Little drops of water … make the mighty ocean. Renowned poet Julia Abigail Fletcher Carney’s immortal lines are no less applicable in today’s world, where the growth of emerging economies is often propelled by modest but determined efforts.
One of the fastest-growing economies in Asia, the Philippines, is a good example, with annual growth in gross domestic product averaging 6.6% over the last 12 years. Micro, small and medium enterprises (MSMEs) in the country contribute at least 30% of GDP growth and around 60% to job creation.
Yet MSMEs and farmers, who drive the country’s growth story, are in urgent need of financing. Less than 1% of the country’s GDP goes to MSME lending. Under landmark legislation for MSMEs last amended in 2008, financial institutions (FIs) had to allocate mandatory credit to MSMEs. Yet despite that law, MSME financing remains low and a good number of FIs opt to pay the penalty for non-compliance.
Financial institutions are usually averse to lending to MSMEs because they normally provide loans against immovable collaterals – land and buildings. Here is the problem. Most MSMEs do not own land or buildings, but have personal property (inventories, accounts receivable, warehouse receipts, equipment and intellectual property) to pledge as security, which is not accepted by FIs.
As a result, they tend to reach out to friends and family for funding, which is not a sustainable solution. According to World Bank Findex data, the Philippines is one of the countries with the highest ratio of borrowing from friends and family.
Given this context, the government of the Philippines, along with stakeholders, revisited an archaic law (1906) to address the market failure and increase MSMEs’ access to finance. It was clear that the law that governed the use of personal property as collateral was a roadblock to mobilizing finance for MSMEs and the agricultural sector.
Subsequently, the government decided to propose a new bill. The International Finance Corporation (IFC) – a sister organization of the World Bank and member of the World Bank Group – acted as the adviser. The IFC worked with the Department of Finance, the Land Registration Authority, Bangko Sentral ng Pilipinas, the Securities and Exchange Commission, the Department of Trade and Industry, various MSMEs, banking associations, and other key stakeholders to align the bill with international best practices and contextualize it for the Philippines.
Among the fastest-moving bills in the Philippines’ legislative history, it was lodged in Congress in May 2017 and signed into law last month. The Personal Property Security Act (Republic Act No 11057) creates a legal framework that will allow small businesses to use movable assets to secure credit. This will give MSMEs and farmers better access to finance, and enable them to grow, become more competitive and participate in the global market.
A key feature of the law is the creation of a centralized registry of movable assets held as collateral, and clear and transparent priority rules in case of foreclosure and disposition of assets. For FIs, registries enhance their risk-management tools and make due diligence on assessing personal property as collateral more cost-effective and efficient. For borrowers, the law offers a wide range of possible acceptable collateral by FIs.
This is likely to create a financial environment that encourages banks to lend to these sectors, pushing the Philippines closer to its goal of greater financial inclusion. The law also provides for a faster, less expensive process for registering assets, and hastens the loan-application process.
The Personal Property Security Act can be a catalyst in accessing finance, especially for millions of small-business owners and farmers in the Philippines that hold inventory and receivables as their primary assets. Further, this law complements two other recent government efforts – the National ID and Ease of Doing Business Law – to increase access to finance for MSMEs and the agricultural sector.
The Personal Property Act is a vital step in achieving the end goal of unlocking MSME finance, creating new markets, and expanding entrepreneurial opportunities. Immediate next steps include exploring warehouse finance and trade finance with private-sector partners.
The swiftness with which the legislation was passed can be attributed to a strong collaborative effort among various agencies, and the public and private sectors, with the IFC ensuring that all stakeholders’ interests were given equal weighting.
The experience elsewhere
Similar reforms in other countries show that when implemented properly the new law can spur much-needed financing for MSMEs.
In China, secured transactions reform cumulatively facilitated US$3.58 trillion in accounts-receivable financing, of which $1.09 trillion went to SMEs. Since October 2007, when the registry commenced operations, more than 1.7 million registrations have been recorded for accounts-receivable finance and financial leases alone.
Similar measures in Vietnam have resulted in 1.5 million registrations since 2012, facilitating $69.3 billion in financing for about 800,000 SMEs and 50,000 micro businesses.
The IFC’s experiences in around 50 countries show that effective secured-transactions laws are a crucial component of a healthy financial sector and business climate.
The Personal Property Security Act is a bold step toward greater financial inclusion in the Philippines. Moving forward, sustaining this multi-sector commitment to supporting increased access to finance – paired with emphasis on financial education and management – can truly help the Philippines achieve a comprehensive secured-transactions reform.