Luận văn tiếng Anh thương mại Solutions to improve effectiveness of consumer credit in Vietnam.doc

Luận văn tiếng Anh thương mại Solutions to improve effectiveness of consumer credit in Vietnam

1 Rationale:

In the context of economic crisis recently, the Government hasimplemented monetary policy and fiscal policy to encourage domesticdemands Experience from the economic development of Vietnam and ofother countries around the world has shown that stable economic growthshould be based on the increase in domestic demand rather than the increasein trade, especially import

Policy stimulating domestic demand, especially consumption demand, isconsidered key economic development policy which helps reduce dependenceon imports Therefore, the banking system - which provides channels to meetthe needs of the economy’s capital - will play an important role in providingcredit for consumer activities.

Also, under the situation of harsh competition in the context ofinternational integration, Vietnamese commercial banks must diversify formsof credit in order to spread, limit, and control risks at the lowest level.

Although in recent years, the State Bank of Vietnam has paidconsiderable attention to the field of consumer credit, this form of credit isstill underdeveloped, accounting for a modest proportion of total outstandingloans Therefore, to expand and enhance consumer credit growth, there is aneed to promote this type of credit.

After consulting my academic supervisor and taking everything into

consideration, I decided to title this thesis “Solutions to improveeffectiveness of consumer credit in Vietnam”.

2 Research purposes

Firstly, the thesis is aimed at generalizing basic fundamentals of

consumer credit.

Secondly, the thesis targets to outline the overall picture of consumercredit activities in VN.

Thirdly, based on the fundamentals and the situation shown, the thesis is

expected to give solutions and recommendations which may make a smallcontribution to the development of consumer credit in VN

With regard to its scope, as an introduction to an emerging industry,this study only concentrates on consumer credit in Vietnam’s commercialbanking system.

Therefore, “overview” is the word that can tell exactly the scope of thisthesis, which in turn, reflects the overall purpose of the thesis.

5 Research structure:

This thesis is divided into three main chapters.

CHAPTER 1: THE FUNDAMENTALS OF CONSUMER CREDIT.

CHAPTER 2: CONSUMER CREDIT ACTIVITIES IN VIETNAM’SCOMMERCIAL BANK SYSTEM.

CHAPTER 3: SOLUTIONS AND RECOMMENDATIONS TO IMPROVEEFFECTIVENESS OF CONSUMER CREDIT IN VIETNAM.

CHAPTER 1: THE FUNDAMENTALS OF CONSUMER CREDIT

The first chapter will focus on presenting the theoretical background of thethesis Key topics in this chapter include:

- Definition of consumer credit and its types.- Characteristics and benefits of consumer credit.- Consumer lending process.

- Indicators to evaluation credit performance.

- Experience and lessons drawn from consumer credit situation in EU.

1 1 General principles of consumer credit

1.1.1 Definition of consumer credit

Not so many decades ago, consumer credit was little known andseldom distinguished from credits granted for business and related purposes.Today it is recognized to be a special type of financing that greatly influencesthe rate of expansion or contraction of consumer demand and hence the levelof business activity

Consumer credit (or consumer loans, consumer lending) can beunderstood in a broad sense including government, non-profit, and informalcredit-debt relationship For example: student loans and money lent betweenfriends and relatives, government lending to people receiving state benefits,people paying utility and telecoms bills in arrears These too can beconsidered forms of consumer credit However, consumer credit is sometimesdefined in a narrower context.

One of the pioneers in the field, Rolf Nugent, defined consumer creditin his book as credit extended to individuals to finance the purchase of

consumer commodities and services or to refinance debts which had theirorigin in such purchases1.

Consumer credit can also be illustrated at the very end of the marketingchain According to Robert Cole and Lon Mishler, “consumer credit is the useof credit as a medium of exchange for the purchase of finished goods andservices by the ultimate user”2.

In Consumer Credit Fundamentals, Steve Finlay defined consumer

credit as ‘money, goods or services provided to an individual in lieu ofpayment’.3

All in all, consumer credit can be seen as a credit-debt relationship inwhich loans are provided to individuals and households to the purchase ofautomobiles, homes, appliances, and other retail goods; to repair andmodernize homes; and to pay the finance the cost of medical care and otherpersonal expenses.

1.1.2 Characteristics of consumer credit

Consumer credit is distinguished from business credit by the followingcharacteristics:

Firstly, due to small scale of each consumer credit agreement which leads to

higher cost of lending operation, interest rate on consumer credit is typicallyhigher than the rate applied for business loans.

Secondly, consumer loans tend to be cyclically sensitive They rise in periods

of economic expansion when consumers are generally optimistic about thefuture On the other hand, when the economy turns down, many individualsbecome more pessimistic about the future and as a result reduce theirborrowings

Thirdly, household borrowings appear to be relatively interest inelastic A

borrower normally considers the monthly payments required by a loan1 Rolf Nugent (1939), Consumer Credit and Economic Stability, Russell Sage Foundation, p.31, New York,

2 Robert Cole, Lon Mishler (1998), Consumer and Business Credit Management, Irwin McGraw-Hill, US.

3 Steven Finlay (2009), Consumer Credit Fundamentals, Palgrave Macmillan, p.4, New York, US.

agreement or the total payment at the end of agreement rather than the interestrate charged on the loan.

Fourthly, income and education level have a close relationship with

customer’s demand for consumer credit The higher income the customersearn, the more likely it is that they will ask for consumer loans which they areable to pay at the end of agreement Both education and income levels domaterially influence consumers’ use of credit Individuals with higher incometend to borrow more in total and relative to the size of their annual incomes.Those households in which principal breadwinner has more years of formaleducation also tend to borrow more heavily relative to their income level.

Fifthly, the borrower’s main source of payment may be subject to

considerable fluctuation because it depends on the customer’s employmenthistory, skills, working experience, health, etc Many of these factors changeover the time

Sixthly, customers’ personalities and behaviors which are quite challenging to

define take a significant part in determining the debt payment Normally, thelender must be assured that the borrower has moral responsibility to repay aloan on time.

