i

CAUSES OF PROBLEM LOANS

IN HOUSING SECTOR IN FIJI

A CASE STUDY

RAJ K. SHARMA

ii

CAUSES OF PROBLEM LOANS

IN HOUSING SECTOR IN FIJI

A CASE STUDY

Raj K. Sharma

A thesis submitted in fulfillment of the requirements

for Master of Commerce in Banking & Finance

Copyright © 2012 by Raj K. Sharma

School of Accounting & Finance

Faculty of Business & Economics

The University of the South Pacific

September 2012

iii

ACKNOWLEDGEMENTS

The guidance and assistance of my initial supervisor, Professor M.D. Sharma, is

acknowledged for his constructive, invaluable comments and suggestions that he

provided at the outset. I am grateful and indebted to Professor Arvind Patel, who

inspired, guided and coached me as the subsequent supervisor, to complete my studies,

as this has been pending for some time. Professor Patel has continuously reviewed the

material and provided advice and comments, which has enabled me to complete the

thesis. At times, he took his personal time in providing the feedback which included

holidays and when he was out with his family in USA. Thank you very much Professor.

I also would like to convey my sincere appreciation to Dr. Mahendra Reddy for the

guidance that he provided for basics of research in one of the postgraduate units at

University of the South Pacific. Dr. Rohit Kishore, former Deputy Chairman of Home

Finance Company (HFC) and senior lecturer at University of the South Pacific was one

of the instrumental academics, who encouraged me to complete the long outstanding

thesis.

I have been fortunate to work at Housing Authority of Fiji (HAF) from 2002 to 2005

with a group of committed experts: Alipate Narasoui, Chief Executive Officer; Jagdish

Prasad, Manager Corporate Governance; Mauzam Razak, Manager Credit Management;

Pita Mow, Acting Manager Credit Approvals; Suresh Chand, Senior Credit Management

Executive and Luisa Drauvesi, Senior Human Resources Executive, who have assisted in

providing relevant updated information and data in completing the project.

My current employer, HFC, the Board and Senior Management and in particular the

chief executive officer, Isikeli Tikoduadua and General Manager Human Resources,

Rosie Fong’s contribution and word of encouragement is also acknowledged. My role at

HFC, initially as Senior Manager Credit and then; as General Manager Risk &

Governance has enabled me to broaden my knowledge in Credit Risk Management

which included the roles and responsibilities of the Board, Best Practices and Principles

of Credit Risk Management, Credit Risk Management Strategy, Policy Formulation and

iv

Implementation of Enterprise Risk Management. I must also thank the selected

customers and the mortgagors who were interviewed through the structured

questionnaires in evaluating the causes of problem loans. The network and affable

relationships with the institutions like the Reserve Bank of Fiji (RBF), Fiji National

Provident Fund (FNPF) and Ministry of Public Enterprise (MPE) have also contributed

in getting some of the relevant information, which are public disclosures but I had the

privilege of comprehensively interpreting and analyzing due to my profession.

I appreciate the special interest and support of my son, Rajneil Sharma; who is a final

year Masters student at University of the South Pacific (USP). He assisted in

comparative analysis of financial institutions’ performances and commentaries, my

working colleague and Manager Policies, Research and Development, Arishma Prasad, a

PhD students of USP, for providing relevant support, encouragement and critical

analysis of the paper where required.

Finally, I must thank the almighty God for the success of this thesis and my family

especially my mother, wife and daughter, Anshu, who is also a second year Banking and

Economics student at USP, for the support, encouragement and the insight in seeing this

project through to completion.

Vinaka Vakalevu to all!

v

ABSTRACT

This paper identifies factors that contribute towards problem loans in the mortgage

financing sector of Fiji and in particular a public institution, the Housing Authority of Fiji

(HAF). It starts with the importance of housing needs at global and regional levels and

subsequently looks at the housing needs in Fiji in the context of the current socioeconomic

problems.

The paper provides a comparative analysis of the current procedures and practices of the

HAF with some of the best practices and international standards for housing or real estate

financing. It also looks at the performance results of the HAF and compares them with

one other licensed financial institution based on certain comparative ratios.

To establish the strength and opportunities of Fiji’s housing market, the paper evaluates

the availability and affordability of mortgage finances by non-banking financial

institutions (NBFI) in Fiji. It considers the impact of pricing, individual lending policies,

competition and marketing strategies and other external and internal variables that

contribute towards problem loans.

It is essential that such study is carried out to avoid continued mortgagee sales,

enforcements and bankruptcies, not only for sustainable quality mortgage portfolio

growth, but also to preclude any social, economic and legal predicaments emanating from

such activities. The paper provides a comprehensive literature on the recent Global

Financial Crisis (GFC), its origination, the causes, implications, recovery process and

most important the lessons learnt.

After assessing all the available information, the paper finally highlights the factors that

largely contribute towards problem loans and suggests ways to prevent them. In doing so,

the paper also acknowledges the efforts of the state and other state agencies in promoting

the home ownership programs despite the current limitations. Conversely, it makes

various articulations and suggestions to foster the National Housing Policy that the

stakeholders may consider in the formulation and implementation programs.

vi

Findings and analysis indicate a range of recommendations for the best credit practice in

Fiji.

vii

TABLE OF CONTENT

ACKNOWLEDGEMENTS ............................................................................................... iii�ABSTRACT ........................................................................................................................ v�TABLE OF CONTENT .................................................................................................... vii�LIST OF TABLES ............................................................................................................. ix�LIST OF FIGURES ............................................................................................................. x�1� INTRODUCTION ....................................................................................................... 1�

1.1� Global Housing Needs ............................................................................................................ 1�1.3� Housing Needs of Fiji ............................................................................................................. 6�1.4� Housing Loan Problems ........................................................................................................ 10�1.5� Objectives of the Paper ......................................................................................................... 12�1.6� Credit Risk and Problem loans .............................................................................................. 14�

2� HOUSING AUTHORITY OF FIJI ........................................................................... 17�2.1� Background ........................................................................................................................... 17�2.2� Powers and Functions of HAF .............................................................................................. 17�2.3� Activities and Results of Housing Authority ......................................................................... 21�2.4� Governance at Housing Authority ......................................................................................... 24�2.5� Key Events of Housing Authority ......................................................................................... 24�2.7� Lending Division Responsibility ........................................................................................... 26�

3� LITERATURE REVIEW .......................................................................................... 28�3.1� Causes of Problem Loans ...................................................................................................... 28�3.2� Other Recent Studies ............................................................................................................. 33�3.2.1� Causes of Housing Loan Defaults in Johannesburg, Republic of South Africa ............... 33�

4� SUB PRIME MORTGAGE FAILURES .................................................................. 38�4.1� Economic Background .......................................................................................................... 38�4.2� Causes of Crisis ..................................................................................................................... 39�4.3� Speculative Borrowing Practices ........................................................................................... 42�4.4� Excessive Underwriting of High-Risk Mortgages ................................................................. 43�4.5� Government Policies ............................................................................................................. 44�4.6� Governance and Conflict of Interest ..................................................................................... 45�4.7� Policies of Central Institutions .............................................................................................. 47�4.8� Implications of Global Financial Crisis ................................................................................. 54�4.9� Lesson Learnt ........................................................................................................................ 56�4.10� Conclusion ............................................................................................................................ 66�

5� METHODOLOGY .................................................................................................... 70�5.1� Research Approach ............................................................................................................... 70�5.2� Analytical Framework ........................................................................................................... 71�5.3� Limitations ............................................................................................................................ 73�5.4� Conclusion ............................................................................................................................ 74�

6� RESULTS .................................................................................................................. 75�6.1� Factor Analysis ...................................................................................................................... 75�6.1.1� Business Development ..................................................................................................... 76�6.1.2 � Credit Execution and Administration ............................................................................... 78�6.1.3 � Review .............................................................................................................................. 80�6.2� Demographic Details ............................................................................................................. 82�6.2.1 � Level of Satisfaction for the Training ................................................................................... 82�6.2.2 � Education Level ................................................................................................................ 83�6.2.3� Level of Empowerment & Satisfaction ............................................................................ 83�6.3� Preventing Loan Losses- Staff Responses ............................................................................. 83�6.3 1 � Management Responses of Other Issues .......................................................................... 83�6.3.2 � File Records ...................................................................................................................... 84�

viii

6.4� Customer Responses ............................................................................................................. 86�6.5� Performance Evaluation ........................................................................................................ 89�

7� DISCUSSION ........................................................................................................... 93�7.1� Overview ............................................................................................................................... 93�7.2� Governance Structure ............................................................................................................ 93�7.3� Policy Environment ............................................................................................................... 99�7.3.1� Lending Policy Guidelines ............................................................................................. 102�7.4� Integrated Credit Risk Management .................................................................................... 104�7.5� Credit Risk Management Strategy ...................................................................................... 105�7.6� Loan Discipline and Culture ............................................................................................... 106�7.7� Staff Training and Education .............................................................................................. 107�7.8� Credit Approvals ................................................................................................................. 108�7.9� Security Documentation ...................................................................................................... 109�7.10� Usage of Funds .................................................................................................................... 110�7.11� Credit Administration .......................................................................................................... 111�7.12� System Support ................................................................................................................... 114�7.13� Management of Sub-standard Borrowers ............................................................................ 115�7.14� Other Causes of Defaults ..................................................................................................... 115�

8� CONCLUSIONS ..................................................................................................... 121�9� RECOMMENDATIONS ........................................................................................ 134�10� REFERENCES ........................................................................................................ 144�11� APPENDIXES ........................................................................................................ 150�

11.1 List of Mortgage Sale ................................................................................................................... 150�11.2� Customer Questionnaire ...................................................................................................... 151�11.3� Management Questionnaire ................................................................................................. 154�11.4� Staff Questionnaire .............................................................................................................. 157�11.5� Factor Analysis of Causes of Problem loans ....................................................................... 161�11.6� HA Loan Application Form ................................................................................................ 163�11.7� Credit Risk Management Framework ................................................................................. 172�11.8� Financial Statement of Housing Authority of Fiji 2004-2009 ............................................. 180�11.9� Appendix Economic of and Financial Indicators Fiji .......................................................... 182�

ix

LIST OF TABLES

Table Page Table 1 Classification of Borrowers and Lending Rate (Bhattacharya: 1998) .................. 14 Table 2 Institutional Credit Culture ................................................................................... 16 Table 3: Summary of Key Events of Housing Authority of Fiji ........................................ 24 Table 4: Core Functions of Lending Division of Housing Authority ................................ 27 Table 5 Factors Contributing Towards Problem Loans ..................................................... 31 Table 6: Example of Payment to CEOs ............................................................................. 46 Table 7 Business Development Factor Analysis ............................................................... 76 Table 8 Credit Execution and Administration Factor Analysis ......................................... 78 Table 9: Review Factor Analysis ....................................................................................... 80 Table 10: Customer Sample by Age .................................................................................. 87 Table 11: Customer Sample by Ethnicity .......................................................................... 87 Table 12 Default Statistics ................................................................................................. 87 Table 13: Non Performing Loan Position .......................................................................... 89 Table 14 Performance Evaluation of Housing Authority .................................................. 91 Table 15 Profitability Analysis of Housing Authority ....................................................... 92 Table 16 Corporate Governance BIS 14 Principles –Part A .............................................. 97 Table 17 Corporate Governance BIS 14 Principles –Part A .............................................. 98 Table 18 Reserve Bank of Fiji Loan Classification ......................................................... 100 Table 19 HFC’s Impaired Asset Trend ............................................................................ 120�

x

LIST OF FIGURES

Figures Page Figure 1: Functions and Powers of HAF ........................................................................... 18�

Figure 2 : Function and Powers of HAF (Continued) ........................................................ 19�

Figure 3 New Dimensions of Financial System Leverage ................................................. 49�

Figure 4 Spread of Global Financial Crisis ........................................................................ 50�

Figure 5 Household Indebtness by Country ....................................................................... 54�

Figure 6 Impact of Problem Loans .................................................................................... 55�

Figure 7 Impact of Problem Loans- 2 ................................................................................ 56�

Figure 8 Percent Growth in GDP ....................................................................................... 59�

Figure 9 Section 14 of Banking Act 1995 ......................................................................... 63�

Figure 10: Graphic Presentation of Business Development Factor Analysis ................... 78�

Figure 11 Graphic Illustration of Credit Execution & Administration Factor Analysis .... 80�

