Transaction costs of credit to the small-scale sector in the Philippines

DOMESTIC FINANCE STUDIES NO.53 TRANSACTION COSTS OF CREDIT TO THE SMALL-SCALE SECTOR IN THE PHILIPPINES By Katrine Anderson Saito and Dan P. Villanueva The views presented in this paper are solely those of the authors and do not necessarily reflect the official opinions of the World Bank or its affiliates. December 1978 Public and Private Finance Division Development Economics Department Development Policy Staff TABLE OF CONTENTS Page No. I. Introduction ....................,........................... 1 II. Institutiona], Background ................................... 4 ANNEX I Procedures Used to Estimate Transaction Costs .............................. 30 ANNEX II Administrative Costs for Selected Credit Institutions of LDCs .................... 38 ANNEX III Measures of Loan Delinquency of Selected Credit Institutions of LDCs ........... 39 ANNEX IV Tables 1 ................. 40 Transaction Costs of Credit to the Small-Scale Sector in the Philippines* By Katrine Anderson Saito and Dan P. Villanueva December 12, 1978 I. Introduction In discussions on the cost of credit in less developed countries, emphasizing the level and structure of rates paid by financial institu- tions on their liabilities, attention is seldom focused on transaction costs of lending, for want of relevant information. This study is a modest attempt at presenting estimates of the transaction costs of lending to the small-scale sector by different financial institutions in a developing country, like the Philippines. This country has been selected firstly because there has recently been a major effort to pro- mote the growth of the small-scale sector, and in consequence a complex network of lending channels and institutions has been developed, and secondly because adequate data are available. Transaction costs of lending consist of the cost of administering credit and the cost of the risk of default. Administrative costs are those which are directly attributable to the processing, delivering and administering of loans. In percentage terms, costs of administration *This study, like the Domestic Finance Studies 47 and 49, is a part of the Division's research project on capital market imperfections. Mr. Villanueva is on the staff of the Central Banking Service, Inter- national Monetary Fund, and a consultant to the Division for this study. The authors are particularly grateful to Messrs. D.R. Khatkhate and R. Tenconi of the International Monetary Fund for their help in prepar- ing this paper and also wish to thank Messrs. V.V. Bhatt, L. Hinkle, C. Poortman, F. Khambata, and others of the Projects and Country Pro- grams Department of the East Asia and Pacific Region, World Bank for their valuable comments, ind Amr oustapha for his computational assistance. -2- are expected to rise as the size of loans falls, the duration of loans shortens, and accounting services are expanded in order to cope with a large number of small-scale borrowers. Costs of risks and defaults incorporate an element to cover losses through default. The more careful the loan appraisal, supervision of loans, and the pursuit of delinquents, the higher the administrative costs are likely to be. There may, therefore, be a trade-off between the costs for default risk and administrative costs. The effective cost of credit to any borrower (effective gross return to a financial institution) is, by definition, a summation of three components: the composite interest rate paid by financial institutions on their liabilities, the rate of return obtained by owners of the financial institution on their equity capital, and the transaction costs of managing assets and liabilities--the last item includes administrative costs of asset and liability management plus expenses to cover the risk of default on loans and losses on investment in securities and any premia on loan and deposit insurance. In short, the effective rate on bank lending is equal to net pure profit (required rate of return on stockholders' equity) plus interest cost plus transaction costs. In discussing interest rates in the context of economic development, only the lending rate, the deposit rate and the spread between them are generally considered and analyzed. This spread is taken to represent the net profit rate which tacitly implies zero transaction costs within the bank. In'pTinciple, therefore, any transaction costs tend to increase the spread between loan and deposit -3- rates. Conversely, any reduction in transaction costs tends to reduce this spread. It is clear, therefore, that a study of the magnitude of transaction costs and their components is helpful in understanding the factors that underly this spread which has to be reduced in order to facilitate efficient development of the financial system.1/ In this study, transaction costs have been estimated for the lend- ing operations of different financial institutions in the Philippines with recipients of the loans subdivided by size and activity. A description of the institutional framework is presented in Section II, and summary of the findings is given in Section III. Details of the procedure used to derive these transaction cos,t estimates are presented in Annex I. 1/ See, for instance, a study by V.V. Bhatt, "Interest Rate, Trans- action Costs and Financial Innovations," Domestic Finance Studies No. 47, Public and Private Finance Division, World Bank. -4- II. Institutional Background During the last five years there has been a major effort in the Philippines to promote the growth of the small-scale sector. Measures taken were in the credit and technical assistance fields with the multiple objectives of raising productive employment, reducing income disparity, spreading development outside the Metro-Manila area and promoting entre- preneurship.1/ As a result a variety of instruments were devised and institutional channels set up for extending assistance to small and medium-scale enterprises (defined as those enterprises with total assets of less than Y4 million). In the Philippines, small and medium-scale industries comprise 81 per cent of the total number of establishments employing 20 or more workers. They account for 27 per cent of the labor force of this group, and contribute 21 per cent to gross value added. Small-scale enterprises are concentrated in and around metropolitan and urban areas where they have access to infrastructural facilities, raw materials, and supporting services. The cottage industry sector (handicraft and traditional nonfactory units) is more widely dispersed, being less dependent on power and using locally available materials for small, highly localized markets. Most of the output of the small-scale sector is aimed at local domestic markets, though the exported share has been growing. Since 1971 the Government has made an effort to assist the growth of small scale establishments by extending credit and technical assitance mostly through existing institutions, though often with modifications in 1/ See "Promotion of Small Industry Projects: A Philippine Case Study," Economic Development Institute, IBRD, Case Study and Exercise Series, BC-563-P, July 1975. -5- their structure and organization. The Development Bank of the Philippines (DBP) and the Industrial Guarantee Loan Fund (IGLF) have been the channels for providing credit to small-scale industry and the Department of Industry for providing technical assistance. More specialized assistance in technical matters is provided by seven small regional technical assistance centers. Though commercial banks have provided the major part of agri- cultural credit,1/ this credit has been directed mostly to the large entrepreneurs involved in the production of export and commercial crops. The rural banks, on the other hand, are the prominent agents for granting credit under the supervised credit program for food produc- tion, which is largely the activity of small-scale farmers.2/ Agri- cultural credit is also extended through the private development banks (PDBs) and the Development Bank of the Philippines (DBP). Details about the institutions catering to the small-scale sector both in industry and agriculture are given below. 