1.2 Benefits of consumer credit

As for the bank, regardless of two drawbacks which are risk and high

cost, consumer credit covers significant advantages Firstly, consumer credithelps build up relationships with customer which might raise possibilities ofattracting capital for the bank itself Secondly, consumer credit helps diversifybank’s businesses which consequently help boost revenue and spread thebank’s risks

As for consumers, consumer credit provides a source of assistance in

times of financial stress Thanks to this type of credit, they have opportunitiesto enjoy conveniences even before they accumulate enough money for

personal expenditure Particularly, consumer credit is essential for unexpectedexpenses such as on health care and education However, misuse of consumercredit may bring about insidious effects, which means borrowers may spendan excessive amount of money, leading to limited capacity for saving andconsuming in the future More seriously, borrowers might get themselves intotrouble for being unable to pay the debts

Finally, as for the economy, consumer credit exerts a dramatic effect on

economic stimulus as well as creates positive conditions for acceleratingeconomic growth; leading to sustainable development It performs asupporting role in boosting household and individual consumption bygranting loans to cover essential expenses, particularly in times when theeconomy is weak Domestic demand including consumption and investmentconsequently is fueled Besides, the growth in the volume and diversity ofconsumer credit products has resulted in a thriving consumer credit industryproviding employment for millions of people around the world Moreover,consumer credit helps diminish wealth gap by providing credit access to allkinds of customers.

1.3 Types of consumer credit

Credit categorizing is arranging loans into specific groups according tocertain criteria A science-based classification is the precondition fororganizing a proper credit-granting process and improving credit riskmanagement Credit classifying is based on the following criteria:

1.3.1 Based on the purposes of a loan

a Residential Mortgage Loan

A residential mortgage loan is used to purchase, build, or renovate afixed asset such as land or buildings, with the loan secured against the asset.In most cases this will be the borrower’s home A standard mortgage isoffered as a fixed term agreement In the UK this is commonly 20 or 25 years

and in the US it is 15 or 30 years In Japan, terms as long as 50 years are notunusual, with the debt being passed on to the next of kin if the originalborrower dies When a mortgage has been fully repaid it is said to have beenredeemed

b Non-residential Mortgage Loan

A nonresidential mortgage loan is taken out to buy a new car; andconsumer durables such as a sofa, washing machine or a television This typeof credit is also used to cover things such as household bills, travel andentertainment.

1.3.2 Based on methods of payment

a Instalment Consumer Loan

Installment consumer loan is a loan in which repayments cover bothprincipal and interest, with the debt having been amortized at regular intervalsduring a fixed period of time and repaid in full by the end of the agreement.This method of payment is applied for outstanding loans or in case customer’sregular income cannot cover a lump sum payment (paid gradually over thetime)

b Non-installment Consumer Loan

Short-term loans individuals and families draw upon for immediatecash needs that are repayable in a lump sum are known as non-installmentloans This type of loan is frequently used to cover the cost of vacations,medical care, the purchase of home appliances, and auto and home repairs.Such loans may be for relatively small amounts and include charge accountsthat often require payment in 30 days or some other relatively short timeperiod Non-installment loans may also be made for a short period, usually sixmonths or less, to wealthier individuals and can be quite large.

c Revolving Consumer Credit

A revolving loan, sometimes called a flexible loan or a budget account,is a form of revolving credit A borrower agrees to make a fixed monthly

payment and in return has the ability to draw cash up to a maximum limit,which is a multiple of the monthly payment amount For example, an accountwith a 15 times multiplier will allow a customer who agrees to pay $200 amonth to draw funds up to a maximum of $3,000

1.3.3 Based on the origin of the loan

a Indirect Consumer Loan

This is the type of loan in which lending relationships occur in order asshown in the Figure 1

Figure 1: Indirect Lending Relationships

(Source: Paul Beares, Richard E Beck, Susan M Siegel (2001), ConsumerLending, American Banker Association, p 67).

b Direct Consumer Loan

Direct consumer loan is a loan in which a representative of the bank hasa face-to-face meeting to assess the creditworthiness of individuals applyingfor credit This person is known as an underwriter or a credit officer A creditofficer from the bank often receives better training in assessment of the

likelihood of the applicant repaying the debt than one from a retailer does.Therefore, a bank usually produces a more prudent credit granting decision

1.4 Consumer lending process

1.4.1 Steps in lending process

There is similarity in lending process between consumer credit andbusiness credit The steps in the process are shown in order from a-f as below:

a.Finding prospective loan customers: Most loans to individuals arise

from a direct request from a customer who approaches a member of thelender’s staff and asks to fill out a loan application Sometimes loan officerswill call on the customers for months before they finally give the lendinginstitutions a try by filling out a loan application.

b.Evaluating a prospective customer’s character and sincerity ofpurpose: Once a customer decides to request a loan, an interview with a loan

officer usually follows, giving the customer the opportunity to explain his orher credit needs The interview also provides a chance for the loan officer toassess the customer’s character and sincerity of purpose If the customerappears to lack sincerity in acknowledging the need to adhere to the terms of aloan, this must be recorded as weighing against approval of the loan request.

c.Making site visit and evaluating a prospective customer’s creditrecord: In case a mortgage loan is applied for, a loan officer often makes a

site visit to assess the condition of the property The loan officer may contactother creditors who have previously loaned money to this customer to seewhat their experience has been.

d.Evaluating a prospective customer’s financial condition: If all if

favourable to this step, the customer is asked to submit several crucialdocuments the lender needs in order to fully evaluate the loan request Onceall documents are on file, the lender’s credit analysis department conducts a

thorough financial analysis of the applicant, aimed at deciding whether thecustomer has sufficient cash flow and backup assets to repay the loan.

e.Assessing possible loan collateral and signing the loan agreement: If

the loan committee approves the customer’s request, the loan officer or thecredit committee will usually check on the property or other assets to bepledged as collateral Once the loan officer and loan committee are satisfiedthat both the loan and the proposed collateral are sound, the note and otherdocuments that make up a loan agreement are prepared and signed by allparties to agreement.

f.Monitoring compliance with the loan agreement and other customerservice needs: The new agreement must be monitored continuously to ensure

the terms of the loan are being followed and all required payments ofprincipal and interest are being made as promised A new loan customer’sinformation is also saved as a customer profile to show and monitor acustomer’s condition and financial service needs.

