans in collateral liquidation process
    Disallows interest accrual on non-performing loans
    Clarifies write off accounting

BOL No. 869/2006: Additional Guidelines to Implementation of Regulation BOL No.
6/2004
    Modifies collateral requirements for large borrowers
    Clarifies classification of loans in arrears with liquid collateral

BOL No.231/2007: Guideline for Implementation of the Agreement on Loan Scope of
Commercial Banks.
   Lists the Loan amount: collateral value ratio for different types of collateral.

BOL No.342/2008: Agreement on Reduction of Loan Loss Reserve Rate
   Appears to reduce the general reserve on performing loans from 1% to 0.5%, modifying
     BOL No.15/2007.
   Note: need to reconcile with BOL No.6/2004 that requires a 3% general reserve on
     current and non-performing loans (<90 days)

BOL No.283/1999: Regulation on Depositor Protection Fund
   Acts on behalf of commercial banks only
   Requires all banks to participate

BOL No.111/2006 Announcement to All Commercial Banks Re: Improving the Deposit-
Loan Interest Rates.
    Limits interest rate spread to 5%

BOL No.277/2007: Notice Regarding the Release of Loans to Individuals with Group
Guarantees.
   Allows banks to accept group guarantees

BOL 16 Nov 2000: License to Laos Postal Institute

BOL No.4/2008: Regulation for Deposit-Taking MFIs.

BOL No.2/2008: Regulation for Non-Deposit Taking Microfinance Institution

BOL NO.3/2008: Regulation for Savings and Credit Unions




                                            ii
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC

             ANNEX I: Inventory of Laws, Regulations and Policy Documents
MOF No.1539: Agreement of Ministry of Finance on Establishment and Operations of
Laos Postal Institute.
    Limits license to providing services to state employees (including state-owned
      enterprises)
    Limits deposit rate to a range within 2.5% of state banks

PMO No.275/2009: Decree on Implementation of Commercial Bank Law
   Requirements and scope of services for branch operations
   Authorizes banks to provide electronic service channels (internet, ATMs, phone
     banking).
   Grants authority to BOL to regulate and supervise electronic service channels.
   Chapter VI instructs BOL to assess current compliance capacity prior to implementation
     of decree, and define measures to full compliance.

PMO No.55/2006: Decree on Anti-Money Laundering
   General requirement that institutions are required to verify the identity of customers
     conducting transactions.

PMO No.115/2009: Decree on Associations
   Recognizes associations registered as legal entities, and unincorporated associations
     established voluntarily.
   Establishes non-profit definition.
   Does not apply to, among others, Unions, Funds, Foundations.
   Limits overhead costs to 25% of expenditures

CPMO No.634/2009: Preparedness Progress Report [to the MOF] on …Project of the
Rural Finance Development Sector from the Asia Development Bank …
    Expresses the Cabinet of the PMO’s disagreement with foreign investment (including
      Development Finance Institutions) in rural finance and microfinance institutions.

PMO No.5/2007: Instruction of the Prime Minister on Microfinance Management
   Instructs all ministries, equivalent agencies and District heads to observe the BOL’s
     authority to regulate and supervise the microfinance system nationwide.

PMO No. 1760/2003: Endorsement of Rural and Micro Finance Committee/Bank of Lao
Policy Statement and Action Plan for the Development of Sustainable Rural and Micro
Finance Sector

PMO No. 273/2009: Decree on the Approval and Proclamation of the Strategic Plan on the
Development of the Monetary-Financial Institute System from 2009-2020.
    Reaffirms view of a sustainable and diverse system of service providers
    Distinguishes non deposit taking MFIs in that they should be under the management of
      the founding organization or fund provider, not the BOL.
    Establishes role of BOL in disseminating information about financial institution
      performance to the public.


                                              iii
                         GTZ/Bank of the Lao PDR
      ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC

             ANNEX I: Inventory of Laws, Regulations and Policy Documents

PB No. 09/2004: Polit Buro Instruction on the Establishing of Village and Village Cluster
Development.

PMO No.01/2000: Advisory note of the Prime Minister regarding the policies to building
the province to become the strategic unit, the district as planning-budgeting unit and the
village as the implementation unit.
     Used by GTZ/RDMA as legal foundation for the creation of its “village bank
        associations” and to get approval of local authorities.




                                             iv
                       GTZ/Bank of the Lao PDR
    ACCESS TO FINANCE REGULATION AND SUPERVISION DIAGNOSTIC

          ANNEX II: Non Deposit Taking MFI – Annual Report Format



Non Deposit Taking MFI – Annual Report Format




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