1/ In 1976 commercial banks accounted for 86 per cent of institutional credit granted to agriculture, of which 44 per cent was provided by the Philippine National Bank (PNB), and 42 per cent by private commercial banks. Philippine Sector Survey, Vol. III, East Asia and Pacific Projects Department, IBRD, August 25, 1978, p. 6. 2/ The government-owned Philippine National Bank is also a major supplier of loans under the supervised credit program, accounting for nearly half the loans under the rice program and 70 per cent under the maize program. -6- 1. The Development Bank of the Philippines Established in 1958 as a wholly owned government institution, the Development Bank of the Philippines (DBP) has developed into a multi-purpose development bank which finances virtually every sector of economic activity. Though most of its operations have been with medium and large-scale establishments, it began to extend credit to the small-scale sector on a significant scale in 1974 when it set up a new department--the Industrial Projects Department II--to promote and develop small and medium-scale industries (SMSI). This Department offers two lending programs: the Small and Medium-Scale Industries Program and the Home Industries Financing Program. The DBP has been called upon to set aside P500 million for these programs to provide for both fixed and work- ing capital loan requirements of new small industry projects; additional working capital needs would be met by the banks with Central Bank assistance. Both'programs give priority to rural-based projects and export-oriented industries. The rates of interest charged vary with the collateral; currently the rates are (a) 12 per cent on loans where land is used as collateral; and (b) 14 per cent on loans with other collateral. To these rates a service charge of 2 per cent is added. Since only a few loans are secured by land, the weighted average cost of DBP loans to SMSI is close to 15.5 per cent.1/ A charge of 3 per cent per month is levied on all amortizations not paid within 90 days. Loans are payable in equal quarterly amortizations within a period of five to ten years. 1/ IBRD, Supervision Report, No. 1120, October 21, 1977, Annex I, p. 12. - 7 - Loan processing was found to be very time-consuming, resulting in substantial delays in loan approval.1/ During the period July 1973 to May 1977 a total of 3,512 SMSI loans representing investments of P464.36 million were approved. Arrearage ratios were highest for the three smallest loan sizes (see Table 1, Annex IV); they were 28 per cent for the P50,000 and below category, 27 per cent for the P50,001-P100,000 group, and 32 per cent for the P100,001-Y500,000 group. These ratios contrast sharply with the arrearage ratio for large-scale (i.e., non-SMSI) loans, which was only 7.5 per cent. Loans in the P50,000 and below and the P100,001-P500,000 range have a particularly poor arrearage record. In terms of the number of accounts affected, almost 77 per cent came from the P50,000 and below category, representing 7 per cent of the total amount of the portfolio. In terms of volume of loans, 37 per cent of the total principal affected by arrears came from the P100,001-P500,000 category. The costs of all DRP operations, in amounts and as a percentage of total assets and outstanding loans and investments are given in Table 1. Details of these categories of costs are given in Tables 2-8 in Annex IV; the procedure for allocating these costs is contained in Annex I. The costs of DBP lending to agriculture, industry (subdivided by size of recipient), real estate, and others are given in Table 2. It is clear that the transaction costs of lending to small and medium-scale industry were three times more than to large-scAle industry, reflecting 1/ A study by the Development Academy of the Philippines in September 1974 showed that loan processing took about 100 days for loans below P20,000 and 172 days for loans above P20,000. IBRD, Appraisal Report of a Small and Medium Industries Development Project, Vol. I, April 18, 1975. -8- Table 1. Development Bank of the Philippines: Cost of Operations (In millions of pesos and per cent) Per cent of total loans Per cent of and Amount total assets investments Gross income 784 8.2 9.9 Administrative cost 139 1.5 1.8 Default expenses 92 1.0 1.2 Interest cost 515 5.4 6.5 Net income 38 0.3 0.4 Source: See Annex I. both higher administrative and default expenses. As a result, SMSI operations were at a net loss of 3 per cent of SMSI loan portfolio, compared with a net profit of 3 per cent for larger-scale industrial lending. The least profitable of DBP's operations was agricultural lending. In fact, agricultural lending was a highly subsidized operation with a very low gross income rate of 5.5 per cent, which was insufficient to cover even interest costs. By comparison, industrial lending as a whole was more profitable, with a gross income rate of 12 per cent and a net income rate of 3 per cent. The costs of industrial lending as a whole were substantially lower than those for agriculture, with administrative expenses accounting for one fifth and default risk expenses for less than one half those for agricultural lending. .. 9 - -9- Table 2. Development Bank of the Philippines: Summary Costs of Lending Operations, 1975/76 (In millions of pesos and as a per cent of outstanding assets in each category) Net Total Trans- income assets Admini- Default action (before in each strative risk costs Cost of Gross tax) category expenses expenses (2+3) funds income (6)-(4+5) (1) (2) (3) (4) (5) (6) (7) Agricultural loans 1,366.5 3.9% 3.4% 7.3% 6.7% 5.5% 8.5% Industrial loans (all industries) o,950.1 0.7 1.4 2.1 6.9 12.0 3.0 Small and medium- scale industries 166.7 3.0 2.5 5.5 7.2 9.6 3.1 Large-scale industries 2,783.4 0.4 1.3 1.7 6.9 12.1 3.3 Real estate loans 669.3 1.6 0.5 2.1 6.9 9.7 0.7 Government loans 83.9 0.7 -- 0.7 6.6 9.6 2.3 Source: See Annex I. - 10 - 2. Private Development Banks The private development banks (PDBs) which have existed for al- most 20 years are quasi-private institutions providing medium and long-term credit to agriculture and industry. As of June 30, 1977 there were 34 PDBs in operation both in urban and rural areas, of which 19 had branches. With government encouragement the DBP has played a significant role in sponsoring and promoting the PDBs. Prior to December 1972 the DBP participated up to a maximum of 50 per cent in the equity of the PDBs but recently, the DBP has trans- ferred its entire holdings of PDBs to the Land Bank of the Philippines. Government participation in PDBs established since this date has been entirely through the DBP, which, before that date, could hold up to a maximum of 50 per cent of the equity of the PDBs. The terms of lending of the PDBs are as follows: (a) Long-term loans (6-10 years) Maximum rate = 16 per cent basic plus 3 per cent service chargel/ 19 per cent (b) Medium-term loans (2-5 years) Rates same as long-term (c) Short-term loans (less than 2 years) Maximum rate = 12 per cent for secured loans 14 per cent for unsecured loans both plus 3 per cent service charge-/ 1/ This service charge is a one-time charge. - 11 - Loans are normally discounted, resulting in an increase in the effective rate of 0.6 to 0.7 per cent. For agricultural loans, the PDBs frequently lend 100 per cent of the total cost of a project; for industrial loans, they normally lend 90 per cent of the project costs, requiring the borrower to put in 10 per cent of his own funds. There is a ceiling of P200,000 on PDB loans, though occasionally syndicating between banks effectively raises this ceiling. Collateral is required by the PDBs on all their lending, usually in the form of real estate (at 70 per cent of appraisal value). Rediscounting rates are graded according to the size of the loan; loans of less than P50,000 with 6-10 years' maturity are granted 100 per cent re- discounting value. In 1976 the PDBs as a whole operated on a margin of only 0.4 per cent of total assets (Table 3). Administrative costs for all PDB operations were 4.4 per cent of'total assets, of which 2 per cent was for salaries and bonuses, and the remaining 2.4 per cent was for other administrative expenses. The transaction costs of lending (administra- tive cost plus default risk expenses) by the PDBs were in the range of 5.8 per cent, to 6.3 per cent (Table 4), which are comparatively low for small to medium-scale credit extension. This may well be due to their particular style of management; PDBs are generally managed by the major stockholder who tends to be a prominent and often wealthy person from the local area. The overall administrative expenses involved in PDB lending were 3.9 per cent. Given the-nature of 1PDB lending (i.e., mostly to small and medium-scale clients), these ex- penses are considered to be relatively low. - 12 - Table 3. Private Development Banks: Summary of Costs of Operations, 1976 (In thousands of pesos and per cent of total assets) Per cent of Amount total assets Overall operations 1. Administrative cost 20,800.0 4.4 Salaries and bonuses1/ 9,473.0 2.0 Other 11,327.0 2.4 2. Default risk expenses 7,180.3 1.5 3. Total costs (1+2) 27,980.3 5.9 4. Cost of funds 23,967.1 5.0 5. Gross income 54,059.6 11.31/ 6. Net income (5)t- (3+4) 2,112.2 0.4 Source: See Annex I. 1/ Includes basic salaries, allowances, bonuses, insurance premia and other employee fringe benefits. 