1.4.2 Credit analysis

Credit analysis is considered the most important step in a lendingprocess Result of credit analysis will mainly determine the approval of loancommittee towards granting decision.

a Credit scoring system

Credit scoring can be defined as any quantitative method, technique orpractice used in the granting, management or recovery of consumer credit.The basic principle is to assign some rating, or score, to an individual basedon the information that is known about them at the time of application Thescore is then taken as indicative of the future behavior of the applicant; that is,the likelihood that the applicant will prove to be an acceptable risk Ingeneral, the higher the score is, the lower the risk is

In fact, there are many factors that make up a score card Data such asthe applicant’s monthly income, outstanding debt, financial assets, how long

the applicant has been in the same job, whether the applicant has defaulted orwas ever delinquent on a previous loan, whether the applicant owns or rents ahome, and the type of bank account the applicant has are all potential factorsthat may relate to loan performance and may end up being used in thescorecard

Based on statistics in the past on possible risks of those customers withsimilar credit score, the bank offers a wide range of credit limit to customersin different groups of score The following is a sample of credit limits offeredto customers with different credit score at the mentioned US bank.

Table 1: Point-Scoring Schedule of Approved Credit Amounts

Point Score

280 points or less Reject application

290-300 points Extend credit up to $1,000310-330 points Extend credit up to $2,000340-360 points Extend credit up to $3,000370-380 points Extend credit up to $4,000390-400 points Extend credit up to $6,000410-430 points Extend credit up to $10,000

(Source: Peter Rose (2001), Commercial banking management, IrwinMcGraw-Hill, p 602)

The main downside of credit scoring is its reliance upon the informationfrom which the original credit scoring system was constructed If there arecertain types of application that were not considered or not available at thetime the system was developed, these cases will not be assessed in an optimalcapacity Often this will affect small groups within the population who areovershadowed by the characteristics of the majority For example, most creditscoring systems will give low scores to people who have not lived very long

at their address, have recently started a new job, rent instead of own, or do nothave some previous credit history Credit scoring system is designed to workin tandem with Judgment Method.

b Judgment Method

Judgment Method is a method in which the bank carries out qualitativeand quantitative analysis and judgment of the borrower so as to limit thenumber of non-performing loans In each case the aim of the underwriter wasto come to a somewhat subjective view as to whether or not the individualwas creditworthy.

While credit scoring is the norm, there are always some cases thatrequire manual review There are also some non-mainstream lenders,particularly in the sub-prime and door-to-door market, who do not apply

credit scoring Thus the role of the underwriter remains, albeit in aspecialist or minority capacity, and is likely to do so for the foreseeablefuture It is also worth noting that while credit scoring is an accepted practicein many developed countries, in areas where banking systems are less welldeveloped, judgmental decision making is still heavily relied upon At thecore of the decision making process was the concept of the ‘Six Cs’ of creditwhich the

lender looks for to review the borrower’s creditworthiness when

analyzing a loan package The "Six C's" which consist of Character,Capacity, Cash, Collateral, Conditions, and Control are the basic components

of credit analysis.

To establish if each of the Cs were satisfied, an underwriter wouldexamine the information supplied by the applicant, which might then becombined with a credit report from a credit reference agency detailing theapplicant’s repayment record with other lenders They would then use theirintuition and experience to make a decision As credit organizations

developed, it was common practice for the accumulated wisdom of the seniorunderwriters to be distilled into a formal statement of lending practice.

1.5 Consumer credit performance

An operation is said to be conducted effectively when it helps increaseprofit for an organization sustainably in accordance with legal framework andthe organization’s policies To improve effectiveness of an operation, it isworth considering what criteria and factors determine the operation’seffectiveness This is true to all forms of business, and consumer credit is noexception.

There are many factors required for ensuring consumer credit activityto be run effectively, namely marketing, corporate governance, riskmanagement, etc However, regarding effectiveness of a credit activity, creditperformance is considered the most notable and critical factors among theothers Also, there are many indicators and criteria that can be used to assesscredit performance

In the scope of the thesis, only key performance indicators will be takeninto consideration in order to evaluate and quantify effectiveness of consumercredit.

1.5.1 Qualitative indicators measuring credit performance

a Legal framework

Consumer credit activities are said to be well performed when they arecarried out in compliance with related legal documents which are issued bythe central banks A loan is impossibly said to achieve efficiency ifregulations on the loan are violated For example, the bank deliberatelyprovides fund for its customers to spend on items that are prohibited by law;or the bank carries out debt refinancing Those activities are considered to beagainst the rule although they produce massive profit for the bank.

a The bank’s lending policy

Each bank draws up its own business strategy which is a criticalcondition for the consolidation of lending operations and also earns the bankmaximum benefit A so-called efficient loan is not only in compliance withbasic process of credit but also flexible according to each type of customer.An effective lending policy will help the bank lessen unexpected risks.

b Lending operations

Before providing fund, the bank should come to an agreement with itscustomer about his or her using the fund, time to pay principal and interest onthe loan, solutions in unavoidable and unforeseen circumstances, etc A loanis said to perform well if the credit agreement is honored.

1.5.2 Quantitative indicators measuring credit performance

a Outstanding loans

Outstanding loan enables the bank to increase its income It is thedifference between the amount of loan and the amount of repayment in acertain term of a credit agreement Profit from lending activities is typicallythe product of interest rate on the loan, term of credit agreement, andoutstanding loans Therefore, the higher the amount of outstanding loans isthe higher profit a bank produces An increase in outstanding loans may beresulted from increase in the size of loans and the number of borrowers.

