A primer on civic banking

.

By Ricardo Lago




The banking profession is going through rough times. So far the cost of the bail-out worldwide is well on the way to US$ 5 trillion or one–tenth of the Gross World Product. Some analysts put the eventual estimate at the exorbitant figure of US$10 trillion. This would increase by one-fifth the world’s stock of public debt .Taxpayers and future generations will have to shoulder the extra burden .Ordinary folks are angry at the largesse of top banking executives .They pocketed stratospheric paychecks during the boom years. And now governments everywhere are socializing the losses to prevent a systemic collapse. Adding to the public outrage is the fact that banking regulators did little to rein in high leverage ratios , reckless risk- taking , and related self-serving perks .Opinions are still divided as to whether regulators were ignorant , ideological , negligent , “captured” - by the very banks they were expected to regulate - or all of the above .


The fact of the matter is that bankers have seldom been held in high esteem. In biblical times, making a living by charging interest on loans was deemed immoral. In the middle ages, “usury” laws kept lenders at the edge or in the shade. It was precisely the search for alternatives to “usurers” what gave birth to the so called “mounts of piety” - or not- for- profit pawnshops - first set up by Franciscan monks in 16th century Italy. They were replicated elsewhere in Europe in the 17th and 18th centuries. In 1797, the British philosopher Jeremy Bentham - father of “utilitarianism” and one of the founders of modern economics – put forth a proposal for the creation of savings banks as a self-help scheme to help paupers out of poverty. Bentham coined the name of “frugality banks “. Some even see the origins of saving banks in an essay written one hundred years earlier by Daniel Defoe – the author of “Robinson Crusoe” – in which he called for the establishment of what he termed “pension offices”.


These are the roots of a myriad of savings banks that sprung up all over Europe and overseas starting in the 19th century. Each homegrown variety adopted its distinctive name: building societies in the UK, caisses d’epargne in France, sparkassen in Germany, savings and loans(S&Ls) in the USA, and cajas de ahorro in Spain and Latin America.


Like other types of financial institutions, saving banks have had mixed fortunes, averaging good times with bad times. Two recent examples are, first, the failure and liquidation of 800 S&Ls in the US during the 1980s; and second, the demutualization or merger with banks of about one half of the largest building societies in the UK during the 1990s.


In Spain the sector has thrived in recent years. It comprises forty five cajas de ahorro that manage total combined assets of US$ 1.3 trillion or about one half of total banking intermediation. The largest and better known are Caixa and Caja Madrid, respectively third and forth largest banks in Spain .The jury is still out as to how cajas will fare in the aftermath of the current real estate and banking crises. But this is not the point of my article; my purpose is to analyze the Civic Banking model adopted five years ago by one of these institutions.


Cajas are expected to be run on commercial principles and are subject to the same operating framework and supervision as any other bank. The main difference between private banks and cajas is ownership. The cajas have no private owners; their shareholders are foundations typically controlled by municipal, regional governments, and stakeholders .Moreover, they are mandated by charter to allocate a share of profits (although the law does not specify how much) to social projects and charities. In 2007, their total allocation to charities was US$ 3 billion or about one fifth of after tax profits .The remainder of profit is channeled by each caja to strengthen its capital base.


And who in the cajas decides what charities to fund? The norm is a top down system whereby an ad hoc board defines what type of projects will be eligible and decides, out of all the applications, which ones will be funded. The board typically comprises representatives of local and regional governments and other stakeholders. This selection is thus biased by political and stakeholder preferences. And this brings me to the topic of civic banking.


In 2002, a medium-sized institution, Caja Navarra (CAN), adopted a strategy of radical reform. Until then, CAN have been a mediocre bank that ranked fifth from the bottom in profitability, out of the forty five cajas. To turn things around, the board appointed a new CEO, Enrique Goñi, with a strong mandate and full powers to carry it out. In designing the strategy, his reasoning went as follows .His point of departure were two central questions: what is it that people dislike about banks? What can be done about it?