2/ This rate is expressed as a percentage of outstanding portfolio. In terms of credit granted, this rate would be higher, as mentioned on page 24. -13- Table 4. Private Development Banks: Costs of Lending Operations (As a per cent of each category of asset) Agricultural Industrial Other Total loans loans loans loans 1. Administrative expenses 3.0 4.0 1.0 3.9 2. Default risk expenses 3.2 2.3 4.8 1.9 3. Total transaction costs (1+2) 6.2 6.3 5.8 5.8 4. Cost of funds 5.0 5.0 5.0 5.0 5. Gross income 11.5 11.1 9.8 10.9 6. Net income (5) - (3+4) 0,3 -0.2 -1.0 0.1 Source: See Annex I. - 14 - Details of these costs, together with the procedure adopted to allocate them, are given in Annexes I and II. 3. The Rural Banking System The Philippines is distinctive in its nationwide program of rural credit extension through a widespread network of rural banks. Organized as unit banks, with ownership, management and control in private hands, rural banks receive financial and technical assistance from the Govern- ment. Apart from the commercial banks, the rural banks have become the principal institutional group through which the Government imple- ments its credit programs designed to improve the conditions of the rural sector, particularly some of the agrarian reforms. In terms of resources, however, rural banks contributed only approximately 3 per cent to the total resources of the financial system as of the end of 1976. Of this amount 85 per cent was in loan portfolio, being over- whelmingly in the form of agricultural loans (80 per cent) and con- stituting the major source of credit for the small farmer. Cost of credit to farmers consists of a basic interest charge of 12 per cent, collectible at loan payment, and a service fee of 2 per cent discounted on release of the loan, resulting in an effective rate of 14.14 per cent. However, a compulsory deduction of 3 per cent of the loan representing the farmer's contribution to the Barrio Savings Fund (BSF) is also discounted upon release of the loan. In addition, the farmer is required to contribute about P55 per hectare every har- vest as his contribution to the Barrio Guarantee Fund (BGF). Thus when the BSF and BGF payments are taken into account, the effective - 15 - rate of interest works out to between 20.8 per cent and 19.3 per cent. Other unavoidable costs to farmers include transportation and incidental expenses attributable to the loan application and withdrawal of loan proceeds--estimated by Central Bank officials to be around 1 per cent of the value of the loan. Operating costs of rural banks have been relatively low. The administrative costs of their overall operations in 1976 were 4.0 per cent of total assets, a slight increase from earlier years (see Table 5). Expenses for default risk were only 1.2 per cent, and the cost of funds was 2.9 per cent because of the substantial volume of low cost funds obtained from the Central Bank. With a gross income of 9.8 per cent, rural banks have thus earned a net profit of 1.8 per cent. Looking specifically at the costs of lending (Table 6) the transaction costs were estimated to be 4.8 per cent of total outstanding loans, comprising 3.5 per cent administrative costs and 1.4 per cent default risk expenses. For agricultural lending, these administrative costs are particularly low. In terms of new loans granted, they amounted to 4.8 per cent, which was one of the lowest administrative costs of selected institutions in a wide sample of countries published in an earlier IBRD report (presented in Annex II). The administrative costs reported in these other institutions were mostly in the range of 10-20 per cent of new loans granted. Default risk expenses, as re- flected in the accounts of the rural banks, were estimated at 1.2 per cent, which is low considering the repayment problems experienced by rural banks. First, some of the expenses are borne by the Central - 16 - Table 5. Rural Banks: Summary of Costs of Operations, 1974-76 (In millions of pesos and per cent of total assets) 1974 1975 1976 Amount Per cent Amount Per cent Amount Per cent Gross.income 153.7 7.3 234.4 8.5 295.8 9.811 Administrative cost 67.5 3.2 92.8 3.4 119.3 4.0 Default risk 16.9 0.8 24.0 0.9 35.5 1.2 Interest cost 46.4 2.2 64.7 2.4 86.1 2.9 Net income 22.9 1.1 52.9 1.9 54.9 1.8 Source: Annex I. - 1/ This is broken down as follows: interest on loans, 7.56 per cent; interest on bonds/securities and other earnings, 2.24 per cent.. Table 6. Rural Banks: Costs of Lending Operations, 1974-1976 (In millions of pesos and per cent of total loans) 1974 1975 1976 Amount Per cent Amount Per cent Amount Per cent 1. Administrative cost 50.9 3.0 70.0 3.0 90.0 3.5 2. Default risk expenses 16.9 1.0 24.0 1.0 35.5 1.4 3. Total transaction costs (1+2) 67.8 4.0 94.0 4.0 125.5 4.8 4. Gross income from loans 125.3 7.3 178.9 7.6 228.1 8.8 5. Interest cost of funds 46.4 2.7 64.7 2.8 86.1 3.3 6. Net income 11.1 0.7 20,2 0.8 16.5 0.6 Source: See Annex I. - 17 - Bank in its administration of guarantees. Second, there have been few actual defaults on loans. Arrearages and rescheduling of loans have been reflected in the administrative costs and not in the expenses for default.. The ratio of arrears to portfolio of rural banks has ranged from 21 to 28 per cent over the last two years, which is not particularly high compared with similar institutions in other LDCs. The average arrears/portfolio ratio for a sample of 29 credit institu- tions in LDCs was found to be 17 per cent (Annex III). 4. The Private Development Corporation of the Philippines The Private Development Corporation of the Philippines (PDCP) was established in 1963 and has become the largest private institutional source of long-term finance. The PDCP extends project loans, as well as undertaking equity investment, guarantees and underwriting activities. The PDCP is one of the few private financial institutions in the Philippines to make a special effort to extend credit to small-scale enterprises. In February 1972 the Small Business Term Lending Program was established under which long-term credit for plant and equipment, or for permanent working capital are extended to enterprises whose total assets are less than Y1 million. Loans are of an average maturity of 6-7 years, with a maximum of 10 years. The PDCP uses its -own funds for agricultural loans. These are lent at 19 per cent (12 per cent interest plus 7 per cent supervision fee), and, by the PDCP's own estimate, are obtained at an approximate cost of 16 per cent. This 3 per cent spread just covers the default risk, not the administrative 1/ "Bank Policy on Agricultural Credit' World Bank Report No. 436, May 1, 1974. - 18 - costs. These loans are therefore subsidized by other PDCP operations. Industrial Guarantee Loan Fund (IGLF) funds are used for approximately 50 per cent of the PDCP's small loans, mostly for manufacturing. These funds are obtained from the Central Bank at 7 per cent and on-lent at 12 per cent plus the guarantee fee of 2 per cent of 60 per cent of the value of the loan (1.2 per cent effective rate which is remitted back to the IGLF) plus a supervision fee of 1.5 per cent (a one-time charge). This results in a 6.5 per cent spread for the first year, and a 5 per cent spread in later years. The PDCP has been operating on a margin of 3.4 per cent of total assets (Table 7), which has not changed much over the last few years. Gross income was 11.7 per cent in 1976, one percentage point higher than four years earlier. Interest costs have also increased over this time period--from 5 per cent to 6.6 per cent. Administrative and default costs are low, 1.3 per cent and 0.2 per cent, respectively, in 1976. Administrative costs have remained stable as a share of total assets over the years, and are slightly lower than those of the DBP (which in 1976 were 1.5 per cent). The PDCP margin is consider- ably larger than that of the DBP (3.6 per,cent compared with 0.5 per cent), mainly due to the higher rate of gross income of the former (11.7 per cent compared with 9.9 per cent). The PDCP's lending operations have become increasingly more profitable over the last few years (Table 7), returning a net profit of 4.4 per cent in 1976. This relatively high rate was achieved despite an interest cost of 8.3 per cent. The reasons for this are two-fold: - 19 - Table 7. The Private Development Corporation of the Philippines: Summary Costs of Lending and of All Operations, 1974-1976 (In thousands of pesos and per cent) 1974 1975 1976 As per As per As per cent of cent of cent of All PDCP total total total operations Amount assets Amount assets Amount assets Gross income 76,298.1 10.2 92,697.3 10.7 101,419.6 11.7 Administrative costs 8,815.9 1.2 9,553.3 1.1 11,229.4 1.3 Default risk 2,850.0 0.4 1,470.0 0.2 1,500.0 0.2 Interest cost 43,521.5 5.8 54,731.6 6.3 57,673.4 6.6 Net income (before tax) 21,110.8 2.8 26,942.4 3.1 31,016.8 3.6 1974 1975 1976 As per As per As per cent of cent of cent of PDCP lending outstand- outstand- outstand- operations Amount ing loans Amount ing loans Amount ing loans Gross income from loans 59,887.7 10.3 81,275.2 11.6 91,481.3 13.1 Administrative costs 2,204.9 0.4 1,559.8 0.2 1,894.9 0.3 Default risk 2,850.0 0.5 1,470.0 0.2 1,500.0 0.2 Interest cost 43,521.5 7.5 54,731.6 7.8 57,673.4 8.3 Net income (before tax) 11,311.3 2.0 23,513.8 3.4 30,413.0 4.4 Source: See Annex I. - 20 - the gross income from loans was high (13.1 per cent) and both adminis- trative and default costs were particularly low (0.3 per cent and 0.2 per cent, respectively). Administrative and default costs of lending to the small-scale sector by the PDCP were approximately three times those for lend- ing to the medium and large-scale sectors (6.7 per cent compared with 2.6 per cent in 1976) (Table 8). A major difference in costs is in the administrative expenses, which were considerably higher for the small-scale sector (2.96 per cent compared with 0.24 per cent in 1976).1/ III, Estimated Transaction Costs of Some of the Financial Institutions in the Philippines: Some Conclusions The tra saction costs of lending are made up of administrative costs and default risk expenses. Administrative costs are a summation of wage and salary expenses and other administrative costs such as printing, stationary, rent, travel, etc. Estimates have been made of those admini- strative costs involved in lending operations. There include not only the direct costs of lending operations but also a portion of the administrative costs of other supporting departments. Expenses for default risk are defined as those expenses for the risk of loan default incurred by the lending institutions, like provision for loan losses, the loan guarantee fees paid, and the actual bad debts incurred. Not included are the costs of operating the various guarantee schemes of the Central Bank of the Philippines. Since they cover the 1/ The particularly high percentage costs of lending to the small- scale sector in 1974 are somewhat misleading. The total volume of outstanding loans to this sector was relatively small in that year, the Small Loans Program having only just been established. The cost percentages for 1976 are more representative. -21- Table 8. Private Development Corporation of the Philippines: Administrative Costs and Default Risk of Lending to Small and Nonsmall Recipients, 1974-1976 (In thousands of pesos and per cent of each category of loans) 1974 1975 1976 Per Per Per Amount cent Amount cent Amount cent Administrative costs Lending to small- scale recipients 153.660 8.13 198.916 4.75 221.055 2.96 Wages and salaries 84.774 4.48 114.364 3.73 177.869 1.58 Other 68.886 3.64 84.552 2.02 103.185 1.38 Lending to non- small scale recipients 1,102.962 0.19 1,360.862 0.20 1,637.833 0.24 Wages and salaries 608.504 0.11 782.412 0.11 892.504 0.13 Other 494.458 0.09 578.450 0.08 781.329 0.11 Default risk On lending to small- scale recipients 229.0 12.11 255.0 6.09 280.0 3.74 On lending to non- small-scale recipients 13,101.0 2.7 14,545.0 2.09 16,020.0 2.32 Total administrative costs and default risk On lending to small- scale recipients 383.7 20.24 453.9 10.85 501.1 6.70 On lending to non- small-scale recipients 14,204.0 2.46 15,905.9 2.29 17,657.8 2.55 Source: See Annex I. - 22 - whole spectrum of financial institutions, allocation of their costs to the particular institutions could not be made. It is not expected, however, that this would substantially alter the estimates since the two major guarantee schemes are operating a surplus.1/ Table 9 presents the estimated transaction costs of lending to the small and nonsmall sectors by different financial institutions. 1. Transaction costs of lending to small-scale farmers The transaction costs of lending (administrative and default expenses) to small-scale farmers were found to range from 5 per cent to 7 per cent of outstanding loans. Administrative costs of lending to small-scale farmers were between 3 per cent and 4 per cent. These costs are low for such lending; the administrative costs of agricultural credit institutions in other countries were found to be more than twice this percentage.2/ Default risk expenses of lending to the small-scale farmer vary considerably with the institution, depending upon its bad debt experience, accounting practices and coverage of its loans by guarantee. When a major 1/ Loans extended by the rural banks under the Supervised Credit Scheme (constituting 60 per cent of total outstanding,loans) are covered by a compulsory guarantee scheme, The Agricultural Guarantee Fund (AGF). Rural banks pay a one per cent fee for 85 per cent coverage of loan default. In practice, very few claims have been made on the AGF, and the Fund is operat- ing in surplus. The same is true of the Industrial Guarantee Loan Fund (IGLF) covering small industry lending. The whole question of the costs of operating the guarantee funds is a complex one which deserves further study. 2/ The World Bank report "Bank Policy on Agricultural Credit," May 1, 1974, stated that "For an efficient small farmer credit institution... total administrative costs excluding extension and other ancillary services would be between seven and ten percent of total portfolio." (p.40). For further details, see Annex II of this report. 22 - 23 - Table 9 . Transaction Costs ok Lending by Institution and by Activity and Size of Recipientl/ (In per cent of outstanding loan in each category) Total Administrative Default risk transaction costs expenses costs (1) (2) (3) = (1+2) Small-scale agriculture Rural banks 3.5 2.0 5.5 Development Bank of the Philippines 3.9 3.4 7.3 Private development banks 3.0 3.2 6.2 Small-scale industry Development Bank of the Philippines 3.0 2.5 5.5 Private Development Corporation of the Philippines 3.0 3.7 6.7 Private development banks 4.0 2.3 6.3 Large-scale industry Development Bank of the Philippines 0.5 1.3 1.8 Private Development Corporation of the Philippines 0.2 2.3 2.5 Commercial banks 0.4 1.7 2.1 Source: See Annex I. 1/ For an explanation of the procedures in estimating these costs, see Annex I for the rural banks, the private development banks, the Development Bank of the Philippines and the Private Development Corporation of the Philippines. For the commercial banks, see K.A. Saito and D.P. Villanueva, "Portfolio Determinants of Commercial Bank Earnings in Selected Asian Countries," IBRD, Domestic Finance Studies No. 49, March 1978. -24- portion of the loan portfolio is covered by special guarantee arrange- ments with the Central Bank, then default risk expenses incurred by the lending institution are low; for example, for the rural banks they are only 2 per cent of outstanding loans. When loans are not so extensively covered by guarantee arrangements, as with the Development Bank of the Philippines (DBP) and the private development banks (PDBs), then the default risk expenses are around 3 per cent. The interest cost of obtaining funds,1/ other than for rural banks which obtain the bulk of their funds at special rates from the Central Bank, is in the range of 5 per cent to 7 per cent. Thus, lending to small-scale agriculture can only be viable for financial institutions if they charge an interest rate of between 10 per cent and 14 per cent of the outstanding portfolio plus some margin for profit. In terms of credit granted, this rate would be even higher. 