- Absolute value of increase in consumer outstanding loans:

- Relative value of increase in consumer outstanding loans:

- Proportional increase in consumer outstanding loans:

b Delinquent loans

This is the most effective indicator used to evaluate credit risks Anoverdue loan is a loan in which borrower’s repayment to the bank is overdue.Among overdue loans, non-performing loans attribute drastically to theassessment of credit performance The higher ratio of non-performing loansover total outstanding loans is, the poorer performance on credit is The ratiodepends on both overdue loans and total outstanding loans If the totaloutstanding loans go up while the amount of overdue loans remainsunchanged, then efficiency in consumer credit is said to demonstratesuccessfully However, if the growth of delinquent loans is greater than thegrowth of total outstanding loans, then credit is said to produce dismalperformance

c Input-output differential

The indicator reveals expected return on the total capital mobilized Thehigher the indicator is, the higher the performance of using funds appears.

1.6 Necessary and sufficient conditions for better consumer creditperformance

1.6.1 Necessary conditions

Banking industry is a non-monopolistic business where banks go intocompetition with each other in terms of their own capacity The capacity of abank depends closely on the following factors:

a Lending policy

Each bank develops its own lending policy which is appropriate tocertain circumstances and certain period of time The policies should bedesigned so as to improve credit performance of the bank itself The basis of alending policy is comprised of policy on customers; policy on size of loansand line of credit; policy on term of agreement, interest rate and collateral

- Policy on customers: There is a broad range of customers coming to

the bank for loans Therefore, the bank should make a thorough analysis ofeach customer’s characteristics in order to formulate proper policy for eachcategory of borrower This will contribute to the bank’s better creditperformance and sustainable development.

- Policy on interest rate: Interest rate is the greatest concern when the

customer asks for a bank loan Thus, an appropriate policy on interest ratewill help the bank attract a large number of customers as well as raise itscredit performance

- Policy on collateral: The bank’s determination secured asset is based

on credibility of the customer Collateral helps the bank minimize the riskcaused by customer’s default or in case of customer’s unwillingness to repaydebts The value of asset also plays an important part in the bank’s decisionon size of loans

Lending policy basically exerts a considerable impact on the bank’scredit performance The gains in credit efficiency can only be only achieved ifthe bank sets its own credit policy which is consistent with its characteristicsand certain economic conditions.

b The quality of loans

The quality of a loan is evaluated in terms of customer’s ability to repayprincipal and interest applied on the loan by the due date that is stated in thecredit agreement In pursuit of huge profit, a bank possibly offers loans whichare of high risk, leading to poor credit performance when borrower is indefault However, excessive caution of the bank also produces disappointingperformance The quality of a loan depends on credit officers’ ability toundertake an assessment.

c Financial and management capacity of the bank

Financial capacity of the bank is demonstrated by such financialindicators as ROA, ROE, scale of equity, growth over the time, the proportionof overdue loans against the total outstanding loans, etc A bank which is ofsolid financial base has comparative advantages in improving creditefficiency because such bank rarely misses good investment projects due toits shortage of capital resource Besides, bank with considerable managementability usually has its external and internal risks spread by diversifying itslending portfolio.

d Professional skills of credit officers

In lending activities, credit officers always play an important role in thebank’s decision on providing fund This comes from a fact that creditperformance depends mainly on evaluation procedures made by the

underwriters A capable officer produces a careful assessment of loanapplication which helps lessen unforeseen risks for the bank, and reversely

1.6.2 Sufficient conditions

Economic environment has direct effects on both banks and borrowers.That the more one believe in the development of the economy, the more heconsumes results in an increase in consumer credit However, when theeconomy is faced with crisis, consumers tend to spend money morecautiously, leading to unexpected credit performance in banking industry.

Social and cultural environment including lifestyle, habits, and so onalso affects credit performance People with higher education level and morestable source of income often ask for bank loans to finance their consumptivedemand so as to improve their living standards However, those with averagelevel of income usually need funding to cover basic necessities.

The development of science and technology also allows banks todesign proper lending policies for each group of customers This minimizesoperating costs and time for credit assessment, raising accuracy ofinformation system which leads to improvement in credit performance.

1.7 Consumer credit in Europe and lessons applying for Vietnam

1.7.1 Overview on consumer credit in Europe

Consumer credit plays an important role in the EU economy In Europe,consumer credit came into being later than other kinds of credit However, ithas met consumer’s demand in many developed countries and becomepopular in Europe This part therefore would describe briefly the overallpicture of consumer credit activity in European countries.

There is a variety of credit products which are in compatibility with thedevelopment of the Western economies, namely the following types:

- Stock trading loans: provide fund for investors who wish to possess

and trade potential stocks in the stock market.

- Guarantee: is service in which the bank guarantees consumption or

investment activities.

- Mortgage loans: provide fund for individuals in case of buying or

renovating assets of high value such as lands or houses.

- Consumer credit: covers the provision of goods and services, provided

to individuals to cover the purchase of basic needs.

At the end of December 2008, consumer credit outstanding stood at884 EUR billion or 7 per cent of the EU GDP; and accounting for just over 17per cent of household’s consumption expenditure The size of the market forconsumer credit is estimated to be 1 236 EUR billion or almost 10 per cent ofthe EU GDP if data reported by OFIs is also included The true size ofthe market is, however, likely to be larger, considering that the scale ofOFI activity is not known in all Member States Europe’s six biggestconsumer credit markets – the United Kingdom, Spain, Germany, France,Italy and Poland – accounted for almost 80 per cent of the total consumercredit outstanding in December 2008.