Figure 12: Graphic Illustration of Review Factor Analysis ............................................... 82�

Figure 13 Customer Credit Default Sample 1 .................................................................... 85�

Figure 14 Customer Credit Default Sample 2 .................................................................... 86�

Figure 15: Organization Structure of Housing Authority .................................................. 96�

Figure16 Comparative GDP, Inflation and NPL Graph .................................................. 103�

Figure 17 Inflation Position June 2009 ............................................................................ 104�

Figure 18 Loan Submission Process ................................................................................ 107�

Figure 19 Financial Highlights 2009 ............................................................................... 112�

Figure 20: Non -Performing Loans (2003-2009) ............................................................. 116�

Figure 21 Private Sector Credit Growth .......................................................................... 118�

Figure 22: Gross Domestic Product ................................................................................. 119�

Figure 23: Stress Test Framework ................................................................................... 127�

1

1 INTRODUCTION

1.1 Global Housing Needs

Housing is primary function of the private market, driven by economic development

whether or not a residential development is financially feasible and profitable. The

government’s role in housing is to make it accessible and affordable to certain households

who cannot afford the cost of market rate housing. Whilst a variety of programs and

financing mechanism (inclusive of government subsidies) exist; the increasing demand for

houses, affordable apartments and residential lots is a universal issue. Mcleads (1999) felt

many households lacked affordable home ownership and wanted all the children to live in

their own houses and Whiting (1998) felt the most affected are the young people between

the ages of 16 and 24 years. The homeless have been a result of social, economic and

political problems that resulted with unemployment and poverty. It is a global problem

and according to Whiting (1998), it is the result of private and public sector policies that

exclude poor from participating in the economic revolution. The former British Prime

Minister Tony Blair launched his government's policy with an aim to reduce the number

of people sleeping on the street by two thirds in three years1. Whether this has been

accomplished is another question, following the burst in the housing industry .Many

children and their families, according to McLeads (1999) live under threat of eviction or

fear forced removals because the title where they live is illegal. America is no exception,

Godfrey Jr, (2003) found that as of 2001 over seven million American renter families, one

in five suffered severe housing affordability and this has worsened following the impact of

the Global Financial Crisis (GFC). Housing Credit Finance in America financed 115,000

more affordable apartments each year, with monthly rental of $500 a month. Furthermore,

in America, a Federal Home Loan Bank System provides long and short term advances on

the security of many types of collateral loans and advances2. The National Affordable

Housing Trust Fund Act of 2003 introduced a bill in America, that called for the building

or preserving of 1,500,000 affordable homes in the next ten years3.However, this remains

1 http:aspin.asu.edu/hpn/ archives/Jul98/0042.html. 2 http://www.fhfb.gov/FHLB/FHLBPS index .html. 3 http:// www.nlihc.org/press/pr030503.html.

2

questionable due to the Global Financial Crisis (GFC) that emanated due to sub-prime

mortgage failures.

Despite State policies and framework, the problem with financial institutions is that the

fundamentals of corporate governance are ignored. The tone at the top is lacking to set

proper strategic direction and the key responsible management fails to implement those

desired corporate objectives. The role and responsibility of the board and directors have

emerged as an important issue in examining the cause of high profile collapses like

Lehman Brothers, Enron and WorldCom. This has created much debate on what the role

of the directors is in ‘directing’, ‘monitoring’ or ‘advising’ a company, including financial

institutions. Corporate governance has emerged as a national and international issue in this

context. Cadbury (2002) and Kiel and Nicholson (2003) have expressed the importance of

increasing attention to issues such as the effectiveness of reporting disclosure, roles of the

board, internal controls, audit committees and the independence of directors and auditors.

This study tries to address some of the corporate governance issues in the financial sector

while looking at causes of problem loans. A number of high profile corporate collapses

like Ansett, Enron, WorldCom, and Parmalat have led to much discussion on

accountability, regulations and professional codes as expressed by Taylor (2003) with

classic examples of the GFC in the recent times. The 2011 Oscar Award winning

documentary movie based on the global financial meltdown, Insider Job very

comprehensively illustrates the lack of responsibility and accountability of the board and

directors, with the clear message from the producer, Charles Ferguson. He mentioned at

the award that after three years of the worst melt down, not a single financial executive

had gone jail.

For the regulated financial institutions, there are set of guidelines in terms of the corporate

governance that is formulated with the objectives4 that:

� The board should be appropriately involved in approving the bank’s strategy;

4 Principles for enhancing corporate governance Issued for comment by 15 June 2010

March 2010- Bank for International Settlements Communications CH-4002 Basel, Switzerland

3

� Clear lines of responsibility should be set and enforced throughout the

organization;

� Compensation policies should be consistent with the bank’s long-term objectives

and;

� The risks generated by operations that lack transparency should be adequately

managed.

In addition to the governance framework, there are various other factors that need to be

considered as a matter of the policy environment for the institution’s effective Credit Risk

Management with appropriate framework as provided in Appendix 11.7.

The Credit Risk Management Framework articulates the roles and responsibilities of the

board of directors for approving and periodically (at least annually) reviewing the credit

risk management strategy and the management who execute that strategy in a timely

manner. The framework mentions about the credit assessment programs and the self-

organizational evaluation system. This is quite important in ingraining the proper credit

culture of the institution. The process includes the reporting and monitoring mechanism

with an appropriate system of write off. The Integrated Risk Management System of the

credit is also mentioned in the framework, which is important with assessment and

monitoring on the macro or portfolio level including concentration limits, loan grading

and reviews, and the reporting system. The framework mentions about the credit

disciplines which includes limits and authorities, credit administration, any deviation and

violations and policies and procedure for upgrades. The framework also covers training

and development programs for the credit officers.

The credit approval and analysis is explicitly expressed in the Credit Administration

Section of the framework, which mentions about the in-depth analysis together with

screening of business prospects with source and use of funds. The regular follow-ups and

monitoring of large exposures or connected lending also form an integral part of the

administration. The systems support and financial analysis concepts with accumulating

information are also mentioned. The framework lays out the foundation for the

administration of the sub-standard and delinquent borrowers with skills of restructure of

4

the accounts. Finally, the framework mentions about the collateralization and enforcement

programs with the workout strategies.

These guidelines will be part of the research focus and the test of such framework. HAF

is no exception as a national housing institution and it must follow the Credit Risk

Management framework, in maintaining the quality credit standards.

Secondly there are various affordable housing plans and programs to support the

initiatives with some of the common approaches as follows5:

- Support formulation of National Housing Policies;

- Improve access to adequate shelter by securing tenure;

- Facilitate the housing process, including improvements to land, housing finance

and technology;

- Strengthen the construction sector through promotion of energy efficiency;

- Promote utilization of appropriate building material and technologies;

- Build local capacities in self-help and community construction techniques and;

- Promote housing conservation as well as restoration in traditional city cores,

rehabilitation and reconstruction of housing stock.

These objectives cannot be achieved in isolation if there are no well structured financial

and institutional frameworks. As such, there has to be a foundation for the policy makers,

with regulatory aspiration and affordable credit accessibility.

In India, The Kelkar Report proposed a 2 per cent subsidy on housing loans up to Rs

500,000 and the government's continuation to offer interest deductions of up to Rs

50,0006.

Inadequate poor urban housing is a problem at global level and considerable effort is

taken by the United Nations and World Institution for upgrading to ensure adequate and

5 http:// www.unhabitat.orga/offices/roaas/ade-shelter.asp. 6 http://in .biz.yahoo.com./021227/26/1zj9v.html.

5

affordable housing for the poor7. These reports show inadequate housing needs at global

level and the ways the authorities are implementing strategies to meet those needs.

The spiral and melt down effect of the current GFC is another result of the housing boom

in US that has adversely affected loans and advances in the mortgage finance sector.

Following the impact of the GFC, countries have taken some serious measures to look at

the ways to prevent homelessness. In America for example, President Obama signed the

American Recovery and Reinvestment Act of 2009, which addressed homelessness

prevention, allocating $1.5 billion for a Homeless Prevention Fund. In May 2009, he

signed the Homeless Emergency Assistance and Rapid Transition to Housing (HEARTH)

Act which allows for the prevention of homelessness, rapid re-housing, consolidation of

housing programs, and new homeless categories8. Conversely,this sort of policy

framework could affect the residential mortgage markets negatively as the lenders may

not be keen to lend in over protected sectors.

1.2 Housing Needs of the Pacific In the Pacific, almost all the governments have taken steps to address the housing

problems of a needy urban dwellers. The demand for affordable housing is increasing as a

result of growing urban populations. Another factor for the demand is the formation of

new households. Papua New Guinea Housing Corporation has been in existence for the

last three decades. It looks at providing different levels of affordable houses. It has new

policies of developing new plots for leasing on a self-financing basis. Kiribati Housing

Corporation caters only for the civil servants and Samoa has the Samoan Housing

Corporation, which is a financing institution. In Solomon Islands, the Housing Authority

was disbanded after some years. In Vanuatu, the Housing Corporation established in 1985

is trying to address various management problems. In Cook Islands and Niue, most of the

owners have abandoned their houses and emigrated, which has resulted in problem loans

and houses cannot be easily disposed because of customary ownership of the land.

7 http://www.unescap.org/huset/pacific/pacific2.htm 8 http://en.wikipedia.org/wiki/Homelessness

6

In most of the Island State Countries (ISC), finance is facilitated by public sector

institutions, with mobilization of state provident funds. The commercial institutions and

insurance companies also have prospects for providing similar finance.

The increasing populations in the cities require new areas of housing, schools,

recreational activities and religious buildings. The current constraints that is faced by

most of the Pacific Island Countries (PIC) is the availability of land as about 80% of

land in the Pacific has some sort of customary land tenure system and as such, the

lenders are not very keen to lend. The other aspect of constraint is the infrastructure

and the water supply. Nevertheless, the governments are doing their best to facilitate

the needs of the citizens.

Source: http://www.unescap.org/huset/pacific/pacific2.htm

1.3 Housing Needs of Fiji

Fiji has its own social and economic problems. A recent report with the current poverty

rate considered to be 35% of the population. The causes of the problem have been created

by greed and there is no serious political will to tackle the problem9. Conversely, the

current Fiji government recognizes the need to address the poverty and the housing needs

of the people.10 To meet the increasing needs for housing, which is partly due to expiry of

cane farm leases, as some areas are depopulated, the government is looking at the ways to

fulfill the needs with limited resources. The government has implemented various

initiatives in the recent time which includes setting up a National Housing Policy

framework. However, there is still a notable need to support the design and the

implementation of sound national housing finance policies. There is significant demand

for affordable housing and it appears to be beyond the scope of the current government

agencies to manage the supply and demand effectively. The World Bank and its affiliate,

the International Finance Corporation (IFC), have been greatly involved in many housing

finance activities in the region, providing both funding and expertise. Recently the

bilateral relationship with China has seen the funding of some of the significant projects

and these include through HAF and Public Rental Board.

9 http://pidp .eastwestcenter.org/pireport/2003/March/03-07-11 htm 10 http:// www ilo.org/public/english/region/asron/mdtmanila/training/unit2/ fijip ovt.htm#poverty

7

The Fiji government has formulated National Housing Policy Framework, which is in its

preliminary stages and is yet to be fully implemented. It is also to be noted that in its

National Budget 2011, it has allocated $10 million for the equity scheme for first time

home buyers, where individuals would be able to access a maximum of $10,000 for the

construction of a first home. It is not clear at this stage whether this grant is only confined

to Waila City development, a new plan by government through HAF.

Building sustainable housing finance markets is the central topic since there haS been

some progress in putting surveillance on the building material prices through the

Commerce Commission of Fiji. This would be a futile exercise if there is no advocacy for

the access to finance for housing and that should be done through the national policy

framework. It would be shrewd that a working committee on the policy framework should

involve financial institutions including the capital markets, Fiji National Provident Fund,

the banks and credit institutions. It is also apparent that a forum should have discussions

on a wide range of issues relevant to both primary and secondary mortgage markets,

housing finance policies, and the infrastructure required to support housing finance

systems. It may be prudent to have a private sector workshop dealing with practical

lessons in order to stimulate private sector involvement in housing finance. While the past

experiences with HAF were good, some lessons could be learnt from the former chief

executive officer having been convicted for abuse of office.

The major challenges are needs to enhance affordability of housing finance alternatives

for lower-income segments; and at the same time, the need to foster long-term funding for

housing finance. In order to overcome these challenges, the policy practices should

enlarge primary mortgage markets making them accessible to a previously underserved

population but with some prudent measures in the wake of the lessons learnt from the

GFC.