2. Transaction costs of lending to small-scale industry The transaction costs of lending are found to be slightly lower for small-scale industry than for agriculture. The administrative costs of lending to small-scale industry by the DBP and Private Development Corporation of the Philippines (PDCP) are 3 per cent of outstanding loans, and those of the PDBs a percentage point higher. Default risk expenses are in the range of 2-4 per cent. Total transaction costs are thus in the range of 5-7 per cent. With the exception of the PDBs who benefit from a special arrangement with the DBP, the interest cost of funds is 7-8 per cent, slightly higher than for agricultural lending. Total costs--interest plus transaction costs--are thus of the order 1/ I.e., total interest payments, as recorded in the profit and loss statement, divided by the volume of funds received. -25- of 12.5-15 per cent of outstanding loans, so that an interest rate of this magnitude plus some profit margin must be charged on lending to the small-scale industrial sector if such activities are to be financially viable. As one would expect, lending to large-scale industry is found to be much less costly. The DBP's administrative costs for such landing are only 0.5 per cent of outstanding loans to this sector, while the PDCP's are even lower (0.2 per cent). With default risk expenses of the order of 1-2 per cent, the transaction costs of lending to large-scale industry are less than 3 per cent. Funds are obtained at 7-8 per cent, so that the total costs involved in lending to large-scale industry-- interest cost of funds plus transactioncosts (not including any margin for profit)--are in the range of 10-11 per cent. Currently, interest rates of 16-19 per cent are charged on large- scale industrial lending by the DBP and PDCP. The profit center data provided by the DBP1/ show the DBP to be making a profit of almost 5 per cent on its lending operations to large-scale industry and a loss of almost 1 per cent on its lending operations to small-scale industry. The DBP is thus subsidizing its small-scale lending with its profits from large-scale lending. The problem of extending credit to the small-scale sector can thus be summed up as follows: with the real cost of lending to small farmers being approximately three times that for lending to large-scale 1/ The DBP has organized its accounting on a profit center basis; its cost data are thus allocated by function. Costs taken into account are administrative costs and the interest cost of funds; in its profit center accounting, the DBP does not allocate expenses for default risk. These estimates were made by the authors. - 26 - industry, and that for lending to small-scale industry being approximately twice, how can an adequate supply of funds be made available to the small- scale sector at a cost reasonable to the borrower while maintaining the long-run-viability of the financial institutions?1/ Lending to the small- scale sector is, therefore, feasible only under one or a combination of the following financial arrangements: (1) Interest rate charged on small-scala lending should be sufficiently high to cover these costs. If -osts of funds are assumed to be in the order of 7-8 per cent, and assuming a profit margin of 2 per cent, then a minimum interest rate of 11 per cent and a maximum of 17 per cent on the outstanding volume of loans would need to be charged. (2) Those institutions which extend credit to the small-scale sector obtain the funds at a special rate from the Central Bank. This was the case with the rural banks, which, because of their access to cheaper funds, paid an implicit interest cost of only 2.9 per cent. As a result they are amongst the few institutions which are able to make a net profit on lending to the small farmer. (3) Cross-subsidization occurs within the financial institutions. This has been a feature of the financial institutions in the Philippines. The DBP has been lending to the small-scale sector at a net loss, but it is able to cover this loss from its more lucrative activities. As long as credit extension to the small-scale sector is a policy objective,2/ then it must be recognized that there are costs involved of 1/ For an analysis of appropriate interest rate policies in LDCs, see D.R. Khatkhate, "False Issues in the Debate on Interest Rate Policies in Less Developed Countries," IMF mimeograph, October 31, 1978. 2/ Besides the social and political justification, such a policy could also be supported on purely economic grounds in terms of the shadow price of employment, the potential growth of output of the small-scale sector, etc. - 27 - the magnitude described above which will have to be borne by the borrower, the lending institution or by the Government. In the first option, these costs are passed on to the borrower, which makes the resultant pattern of allocation market determined. In the second option, the Government bears this cost and also has considerable flexibility in credit alloca- tion through the rediscounting policies. The Government can control the volume and terms of credit, as well as the type of recipient. A further advantage of this procedure is that it would not work against the long-run viability of the financial institution; the institutions become merely the channels of lending and there is no trade-off between borrower and lender in the sense that the development of the small-scale sector is not achieved at the expense of the institutions' capacity for effective performance. Thus if the small-scale sector is to be subsidized, there is much to be said for the subsidy being passed to and through the lending channel. To the extent that the specialized lending institutions are government owned and managed, then, like the rediscounting scheme described above, they can be a powerful medium for ensuring that specific sectors of the economy receive adequate credit at an appropriate cost. They also can play a significant role in the development of specialized skills in appraisal or promotion techniques.1/ The Philippine experience shows that certain specialized lending institutions operating in conjunction with the guarantee fund are an 1/ Such institutions, however, can be excessively dependent on the government for resources rather than broadening their links with the general financial system. The detrimental impact which such institutions could have on the financial system are discussed in the section on interest rates in The World Bank Group's Role in Financial Development: A Review of Issues, Public and Private Finance Division, Development Economics Department, IBRD, April 2, 1974. - 28 - appropriate vehicle for existing credit to the small-scale sector. The rural banks are a particularly good example. Considering the nature of their lending operations, the administrative costs are low. As men- tioned earlier, the administrative costs of agricultural credit insti- tutions in other countries have been found to be more than twice this percentage.1/ One reason for the relatively low administrative costs of rural banks may be the fact that many of them are owned and managed by those who were originally the local money lenders. As a result of a government policy to institutionalize the informal sector, local money lenders were encouraged by the Central Bank to establish rural banks. In such a capacity they could utilize to full advantage their contacts with the local clientele and their knowledge of local conditions and problems. An additional factor may be the rather conservative attitude of rural bankers concerning collateral requirements, and their tendency to rely less on project analysis.2/ It is true that rural banks currently have problems with arrearages,3/ but this is to be expected, given the nature of agricultural lending. In comparison to credit institutions of other LDCs the percentage of overdue loans to total portfolio is not particularly high.4/ Moreover, the relatively low transaction costs of their lending operations do clearly indicate that this kind of 1/ See Annex II for a comparison with the administrative costs of credit institutions in other LDCs. 2/ For example, 63 per cent of the volume of loans granted in 1973 by rural banks had real estate mortgage as collateral, 31 per cent were secured by chattel mortgage, guarantees, securities, bank deposits, crop pledges, and only 6 per cent were unsecured. 