The EU consumer credit market is fragmented There are significantdifferences between national consumer credit markets, in terms of market sizeand structure, products offered and consumer demand

The supply of consumer credit products is rapidly changing withthe emergence of new distribution channels and product innovationsreflecting the recent change in consumer demand pattern from lesspersonalized / local branch shopping to increased use of electronicdistribution channels This is likely to favor future integration in consumercredit markets

In Europe, creditors have been taken advantage of the Internet toprovide convenient consumer credit products Specialized consumer creditproviders have developed online applications on their websites alongwith partnerships with retailers/motor dealers that allow consumers to

apply for consumer credit directly on a lender’s website or on thewebsite of the supplier of the good/service For example, customers canapply for the John Lewis4 Partnership card online This card is issued andmanaged by John Lewis Financial Services Limited which is a memberof the HSBC Group of Companies.

Regarding marketing and co-branding, in the UK, financial institutionshave started advertising products on social networking sites such as Facebookand Twitter Also, consumer research, carried out in the UK by PwC in May20075, illustrates the growing popularity of (and demand for) financialproducts aimed at addressing climate change

 Consumer Credit Directive

The Consumer Credit Directive6 was adopted by the EuropeanCommission in April 2008, with an ensuing date for completing thetransposition set for June 2010 for all Member States This Directivereplaces the 1986 Consumer Credit Directive (and amendments made tothis Directive) The new Consumer Credit Directive aims to “facilitatethe emergence of a well functioning internal market in consumer credit” andto ensure that all consumers in the Community enjoy “a high andequivalent level of protection” of their interests

The Directive focuses on transparency and consumer rights It providesfor a comprehensible set of information to be given to consumers in goodtime before the contract is concluded and also as part of the credit agreement.In order to enhance the comparability of different offers and to make theinformation better understandable, the pre-contractual information needs to besupplied in a standardized form (Standard European Consumer CreditInformation), i.e every creditor has to use this form when marketing a4 John Lewis is a UK based department store (website: www.johnlewis.com)

5 Precious Plastic 2008: Consumer credit in the UK PricewaterhouseCoopers.

6 DIRECTIVE 2008/48/EC OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL issued on 23 April 2008 on credit agreements for consumers and repealing Council Directive 87/102/EEC

Link: http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2008:133:0066:0092:EN:PDF

consumer credit in any Member State The Directive foresees in addition twoessential rights for consumers: they are allowed to withdraw from the creditagreement without giving any reason within a period of 14 days after theconclusion of the contract They also will have the possibility to repay theircredit early at any time, while the creditor can ask for a fair and objectivelyjustified compensation.

1.7.2 Lessons applying for Vietnam

Experience from consumer credit in European countries is alwaysworth considering Even though there are differences in political,socioeconomic, and financial system between European zone and Vietnam;Vietnam still can learn from EU’s lessons in terms of consumer credit Thisnot only comes from the fact that consumer credit has been developed in

Europe long before, but is also due to two following reasons Firstly, model

of modern banking in which consumer lending is set as one of development

targets was originated from EU Secondly, Vietnam has been following

European standards on banking laws and regulations, Basel Accords, in orderto regulate and monitor its banking system.

Therefore, model of consumer credit in EU is expected to help Vietnam getexperiences and lessons on building a consumer credit market which is ofsustainability and high quality.

Experiences and lessons drawn from EU concerns the following issues:

a.Advertising: Following regulations on advertising in The Consumer

Credit Directive, Vietnam should set out new mandatory requirements onstandard information to be provided in advertising covering the borrowingrate and any charges included in the total cost of credit to theconsumer together with a representative example

b.Pre-contractual information and contractual informationrequirements: According to The Consumer Directive, pre-contractual

information must be provided by means of a Standard European

Consumer Credit Information (SECCI) form From this experience, Vietnamshould design such a unified form for all the banks operating in Vietnam touse and follow.

c.Market segmentation: In Europe, innovation in products is based on

identifying and targeting market segments Such a process relies on theidentification of a specific population group and the development of productsand/or services that will meet the needs and wants of such a group This isone of the most important and useful experience for Vietnam to develop itsconsumer credit activity in terms of quality.

d.Distribution channels: Consumer credit products can be offered to

consumers using direct (e.g in branches) or indirect distribution channels(e.g at point of sale) Innovation in distributing credit products to customersin Europe is much diversified, including: branches, mailing, telephone,internet, point of sale, etc There has been an increasing use of the internetas a major distribution channel for consumer credit products In order tomodernize banking system, Vietnam should develop and apply Internet aswell as other technological improvements to offer new types of products and

services

e.Marketing and co-branding: Innovation in consumer credit markets can

consist of marketing campaigns and co-branding of consumer credit products.It is worth highlighting the development of: i) co-branded credit cardswhich can be associated with special services or advantages whenconsumers purchase goods in specific stores or can be used as a publictransportation pass; and ii) co-branded affinity cards which are creditcards offered in association with a non-commercial organization (e.g.Sports club, charity organization etc) This is a trend of development thatVietnam may apply in the future.

f.Problems of inadequate information: In EU, it appears that lack of

transparency relating to interest rate rises and fees and charges applied by

lenders are the main areas of concern for consumers in several MemberStates However, not only consumers are less well informed than are suppliersof financial services, creditors also have difficulty in accessing completelyand fully customers’ information such as financial status In Vietnam, onlywhen problems of asymmetric information are dealt with, can consumer creditdevelop sustainably and thoroughly

CHAPTER 2: CONSUMER CREDIT ACTIVITIES INVIETNAM’S COMMERCIAL BANK SYSTEM

This chapter will give an insight into consumer credit activity inVietnam’s commercial banks Upon analyzing and evaluating data concerningconsumer credit, the thesis focuses on providing the very overview on currentstate of consumer lending in Vietnam through qualitative and quantitativeindicators.

2.1 Overview of Vietnamese economic outlook

In general, Vietnamese economy in 2009 happend in unfavourablecondition in both domestic and foreign context Immanent reasons continue to beshown and heavily affect the economic development and sustainability.In thatunfavourable context, the Government always watched for the economicsituation, considered problems raising strictly and issued decisions and policiestimely to limit the negative impacts and to create favourable conditions foreconomic development.