In terms of the accessibility and diversifying the source of funds, there has to be some sort

of linkage between the capital market and the mortgage markets. Institutions like Home

Finance Company Limited (HFC) or HAF should access funds through the capital market.

However, the institution needs consider cost of funds and the returns on the funds. When

8

the cost of fund is high, the margins on the loans and advances would be high and may not

be competitive compared to the mortgage loans offered by commercial banks. The high

rate would have impacts on the debt serviceability of the borrowers, affecting the ability to

pay. Following the special experiences of the GFC, there should be emphasis in

experiences seeking to achieve an improved risk management as a pillar to make

mortgage lenders less vulnerable to credit and market risk, which is quite prevalent in the

developing or now, even the advanced economies. It is also important for HAF to have a

comprehensive, well thought-out and prudent subsidy program. The importance of

housing finance on economic development globally cannot be disputed. From the

viewpoint of households, housing finance enables them to purchase an asset that will

represent their largest single investment followed by education.

The investment in housing, according to Gonzalez (2005), accounts for 15 to 35 per cent

of aggregate investment worldwide, and residential construction accounts for 5% of the

labor force worldwide, while real estate services (including finance) constitutes 4% of the

labor force worldwide. For instance, low to moderate income earners are provided

initiatives such as subsidized interest rates or ceilings to the interest rates in the mortgage

market that have impeded the expansion of a sustainable housing finance market. There

are other external factors like inflation or hyperinflation, employment status and the

economic outlook that play an essential role in the affordability and debt serviceability.

It is to be noted that when the State continues to perform its obligation, the lending is

heavily associated with subsidies and as a result, due to complacent culture of the

institutions, there is high a rate of arrears, even after governmental intervention with

repeated debt relief programs and HAF is no exception. In addition to inappropriate

policies, there could be other obstruction to the housing development like purchasing and

debt servicing ability of the mortgage together with other financing costs. This puts

untimely pressure on the borrowers. Additionally, legal documentation and perfection of

lending securities in Fiji costs around $2000. The macroeconomic factors such as inflation

and devaluation also affect the capacity of borrowers to pay. The devaluation of the Fiji

dollar by 20 percent in April 2009 has given rise to credit risks in the housing finance

system, where the lenders were not prudent in effective credit risk management. This

9

point could be arguable when comparing the problem loans of the commercial banks to

the government agencies. The study tries to expand in Discussion section of the study.

The Fiji government also accommodates the housing needs especially for the poor through

the Housing Assistance and Relief Trust (HART).HART serves the housing needs of the

poor. The maximum income of the HART recipients is $60/week11.HAF and the Public

Rental Board cater for housing needs for the low income earners. In general, the financial

system in Fiji has changed a lot which include innovative products and services supported

with technological advancement such as internet and mobile phone banking.

Fiji has five commercial banks, namely ANZ, Bank of Baroda, Bank of South Pacific,

Bred Bank and Westpac, three credit institutions: Credit Corporation Fiji Limited, Home

Finance Company Limited and Merchant Finance Investment Limited and seven general

insurers, two life insurers, five brokers, eight foreign exchange dealers, the Fiji

Development Bank and the Fiji National Provident Fund along with a number of smaller

non-bank financial institutions like the Housing Authority and Dominion Finance that

have brought many changes to the financial system and some play pivotal roles in

mortgage lending. The mutual, stock and capital markets are present. There is an

undeveloped stock market, the South Pacific Stock Exchange, and also a fledgling venture

capital company, the Kontiki Fund, which invests in startup companies.

The housing finance system in Fiji is well developed with Fiji National Provident Fund

which serves as the main provider of investment funds or as the equity provider. HAF

provides loans to restricted income sectors of those earning below $50,000. It also looks at

the village loan scheme undertaken on lands that cannot be leased with legally backed

guarantees and definite source of income. HFC serves a higher income market and is more

closely linked to commercial institutions, which play pivotal role in financing housing

needs.

Finally, an efficient housing finance system has significant importance both in meeting the

housing needs of individuals and in reinforcing the development of the construction,

11 http:// www.ilo……………………………………………………………………………………

10

finance and other related sectors of an economy. International experience with recent GFS

suggests that the widespread availability of residential mortgages has a favorable impact

on poverty alleviation, quality of housing, infrastructure, and urbanization. The developed

countries have advanced housing finance systems in which funds flow from people with

fund surpluses to the ones that are in need of them through lending. On the other hand,

despite its recognized economic and social importance, housing finance often remains

underdeveloped in developing countries mainly due to the lack of macroeconomic

stability and prudential guidelines, which need to be considered in a practical way.

1.4 Housing Loan Problems

Non-performing housing loans, their causes and implications bring up lot of aggravation

not only to the borrower(s) and their families, but to the institutional shareholders, board,

management, staff, investors, state, regulators, existing and potential customers and all the

stakeholders in the financial system, as this can have macroeconomic consequences of

market failures and systemic risk with most expensive bailout programs thereon.

The non performing loans of HAF have various impacts either directly or indirectly,

which are considered as follows:

a) The increase of non-performing loan (NPL) has significant impact on the profitability

and sustainability of HAF.

The corporate strategies of HAF formulated by KPMG in 2001 indicated it had 22 per-

cents of non-performing loans. This continued to increase over a period of time and

recently it has increased to around over 40 per cent when compared to 2009 it was 29

percent with NPL portfolio of $41.3 million against a total portfolio of $139.59

million. The write offs suspension of fees and interest, together with recovery and

enforcement costs have a significant impact on the profitability of HAF.

b) The increase of NPL has a significant impact on the reputation and image of HAF.

11

It first reflects on the fit and proper aspect of the Board and the Senior Management,

the governance framework of the institution and the risk management culture that

should be integrated together with effective implementation of the corporate strategies.

In addition, it will compromise the market position, reputation and image of the

institution which would have significant implications for the business growth and

investor and lender confidence and would eventually attenuate the stakeholder

expectations.

c) HAF continues to receive State support, which includes the bailout program in 2001.

This has major implication for the institution. It is quite critical for the HAF to identify

the factors that would have contributed towards the problem loans. Since its inception

the HAF has been enjoying the financial support from the government at the expense

of the tax payers and in some instances, it has been bailed out by the government. In

2001, the Asian Development Bank’s funding was converted as equity by the

government. It is quite important that strategy and the core function of HAF, together

with sustainability is seriously considered otherwise, will continue to have the spiral

effect on the whole financial system of Fiji. The government will continue to provide

support either with direct subsidies or with guarantees to the borrowing. Recently, the

board of HAF has introduced a social policy for the debtors for the write off of the

loans paid three times or more. By rule of thumb, total debt over 20 years should not

exceed double the amount unless there are significant arrears. This sort of program

needs to be well thought-out otherwise; it may send wrong signals to not only the

debtors but also to the credit officers resulting with the element of moral hazard. In

addition, there is no proper incentive for those who have been very genuine in

payments and have made every effort to pay.

The Housing Authority of Fiji yesterday presented nine of its customers with the

letter informing them that the remaining balances on their home loan accounts

had either been completely written off or had received partial write off…. Those

customers who have paid more than twice but less than three times were eligible

for partial write off ….Customers who’ve paid more than three times the

principal loan will be able to have their home loan accounts written off….

12

Source: Fiji Sun 10 March 2011- 5.

d) The increase of NPL contributes towards a lack of market and financial discipline that

bridges the gaps between the rich and the poor.

The problem loans also result in a lack of financial discipline or market discipline

which needs to be addressed through well coordinated education programs.

Conversely, it also carries the social obligation towards the segment of the customers

who are eliminated by the commercial banks and other credit granting institutions.

This segment is contemplated to be quite vulnerable. This segment of the borrowers

would be considered as average borrowers who would not qualify for the home loans

under the normal lending criteria, provided by the commercial banks. The probability

of default of such customers is quite high due to their unstable and inconsistent

employment status. It is also to be noted that the Fiji government over the years has

been providing an annual grant of $1.0 million to subsidize those debtors who have

been facing difficulties in meeting repayments.

e) The increase of NPL contributes towards social and economic problems.

As strategic mortgage defaults continue to increase, and homes are foreclosed, real

estate appraisals on these homes will continue to decline as the supply of homes in this

segment of the market increases. As a result, potential buyers of these homes will wait

and rent, thinking the market will continue to soften.

The heavy demand of the family members with change of life style and lack of priority

and financial disciplines in the society continues when finances are poorly managed.

1.5 Objectives of the Study

This study mostly focuses on real estate loans granted by HAF and looks at the causes of

problem loans. As highlighted above, getting an affordable shelter is a global problem but

losing a shelter is another major problem in the financial system and the housing sector.

13

This happens when the debtor is unable to service the debt and the financier proceeds with

legal action through mortgagee sales to sell the property.

The study tries to identify the factors that contribute towards problem loans in the

mortgage financing sector of Fiji and in a particular in a public institution, HAF. It starts

with the importance of the housing needs at global and regional levels. Subsequently, the

objective includes looking at the housing needs in Fiji in the context of the current social

and economic problems. It is imperative that such study is carried out to try to avoid the

continued mortgagee sales, enforcements and bankruptcies. This would be in the interests

for not only of sustainable quality mortgage portfolio growth, but also to preclude any

social, economic and legal predicaments emanating from such incidents.

The study brings together the insight of duties and responsibilities of board and senior

management, the impact of pricing, individual lending policies, competition and

marketing strategies, with other external and internal variables. It also provides a

comprehensive literature on the recent GFC, its origination, the causes, implications,

recovery process and most importantly the lessons learnt from the bubbles and burst of the

housing market in the USA.

The objective also encompasses a comparative analysis of current procedures and

practices of HAF, in light of the best practices and international standards for housing or

real estate financing that could be adopted by HAF.

The study documents measurement of the performance evaluation of HAF while

comparing with other similar institutions with causes of problem loans and looks at the

ways to prevent the same. The paper also acknowledges the efforts of the state and other

state agencies in promoting the home-ownership programs despite the current limitations.

Conversely, it makes various articulations and suggestions to foster the national housing

policy that the stakeholders may consider in the formulation and implementation of

housing programs.

14

1.6 Credit Risk and Problem loans

The Government of Fiji funds HAF annually with $1 million and if the loans are not

productive then the taxpayers’ monies are wasted. The non-productive loans results with

problem loans. According to Cade, (1999: 77) credit risk is loss to the (institution)

financier through default of obligor. Koch (2000: 121) defines it as quality of individual

assets and the likelihood of default with potential variation in the net income and the

market value of the equity resulting from this non-payment or delayed payment. Bessis

(2002: 13) further mentions that it is also a risk of a decline in the credit standing of an

obligor of the issuer of a bond or stock. He further mentions that a credit risk is quite

critical that potentially can lead to insolvency. Sinkey, Jr. (1998: 190) regards it as

uncertainty about loan repayment, when the borrowers do not repay their loans,

institutions face financial difficulties.

The problem loans affect the profitability of the lender, in this case HAF, which is the

case study of the problem loans. Any financial institution encounters apart from credit

risk, other related risks such as interest rate risk (which is unexpected interest rate changes

affecting both sides of the institution 's balance sheet), liquidity risk, solvency risk, market

risk, currency risk as stated by Kidwell et al. (2000) and the operational risk that results in

credit risk. Bhattacharya (1998) felt most of the risks could be minimized if there are

adequate lending policies with risk classification of borrowers which he classified in

Table 1.

Table 1 Classification of Borrowers and Lending Rate Excellent 0 Very Good 1 Good 2 Fair 3 Doubtful 4 Poor 5

Portfolio Lending Rate [PLR]

16.5%

18.43%

20.87%

24.06%

28.39% Reject

34.63% Reject

Source: (Bhattacharya: 1998)

The credit risk also affects the liquidity position of the lender because it affects the costs

of the funds eventuating with interest rate risk. If HAF does not improve in its collection

efficiency, it may lose government guarantee to raise funds at a cheaper rate. If the source

of funds is expensive, it may not be able to compete in the market in terms of the pricing,

though the current rate offered in lending is 7.99 per cent.

15

The management of credit risk begins with lending decisions (Kidwell et al. (2000)),

whereby the managers must closely monitor that problem loans are quickly identified and

workout strategies with analysis of loan pricing and loan portfolio analysis, with a

common way of monitoring by using concentration ratio, is undertaken. Cade (1999) feels

it is the credit culture, that is the key factor for the success of managing credit risk. The

credit culture as expanded by Kidwell et al. (2000) could be value driven, profit driven or

market driven as illustrated in Table 2.