Goñi came out with the following vision: transfer as many rights and as much power as possible from the board, management, and employees to the clients with the sole constraint of not compromising on sound banking principles.


The first move was to abandon the top down allocation system of social grants in favor of a bottom up approach. To do it, CAN bestowed on each individual client the power of selecting what social projects will be funded. This client empowerment and other innovations were launched under the brand name of Civic Banking.


Description of the Civic Banking model


I summarize below the main building blocks .The reader can find a detailed description at: http://www.cajanavarra.es/PortalCAN/enGB/CanalCaja/WhatisCivicBanking


1.Profit reporting to clients. Each client is informed periodically about how much profit results from his / her operations with CAN. The typical letter to a client reads:

“Dear Mrs. Smith, in 2007 CAN made US$ 210 profit from banking with you, of that amount US$ 70 will be allocated to local and international social projects….”

To apportion profits to specific lines of business ( mortgage , credit card , savings account, life insurance , etc ) , CAN devised a cost-accounting calculator so that the client knows how much profit will result from each operation .



2.You choose, you decide .Each client is asked to select up to three projects from a catalogue. Hence, the letter to Mrs. Smith goes on:

“Please indicate to us the codes of up to a maximum of three projects from the attached catalogue, to which you want Caja Navarra to apply your social cheque of US$ 70”

CAN typically allocates one-third of total after-tax profits to social grants, more than the one-fifth on average allocated by the sector .The list of projects currently applying for funding can be searched at the website above by line of action, activity, and location .The client can exercise the right to select the projects at a branch, an ATM, by internet or by mail.


3.Open sourcing of projects. There is no need to be a client of CAN to present a project. Anyone, anywhere in the world can present a request for grant funding provided that: (a) the project and the implementing entity meet broad defined criteria; and (b) the entity agrees to provide progress reports and be subject to auditing if required.


At present the catalogue comprises 3600 national and international social projects. The projects range – to mention a few - from a daycare center for Alzheimer patients in Valencia (Spain ) , to a nutrition program for poor children in Ocongate (Peru ) or a low-cost housing project in Anantapur (India ) .The number of social projects sponsored in developing and transition countries is in an upward trend. This fact has attracted a fair share of immigrants to banking with CAN. By the same token, the possibility to raise grants for the care of relatives with special needs has acted as a magnet in enticing their families to bank with CAN. Similarly, the rising share of clients sensitive to environmental a development issues confirms that “you choose, you decide “is a formidable marketing tool.





The percent allocation of grants across the five broad categories of social projects - before and after the introduction of Civic Baking - is provided in Chart 1 .The striking feature in the chart is that the “before” and “after” distributions are perfectly negatively correlated .Whereas now clients allocate 60% of total grants to disability- care , international aid , and the environment ; under the previous board-based decision system ,board directors used to allocate 70% to the two groups least favored by clients : sports-leisure , and culture-heritage .This is indeed a case study worthy for inclusion in Milton and Rose Friedman’s bestseller “Free to Choose”.


4.Volunteer program. Clients and the public at large can volunteer to work in selected national and international projects funded by CAN.


5.Traceability .Clients with civic and ethic motivations or constraints are offered savings vehicles that invest in loans for one or several pre-specified “socially responsible” projects .These clients can “trace back” where their money went.


6.Branch utilization by clients .Bank branches are designed in such a way that can be utilized as a social club for clients, their children, and friends , after the branch’s office hour’s .The concept is termed “cancha” - what could be translated as “my space”. So far 51 branches –or 15% of all - operate as “canchas”.