Thanks to timely, concentrated and decisive directing and governing by theParty and the Government; the efforts and initiatives in overcome difficulties byministries, provinces, enterprises and all the people, our country has gainedmany positive results and prevented economic recession The results of Thesocio-economic development Plan in 2009 are illustrated in 3 aspects: (1)Preventing economic recession and maintaining rational and sustainableeconomic growth rate; (2) Maintaining macroeconomic stable and preventing thereturn of high inflation; (3) Ensuring social security, developing works ofculture, education, health and other social sectors.

Table 2: Some economic indicators in 2009

Implemented in 2009

Export and import turnovers

Total development investment (% ofGDP)

42.6% (VND 702.4thousand billion)

CPI in December 2009 compared toDecember 2008

Total state budget revenue VND 390,650 billion

State budget deficit (% of GDP) 6.9%

(Source: The Government’s report on the Socio-economic situation in2009)

Economic development growth rate: In 2009, although the economic

growth rate was lower than the growth rate of 6.18 percent of 2008, it fulfilled the target of 5 percent It can be said that it is the success in the globaleconomic recession context and many economies witnessed the minus economicgrowth rate.

over-High inflation prevention: The Government has developed measures

drastically and consistently in order to prevent the return of high inflation, torecover and stimulate production and business, especially in domestic market;the Government had directed and governed fiscal and monetary policies, as aresult, the 2009’s inflation ratio was not too high.

Finance and monetary markets: Commercial banks were favored of

demand stimulus packages, in which, the 4 percent interest rate supportingpackage has been recognized widely that it has successfully fulfilled its function inrescuing enterprises and then helping banks and enterprises to reduce their baddebts As a result, many banks gained positive results in 2009 albeit before thatthey faced many difficulties in liquidity, increase in bad debts and decline inprofits due to the increase in interest rate when implementing tight monetary

policy in 2008 The recovery of the banking system plays an important role inrecovering and reinforce the beliefs – the decisive factor in recession period,thereby stimulating the economy operate and recover without a hitch.

2.2 Credit performance in Vietnam’s commercial banking system

The tight monetary policy implemented since the beginning of 2008has been proved as an essential decision to control rising inflation However,this produced sort-term effects on liquidity of CIs, that is, interest rates onpersonal customer deposits rose dramatically.

Although in 2009 the basic interest rate did not fluctuate as much as in2008, it was remained for a long time at 7 per cent Banking activities as aresult faced challenges because a ceiling in interest rate applied for loans wasset at 10.5 per cent while rate on deposits touched 9.99 per cent

The amount of capital mobilization of the whole banking system hasincreased at an average of 25 per cent and 30 per cent per year.

Figure 2: Growth of personal customer deposits in Vietnam’scommercial banks from 2005 to April 2009 (%)

(Source: The State Bank of Vietnam)

Since 2008, capital mobilization of commercial banks has decreasedmarkedly According to figures from the SBV, the total personal customerdeposit balance at CIs in April 2009 increased by 3.74 per cent compared tothat in the previous month and rose by 9.88 per cent compared to that at theend of 2008

Outstanding debts in 2008 were estimated to be from 21 per cent to 22per cent higher than those in 2007

Figure 3: Growth of credit performance in Vietnam’s commercial banksfrom 2004 to April 2009 (%)

(Source: The State Bank of Vietnam)

At the end of the first quarter in 2009, despite a wide range of solutionsto combat economic downturn, outstanding loans increased by only 2.67%compared to those in December 2008 In the whole banking system, credit

growth at the end of November 2009 was approximately 34 per cent while in2008 the figure was just around 21 per cent and 22 per cent

2.3 Consumer credit activities in Vietnam

2.3.1 Types of consumer credit product applied in Vietnam

- Individual lending: On each occasion that a loan is provided, the

client and the credit institution shall carry out the necessary procedures andenter into a credit contract.

- Lending pursuant to a line of credit: The credit institution and the

client shall determine and agree on a line of credit to be maintained for a fixedperiod.

- Lending on installment repayment: When providing the loan, the

credit institution and the client shall determine and agree on the amount ofloan interest that must be paid in addition to the amount of principal whichshall be divided into repayment periods during the loan term.

- Lending by way of issuance and use of credit cards: The credit

institution shall approve the use by a client of a loan amount within line ofcredit to pay for purchasing goods and services or to withdraw cash atautomatic telling machines (ATM) or at the cash advance agencies of thecredit institution For lending by way of issuance and use of credit cards,credit institutions and clients must comply with the regulations of theGovernment and of the State Bank of Vietnam on issuance and use of creditcards.

- Lending pursuant to overdrafts: The credit institution shall agree in

writing with the client on making payments in excess of the account balanceof the client, consistent with the regulations of the Government and of theState Bank of Vietnam on payment operations by credit institutions providingpayment services.

2.3.2 Rules and regulations on consumer credit activity in Vietnam

In general, consumer credit activity is regulated by many of relevantlaws, especially by Decision No 1627/2011/QD-NHNN issued by The SBVon 31 December 2001 Decision No 1627/2001/QD-NHNN promulgatesregulation of financial institutions lending to customers issued to borrowerswith credit institutions and USD foreign currency, is lending the capital needsthat are not prohibited by law; on term loans, financial institutions and theircustomers based on production cycles, business, duration of recovery ofcapital investment projects, capacity customer and repayment of capital loansby financial institutions to agree on the loan term, lending rates and lendingrates by mutual agreement; CIs have autonomy detailed guidance on dossiersand procedures , the evaluation process, the loan check; agreements withcustomers about the appropriate method of lending relationship with the levelof credit risk by dealing CIs considered by many to decide appropriatemeasures as restructure the term of credit agreement including adjustmentterm debt, debt extension, overdue move; reduce the interest-free loans.