Another definition of credit culture as described by Cauettee et al. (1998) is a behavior

ranging from defensive conservatism to irresponsible aggressiveness. It is linked to the

attitudes, responsiveness and behavioral pattern emanating from the Board, CEO and

infiltrating the organization. The philosophies, traditions and priorities are additional

factors. Then more confined are the personalities of line officers, knowledge, abilities,

biases, together with fragilities with which the credit culture grows.

16

Table 2 Institutional Credit Culture

Value Driven

� Focus on the credit quality with strong risk management systems and controls;

� Underwriting is conservative and significant loan concentrations are not allowed; and

� Typical outcome is lower current profits with fewer loan losses. Profit Driven

� Focus on the short-term earnings; � Primary emphasis is the institution 's annual profit plan; � Management attracted to high risk with high return; and � Higher profits in good times followed by lower profits in bad.

Market Share Driven

� Focus is on having highest market share of loans among competitors; � Primary emphasis is on loan volume and growth-with intention of being the

largest market holder; � Aggressive underwriting is very aggressive and management accepts loan

concentration and above average credit risk; and � Loan quality suffers over time, profit is modes.

Source: Koch and Mac Donald 2000: 616-61

The next chapter documents the history and operations of HAF. It provides information

about its regulatory existence, its purpose, the key events, the challenges and

predicaments, and the corporate philosophy.

17

2 HOUSING AUTHORITY OF FIJI

2.1 Background

The Housing Authority of Fiji (HAF) is primarily responsible for providing housing needs

especially in respect of low to middle income earners. Since its establishment in 1955, the

Authority has continued to face new challenges to achieve this objective and most housing

activities undertaken involved high credit risk and significant social cost, which affects its

finance viability. As a result, the Authority’s financial position has deteriorated and the

balance sheet equity position became negative.

2.2 Powers and Functions of HAF

HAF is governed by the Housing Act 1955 (revised 1985) and acts within the provisions.

Figures 1 and 2 indicate the powers and functions of HAF including acquisition of land

and estate for development, including acceptance of donations of land, money or other

property; sub-division and development of land, acquisition of dwelling suitable for the

purpose of the Act, including investing in securities and granting loans to assist workers to

purchase dwelling houses, or discharge a debt secured on dwelling houses or assisting in

erecting a dwelling. The functions are not limited to these, but also include assist in

purchase of plant, vehicles, machinery, equipment, stores and also consideration of

schemes to provide housing accommodation for workers and even do any other act for any

purpose connected with the provision of housing. Sharma and Lawrence (2008) stated that

one of the recommendations was providing affordable housing to the low-income group

through a revitalized HAF, which should be institutionally sound, operationally strong and

financially viable without depending on government subsidies (Asian Development Bank,

1989, p. 6).

One of the major achievements was that after a comprehensive review of the financial

performance of the HAF, the government agreed to restructure the HAF’s finances by

converting the ADB/IBRD loans into government owned equity. However, some of the

strategic issues still outstanding have become a threat to its operation and viability.

18

Figure 1: Functions and Powers of HAF

Some of the major issues are:

� high cost of funds and (interest cost);

� lack of developed lots for sale and unavailability of infrastructure for water and

sewerage reticulation;

� high level of arrears and non-performing accounts; and

� Intensive competition by other financial institutions on housing market share.

19

Figure 2 Function and Powers of HAF (Continued)

In 1992, a House Design & Build programme was implemented that was largely funded

by the Asian Development Bank but in 1996 it was suspended due to the high number of

complaints and house defects. Since then, HAF has embarked on many reforms towards

commercialization and ensuring its financial viability and productiveness. Conversely, it

was unable to do so with a huge debt and a weak balance sheet. During the period it also

had to meet its social obligations after the events of 2000, which saw reduction in interest

rates to 6 per cent for those earning below $6500. It also established a special "Assistance

Scheme" to help those customers who had lost their jobs or suffered a reduction pay.

20

In October 2002, the government approved HAF’s financial structure whereby the $44

million debt owed to ADB was converted as an equity which resulted in a negative equity

position of $3.4 million, turning to a positive position of $38 million. In doing so, the state

laid down some very specific performance targets through a Memorandum of

Understanding (MOU). Some of the areas that HAF would be concentrating were focus

on low income earners, production of developed lots, increase in the quality loan

portfolio, reduction in lending interest rates, improving its loan book by reducing non-

performing loans, providing a return to equity, controlling its administration costs, culture

and attitude change and accountability to the government. So this meant that since 2011,

HAF has had some major constrains as far as quality of portfolio and non- performing

loan are concerned.

In September 2002, HAF launched a special home loan package called ‘Moving on

Package and following this, it embarked on some of key initiatives including the

launching of its new vision and reduction of interest rates. In addition, new products were

launched including personal loans, car loans and refinancing loan packages. Each loan

product attracted different interest rates and was necessary to increase the HAF’S

mortgage portfolio which was a great success. The total mortgage portfolio has increased

by 10.84% to $163.4m over the 10-month period ending October 2002.

In 2003, the Authority launched another product, after 45 years of service which was

known as the Sapphire Package at the interest rate of 4.45% fixed for two years and

thereafter variable interest rate. The interest of 4.45 per cent was normally called “4 point

forty five” to mark HAF’s forty five years in existence. The reduction had brought the

home loan rate really down in the market. This product took the market for almost two

years and HAF had some good times.

Some of the key performance results and activities from 2005 to 2009 are cited in the

following subsection.

21

2.3 Activities and Results of Housing Authority

For this study, we have taken activities for the four year period (2005- 2009) obtained

through the published Annual Reports and at the time of finalizing the report 2010 report

was yet to be tabled to the Cabinet, however researcher tried to document most of the

recent activities and development that HAF has undertaken. In 2005 HAF recorded growth despite increased competition. It recorded a surplus of

$2.49m, an increase of 20% from the previous year. It took advantage of the low

borrowing rates and the conversion of expensive bonds resulted in saving interest cost by

$0.520m. The Waila 3B subdivision at Davuilevu, Nausori with 466 residential lots was

completed and most of it was allocated to the squatters in consultation with the Ministry

of Housing which provided a grant of $1.5m that reduced the development cost by 50 per

cent. In the same year HAF’s 184 acre-Tacirua East Stage 2 work had started. In the

Western Division, it had completed development and was selling a total of 448 lots at its

Field 40 and Natabua Subdivisions in Lautoka. In addition to this, lot-designing stage

started for Ba, Tavua and Savusavu with an estimate of 360 lots to be completed.

Through government grant, HAF continued to subsidize the interest rate by 2% (to around

5.99 per cent) to low income earners and part of it to the customers under the Village

Housing Scheme whose income did not exceed $6500. Financial assistance was given to

customers under the Authority’s Home Ownership Plan through government grants.

It introduced a new loan scheme called Crystal Home Loan Package with an interest rate

of 3.99% for the first 18 months and 7.99% thereafter. Total loans approved for 2005 were

$30.2m and its total loan portfolio stood at $145.5m. NPL were reduced by 11.65% or

$2.8m. A Board Charter that spelt out the roles and responsibilities of the Board of

Directors was adopted. Financial statements were audited by KPMG while internal audits

were done by G. Lal & Co. Some major of challenges facing HAF were in providing

affordable housing for low income earners and to improve the Information Technology.

For the financial year 2006, HAF made a surplus of $2.28m, a decrease of 11.6% in

comparison to the previous year. The lots that were completed at the 3B Waila Sub-

division were mainly awarded to squatters, in consultation with the Ministry of Housing,

which provided a grant of $1.1m that reduced development costs of lots by 50%. Then

22

HAF purchased 64 acres of land at Wainibuku, Nausori, and 114 acres at Natadola. A

total of 153 lots out of 448 lots that were developed in Field 40, Lautoka were sold.

Through government grant, the Authority continued to subsidize the interest rate at 2%

and also to customers under the Village Housing Scheme. The Authority assisted 2,072

customers, of whom 48% were low income earners. It is to be noted that 11 families were

supported through Home Ownership Plan by government grants. The lending interest rate

was 3.99% for the first 18 months and 7.99% thereafter (same as 2005). The future

intensions of the Authority at that time were to obtain a license from the Reserve Bank of

Fiji to accept savings deposits, review the interest rate, analyse the Housing Act,

implement new IT systems and provide more housing lots for low income earners.

In 2007 HAF recorded a surplus of $0.583m against a budget surplus of $1.0m. The

surplus decreased due to the high cost of borrowing. In December 2007 the Authority

purchased 45 acres native land at Matavolivoli, Nadi and an estimated 500 lots would be

produced. It commenced with the sale of lots at Field 40. A total of 934 lots were

produced and 114 of them were sold. The government grant continued to assist with

interest subsidize. The Authority’s normal interest rate on home loans was 7.99% with a

total of $19.07m given out as loans with a total loan portfolio at $144.7m. The non-

performing loans were reduced to $24.1m compared to $33.1m, in the previous year. The

Authority also commenced risk grading of all loans in accordance with the Reserve

Bank’s guidelines. In addition, various training and workshops were organized for the

employees to improve customer service.

The year 2008 showed the financial position of the company had significantly improved.

It recorded a surplus of $1.559m in comparison to $0.583m for 2007, an increase by

167.4%. This was due to the Authority’s strategy of lending from internally generated

funds rather than borrowed funds. The interest rate was maintained at 7.99% per annum

on home loans and the non-performing mortgage portfolio was decreased to 16.3%. About

A soft loan $50m was taken by the Government from the Chinese EXIM Bank for the

Authority to develop Tacirua East subdivisions. An estimated 1050 lots and 350 house

units are expected to be produced upon the completion of the two stages. At Field 40, 448

lots were completed but the sales were reported to be low. In Namosau, Ba 84 lots were

23

also completed out of which 35 were sold. The government grant continued to subsidize

the interest rate at 2% as in previous years. Under the Home Ownership Plan, $313,249

was given to customers who were unable to pay their mortgage debt. A loan guarantee of

$150m was given to the Authority by the Government to undertake various social and

housing projects. The interest rate for home loans stood at 7.99% per annum and a total of

$15.5m was approved for 2008. The loan portfolio stood at $142.7m.

In 2009, HAF continued to endorse housing development in the rural areas through the

Village Housing Scheme under which those with income margins below $6500 were

given loans at 2 per cent lower than the normal rate, which resulted to 137 customers been

assisted. Under the Housing Authority’s Home Ownership Plan, financial assistance was

provided through a government grant totaling to $313,249 to 45 of the existing customers

who were unable to pay their existing debts. Due to the economic downturn, HAF

recorded a profit of $0.548m (decrease by 64.8% compared to the previous year). In the

year, HAF was engaged in the development of the Wainibuku residential sub-division

with an estimated cost of $6.7m with a total yield of 264 lots. In other developments the

Government successfully brokered a $50 million soft loan from the Chinese EXIM bank

to develop Tacirua Stage 2 and Nepani stage 2 subdivisions in Nasinu. The project was

expected to commence mid 2010 with 1050 singular lots and an estimated 900 housing

units taking about 44 months to be completed. During the finalization of this report in

2011, the project has commenced.

A plan is also underway for the Waila Housing City in Nausori, covering about 700 acres

with a probable 5000 homes. HAF continued to subsidize the interest rate of 2% on

housing loans and provided land development subsidies. A total of 548 customers were

assisted of which 25% were classified as low income earners. The Authority has been

tasked to reduce its dependence on government to finance operations, providing cheap

housing for low income earners and improving IT systems for better customer service.

Recently HA has implemented social policy to write off loans, which is covered in a later

part of the study. The social housing was announced by the Prime Minister in March,

2011 aiming to provide direct assistance to Fijian families who are at risk of losing their

24

homes because of retirement, medical unfitness to work or unemployed. Initially in 2011,

the policy criteria required homeowners to have paid over two times the principal loan

amount. Following this, it was revised to one and a half times the principal loan amount to

ensure that the policy was able to provide assistance to those families that genuinely

needed it.

2.4 Governance at Housing Authority In the Housing Authority, Chief Executive and the General Managers are appointed by

the Board of Directors who are appointed by the Minister of Local Government, Housing,

Squatter Settlement and Environment. There are 5 offices throughout Fiji: the head office

at Nasinu, branch in Suva and divisional offices at Lautoka, Nadi and Labasa.