The finances of Caja Navarra have improved markedly since the adoption of Civic Banking in 2003 .Of course , that improvement cannot be solely attributed to Civic Banking , surely banking services themselves must have been upgraded and made more cost effective .After all, the primary product costumers expect from a bank is banking , not social policy . However, since my focus here in on Civic Banking, I leave the other issues for researchers .As Chart 2 indicates, the standing of Caja Navarra among Spanish savings banks has advanced dramatically .In terms of profitability, its return on both equity and assets has leapfrogged from positions 41st and 32nd (out of 45 cajas) to 4th and 5th, respectively .In turn, in terms of total assets and profits, its rankings have risen from positions 22nd and 20th to 17th and 12th, respectively. I conjecture that a key driver of this performance is the fact that Civic Banking augments the franchise value of the business. Clients are attracted because they are provided banking and more .This hypothesis appears to be consistent with the fact that Caja Navarra has recently expanded its network of branches beyond its natural habitat of Navarra - a region in northern Spain .At present, 166 of its 351 branches are located outside the region .Soon operations will start in Hungary where CAN has acquired a local bank as a stepping stone to introduce Civic Banking in other Eastern European countries. Fitch confirmed the rating of Caja Navarra at A in May and the outlook has been maintained at stable ,despite the banking and real estate crises.In sum, Caja Navarra’s Civic Banking model is an example of doing well by doing good.


I believe that the primary objective of banks is providing good banking services at a low cost, and without a downside for the taxpayers .Provided that this principle holds, I do not favor one specific type of bank over another type. All varieties have a role and a market niche, from pawnshops through credit unions to investment banks. I am not presenting savings banks as a panacea. On the contrary, I believe that they are vulnerable to political patronage and fund peddling; proclivities that can be more of a challenge to keep in check than the self-serving recklessness of greedy bankers.


Privatizing the upside and socializing the downside breaks with the basic ethics of the market economy and private property rights. The game of “heads I win and tails you lose” - as popular jargon has it - is socially unacceptable. Commercial bankers and their regulators have dammed themselves for a while. In the process they have tarnished the reputation of the market economy, very much to the regret of those of us who believe in a free market .The current crisis will no doubt shake the foundations of every garden variety of banking as we know it.


As a pragmatist, I am open to any banking model that works and Caja Navarra’s Civic Banking model seems to work. Whether or not its success can be replicated elsewhere by another management, in a different country, and under different banking institutions remains to be seen .Reshuffling a portion of the upside back to the clients and bestowing clients with a code of rights will , in any case, be appealing to many in today’s “planet bail-out”.

=========================================================================================================================
========================================================================================================================= http://www.rgemonitor.com/latam-monitor/254612/a_primer_on_civic_banking
http://www.digitaljournal.com/article/262673
http://www.agoravox.com/article.php3?id_article=8941
=========================================================================================================================
=========================================================================================================================

Peru fastest growing economy of Latin America in 2009

By Ricardo Lago

In the late eighties and early nineties , I traveled often to Peru to analyze the macroeconomic situation of the country. Most Peruvians I interacted with were negative about the prospects of the country .After decades of economic decline and years of rising terrorism, they had very good reasons to be negative .At the time, “a pessimist was indeed a well informed optimist”. The most eloquent expression of Peru’s decadence was Mario Vargas Llosa‘s fatalist quote: “when did Peru get screwed up?” .These were the words of a central character in his 1969 masterpiece “Conversations in the Cathedral.” The mood has improved markedly since the nineties – along with successful economic reform – but at any hint of crisis, local or international, pessimism looms again high in the horizon.

In fact, there is very little to feel optimistic about nowadays anywhere .The shock-waves of the meltdown at the epicenter of the world’s finances, alas, have touched all countries and all pockets. Although we may have already seen the worst in financial markets, the effects on falling production and unemployment lay ahead. For 2009, the IMF now projects recession in the US, the European Union, and Japan and drastic deceleration in developing countries. For the world economy as a whole, the IMF sets growth at 3% but with risks the downside. Investment banks forecast world growth at between 1% and 2 %.

However, not every country has fared equally .Some have shown resilience and others vulnerability. Peru ranks high among the former .The stability of the exchange and interest rates has not required much central bank intervention and banks and corporates have stayed afloat. The yields on Peruvian bonds bought and sold by international investors –a gauge of country risk - have stayed close those of Mexico and Brazil, and at times even below ; by and large yields have kept below 10 %. Not bad at all in markets where heightened apprehension and risk-aversion are kings.