Besides, consumer credit is mandated by the following legaldocuments:

- The 1997 Law on Credit Institutions and the 2004 Law amending andsupplementing a number of articles of the Law on Credit Institutions.

- Decree No 16/2001/ND-CP dated 02 May 2001 of the Governmenton the organization and operation of financial leasing companies.

- Decision No 652/2001/QD-NHNN dated 17 May 2001 of The SBVissuing the regulation on the method of calculating and accounting thecollected and paid interests of The SBV and CIs.

- Decree No 79/2002/ND-CP dated 04 October 2002 of theGovernment on organization and operation of financial companies.

- Civil Code 2005.

- Decree No 65/2005/ND-CP dated 09 May 2005 and Decree No.95/2008/ND-CP dated 25 August 2008 of the Government on amendment andaddition to a number of articles of Decree No 16/2001/ND-CP dated 02 May2001 of the Government on the organization and operation of financialleasing companies.

- Decree No 163/2006/ND-CP dated 29 December 2006 of theGovernment on security transactions.

- Decision No 21/2007/QD-NHNN dated 15 May 2007 of The SBVpromulgating the regulation on issuance, payment and use of bank cards andprovision of bank card operation support services.

- Decree No 81/2008/ND-CP dated 29 July 2008 of the Governmenton the amendment, supplement of several articles of Decree No 79/2002/ND-CP dated 04 October 2002 of the Government on organization and operationof financial companies.

- Circular No 12/2010/TT-NHNN dated 14 April 2010 of The SBVspecifying the provision of Vietnam-dong loans at negotiable interest rates byCIs to customers.

The CIs have designed their own credit manual in compliance with

contemporary legal documents There are some rules and regulations coveredas follows:

a Scope

The guidelines prescribe the rules for short-term, medium-term, andlong-term loans which are provided to meet the following needs ofindividuals and households:

- Home loans for renovation and accommodation that are paid byborrower’s salary.

- Loans for vehicle purchase.

- Loans for education and healthcare.

- Loans for purchasing household utensils and appliances.

- Loans for expenses on cultural, sports, and tourism activities.- Overdraft.

- Loans provided through the issuance and use of credit cards

The branches of credit institutions (CIs) hold accountability for theirlending decisions No organizations or individuals are allowed to illegallyinterfere in the autonomy of CIs’ branches in lending process and debtrecovery.

- The borrower must prove his/her using loans legally.

- The borrower must satisfy regulations on loan insurance inaccordance with rules and guidelines issued by the government and The SBV.

Besides, in specific cases, the borrower has to meet some certainrequirements For example:

- Collateral is a must

- The borrower has permanent residence in the same province or citywhere the headquarters or other branches of CIs are located

Any cases of lending excluded in the above conditions of borrowingmust be approved by the Board of Managers of CIs.

d Term of loan and repayment period

The CI bases on the borrower’s repayment capability and its source ofcapital to reach a proper agreement on term of loan and repayment period Inreality, credit agreement on house loans of over 10 years must be approved bythe chief executive officer of the CI before it is carried out.

Interest rate on the loan is proclaimed by the CI’s Board of Managers ineach period in accordance with market conditions and mechanism of interestrate announced by the State Bank of Vietnam The branches of CIs are notallowed to apply interest rate that is less than being stated in regulations onloans The case of providing loans with preferential interest rates toimplement the CI’s customer policy must be approved by the Board ofManagers The overdue loans must apply interest rate calculated for overdueloans in compliance with rules and regulations.

Since the Circular 12/2010/TT-NHNN dated 14 April 2010, commercialbanks have provided loans at negotiable interest rates.

e Credit limit

CI bases on its source of capital, the demand for loans, customer’srepayment capability, and the value of secure assets to determine the line ofcredit Specifically:

Mortgage loans: As for loans funded to renovate and legalize houses,

the amount of loan must not exceed 70% of estimated costs and the value ofsecure assets the current regulations As for the case of transferring theproperty, or building houses, then the loan must not exceed 50% transferredvalue, estimated costs of construction, and the value of secure assets under thecurrent regulations Cases of providing excessive line of credit must beaccepted by the Genral Manager.

Consumer loans: The amount of loan must not exceed 50% of the value

of secure assets The amount of outstanding loan also must be no more than100 million VND Cases of providing excessive line of credit must beaccepted by the General Manager.

The maximum amount of loan for an individual customer is adjusted bythe General Manager in each period of time in accordance with the practicalsituation In the case that the borrower asks for a loan of less than 15 millionVND or less, the procedure for notarization of mortgage is not required.However, evidence of permanent residence must be authorized by the localgovernment and included in the loan application package

f Assessment process and lending decision

All loan applications must be verified and assessed by credit officers inaccordance with opinions of Manager of Consumer Loan Department Insome cases, Branch Manager can veto his or her subordinates’ opinions andproposals However, he or she must hold accountability for his or her owndecision The maximum length of time to inform decision on lending to thecustomer after receiving complete loan application package is 5 days as forthe Branch Manager, and 7 days as for the case that the Branch Manager isunauthorized to make decision.

CIs’ branches use the credit agreement form issued by the GeneralManager The form can be adjusted in accordance with certain situations withthe agreement of the General Manager.

g Inspection and supervision of loans

- Before providing loans: Upon receipt of the loan application from

customer, credit officers and other related departments carry out examinationon the validity and legality of the following factors: plans to use the loan, theability to repay debt, the status and value of secure assets Other informationof customer also needs gathering The credit officers make initial assessmentbasing on available documents carefully before proposing for granting a loan.

- Granting loans: Before a loan is truly granted to the borrower, the

bank’s branches have to examine and compare the accuracy, validity andlegality of the documents in a loan application package.