2.5 Key Events of Housing Authority

Some of the key events in the calendar of HAF are tabulated in Table 3.

Table 3: Summary of Key Events of Housing Authority of Fiji

# Events

1.1958 - Begin operations: - Purchase and Home Improvement Loans and, - Small Program to build small units.

2. 1964 - Rental accommodation provided: - To provide temporary accommodation for those who could not afford loans.

3. 1971 - Production and sale of serviced sites

4. 1986 - 17,000 families benefited from housing programs or 34% of urban population.

5. 1987 - HA produced about 830 serviced sites. 700 mortgages. 1800 rental flats.

6. 1988 - New policy statement adopted by Board and Government.

7. 1989 - Public rental board separation

8. 1991 - Loan agreement signed between Housing Authority, Government, World - Bank and Asian Development Section.

9. 1997 - Out-sourced functions of the Planning and Development section.

10. 1999 - Reduction of interest rate from 11.5% to 6% to all customers earning below $6,500 annually.

11.

25

2000 - Special "Assistance Scheme" to help HA customers who have lost their jobs or reduction in May crisis.

12. 2001 - Refinanced expensive loans. - Moving on Package launched with initial Interest rate 5.99%.

13. 2002 - Implementation of more intensive and proactive management controls and introduction of Credit management unit.

14. 2003 - Celebrated 45 years of Service. - Launching of Sapphire Package with initial rate 4.45%.

15.

- The moving on package with its 5.99% first year interest rate proved to be a major success in 2002

- Total loan provided under this package amounted to $29 million - The mortgage portfolio grew by 10.6% in 2002 and 875 customers were able to make their

accounts good - On 3rd October 2002, Parliament approved the conversion to government equity of the $44

million owed, moving the Authority from a negative equity position of $3.4 million in 2001 to a positive equity position of $38 million in 2002.

- The Authority is in the process of designing major subdivisions at Waqadra in Nadi and Housing City in Suva

16. 2004 - HA recorded a surplus of $2.7 million. HA awarded Waila 3B project to BW Holding Limited for development of 466 fully serviced lots.

17. 2005 - HA launched sale of 421 residential lots at its Field 40 sub-division in Lautoka.

18. 2006 - Waila 3B sub-division completed, comprising 466 lots. Most of the lots were allocated resettle squatters.

19. 2007 - Despite downturn in the economy Housing Authority recorded an operating profit of $0.583 million.

20. 2008 - 50 years of Housing in Fiji. Land and Housing Development Unit to re-establish

21. 2009 - Opening of the newly renovated Valelevu House

22. *2010- Study of the merger of Public Rental Board & Housing Authority by KPMG

23. *2011 – January launch of Waila City Project

24. *2011- Housing Social Policy

Source: http://www.housingfiji.com/about-us/facts-history.php *Insertion by Researcher

2.6 Strategic Issues

The HAF is faced with many issues and challenges, which are very critical to its business

and performance. Many efforts have been undertaken by the Board and Management to

resolve these strategic issues and they will continue to be of priority concern in the future.

26

They include- the high cost of funds, high level of arrears and impaired assets, culture

change, information technology system and land development programs and sale; as well

all these have to balance with corporate responsibility. In addition, the competition is quite

fierce, especially in home loans.

Strategies were developed (Sharma and Lawrence 2008) to create a new corporate culture

by changing management decision-making processes, staff attitudes and performance

measurement. The culture changed from being a social welfare organization to a more

commercialized HAF, in 2005. However, with external forces and internal environment

with change of regulation and the current Board direction, according to one of the

managers had to balance with corporate responsibility, thus emerging with housing

policies.

2.7 Lending Division Responsibility

The four sections of the Credit Risk Management or Lending Division include the

Approval Team, the Legal Team, the Credit Management Team and the Credit Recovery

Team. The objectives of each of the units are provided in Table 4.

The main responsibilities of the division include but are not limited to:

� The quality and profitable growth of the overall loan portfolio.

� Supporting business objectives by directing all lending and home financing

services to ensure prompt, timely, efficient and effective delivery.

27

Table 4: Core Functions of Lending Division of Housing Authority

Primary Targets Objectives

1. APPROVALS TEAM

To facilitate quality and profitable growth of the lending portfolio.

Improved quality of assessment with sound decisions based on the concept of the probability of default.

2. LEGAL TEAM

Management and control of all legal issues of the Authority including security documentation and verification of conditions prior to settlement.

To ensure that the Authority’s legal and security position is not compromised in the event of realization..

3. CREDIT MANAGEMENT TEAM

Ongoing management and control of the entire loan portfolio excluding higher risk and problem loans looked after by the Recoveries Team. Early identification and control of adverse trends. Loan maturity profiling; analysis and correction.

To ensure that loans previously approved remain productive and safe with emphasis on maximizing customer value and profitability

44.. CREDIT RECOVERY TEAM

Management, control and rectification of higher risk and problem loan accounts Focus on reverting debts to performing basis or exit

To ensure minimization of provisioning and write off through stringent and effective recovery processes. To maximize recovery of bad debts.

The next chapter focuses on the Literature Review, which documents the varied research

and papers published on causes of problems loans taking account of various factors such

as lack of governance, technological impacts, and innovations in the financial system. The

list continues with other factors like poor management, changes in the environment,

inadequate financial control, poor planning and decision making and imbalance operation

to name a few.

28

3 LITERATURE REVIEW

3.1 Causes of Problem Loans

The banking industry, in particular the lending functions, which include the non-banking

lenders, have gone through massive changes in terms of deregulation (Koch, 2000:18),

technological impact (Essinger,1999:23-29), globalisation, (Caouettee, et al. 1998: 6) and

competition (Schiopa 2000). Competition (Schiopa 2000) increases the credit growth

which declines institution’s margins resulting loan loss provisioning. Campbell

(1997:535) argues with the points that causes of problem loans are poor management

systems, more in the internal governance by owners and the management. Campbell

(1991) agrees with the point of poor management however, he feels there are other factors

that contribute towards the failure including changes in the environment, inadequate

financial control, poor planning and decision making and imbalance operation. Santiago et

al. (2002) indicate that lending policies that are relaxed during the upturn in economy

accumulate the risk and potentially affect the solvency of the institutions. In Spain, from

1987to 1991, the boom in the housing sector had shifted the market from commercial loan

to individual household loans. In the period of stagnation 1992 to 1996, it was almost flat.

Kaufman (1995) believes that financial institutions are more susceptible to failure than

other firms for three reasons:

� Low capital to assets ratios.

� Low cash to assets ratio.

� High demand debt and short term debt to total assets.

The economic crisis, continuing deflation, decline in public investment, anxiety over

livelihood and employment, restructuring programmes, worldwide economic deceleration,

increasing of bad debts in US institutions due to increased losses in the hedge funds,

results in problem loans. This eventually ends up with shrinking an economy as indicated

in the context of the Japanese economy12. In Australia, (Riggert, 1999) an increasing

number of home owners are defaulting their mortgages and the trend is being blamed on

12 The Japan Research Institute ,Limited,1999, The Japanse Economy in 1999,Escaping the Worst Crisis of the Postwar Era,http// : www.jri.co./JRQ/overview/1999/19901/JRQ199901prospect.html

29

job insecurity, redundancy, and a rise in low paid capital work, small business failure and

divorce.

A study by the Australian Housing and Urban Research Institute at RMIT in Melbourne

warned any further interest rate rises would make even more borrowers vulnerable to

difficulties and the default would increase. The research by Riggert further showed that in

the 1990s, Australians had extended their lifestyle instead of paying off their holiday and

weddings. This reflects the character and integrity of the debtors. Another factor for the

problem loan is the innovation in the financial system with the introduction of debit and

credit cards which means “rob Peter and pay Paul”. Furthermore, whilst technology has

improved efficiency in the credit tracing and analysis, a website has argued that it has also

contributed to problem loans where man-power has been reduced. Those indebted have

lost their jobs.

Another case of job losses contributing towards problem loans was found in the Japanese

financial crisis. “The report points also to the fact that in cases where the clearing of bad

loans involves institution bankruptcy with employees involved who lose their jobs

suddenly left in labour the market without preparation…”13 Cauettee, (1998: 97) further

mentions that collateral lending also leads to problem loans since the firm (debtor) proves

unable to generate cash to repay the loan and quality of collateral will deteriorate. Fay

(1997:253-269) mentions that fraud, panic, ignorance and greed eventuate with problem

loans and according to him, senior managers of Barings Institution (Queen’s Institution )

of London were implicated despite their denial that swollen bonuses had anything to do

with the collapse of the institution. Bush (1996:129) feels that stock of bad debts may also

affect the lending strategy with the rollover of the bad loans which results in distress

lending. This would threaten the solvency of the financial system too. Petersen and

Ranjan (2002) believe lenders reduce their credit standards and monitoring due to

competition and growth strategies which result with large volume of unsound loans.

Franklin National Institution (Heffernan: 1996), the largest bank of USA, in 1974 failed

because of growth. Sheng (1996) made critical assessment of the causes of the problem

loans and the factors assisted them as illustrated in Table 5.

13 ‘Effects of Loans Write- Offs on Employments” 2001:// www. Jil.go.jp./bulletion/year/2001/vol/40-09/01htm

30

The other contemporary approaches to evaluate the credit risk and the pricing14 are static

replication, used to price credit default swaps, structural approach, which looks at the

credit risky bonds or swap as credit risk less bond, and the reduced form approach. This

latter approach includes where the debtor defaults and are neutral probability of default

and recovery rate are the variables. In evaluating the credit risk, more emphasis has been

placed on corporate loans then on consumer ones. There is another new approach; internal

ratings based approach to the capital (IRB) to quantify the risk of the credit based on such

economic variables as loan sizes and geographic concentration to measure the default of

the credit in consumer loans15. Another method ascertained through empirical studies, the

Tracing Method suggests the following four points:

1. The importance of Strengthening and the early Warning Functions- vital to

control loans classified as “substandard” (S) because of the likelihood of the loans

losses in terms of the write- off and others reaching a substantial size in the long term.

2. Importance of utilizing statistical methods which cover life spans of loans: where

loans are classified (S), there is a tendency for the loan loss ratio to rise after the third

year following assessments.

3. Importance of avoiding loan concentration: institutions with highly concentrated

loans had a higher loss ratio then institutions with a diversified portfolio.

4. Importance of gathering financial institution’s own default data for the risk

quantification: the estimated losses may be understated when publicly disclosed

institution bankruptcy data are used since losses are incurred through “de facto

institution bankrupt borrowers.” This concept, the institutions in Japan would continue

to use together with offsite and on sit examinations. Source: http:// www.Boj.or.jp/en/ronburn/sinyo.htm

14 William Margrabe Group Inc., 2002 Credit Risk Management ,http// Credit Risk, ht. March. 15 Burns ,P.,2002, Retail Credit Risk Modelling and Basel Capital Accord, http//www.phil.frb.org/pcc/workshops/workshops6.pdf.

31

Table 5 Factors Contributing Towards Problem Loans

Exogenous Factors Endogenous Factors

Microeconomic & Macroeconomic Factors

Poor Governance Framework

Lack of effective Credit Strategy

Lack of Independent Evaluation as Form of Independent Measurement Poor Assets Quality Management

Political Implications Poor Management

Connected Lending Operational Losses

*Natural Factors Inefficiencies

*Competition & Change In Market Trend

Policy Directive Lax In Credit Evaluation

*Poor Governance Framework Weak Management Skills

*Changes of Market Environment Poor Credit Management With Close Relationship Of The Debtors

*Weak Legal Framework Debtors

Poor Accounting Standard

Rollover Unsecured Loans & Overdraft

* Those incorporated by the researcher

Focusing on the real estate loans, according to Barbara, (2002:474) it is usually complex

project, which involves a long time scale and is concentrated by large investment.

Cauettee (1998.175) feels those home loan mortgage default models are based on the

options theory as follows:

- size of borrower’s equity in home as fundamental determinant (difference between

current value of home and to current value of debt)

Two other group variables:

� ability to repay: the size of income cushion to repayment and also size of savings

to income.

� triggering events: divorce, unemployment, illness, business failure that would

stress the borrower financially.

Koch (2000) believes that consumer loans normally have the highest losses and this is

because of the cyclical pattern in the person’s income, and also because of extensive

32

frauds. Bank failure (Sanger, 1998) was mostly due to problem loans resulting in bailing

out the Japanese banks, costing the tax payers far more than $214 million.