Furthermore , international agencies forecast that Peru will continue to grow at a fast pace in 2009 .As can be seen in the table below, the IMF recently increased the growth estimate for Peru in 2009 from 6% in April to 7% in October . Last week, Morgan Stanley (MS) published a less rosy picture, and in my view a more realistic one. MS estimates that Latin America would grow at half the rate estimated by the IMF: 1.5% versus 3.1 %. In what the IMF and MS agree is that in 2009, Peru will be the fastest growing economy in the region. In MS’s calculations, Peru would grow at 4%; still more than double the rate of growth of any of the other large economies of the region.

Several reasons weigh heavily in these projections. First, Peru’s resilience to the current meltdown. Second, Peru’s track record of economic reform. Third, the strong pipeline of FDI projects, totaling US$ 36 billion for 2009 -2011 - many of which under execution. And forth, budget slack for countercyclical policies in the form of supplemental public investment and social expenditures. That slack owes to the sterilization of the commodity boom –Peru exports inter alia minerals - by the Central Bank and the Peruvian Treasury from 2005 to 2008 . In that period, the budget was brought into a surplus of 3% of GDP per year and the Central Bank accumulated a flow of US$ 16 billion (or 13% of GDP) of international reserves via open market purchases.

During the last two months, nevertheless, headline news and commentary in Lima have focused on two “negatives”: the crash of the Peruvian stock exchange and the related losses of the private administrators of pension funds (or AFPs as the acronym in Spanish goes ) .AFPs are allowed to invest about one third of total assets in equities, and these are now value impaired. As of late October, the loss had reached US$ 3.5 billion in a consolidated balance sheet of US$21 billion .Undoubtedly, if stock prices were not to recover in the coming months or couple of years, the loss could cause hardship for future pensioners and/or strain to the government purse. History tells us, however, that stocks eventually bounce back. The rebound of Peruvian stocks during the last week has been particularly strong: about 30%.

In assessing Peru’s performance on these two “negatives”, one has to gauge them against relevant international benchmarks . In September, the largest insurance and pension company in the world, AIG, collapsed and the US government had to come up with money to the rescue. Likewise, the Argentine authorities jumped to nationalize pension companies so as to forestall default on its sovereign bonds. In parallel, stock markets have fallen everywhere .And the list of external calamities goes on and on. In comparative terms, Peru’s downside has been relatively limited.

Press and pundits in Lima – with few exceptions here and there - have lost a once- in- a -lifetime opportunity: cheer up the relative strength of the Peruvian economy in the midst of unprecedented global weakness.

A time to feel optimistic about Peru’s prospects .

================================================================================================

================================================================================================

http://www.rgemonitor.com/latammonitor/254273/peru_set_to_be_the_fastest_growing_economy_of_latin_america_in_2009

http://www.agoravox.com/article.php3?id_article=8841

http://www.digitaljournal.com/blog/1341

================================================================================================ ================================================================================================

Peru unscathed

By Ricardo Lago

In mid October, at the Annual Meetings of the World Bank and IMF, the Minister of Finance of Peru, Luis Valdivieso, announced his intention to float a US$600 million, 30 -year bond . Will currently dysfunctional capital markets welcome a new bond from a developing country issuer? The short answer is no , but Peru may be one of the exceptions .The paradox is that Peru could succeed to tap capital markets precisely because it does not need the money .It has been running budget surpluses for many years and its public debt is small .In fact , Peru is one of the few countries where central bank’s international reserves ( at US$35 billion or 26% of GDP ) exceed the total domestic and external public debt ( at US$ 30 billion ) . In other words , Peru’s public sector is a net creditor .Since the proceeds of the bond are not needed to pay for expenditures , the authorities intend to use the money to buy back Peru’s short-end maturity bonds from investors .The operation will extend the average maturity of the external debt , now at eleven years .

The international meltdown of the last two months has underscored the strength of Peru’s finances. Unlike in some other Latin American economies, the exchange rate of the sol – Peru’s home currency - has stayed stable with moderate central bank intervention and the inter-bank rate has not blinked much. Further, the authorities have not had to jump to the rescue of any big financial institution or corporate. It was most unfortunate that these achievements were clouded by a corruption scandal that prompted a partial renewal of the ministerial cabinet.