3/ See Section 3. 41 See Annex III. - 29 - institutionalization of the informal sector is a particularly appropriate way of extending credit to the small-scale sector. A related studyl/ finds that, though the two groups of banks, i.e., rural banks and the PDBs, differ hardly at all in technical efficiency, there is a significant difference in price or allocative efficiency.2/ This finding corroborates the evidence of'lower transaction costs of the rural banks relative to those of the PDBs. Moreover, the same study concludes that the PDBs are less efficient in staffing their branches for any given size of assets they manage; the rural banks are unit banks whereas the PDBs support a network of branches. These conclusions, coupled with the much broader coverage of the country by the rural banks, suggest that the rural banks are more efficient institutions in meeting the credit needs of the small-scale sector. 1/ D. Richard and D. Villanueva, "Relative Economic Efficiency of Banking Systems in LDCs: The Philippine Experience," IMF mimeograph, November 2, 1978, 2/ Bank A is said to be more technical-efficient than bank B if A provids a higher level of bank services from an identical set of measured resources. Assuming that both A and B are of equal technical efficiency, the bank with the higher level of profits is considered the relatively more price-efficient firm. Technical efficiency is a pure technological concept, abstracting from consideration of prices. Price or allocative efficiency is an economic concept, recognizing that different banks succeed in varying degrees in maximizing profits, i.e., in equating the value of the marginal product of each variable input to its price. Extra page - 30 - Annex I. Procedures Used to Estimate Transaction Costs 1. The Development Bank of the Philippines The Development Bank of the Philippines (DBP) has organized its accounting on a profit center basis, hence most of the cost information in the text was provided directly by the DBP which had the cost data already allocated by function from their profit center data. These cost data were allocated by the following procedures. a. Distribution of expenses to departments/units i. Head office For costing purposes, operations and activities of the Bank are divided into functional and service units. Eah unit maintains its own expense account and a subsidiary ledger is ma4ntained for expenses with one ledger sheet for each expense account. Analysis is made to determine the department/unit allocation of head office expenses, and the proper expenses and unit indicated on "expense tickets." These "tickets" are then analyzed and balanced with the general ledger on a monthly basis. ii. Branches Expense distribution statements are prepared quarterly by each branch and forwarded to the head office. These statements give the distribution of the branch expenses to the different cost units. Expenses which are readily allocable to functions are distributed therein; other- wise, the expenses are accumulated in one cost unit "General" for later distribution to functions. -31- ANNEX I Expenses on time and savings deposits including allocated costs of service units (computed at 1/2 per cent of total service unit costs for every 500 outstanding accounts as of year-end) are eliminated for trans- fer and inclusion in the computation of bankwide interest cost. The cost of the service unit allocated to progress bonds (computed at 1/2 per cent of outstanding progress bonds at the year-end) is also eliminated for transfer and inclusion in the computation of bankwide interest cost. b. Distribution of departmental unit administrative expenses to functions i. Head office Departmental service costs are closed out department after department into other departments until remaining departments take over the entire administrative expenses and emerge as functions. Before close- out, departmental expenses are adjusted for entries to profit and loss involving administrative expenses. Departmental activities are analyzed to determine the flow of service to serve as a guide for close-out. Departments which serve the greatest number of departments or which re- ceive service from the smallest number of other departments are closed out first. As a guide, data are furnished by the departments showing the estimated proportion of their service to other departments. Alloca- tions to other departments already closed are accumulated in "Undistributed Expense" and distributed later on an overall basis. Allocated cost of Branches and Agencies Department is treated as Head Office Supervision Cost and is eliminated from functional expenses of head office and then transferred to each branch expense (in proportion to total investment) and to functions within each branch based on functional investment. -32- ANNEX I ii. Branches Total cost of service units (net of allocated costs to time and.savings deposits and progress bonds) are allocated to functional units on the basis of the number and amount of outstanding investments as of year-end and the numbn- and amount of applications processed during the year. c. Distribution of Central Bank fees to functions Central Bank fees are allocated to head office functions and to branches in proportion to total investments for the period. d. Distribution of income to functions Distribution worksheets are prepared for head office and each branch, to allocate income to corresponding functions. All income accounts are identified and distributed to the functions accordingly. Adjustments to profit and loss pertaining to income are taken into account in the allocation of income to function. The following interest incomes are eliminated from total income and are treated as deduction of interest cost of the corresponding borrowings: (i) interest on securities used as reserve deposits and deposit substitutes; (ii) interest on time deposits in case proceeds of any borrowings are temporarily on deposit with banks and not available for loaning operations. -33- ANNEX I e. Determination of sources of funds and corresponding interest cost Functions are associated with the funds they employ and the corresponding interest and other fund costs. The procedure for doing this is the following: i. Preparation of average balance sheet Assets, liabilities and capital accounts are grouped into major accounts, and balances thereof for each month of the year are totalled and averaged. ii. Determination of investible balances Assets not invested in loans and securities and the corre- sponding liabilities and capital funds are eliminated from the assets and liabilities sections of the average balance sheet to show only the net average earning assets and the offsetting liabilities and capital funds. iii. Distribution of investible balances (a) Elimination of unassigned cash Balances of cash and due from banks in excess of re- quired reserve are eliminated proportionately against funds not specific- ally known to be invested in loans and other investments. (b) Assignment of specific assets to funds Specific assets are offset against corresponding fund sources to show the earning assets, the fund sources of which cannot be specifically