- After granting loans: After providing fund, the branches take

responsibility to monitor and supervise the usage of the loan, the status ofsecure asset supervise the use of the loan, status of loan security assets,liability for interest payment, as well as the customer’s capability of payingback the debt

If the customer fails to pay off the loan timely due to objective reasonsand submits a written request, then the bank will have to carry out verificationbefore making a decision on extending or adjusting repayment period Thebank can only grant two-time extension as for short-term loans, and four-timeextension as for long-term loans.

All banks impose restriction on loans that are guaranteed by a thirdparty (known as a guarantor) In case the loans are agreed, the followingprocedures should be employed: credit officer makes a contact with theguarantor in person to identify the ownership of secure assets; the willingnessto be a guarantor; reasons for guarantee; the relationship between theguarantor and the borrower; economic status; as well as the guarantor’s civillegal capacity and capacity for civil acts The credit officer also notifies theguarantor of his or her duty to pay the debt in case the borrower does notmake debt repayment timely

2.3.3 Performance evaluation of consumer credit in Vietnam

a Regarding legal framework

Until now, it has been shown in reports submitted to The State Bank ofVietnam that all banks have complied willingly with regulations and certainprocedures for consumer credit All banks base on rules and regulations whichare stated in specific documents issued by The State Bank of Vietnam to

formulate their own business strategy in accordance with their businessconditions and customers’ characteristics However in practice, The StateBank of Vietnam has also detected many violations on its annual inspection,chiefly of lending process and lending regulations Many of credit officers donot ensure complete and accurate compliance with all the provisions andregulations applicable to consumer credit They provide fund leniently toreach their target of raising the number of outstanding consumer loans andattracting customers.

Rapid credit growth of CIs has been leading to loosening control overcredit activities, particularly those in retail banking sector Some banksprovide loans which are guaranteed by customer’s creditworthiness with thecredit limit of more than five times of the borrower’s salary in 20 years.Besides, many CIs lack ability to manage a portfolio of credit risks as well asto assess rationally the customers and their purposes of asking for a loan Inrecent years, some financial institutions tend to focus on expandinginvestment loans on real estate area while the housing market appeared toexperience abnormally high growth as well as unhealthy development due tospeculative factors Potential risks accordingly have existed behind thespectacular growth of consumer credit Inspection and banking supervisionagencies therefore have been facing many challenges of monitoring andcontrolling credit performance.

b Regarding lending policy of Vietnamese commercial banks

The matter of debt refinancing is still in existence Many customersdue to objective reasons cannot repay the loan by due date written in thecredit agreement However, by considering the relationship with its customeras well as the customer's financial capacity, the bank will refinance theexistent debt which means a new loan is provided for the customer Thecustomer then uses the loan to repay the overdue one In doing so, the bankhas killed two birds with a stone The bank as a result not only has the number

of outstanding loans increased but also eliminates overdue debts in itsportfolio However, this kind of activity is strictly restricted by The StateBank of Vietnam, particularly when it comes to consumer credit, a credit areaof potential risks.

In general, commercial banks have made progress in customer service.However, on the whole, there is a disseminating situation where assessmentof customers’ loan application packages is still being delayed The reasonmay come from weakness if banks’ real capacity to meet borrowers’ demandsdespite their frantic advertising campaigns

c Regarding the value of outstanding loans

Consumer credit activities have been developed in Vietnam for over thelast 10 years Consumer loans were at first established and developed atVietnam Bank for Agriculture and Rural Development (also known asAGRIBANK) Local branches of AGRIBANK, particularly those located inremote and countryside areas implemented this kind of credit to provide loansfor teachers, workers and armed forces in the areas The bank branches basedon their payroll and comments from local Trade Union to assist them to buyvehicles, renovate houses, and purchase other basic necessities.

Consumer credit market has been witnessing intense competitionamong commercial banks since 2006 Commercial joint stock banks andbranches of foreign banks in Vietnam are the most active ones In the contextof market share of wholesale banking sector being dominated by Vietnamesecommercial banks, especially State-owned commercial banks, consumercredit has created an extremely competitive environment in retail banking.This is latest and apparent trend towards the development of banking industryin Vietnam where enterprises and businesses are considered traditionalcustomers of the banks This comes from a fact that consumer credit activitieshave been growing significantly in many developed countries, and it alsobrings extraordinary revenue for banking industry in these countries.

In Vietnam, in order to alleviate the negative impacts of the world’sfinancial crisis, The State Bank of Vietnam has implemented the tight

monetary policy to curb inflation, leading to a rise in interest rate applied onthe loans The number of customers asking for bank loans consequently felldramatically

However, the growth of outstanding consumer loans increaseddrastically between 2008 and 2009 This came as a result from State Bank ofVietnam’s issuing Circular No 01/2009/TT-NHNN dated 23 January 2009,which guided negotiable interest rates applied by CIs to consumer loans andloans provided through the credit card issuance and usage.

In 2009, commercial banks experienced a close race between Vietnamand foreign banks in terms of range of credit products, particularly the loansgranted to purchase flats or apartments Such banks as Techcombank andSacombank provide loans on 70% to 80% of the house value with the term ofagreement up to 15 and 20 years In a special case, HD Bank is said toproviding loans on 100% of the house value in 30 years Meanwhile, inforeign banks sector, Indovinabank offers mortgage loans with the term of 20years, and HSBC offers home loans in 25 years However ACB only grantsfund of 70% of the house value or of secure assets value within 5 years, andthe loans are no more than 500 million VND.

Besides, there is a tight race for offering beneficial packages ofconsumer loan such as: “High-speed lending”, which provides quick andstraightforward procedure for lending; Internet Banking; or providing loanswith attractive interest rates, etc ABBank is taken as an example ABBanklaunched its “Financial Supermarket” product which is comprised of manyforms of consumer loans Another instance is Maritime Bank which recentlyhas launched "New Life" package

Table 3: The total value of outstanding consumer debts by term loans in Vietnam’scommercial banks from December 2008 to December 2009 (Billion VND)

Short-term 22,293.45 31,240.09 47,083.84Medium and Long- 54,300.58 63,391.06 79,560.95