Fiji is no exception to this, with the National Bank of Fiji saga costing the tax payers of

Fiji millions of dollars due to problem loans. The factors that contributed (Review, July

1995) towards the problem loans were mainly lack of appropriate accounting, loan

grading, provisioning, poor management system (MIS), repayment met at the expense of

cheque account, staff abuse with loans outside guidelines, lack of supervisions by

regulators (Reserve Bank of Fiji) and to some extent ignoring the RBF concern with high

growth in terms of the lending and even political interference had equally contributed.

Grynberg et al. (2002) in the book, Crisis, Collapse of the National Bank of Fiji gives a

detail analysis of the institution failure, with certain key issues raised such as appointment

of an outside auditor, when Auditor General made a comment that practices at NBF were

unethical, politicians (Jai Ram Reddy and Mahendra Chaudhary) believed it was more

than bad debts and corruption. There was even as call for a public inquiry into the collapse

and judicial system ruled against it. “Justice Daniel Fatiaki ruled that he accepted the need

for the confidentiality in institution than principle of public interest …” (Munro):

2002:56).

Koch, (2000) nominates about five Cs of bad credit mentioned that should be

contemplated to avoid problem loans:

a) Complacency: refers to a tendency to assume that things were good in the past and

the same will be in future e.g. over reliance on the past records of repayments.

b) Carelessness: involves poor underwriting, typically of inadequate documentation.

Lack of financial information and other relevant details, with protective covenants.

c) Communication: Problem loans arise when the objective and the credit culture of

the organizations are not fully communicated.

d) Contingencies: lenders ignore circumstances in which loans would default.

e) Competition: whereby the lender follows the competitors, rather than maintaining

its own credit standards.

33

3.2 Other Recent Studies

3.2.1 Causes of Housing Loan Defaults in Johannesburg, Republic

of South Africa

National Housing Finance Corporation (NHFC) and Rural Housing Loan Fund (HLF),

the two major wholesale providers of funds and other support for low to moderate income

housing finance in South Africa, lay claim to several achievements, noting gross

disbursements to more than 100,000 end-users penetrating into desired income bands,

with contributions to the enhancement of communities, etc., along with their own financial

performance based on typical metrics, such as return on assets. However, the retail

financial intermediaries (i.e. Housing Micro Loan Lenders or “HML Lenders”) that

provide housing finance have generally performed very poorly. South African HML

Lenders seem to experience very high rates of default, of at least 20%, and as high as

35%. Especially under new interest rate caps imposed by the regulations in the new

National Credit Act (No. 34 of 2005), these are entirely unsustainable.

In 2004 FinMark Trust with the Rural Housing Loan Fund, National Housing Finance

Corporation, Transunion Credit Bureau and Development Institution of Southern Africa,

commissioned research into the causes of default among low income housing loan clients.

The research (Pearson and Greeff, 2006) found:

� HML Lenders generally target clients earning between R4000 – R7500. This puts

them in direct competition with institutions, retail lenders and other financial

services providers, which are extending both housing and other finance lower

down the income pyramid. Credit cards and personal loans, often at or under the

Usury Act ceiling rate of interest, and replete with loyalty programmers and

affinity offers, and variable terms and conditions, predominate in this market.

� HML Lenders did not have the systems and processes necessary to compete

effectively with other financial service providers in this market. Few of the HML

Lenders included in the study follow what have been called the “12 Pillars of

Micro Lending”. At best, HML Lenders have developed various backroom

34

functions including products, administrative systems and processes, collection

methodologies and payment mechanisms. Few have addressed the detailed issues

relating to risk management. In addition, few have developed a distinctive brand

and strategy, notwithstanding their exclusive focus on housing.

In the context of extremely strong competition for the best clients, and inadequate

approaches to managing the riskiest clients, HML Lenders faced a fundamental

conundrum.

The research found that:

� HML borrowers were more likely to default where monthly installments

exceed 40% of income (more than 35% of HML borrowers have monthly

installments that exceed this threshold).

� Clients with no judgments absolutely perform better than those who do (13%

of the HML borrower client base has at least one judgment against them).

� Past credit behavior predicts future credit behavior – the lack of any significant

skew in the data points, relating to Consumer Credit Association (CCA)

accounts and judgments represent the clearest correlations of any variables

used in the analysis vis-à-vis credit risk profile.

� Borrowers are in the 4 riskiest categories, in respect of CCA profiles.)

� HML borrowers are 20% more likely to default on their micro loan, than they

are to default on their credit card, store card, cell phone account, etc. (At least

20% of existing HML borrowers have a credit card;29% of HML borrowers

have or had a retail card; and 23% of them have now and use both a store card

and a retail card.)

� HML borrowers become 20% more likely to default after they have received a

housing micro loan – another indicator of how close HML borrowers are to the

precipice of over- indebtedness.

� In summary, the data and analysis substantiate the dire need for a dramatically

more fundamental overhaul of the entire HML market, including targeting a

poorer and larger segment of the population that has been barely serviced thus

far, radically changing lending methodologies, and seriously altering the

35

mandates and modus operandi of the wholesale finance organizations, as well

as policy and other support institutions.

Other causes of the defaults found in the study included social factors: death; and gender

(In that women manage tighter budgets and tend to repay debt obligations better than

men). In terms of the priority, many borrowers would appear to prioritize their so called

HML loan below other monthly obligations, and most importantly in terms of debt, below

institution, store and retail card obligations. HML borrowers are 20 per cent more likely to

default on their micro loan, than they are to default on their credit card, store card, cell

phone account, etc. In addition, borrowers overwhelmingly prioritized monthly payments

for basic needs – i.e. food, water, and electricity – over micro loan repayments.

The study also found that exogenous factors such as high credit access, lack of financial

management skills and experience, inadequate borrower contact and weakness in credit

administration, financial pressure, unattractive product with pricing and terms and poor

management of the financial as additional factors that have contributed to the defaults.

(Source: Pearson and Greeff, 2006:3-7)

Another study (Berger and Young, 1995) tried look at the empirical link between problem

loans and productive efficiency16. They found that relationship between asset quality and

cost is consistent with the failed bank data. Berger and Young (1997) also tested four

hypotheses (bad luck, bad management, skimping, and moral hazard) using Granger-

causality analysis. The bad luck hypotheses posits that exogenous events can cause

nonperforming loans to increase, and that after time passes the extra expenses associated

with these loans will be reflected in lower measured cost efficiency. The bad management

hypothesis posits that poorly run banks do bad jobs at both cost control and at loan

underwriting and monitoring, and that after time passes this slack leads to increases in

problem loans as borrowers fall behind on their loan repayments. The skimping

hypothesis posits that banks might achieve low costs by under-spending on loan

16 http://ideas.repec.org/p/wop/pennin/96-01.html

36

underwriting and monitoring in the short run, and after time passes this slack results in

increases in problem loans. The authors test the moral hazard hypothesis by testing

whether equity capital negatively causes nonperforming loans.

The results suggest that the inter-temporal relationships between loan quality and cost

efficiency run in both directions. Increases in non-performing loans tend to be followed by

decreases in measured cost efficiency, suggesting that problem loans cause banks to

increase spending on monitoring, working out, or selling off problem loans. The data

favor the bad management hypothesis over the skimping hypothesis: decreases in

measured cost efficiency are generally followed by increases in nonperforming loans,

evidence that bad management practices are manifested not only in excess expenditures,

but also in subpar underwriting and monitoring practices that eventually lead to

nonperforming loans. For a subset of banks that are consistently efficient, however,

increases in measured cost efficiency precede increases in nonperforming loans, consistent

with the skimping hypothesis that banks trade short-run expense reductions for long-run

reductions in loan quality. Finally, decreases in bank capital ratios precede increases in

nonperforming loans for banks with low capital ratios, evidence that thinly capitalized

banks may respond to moral hazard incentives by taking increased portfolio risks.

Another study by Muniappan (2002) relates to several internal and external factors

confronting the borrowers. The internal factors are diversion of funds for expansion,

diversification and modernization, taking up new projects, helping/promoting associate

concerns, time/cost overruns during the project implementation stage, business (product,

marketing, etc.) failure, inefficient management, strained labor relations, inappropriate

technology/technical problems, product obsolescence, etc., while external factors are

recession, non-payment in other countries, inputs/power shortage, price escalation,

accidents and natural calamities. Das and Ghosh (2003) empirically examined non-

performing loans in terms of various indicators such as asset size, credit growth and

macroeconomic condition, and operating efficiency indicators.

The next chapter documents the GFC. There are many causes, implications and lessons

learnt from this episode. The GFC emanated from the sub- prime mortgage industry which

is similar to any State backed housing institution that provides an affordable housing

37

scheme. HAF is one more example of such schemes with similar strengths, weakness and

experiences. These lessons may correlate to the events that happened with the collapse of

the National Bank of Fiji (NBF) and or some of the shortfalls HAF has experienced or is

experiencing.

38

4 SUBPRIME MORTGAGE FAILURES

4.1 Economic Background

The impact of the GFC of 2008, the collapse of the US residential housing market,

remains in critical condition. Notwithstanding trillions of dollars in public debt utilized as

a backstop for the mortgage industry and gimmicks like tax credits for new home

purchasers, the stream of data shows that the overarching trend in the United States is

continuing home price deflation, as a rising proportion of outstanding mortgages are

considered to be losses. The question is whether the fiscal or monetary policies are not

effective and this has significant impact on the globe as the countries (apart from China

and India) continue to adjust themselves.

One of the recent surveys indicate that in January (2011), 27 per cent of all American

mortgages were under water (balance of mortgage exceeds market value of home),

compared with 20 per cent in August 2010. The National Association of Realtors Pending

Home Sales Index most recently had tracked downward movement on home sales, and

prices in most parts of the United States continue to decline, which is a serious concern.

The question is where is the money?

Various lessons are to be learnt from the whole episode of the GFC with its causes,

implications and the process of recovery. The preceding two paragraphs have been

articulated denoting that things are not so impressive and demonstrating how expensive

could it become due to one thing, greed!

The subprime lending is granting loans to borrowers who do not qualify for market

interest rates owing to various risk factors, such as income level, size of the down

payment made, credit history, and employment status. The value of US subprime

mortgages was estimated at $1.3 trillion as of March 2007, with over 7.5 million first-lien

subprime mortgages outstanding. Approximately 16% of sub-prime loans with adjustable

rate mortgages (ARM) were 90-days delinquent or in foreclosure proceedings as of

October 2007, roughly triple the rate of 2005. By January 2008, the delinquency rate had

39

risen to 21% and by May 2008 it was 25%. This demonstrates the rate at which the

delinquent accounts increased.

The US mortgage market is estimated at $12 trillion with approximately 9.2% of loans

either delinquent or in foreclosure through August 2008. The subprime ARMs only

represent only 6.8% of the loans outstanding in the US, yet they represent 43.0% of the

foreclosures started during the third quarter of 2007. During 2007, nearly 1.3 million

properties were subject to foreclosure filings, up 79% versus 2006.

The crisis has resulted in many institutional foreclosures and spiral effects from one

country to another. It is has been considered as one of the worst recessions since the

Second World War

4.2 Causes of Crisis

The crisis is attributed to a number of factors pervasive in both the housing and credit

markets, which developed over an extended period of time. Some of these include: the

inability of homeowners to make their mortgage payments, poor judgment by the

borrower and/or the lender, speculation and overbuilding during the boom period, risky

mortgage products, high personal and corporate debt levels, financial innovation that

distributed and perhaps concealed default risks, central institution policies, and regulation.

A combination of low interest rates and large capital inflows from outside the US created

a surplus of loanable funds and easy credit for many years leading up to the crisis. The

situation in the sense is critical where the inflow of funds from other countries which

mostly consisted of the retirement fund has been lost and retirees were at the mercy of the

state assistance. The subprime borrowing was a major contributor to an increase in home

ownership rates and the demand for housing. The overall US home ownership rate

increased from 64% in 1994 (about where it had been since 1980) to a peak in 2004 with

an all-time high of 69.2%.