assigned. These are considered as pooled earning assets and their fund sources as pooled funds. Interest and other fund costs are composed of the following: -34- ANNEX I (a) Financial expenses Direct interest and other expenses, Foreign exchange losses, Adjustments to profit and loss involving financial expenses. (b) Allocated servicing costs Assets with specific fund sources are charged with the interest pertaining thereto. Pooled earning assets are charged interest on each function in proportion to the amount of each kind of pooled assets to the pooled total. f. Estimation of expenses for default risk i. Expenses for risk of default on loans Provision for loan losses is given by the DBP balance sheet as of June 30, 1976. This figure was adjusted in proportion to total loans outstanding to derive an average figure for 1975/76 compatible with the loan figures (see Section 5.a). Since provision for loan losses is for all loans, this figure is allocated to agricultural, industrial and real estate loans on the basis of the loans in litigation. Allocation of the provision for losses in industrial loans to the small and medium-scale sector and to the large-scale sector is on the basis of their respective arrearage rates. ii. Expenses for risk of default on investments in bonds and securities Provision for losses in investments in bonds and securities is only available as of June 30, 1976. This figure was adjusted in proportion to total investments in bonds and securities to derive an average figure for 1975/76 compatible with the investment figure (see Section e.i). -35- ANNEX I 2. The Private Development Corporation of the Philippines (PDCP) a. Administrative costs Data on wages and salaries for staff involved in lending to small and to nonsmall recipients were available for the years 1974, 1975, and 1976. To obtain "other" administrative costs for these two operations, the ratio of total salaries bill to total administrative costs of the PDCP for each of the years 1974, 1975, and 1976 was used. b. Default risk Provision for loan losses is given in the balance sheets; allocation of this provision to small and nonsmall recipients was on the basis of past due loans. 3. Rural banks and private development banks (PDBs) The administrative costs of all operations are available for rural banks and PDBs, but no breakdown of administrative costs according to function is available. For the DBP and for the PDCP this breakdown has been obtained. The administrative costs specifically for lending operations of rural banks have been obtained in the following manner. The unit cost of administering loans, investments, deposits and other operations may differ between the DBP and rural banks, but it is assumed that the unit cost of administering loans relative to that of administering other operations is the same between the institutions. Thus, adopting the following notation in the estimation for rural banks: L = Outstanding loans 01 = Outstanding other investments -36- ANNEX I DEP = Outstanding deposits OB = Outstanding other borrowings TAC = Total administrative costs A = Administrative cost of loans B = Administrative cost of other investments C = Administrative cost of deposits D = Administrative cost of other borrowings. Thus A + B + C + D = TAC. Adopting the same notation of DBP with subscript DBP, it is assumed that: ( A ADBP .XB BDBP XC - CDBP . DDBP L DBP 0 O ODBP ' DEP DEPDBP OBDBP where X is a constant factor. Thus (2) L ADBP + xBDBP DEP CDBP +OBx DDBP TAC X LDBP X 0IDBP X DEPDBP X OBDBP Since the only unknown in the above equation is X, the value of X can be derived. By substituting the derived value of X into (1), and the values of A, B, C, and D, are derived. These are the administrative costs for lending operations, other investments, deposits and other borrowings respectively, of rural banks. This procedure has also been used to derive the administrative costs of agricultural and industrial lending of rural banks, since this cost breakdown is available for DBP operations. Expenses for default risk consist of the change in the provision -37- ANNEX I for loan losses, plus guarantee fees paid, plus actual bad debts. Sec- toral allocation of these expenses was done on the basis of the sectoral distribution of past due loans at the rural banks and PDBs. The allocation of administrative costs of PDBS by function was done by regression methods.1/ The equation used was: ADMCOST/TA = 103955**(1/TA) + 2.98**(AGRI/TA) + 4.04*(INDUS/TA) (6.40) (3.55) (2.55) + 2.96**(DEP/TA) (2.88) 2= O9426; SE 0.01211; F(4,28)** = 132.3 Where: ADMCOST = Total administrative cost TA = Total assets AGRI = Agricultural loans INDUS = Industrial loans DEP = Total deposits R2 Square of correlation coefficient adjusted for degrees of freedom SE = Standard error of estimate * = Statistically significant at the 95 per cent level ** = Statistically significant at the 99 per cent level F F-statistic with degrees of freedom in parentheses t-values are in parentheses under the estimated coefficients. 1/ For an exmaple of using the same techniques in allocating costs of commercial banks in the Philippines, Thailand, and Singapore, see K.A. Saito and D.P. Villanueva, "Portfolio Determinants of Commercial Bank Earnings in Selected Asian Countries," IBRD, Domestic Finance Studies No. 49, March 1978. - 38 - Annex II. Administrative Costs for Selected Credit Institutions of LDCs Cost as a Cost as a per cent of per cent of Country Institutions new loans total resources Africa Ghana ADB 10 10 Ivory Coast CNCA 9 Kenya AFC 3 Morocco CNCA 10 3 Senegal BND 3 Uganda Cooperatives 50 Asia Bangladesh KTCC 17 10 BKB 3 India LDB 3 Indonesia BIMAS (improved) 25 Jordan ACC 30 3 Korea NACF 6 4 Lebanon BCAIF 3 Malaysia BPM 20 Pakistan ADB 3 Philippines Rural banks 3.7 3.2 Thailand BAAC 13 8 Turkey SCR 5 2 BAT 6 Taiwan Farmers' Assoc. 2.5 Coop. Bank (2.5) Land Bank (1.5) Latin America Brazil ACAR 10 Colombia INCORA 10 7 Costa Rica BNCR 7 3 El Salvador DAPC 4 Mexico ABC 16 11 Peru FONDO 3 ADO 6 Sources: Bank Policy on Agricultural Credit, World Bank Report No. 436, May 1, 1974, Annex Table 13. - 39 - Annex III. Measures of Loan Delinquency of Selected Credit Institutions of LDCs Arrears to Arrears Country Institutions portfolio ratel/ Africa Ethiopia Wolamo 3 CADU 50 Ghana ADU 55 Ivory Coast BNDA 15 Kenya GMR 25 33 Mali AFC 51 36 Malawi Lilongwe -- 2 Niger CNCA 11 29 Nigeria WSACC 52 80 FAID 95 Morocco SOCAP 50 CNCA 13 5 Sudan COOP 26 ABS 13 Tanzania NDCA 28 50 Tunisia BNT 66 50 Uganda Local Credit Unions' Coop. Credit Scheme 10 Asia Afghanistan ADBA 37 77 Bangladesh AB 43 76 IRDP India PCCS 34 7 PLDB 12 20 Iran ACBI 44 Jordan ACC 41 82 Korea NAFC 7 15 Malaysia BPM 6 21 Pakistan ADB 36 65 Philippines Rural banks 25 24 Sri Lanka New Cr. Scheme 50 41 Thailand BAAC 50 Turkey ABT 29 43 Vietnam Rural banks 5 Latin America Bolivia Agr. Bank 1 68 Chile INDAP 16 60 Colombia Caj. Agr. 19 INCORA 4 16 Costa Rica BNCR, BCR 35 El Salvador ABC 37 81 Honduras BNF, Sup. Cr. 10 18 Jamaica ADB 31 10 Peru Plan Costa 33 BFA Source: Bank Policy on Agricultural Credit, World Bank Report, No. 436, May 1, 1974, Annex Table 12. 1/ The arrears rate is equal to 100 minus the repayment rate. Note: These measures have various shortcomings. Most agencies consider rescheduled loans as having been repaid. A low ratio of arrears to portfolio may not mean much when loans are expanding rapidly and not yet due while at the same time the repayment rate on previous loans is poor. Annex IV Table 1. SMSI Loan Portfolio by Size (In thousands of pesos and per cent; as of June 30, 1976) Total outstanding principal Arrears affected by arrears Loan size Total loans Total As per cent of As per cent of Outstanding of principal total outstand- total outstand- No. amount and interest ing loans Amount ing loans 150,000 and below 2,138 12,996 3,855 28.0 10,000 78.0 P50,001-p100,000 243 13,467 3,840 27.0 10,179 76.0 o P100,001-?500,000 389 72,535 25,794 32.0 56,917 78.0 P500,001-p1 million 91 53,612 11,402 20.0 39,227 73.0 P1 million-P3 million 46 56,584 13,273 21.0 35,839 63.0 Total 2,907 209,194 58,164 26.0 152,262 73.0 Loans to firms with assets exceeding 308 2,432,800 103,000 4.0 n,a, P1 4 million -41- ANNEX IV Table 2. Development Bank of the Philippines: Administrative Expenses by Consolidated Account, Head Office and Branches, 1975/76 (In millions of pesos) Consolidated Head office Branches Total investments 7,908.200 6,599.11 1,309.090 Wages and salaries1/ 60.419 29.382 31.037 (as a per cent of total investments) (0.76) (0.45) (2.37) Other administrative expenses 78.531 50.968 27.573 (as a per cent of total investments) (0.99) (0.77) (2.11) Total administrative expenses 138.950 80.350 58.610 (as a per cent of total investments) (1.76) (1.22) (4.48) Source: Development Bank of the Philippines. 