Syndicate content

Does the introduction of movable collateral registries increase firms’ access to finance?

Maria Soledad Martinez Peria's picture

To reduce asymmetric information problems associated with extending credit and increase the chances of loan repayment, banks typically require collateral from their borrowers. 

Movable assets often account for most of the capital stock of private firms and comprise an especially large share for micro, small, and medium-size enterprises. Hence, movable assets are the main type of collateral that firms, especially those in developing countries, can pledge to obtain bank financing. While a sound legal and regulatory framework is essential to allow movable assets to be used as collateral, without a well-functioning registry for movable assets, even the best secured transactions laws could be ineffective or even useless.

Given the importance of collateral registries for moveable assets, 18 countries have established such registries in the past decade. However, to my knowledge there is no systematic empirical evidence on whether such reforms have been effective in fulfilling their primary goal: improving firms’ access to bank finance.

In a recent paper, Inessa Love, Sandeep Singh and I explore the impact of introducing collateral registries for movable assets on firms' access to bank finance using firm-level surveys for 73 countries.  Following a difference-in-difference approach, we compare access to bank finance pre and post the introduction of movable collateral registries in seven countries (Bosnia, Croatia, Guatemala, Peru, Rwanda, Serbia, and Ukraine) against three different “control” groups: a) firms in all countries that did not implement collateral reforms during our sample frame (59 countries), b) firms in a sample of countries matched by location and income per capita to the countries that introduced movable collateral registries (7 countries), and c) firms in countries that undertook collateral legal reforms but did not set up registries for movable assets (7 countries). This difference-in-difference approach controlling for fixed country and time effects allows us to isolate the impact of the introduction of movable collateral registries on firms’ access to bank finance. 

Overall, we find that introducing movable collateral registries increases firms' access to bank finance. In particular, our baseline estimations indicate that the introduction of registries for movable assets is associated with an increase in the likelihood that a firm has a bank loan, line of credit, or overdraft; a rise in the share of the firm’s working capital and fixed assets financed by banks; a reduction in the interest rates paid on loans; and an increase in the maturity of bank loans. 

The impact of the introduction of movable collateral registries is economically significant: registry reform increases access to bank finance by almost 8 percentage points and access to loans by 7 percentage points. These are sizeable effects considering that in our sample, about 60 percent of firms have access to finance and 47 percent have a loan. There is also some evidence that the impact of the introduction of registries for movable assets on firms’ access to bank finance is larger among smaller firms, which also report a reduction in a subjective, perception-based measure of finance obstacles.

Average access to finance before and after registry reform in treatment and matched control countries

 

Comments

Submitted by William Armstrong on

Excellent article, it's good to see that the considerable efforts of the World Bank, IFC, and EBRD to promote security interests on movable property are paying off.

Two comments of a technical/semantic nature.
Firstly, conventional economic literature's focus on asymmetric information as the reason that banks require collateral is just plain wrong. Banks have better information than the borrowers. They have the experience of working with many clients in the same industry and understand these risks better than the borrower does. The banks require collateral not to counter some perceived informational disadvantage, but because the banking business is not a profitable one unless banks have security interests to fall back on. The ability to seize and sell collateral reduces the losses from lending and makes it profitable enough to justify running a lending business. To convince yourself that asymmetric information is unimportant in this equation, imagine a situation where both borrowers and lenders shared exactly the same information. Some loans would still go bad so lenders would still require collateral on most loans.

The second point is with regard to the use of the term "moveable asset registries". Moveable assets are not registered in these institutions, contingent claims on moveable assets are. There is a confusion on this point because in traditional mortgage lending, both the asset and the claim is registered. Not so in lending against moveables. This confusion leads to much wasted efforts in trying to design institutions to register moveable assets, only to eventually come to the realization that such a registry cannot be economically operated.

William's comment fails to mention the very extensive secured transactions reforms undertaken in the Pacific island economies by the Asian Development Bank and AusAID through the Pacific Private Sector Development Initiative. To date, there have been 7 completed reforms with several more to come. The result has been a significant increase in secured lending, with about 10,000 new loans having being made under the reformed framework. Given the small population of these economies, this is a very large number. Interestingly, finance companies and trade creditors have made significant use of the new system. Banks on the other hand, less so, primarily it seems because they are branches of Australian banks. Many loan decisions have to be approved in Australia and the legal departments of the banks are still not used to the reform.

William's point about the importance of secured loans in reducing risk is correct, although I am not as ready to dismiss asymmetric information as an issue as he is. Consider that if the bank had perfect information, it would be able to reduce its loan amounts as circumstances dictated. Unfortunately, it only learns of adverse developments well after the owners of the business. Furthermore, having pledged assets as security, business owners are less likely to engage in risky behavior.

Submitted by Avishek on

This is a very interesting initiative. I have a few questions:
a.) What kind of collateral is registered? (Vehicle, stock, equipments?)
b.)How is the collateral identified?
c.)If the claim is registered as mentioned by William above and not the asset, how is the recovery done post default?
Thanks

Submitted by William on

Avishek,

A.Just about any kind. Financial securities tend to have special regimes that have been set up to facilitate clearance and settlements in repo markets.
B. A general description of the collateral ("approximately 3 tons of rice stored at X company's warehouses in Managua, nicaragua" for example) is filed in a public filing system. In the case of vehicles, the exact vehicle can be described, since it has a VIN number. The borrower must agree to the filing and it's text.
C. In most places where secured transactions work well, the legal framework provides for the lender to seize the described collateral in the event that the borrower defaults. The borrower presents a statement to a judge, justice of the peace or similar stating that the borrower has defaulted and the lender backs up the trucks to the warehouse and loads the rice. In some places a bailiff is used to seize the collateral.

Add new comment