This is advocated (Blanchard et al. 2009) in an International Monetary Fund paper that

summarizes the initial lessons of the financial crisis along three dimensions— (1)

40

regulation, (2) macroeconomic policy, and (3) the global architecture for stability. The

paper highlights that the root of market failure was optimism caused by a long period of

high growth with low real interest rates and volatility, and policy failures. The paper

further mentions that the financial regulation was not equipped to see the risk

concentrations and flawed incentives that were implemented behind the financial

innovation boom. This may be considered as an internal fraud or the element of moral

hazard. Blanchard and colleagues point out that the macroeconomic policies did not take

into account the build-up of systemic risks in the financial system and in housing markets;

as a result the global architecture was quite weak, with a fragmented surveillance system,

compounding the inability to see growing vulnerabilities and links. It may state that whilst

there was some level of advice and precautions given by the regulators, it had been

ignored by the relevant agencies.

The various incentives for the houses increased the demand, which contributed in

escalating the housing price and consumer spending. Between 1997 and 2006, American

home prices increased by 124%. Some homeowners used the increased property value

experienced in the housing bubble to refinance their homes with lower interest rates and

take out subsequent mortgages against the added value to use the funds for consumer

spending. This consumer spending would not have any impact on the anticipated income

or defeated the purpose of source and use of funds. So the consumption rate would have

increased with no real value to the assets and this just increased the indebtness of the

borrowers. The US household debt as a percentage of income rose to 130% during 2007,

versus 100% earlier in the decade. It is to be noted that the over building of houses during

the boom period eventually led to a surplus inventory, causing home prices to decline, in

2006. Consequently, the law of demand (McTaggart et al. 2010: 57) which states that

other things remaining the same, the higher the price of a good, the smaller is the quantity

demanded and lower the prices of a good the greater is the quantity demanded and in this

instance, with the crisis at peak this law has failed as the houses were available in

abundance.

The easy credit, combined with the assumption that housing prices would continue to

appreciate, had encouraged many subprime borrowers to obtain adjustable-rate mortgages

41

(ARMs) they could not afford after the initial incentive period was over. Once housing

prices started depreciating moderately in many parts of the US, refinancing became more

difficult. Some homeowners were unable to re-finance and began to default on loans as

their loans reset to higher interest rates and payment amounts. In fact at best all

commitments and repayments should have been assessed on the higher tiered rates and

should have also considered some level of sensitivity analysis to give a comfort to the

eligibility amount. However, the credit culture would have been more inclined to profit

driven.

An estimated 8.8 million homeowners — nearly 10.8% of total homeowners — had zero

or negative equity as of March 2008, meaning their homes were worth less than their

mortgage. This provided an incentive to "walk away" from the home, despite the credit

rating impact, which would no longer exist as a moral or ethical value and this is where

debtors could not afford to pay. Subsequently this test denotes the failure of one of the

principles of six Cs of credit which is the character of the borrower which has been

compromised. It demonstrates that practically character is not necessary as one of the best

principles now days in assessment of the credit with impact of situational changes and

events, beyond the control of the borrower.

The increasing foreclosure rates and unwillingness of many homeowners to sell their

homes at reduced market prices have significantly increased the supply of housing

inventory available and still continue to increase it as mentioned at the beginning of this

chapter.

In comparison with the previous year, the sale of new homes dropped by 26.4% in 2007

and by January 2008, the inventory of unsold new homes stood at 9.8 months based on

December 2007 sales volume, the highest level since 1981. Furthermore, a record of

nearly four million unsold existing homes was for sale, including nearly 2.9 million that

were vacant.

42

4.3 Speculative Borrowing Practices

There are three types of speculative borrowing that would have contributed to the

accumulation of debt that eventually led to a collapse of asset values:

a. Hedge Borrower : who borrows with the intent of making debt payments from

cash flows from other investments;

b. Speculative borrower: who borrows based on the belief that they can service

interest on the loan but who must continually roll over the principal into new

investments;

c. Ponzi borrower: who relies on the appreciation of the value of their assets (e.g. real

estate) to refinance or pay-off their debt but cannot repay the original loan.

A variety of factors have caused lenders to offer an increasing array of higher-risk loans to

higher-risk borrowers with combination of common to classic boom and bust credit

cycles. In addition to considering higher-risk borrowers, lenders have offered increasingly

high-risk loan options and incentives. These high risk loans include the "No Income, No

Job and no Assets" loans, sometimes referred to as Ninja loan and one of the driving

factors towards this was the competition and the stimulated economy.

Another example is the interest-only adjustable-rate mortgage (ARM), which allows the

homeowner to pay just the interest (not the principal) during an initial period. Another

"payment option" is that loan in which the homeowner can pay a variable amount, but any

interest not paid is added to the principal. Furthermore, an estimated one-third of ARMs

originated between 2004 and 2006 had "teaser" rates below 4%, which then increased

significantly after some initial period, as much as doubling the monthly payment.

The traditional mortgage model involved an institution originating a loan to the

borrower/homeowner and retaining credit (default) risk. With the advent of securitization,

the traditional model has given way to the "originate to distribute" model, in which the

credit risk is transferred (distributed) to investors. The securitized share of sub prime

43

mortgages (i.e., those passed to third-party investors) increased from 54% in 2001, to 75%

in 2006 and this securitization of home loans for people with poor credit was to blame for

the current global credit crisis.

Some believe that mortgage standards became lax because of a moral hazard, where each

link in the mortgage chain collected profits while believing it was passing on risk and the

high ratings encouraged the flow of investor funds into these securities, helping finance

the housing boom. The higher ratings were believed to be justified by various credit

enhancements including over collateralization (pledging collateral in excess of debt

issued), credit default insurance, and equity transparency and governance, as the rating

agencies were also focused on their own earnings. The misrepresentation of loan

application data and mortgage fraud were other contributing factors either by the debtors

or the mortgage brokers. The chairman of the Mortgage Bankers Association claimed

brokers profited from a home loan boom but did not do enough to examine whether

borrowers could repay.

4.4 Excessive Underwriting of High-Risk Mortgages

The underwriters (working for the actual banks who lend the money, not mortgage

brokers) determine if the risk of lending to a particular borrower under certain parameters

is acceptable. Most of the risks and terms that underwriters consider fall under the three

C’s of underwriting: credit, capacity and collateral.

In 2007, 40 per cent of all subprime loans were generated by automated underwriting. An

executive vice president of Countrywide Home Loans Inc. stated in 2004, "prior to

automating the process, getting an answer from an underwriter took up to a week. We are

able to produce a decision inside of 30 seconds today. ... And previously, every mortgage

required a standard set of full documentation." Some think that users whose lax controls

and willingness to rely on shortcuts led them to approve borrowers that under a less-

automated system would never have made the cut are at fault for the subprime meltdown.

This basically meant that underwriting standards were compromised and the policy

guidelines were streamlined to meet the demand; however, these processes had lot of

flaws.

44

4.5 Government Policies

Several critics had commented that the regulatory framework was outdated. President

George W. Bush stated in September 2008: "Once this crisis is resolved, there will be time

to update our financial regulatory structures. Our 21st century global economy remains

regulated largely by outdated 20th century laws. Recently, we've seen how one company

can grow so large that its failure jeopardizes the entire financial system." The IMF

Managing Director Dominique Strauss-Kahn told a world financial leaders meeting in

Washington that coordinated global action is starting to reverse the tide of the financial

crisis, but governments also need to "deploy all instruments" to limit damage to the real

economy. He further articulated that the crisis in financial markets was the result of three

failures: a regulatory and supervisory failure in advanced economies; a failure in risk

management in the private financial institutions; and a failure in market discipline

mechanisms.” Preventing a recurrence of these failures will require an international effort,

because borders do not confine financial institutions or keep out financial turmoil," he

said17.Economist (Robert Kuttner) has criticized the repeal of the Glass-Steagall Act by

the Gramm-Leach-Bliley Act of 1999 as possibly contributing to the subprime meltdown,

although other economists disagree. A taxpayer-funded government bailout related to

mortgages during the savings and loan crisis may have created a moral hazard and acted

as encouragement to lenders to make similar higher risk loans. Some have argued that,

despite attempts by various US states to prevent the growth of a secondary market in

repackaged predatory loans, the Treasury Department's Office of the Comptroller of the

Currency, at the insistence of national banks, struck down such attempts as violations of

Federal banking laws. The chain of false assumptions underlying market confidence in

securitized assets and complex instruments turned out to be as long as the production

chain for these securities. It is also noted that at one end of the failure of market discipline

were the loan brokers and originators, who had little incentive to screen risk that they sold

on; at the other, were end-investors, who relied on optimistic statistical analyses by credit

rating agencies, as mentioned —less so on own due diligence—to assess asset quality. The

presumption that these new securities had, in fact, dispersed bank risk ignored the larger

fact that risk remained concentrated in entities linked to the core banking system. Markets

17 http://www.imf.org/external/pubs/ft/survey/so/2008/NEW101308A.htm

45

and regulators alike failed to recognize these problems of flawed incentives, information

and communication gaps, pro-cyclical lending, and risk concentrations, with lack of

adequate risk management system.

The US Department of Housing and Urban Development's mortgage policies fueled the

trend towards issuing risky loans. In 1995, Fannie Mae and Freddie Mac began receiving

affordable housing credit for purchasing mortgage backed securities, including loans to

low income borrowers. This resulted in the agencies purchasing subprime securities.

Subprime mortgage loan originations surged by 25% per year between 1994 and 2003,

resulting in a nearly ten-fold increase in the volume of these loans in just nine years. As of

November 2007 Fannie Mae held a total of $55.9 billion of subprime securities and

$324.7 billion of Alt-A securities in their portfolios. As of the 2008 (Q2) Freddie Mac had

$190 billion in Alt-A mortgages. Together they have more than half of the $1 trillion of

Alt-A mortgages. The growth in the subprime mortgage market, which included B, C and

D paper, bought by private investors such as hedge funds, fed a housing bubble that later

burst.

4.6 Governance and Conflict of Interest

Government backing stimulated the economy with Fannie Mae and Freddie Mac

dominating the mortgage-underwriting. On April 18, 2006 Freddie Mac was fined $3.8

million, by the Federal Election Commission, as a result of illegal campaign contributions.

Much of the illegal fund rising benefited members of the United States House Committee

on Financial Services and it still remained questionable on the battle of powers and the

authority, compromising good governance.

In June 2008, Conde Nast Portfolio reported that numerous Washington, DC politicians

over recent years had received mortgage financing at non-competitive rates at

Countrywide Financial. On 18 June 2008, a Congressional ethics panel started examining

allegations that chairman of the Senate Banking Committee, Christopher Dodd and the

chairman of the Senate Budget Committee, Kent Conrad received preferential loans by

troubled mortgage lender Countrywide Financial Corp. The two former Chief Executive

Officers of Fannie Mae, Franklin Raines and James A. Johnson, also received preferential

46

loans from the troubled mortgage lender. Fannie Mae was the biggest buyer of

Countrywide's mortgages.

An OECD research paper (Kirkpatrick, 2009) concluded that the financial crisis attributed

to failures and weaknesses in corporate governance arrangements. The paper stated that

corporate governance routines did not serve their purpose to safeguard against excessive

risk taking in a number of financial services companies. It further articulated that number

of weaknesses have been apparent since the risk management systems had failed in many

cases due to corporate governance procedures rather than the inadequacy of computer

models alone- information about exposures in a number of cases did not reach the Board

and even senior levels of management, while risk management was often activity rather

than enterprise-based. The causes also included the board responsibilities since the boards

had approved strategy but then did not establish suitable metrics to monitor its

implementation. Company disclosures about foreseeable risk factors and about the

systems in place for monitoring and managing risk have also left a lot to be desired even

though this is a key element of risk. The paper also expresses concerns about the level of

compensation that was paid to the CEOs that resulted with short term extravagant returns

that compromised the governance standards. Some of the examples of the payments are

provided in Table 6.

Table 6: Example of Payment to CEOs

The Principles Accounting Standards and regulatory requirements or their interpretations

have also proved insufficient in some areas leading the relevant standard setters to

47

undertake a review. The paper also mentioned that the remuneration systems have in a

number of cases not been closely related to the strategy and risk appetite of the company

and its longer term interests, which compromised the risk resulting in various losses

across the globe.