1/ Includes basic salaries, allowances, bonuses, insurance premia, and other employee fringe benefits. Table 3. Development Bank of the Philippines: Administrative Costs of Operations by Function; Consolidated, Head Office and Branches (In thousands of pesos) Consolidated Head office Branches Administrative Administrative Administrative expenses expenses expenses Per cent Per cent Per cent of each of each of each Outstand- category Outstand- category Outstand- category ing loans Amount of loan ing loans Amount of loan ing loans Amount of loan Agricultural loans 1,366,484 53,450 3.9 452,141 10,506 2.3 914,343 42,994 4.7 Industrial loans 2,950,067 21,275 0.7 2,835,227 16,805 0.6 114,840 4,470 3.9 Real estate loans 669,324 10,867 1.6 482,324 3,450 0.7 187,000 7,417 4.0 Government and landed estate loans 83,887 635 0.7 83,887 635 0.7 -- -- -- Investment in securities 1,261,550 2,371 0.2 1,261,092 2,366 0.2 458 5 1.1 Source: Development Bank of the Philippines. -43- ANNEX IV Table 4. Development Bank of the Philippines: Expenses for Risk of Default on Lending by Function, 1975/76 Default risk expenses As per cent of each category Total loans Amount of loan Agricultural loans 1,366,484 46,088 3.4 Industrial loans 2,950,067 40,673 1.4 Small and medium scale 166,663 4,235 2.5 Large scalel/ 2,783,404 36,438 1.3 Real estate loans 669,324 3,113 0.5 Investment in securities 1,261,550 2,429 0.2 Source: Development Bank of the Philippines. 1/ Consists of all industrial lending except that through the Small and Mediumi-Scale Industries Department.. -44- ANNEX IV Table 5. Development Bank of the Philippines: Capital Sources and Interest Cost (In thousands of pesos and per cent) Interest cost Per cent Rate per Amount of total Amount annum Capital funds 1,701,647 21.5 Foreign sources (long-term) IBRD 127,157 1.6 12,173 9.6 Consortium loans 347,458 4.4 53,446 15.4 Others 719,897 9.1 41,732 5.8 Foreign sources (short-term) 57,377 0.7 4,196 7.3 Domestic sources (long-term) Bond issues 808,589 10.2 74,275 9.2 IBRD 82,285 1.0 9,834 11.9 Notes of government financial institutions 487,146 6.2 53,829 11.0 Others 502,168 6.4 42,152 8.4 Domestic sources (short-term) Savings and time deposits 2,496,350 31.6 201,645 8.1 Other 270,598 3.4 21,514 8.0 Miscellaneous payables 307,533 3.9 -- -- Total 7,908,205 100.0 514,796 6.5 Source: Development Bank of the Philippines. -45- ANNEX IV Table 6. Development Bank of the Philippines Head Office: Capital Sources and Interest Cost (In thousands of pesos and per cent) Interest cost Per cent Rate per Amount of total Amount annum Capital funds 1,380,705 20.9 Foreign sources (long-term) IBRD 127,157 1.9 12,173 9.6 Consortium loans 288,794 4.4 43,773 15.2 Others 673,578 10.2 36,906 5.5 Foreign sources (short-term) 46,947 0.7 3,436 7.3 Domestic sources (long-term) Bond issues 661,590 10.0 60,832 9.2 IBRD 45,445 0.7 6,239 13.7 Notes of government financial institutions 398,585 6.0 44,086 11.1 Others 460,765 7.0 37,786 8.2 Domestic sources (short-term) Savings and time deposits 2,042,522 31.0 165,147 8.1 Other 221,403 3.4 17,619 8.0 Miscellaneous payables 251,623 3.8 -- -- Total 6,599,114 100.0 427,997 6.5 Source: Development Bank of the Philippines. -46- ANNEX IV Table 7. Development Bank of the Philippines Branches: Capital Fund Sources and Interest Costs (In thousands of pesos and per cent) Interest cost Per cent Rate per Amount of total Amount annum Capital funds 320,942 24.5 Foreign sources (long-term) Consortium loans 58,664 4.5 9,673 16.5 Others 46,319 3.5 4,826 10.4 Foreign sources (short-term) 10,430 0.8 760 7.7 Domestic sources (long-term Bond issues 146,999 11.2 13,444 9.1 IBRD 36,840 2.8 3,595 9.8 Notes of government financial institutions 88,561 6.8 9,743 11.0 Others 41,403 3.2 4,366 10.6 Domestic sources (short-term) Savings and time deposits 453,828 34.7 36,498 8.0 Other 49,195 3.7 3,895 7.9 Miscellaneous payables 55,910 4.3 -- -- Total 1,309,091 100.0 86,799 6.6 Source: Development Bank of the Philippines. - 47 - ANNEX IV Table 8. Private Development Banks' Consolidated Balance Sheet, as of December 31, 1976 (In thousands of pesos and per cent) As per cent Amount of total Assets 476,425.9 100.0 Cash and due from banks 46,823.4 9.8 Loans and investments 384,215.2 80.6 Loans 360,820.9 75.7 Agricultural loans 169,375.1 35.6 Industrial loans 126,941.8 26.6 Miscellaneous loans 64,504.0 13.5 Investment in government bonds 23,394.3 4.9 Fixed assets 17,044.4 3.6 Other assets 28,342.9 5.9 Liabilities and net worth 476,425.9 100.0 Capital stock 86,514.0 18.2 Common shares 61,947.5 13.0 Preferred shares (DBP) 1,702.5 0.4 Preferred shares (LBP) 22,864.0 4.8 Deposit liabilities 270,512.4 56.8 Savings deposits 182,111.8 38.2 Time deposits 88,400.6 18.6 Notes payable (DBP) 78,305.3 16.4 Other liabilities 29,728.9 6.2 Surplus and surplus reserves 3,045.9 0.6 Undivided profits 8,319.6 1.7 Source: Development Bank of the Philippines. -48- ANNEX IV Table 9. Private Development Banks: Capital Sources and Interest Cost, 1976 (In thousands of pesos and per cent) Per cent Rate per Amount of total Amount annum Capital funds 86,514.0 18.2 -- -- Domestic sources Savings and time deposits 270,512.4 56.8 18,546.0 6.9 Otherl/ 108,034.2 22.6 5,421.1 5.0 Miscellaneous 11,365.5 2.4 -- -- Total 476,425.9 100.0 23,967.1 5.0 Source: Development Bank of the Philippines. 1/ Mostly notes payable to DBP. -49- ANNEX IV Table 10. Philippines: Rural Banks' Loan Portfolio, as of December 31, 1976 (In millions of pesos and per cent) As per cent Amount of total Agriculture Nonsupervised Current 662.4 25.6 Past due 185.0 7.1 Items in litigation 22.0 0.8 Supervised Current 1,159.9 44.8 Past due 327.9 12.7 Items,in litigation 48.4 1.9 Commercial Current 75.3 2.9 Past due 24.6 0.9 Items in litigation 3.0 0.1 Industrial Nonsupervised 28.3 1.1 Current 28.3 1.1 Past due 6.4 0.2 Items in litigation 1.1 -- Supervised Current 28.1 1.1 Past due 0.6 -- Ttems in litigation 0.1 -- Others Current 11.4 0.4 Past due 5.8 0.2 Items in litigation 0.1 -- Total 2,590.2 100.0 Source: Central Bank of the Philippines. DOWESTIC FINANCE STUDES S45. A StatisLical Analysis of the Dynamics of Economic Growth in Iran: 1959-73. Deconber 1977. W.A. Dellalfar & J. Khalilzadeh-Shirazi. 46. Innovations in Ennking: The Syndicate's Experience. January 1978. N.K.`Thingalaya. n 47. Interest Rate, Transaction Costs and Financial Innovations. January 1978. V.V. Bhatt. 1; 48. Decision Uaking in the Public Sector: A Case Study of Swaraj Tractor. February 1978. V.V. Bhatt. t 49. Portfolio Determinants of Commercial Bank Earnings in Selected Asian Countries. March 1978. Katrine Anderson Saito and Dan P. Villanueva. # 50. Some Theory of the Financial Intermediation.in Less Developed Countries. May 1973. Alan R. Roo. ' 51. Innovations in Banking: The Gujarat Experiments. August 1978. V.G. Patel. e- 52. Development of the Japanese Bond M1arket. September 1978. Kazuko K. Artus. 53. Transaction Costs of Credit to the Small-Scale Sector in the Philippines, December 1978, Katrine Anderson Saito and Dan P. Villanueva. #54. Development Problem, Startegy and Technology Choice: Sarvodaya and Socialist Approaches il in India. January 1979, V.V. Bhatt. #55. Financial Institutions and Technology Policy, January 1979, V.V. Bhatt. # 56. Development Banks in the Financial System. June 1979. V.V. Bhatt. # 57.. The Violated Neutrality Assumption and Counterfactual Income or Where.Do We Put the Transfers ? June 1979. Jacob Meerman. # 58. Estimating Counterfactual Incomes in Studies of Budget Incidence, July 1979. Jacob Meerman and Parthasarathi Shome. # 5R. Household Income or Household Income per Capita: Is the Difference Important? October 1979, Gautam Datta and Jacob Neerman.