Beyond sound fiscal and monetary fundamentals, Peru have a relatively small but strong banking system –with total assets at just over one third of GDP .Banks are properly capitalized, well supervised, and extremely liquid. About half of total deposits are invested in either reserve requirements or official debt. The Central Bank is well positioned to pump sufficient sol and dollar liquidity by loosening requirements or buying back official paper. The structure of the banking sector also helps. Four large banks account for three quarters of total intermediation; and two of them belong to international banks, BBVA of Spain and Scotiabank of Canada, so far survivors of the recent purge. Peruvian banks operate with low leverage ratios (lower than ten to one) and practice traditional banking: loans for collateral.

A run on bank deposits is unthinkable for it would be unsuccessful .The reason is that the total deposit base of the system (about US$29 billion) is lower than central bank’s international reserves. Likewise the authorities have the latitude to nip in the bud any speculative attack against the sol.

It is clear that in the wake of the coming international recession, Peru’s GDP growth will slow down from 10% expected for 2008 and 7% average over the last six years .Declining export revenues and capital inflows will no doubt take a toll on incomes, tax revenues, and the balance of payments. However, analysts project Peru’s growth for both 2009 and 2010 at over 5 % .There are three key drivers underpinning this projection. The first is the strong pipeline of committed FDI projects under execution which total US$ 8 billion per year .The second is the scope the authorities have for contercyclical fiscal policy stemming from the strong budget and debt fundamentals. And the third is the feasibility of continued lending for local investment and housing in view of the sound condition of the banking system.

Peru is a real success story of free markets and fiscal discipline. Free trade has delivered a nine- fold increase in exports in les than two decades . Following progressive unilateral tariff reduction under the WTO, Peru recently signed a free trade agreement with the US and is now negotiating agreements with the European Union and China. Also, Peru is a textbook case of successful turnaround. Only eighteen years ago it was a basket case in default with all its creditors -including the IMF and the World Bank - and enduring hyperinflation .Today, Peru is a fast growing economy and its public sector in a net creditor. In recognition, in early 2008 the rating agencies S&P and Fitch lifted Peru to the selective club of investment grade economies.

Peru‘s central bank deserves a lot of credit in the country’s success. It is an independent institution, staffed with competent economists who view central banking as a lifelong job. The build up of international reserves to a level equivalent to one quarter of GDP is nowhere easy but it is all the more difficult in a developing country loaded with a backlog of social demands .This reserve buffer is paying off in these rainy days. In essence, Peru has underwritten its own insurance policy.

And what about poverty? The end result of Peru’s free market policies has been a steady reduction in poverty. From 2003 to 2007, the poverty rate –as defined by the World Bank - declined from 52% to 39% and extreme poverty eased from 21% to 14%. In the first two years of his second tenure, President Alan Garcia has shown strong commitment to poverty reduction under sustainable macroeconomic policies .This is in sharp contrast with his first term, from 1985 to 1990, when he tried to fight poverty under the wrong macroeconomic policies .The leadership and charisma of President Garcia is now at the root of Peru’s so far successful journey amid the unprecedented financial storm.

If the do not need the money, why then are the authorities determined to float a bond in today’s dysfunctional markets? One reason may be to signal to the capital markets its own macroeconomic strengths at a time when everyone’s vulnerabilities have been brought to an extreme stress test. Also, the success in placing the bond with investors will prove the point that sound economies are able to tap private capital -even in dislocated markets - as opposed to relying exclusively on “emergency room” financing from the IMF and World Bank.

Meanwhile, as few skeptics, beaten- down bankers shrug at the chances of Peru’s bond, investment bankers rush to Lima to present their bids.

==========================================================================================================

==========================================================================================================

http://www.rgemonitor.com/latam-monitor/254179/peru_unscathed

http://www.agoravox.com/article.php3?id_article=8763

http://www.digitaljournal.com/article/261665

===============================================================================================

===============================================================================================