4.7 Policies of Central Institutions

The Central Banks are primarily concerned with managing the rate of inflation and

avoiding recessions. They are also the "lenders of last resort" to ensure liquidity remains

in the system. They are less concerned with avoiding asset bubbles, such as the housing

bubble and dot-com bubble. Central banks have generally chosen to react after such

bubbles burst to minimize collateral impact on the economy, rather than trying to avoid

the bubble itself. This is because identifying an asset bubble and determining the proper

monetary policy to deflate it properly are a matter of debate among economists regarding

whether this is the optimal strategy. The Federal Reserve actions raised concerns among

some market observers that it could create a moral hazard. Some industry officials said

that the Federal Reserve Bank of New York’s involvement in the rescue of Long-Term

Capital Management in 1998 would encourage large financial institutions to assume more

risk, in the belief that the Federal Reserve would intervene on their behalf. This approach

is considered to be complacent on behalf of the banks. A contributing factor to the rise in

home prices was the lowering of interest rates earlier in the decade by the Federal

Reserve, to diminish the blow of the collapse and combat the risk of deflation. From 2000

to 2003, the Federal Reserve lowered the federal funds rate target from 6.5% to 1.0%.

The central bank believed that interest rates could be lowered safely because the rate of

inflation was low and disregarded other factors. The Federal Reserve's inflation figures,

however, were flawed. Richard W. Fisher, President and CEO of the Federal Reserve

Bank of Dallas, stated that the Federal Reserve's interest rate policy during this time

period was misguided by this erroneously low inflation data, thus contributing to the

housing bubble18. This sort of flaw questions the levels of the governance process, the

element of moral hazard, the competencies and skills of the economists engaged in

forecast and projections together with basis of those predictions.

18 http://en.wikipedia.org/wiki/subprime_mortgage_crisis#_note.

48

An International Monetary Fund working paper (Claessens et al. 2010) provides clear

insight into some of the causes discussed earlier and these include asset price increases

that turned out to be unsustainable; credit booms that led to excessive debt burdens; build-

up of marginal loans and systemic risk; and the failure of regulation and supervision to

keep up with and get ahead of the crisis when it erupted. The boom of the house price was

not confined to the US market only but occurred in other countries which were badly

affected. The prices rose rapidly in many countries now caught in the financial turmoil,

including the UK and Iceland. These housing booms were generally fuelled by fast rising

credit resulting in sharply increased household leverage. The paper also reveals that large

foreign currency exposures in the corporate and financial sectors had been a common

feature in the Asian crisis. In the current crisis, in several eastern European economies

large portions of domestic credit (including to households) are denominated in foreign

currency (Euros, Swiss francs, and Yen). While lower interest rates relative to those on

loans denominated in local currency increased affordability, borrowers’ ability to service

loans and creditworthiness depended on continued exchange rate stability and with

changes of the interest and foreign currency rates.

The IMF paper also mentions some of the new dimensions contributing the severity and

global scale of the crisis in respect to its transmission and amplification with various

banks leveraging for the borrowing as provided in Figure 3. This included disruptions and

breakdowns of several markets in the fall of 2008.

49

Figure 3 New Dimensions of Financial System Leverage

Source: Bloomberg

The paper identifies four key aspects that are new as follows:

- The widespread use of complex and opaque financial instruments

Securitization and innovative financial instruments were a critical element of the

funding of the credit expansion in the US. Securitization as a long standing

technique for prime loans conforming to the underwriting standards of

Government Sponsored Agencies (GSEs) changed in scope in the last decade, with

more than 70 percent of non-conforming mortgages in the US being securitized by

2007, up from less than 35 percent in 2000. The progressive expansion of more

opaque and complex securities and the increasing delinking between borrowers

and lenders worsened agency problems. Risk assignments became increasingly

unclear and incentives for due diligence worsened, leading to insufficient

monitoring by loan originators and an emphasis on boosting volumes to generate

fees. The distribution model led to widespread reliance on ratings for the pricing of

credit risks; with investors often unable or unwilling to apply themselves to ful

assessment of underlying values and risks. With deficiencies in the rating process,

50

in combination with this, led to inflated and less informative risk ratings and

masked the extent of risk exposure in certain institutions, such as insurance

companies, that are perceived to be more prudent than others.

The increased interconnectedness among financial markets, nationally and

internationally, with the US at the core

The financial integration has increased dramatically over the past decade, with

advancement of technology and the spirit of globalization, especially among

advanced economies. This had a huge impact, with crisis spreading quickly, as

illustrated in Figure 4. Capital accounts of the financial market reforms have led

to massive increases in cross-border gross positions, especially among OECD

countries, as (Claessens et al. 2010) states. There has also been an increasing

presence of foreign intermediaries in several banking systems (including in many

emerging markets). As a result, international risk sharing, competition and

efficiency have increased, but so has the risk of transmitting financial shocks

across borders, which could have been ignored and or an oversight by the policy

makers or even not considered intentionally.

Figure 4 Spread of Global Financial Crisis

Source: Bloomberg

51

The increasing interconnectedness of financial institutions and markets and more

highly correlated financial risks intensified cross-border spillovers early on

through many channels—including liquidity pressures, global sell-off in equities

(particularly, financial stocks), and depletion of bank capital. The mortgage backed

securities (MBS) and other US originated instruments were widely held by

institutions not only in the US but also in other advanced economies and by the

official sector in several emerging markets, which resulted in significant loss,

mostly the pension funds of the investors. Through these direct exposures and

associated funding problems, spillovers quickly surfaced among European banks,

including Germany) and France. In a nutshell, the increased connections and

simultaneous build-up of systemic risks across multiple countries made the

management of shocks more complex, especially in light of institutional

deficiencies in many countries including the inability to resolve quickly large,

cross-border financial institutions, and led to a rapid spreading of turmoil globally.

The crisis was also the spark that triggered the unwinding of imbalances in other

countries too, including the third world or developing countries.

- The high degree of leverage of financial institutions

The high degree of leverage of financial institutions and borrowers contributed to

the shocks and the meltdown of the crisis. Leverage increased sharply in the

financial sector, directly at commercial banks in Europe, and through the shadow

banking system and the rising share of investment banks and non-deposit-taking

institutions in the US. Moreover, the leverage build-up among households

especially differed from previous crises. In the run-up to Japan’s real estate crisis,

for example, while the household debt-to-income ratio increased sharply, measures

of households’ leverage (the household debt-to-assets ratio) declined, suggesting

that Japanese homeowners built equity in their properties as real estate prices

soared.

In this case, high leverage limited the financial system’s ability to absorb even

small losses and contributed to the rapid decline in confidence and increase in

counterparty risk early on in the crisis. Loan-to-income values larger than in the

52

past left households highly exposed to shocks, while at the same time high loan-to-

value mortgages allowed even moderate declines in house prices to push many

households into negative equity. In the financial sector, high leverage meant that

initial liquidity concerns gave quick way to solvency worries. As financial

institutions incurred large losses and wrote-down illiquid securities, solvency

concerns across markets fuelled a process of rapid de-leveraging and forced asset

sales. The mark-to-market rules forced further de-leveraging and fire sales. Hedge

funds, facing financing constraints and redemption pressures further fuelled this

rapid unwinding process. This led to further asset price declines, prompting

distressed asset sales, rising recapitalization needs, and resulting in further loss of

confidence, coming to a near melt down in October 2009. This again had some

significant impact on the investor funds, specially the depositors.

- The central role of the household sector.

The origins of the current crisis, however, have much to do with overextended

households, in particular through non-traditional mortgage loans and especially in

the US. This high household leverage has implications for how the crisis was

being transmitted from the financial to the real sector and complicates the

resolution mechanisms and policy responses. The overextension of the households

sector translated into various risky assets whose value relied directly or indirectly

on ever increasing house prices, a problem worsened by poorly functioning rating

agencies. As the financial turmoil occurred, households were poorly positioned to

absorb losses. Through wealth, collateral and confidence effects, they sharply

adjusted their consumption patterns, with the classic example of people switching

to tap water rather than to the bottled ones.

In the US, a vicious cycle of rising foreclosures, falling home values and

disappearing securitization markets quickly developed. The vulnerable cohorts of

borrowers became increasingly susceptible to rising interest rates and falling home

values, and could no longer refinance their mortgages, leading to higher monthly

payments and rising delinquencies and default rates.

53

With US house prices declining on a national basis the first time since the

depression era, many heavily-indebted borrowers confronted with substantial

negative home equity faced incentives to “walk away”, compromising their ethics

and integrity so basically one of the “six Cs of credit”, which is the character, was

beyond the control of the debtors to manage.

The tight standards for new mortgages and consumer credit led to a sharp

compression in consumer spending that compounded already difficult situations in

the real sector. With households’ savings and net assets already at historic lows or

negative, financial constraints imposed by financial institutions under stress

directly translated into reduced consumer spending, leading to initially localized

but gradually spreading cycles of declines in corporate sector profitability, layoffs

and increases in unemployment, slowing economies and more foreclosures

together with closure of factories and show rooms. This resulted in fewer saving

and increased household indebtness as provided in Figure 5, as the debts of the

households during the GFC significantly increased, with worst being Greece.

54

Figure 5 Household Indebtness by Country

4.8 Implications of the Global Financial Crisis

The crisis has a significant impact on the globe, with individuals losing houses, and jobs,

investors losing funds, house prices declining, debtors unable to pay the debts, equity

eroded, eventually the debtors walked away, and changes to the life style together with

sluggish economy, unemployment and huge systemic risk across the globe. Other

implications include increases in unemployment, poverty and hunger. In addition to this,

negative growth, volatile movements in exchange rates, budget deficits and other effects

were seen as provided in Figure 6.

There has been sharp reduction in the trade flows and various capital injection and

stimulus packages offered by states and international institutions through the bailing out

55

programs. Most of the developed economies experienced negative growth with some

going into recession.

The worse-than-anticipated credit deterioration prompted surprising multiple-notch

downgrades by major rating agencies, which have been criticized for being unable to

assess accurately risks of complex mortgage-related securities and for being too closely

aligned with the issuer. The downgrades led to sharply widening spreads on assets backed

securities and liquidity disruptions in inter-bank and commercial paper markets. These

disruptions were amplified by fundamental uncertainty and opacity regarding counterparty

risks. As commercial banks decided to absorb (legally separate) vehicles, their balance

sheets were strained. Inter-bank rates spiked and issuances of asset-backed commercial

paper (ABCP) contracted sharply.

Figure 6 Impact of Problem Loans-1

Depth and Breath of Global Financial Crisis • Rapid increases in unemployment, poverty and hunger;

• Deceleration of growth, or severe economic contraction;

• Negative effects on trade balances, balance of payments and foreign reserves;

• Dwindling levels of Foreign Direct Investment;

• Large and volatile movements in exchange rates;

• Growing budget deficits and falling tax revenues;

• Drastic reduction of world trade;

• Sharp contraction in exports;

• Falling prices for primary commodities [ Food Crisis];

• Declining remittances to developing countries;

Source: Researcher’s Own Analysis

The international spillover was transmitted through asset markets and this happened

through liquidity shortages, freezing of credit markets, and stock price declines, as well as

foreign exchange fluctuations (UK Sterling, Euro, and Swiss Franc). Initial policy

56

responses aimed at addressing liquidity disruptions were large and unprecedented with

other factors such as reduced revenue from tourism, massive withdrawals of private

capital inflows together with reduced public confidence as shown in Figure 7. The major

central banks quickly made liquidity available to local commercial banks. While

increasingly larger and more flexible in maturity and especially in scope of collateral

accepted, the liquidity injections effectiveness in calming inter-bank markets proved

short-lived. Furthermore, approaches varied among countries, requiring modifications and

rounds of international coordination. Currency swaps between major central banks were

also needed to mobilize U.S. dollar funding in overseas markets, as the US dollar

weakened significantly. These unprecedented and numerous efforts were unable to

remedy the underlying problems that led to a near complete breakdown in market trust

and confidence (Claessens, S. et al. 2010) with runs on the banks .

Figure 7 Impact of Problem Loans- 2

Depth and Breath of Global Financial Crisis

• Sharply reduced revenues from tourism;

• Massive withdrawal of private capital flows, also increasing the funding problem of the private sector in emerging and developing countries;

• Drastically reduced access to credit, and trade financing;

• Reduced public confidence in financial institutions.

• Estimates for 2009 to 2015 forecast that an average 200,000 to 400,000 more children a year, a total of 1.4 to 2.8 million globally, may die if the crisis persists.

• Countries on track to meet the MDGs could fall behind,

• Global Warming & Climate Change, Impact on the Banking Sector –collapses and Bailout.

Source: Researcher’s Own Analysis

4.9 Lessons Learnt

There are unlimited lessons, or perhaps revision, with experiences through the National

Bank of Fiji episode of examples similar to what Fiji experienced in the nineties. This is

57

well exemplified (Grynberg et al. 2002) in the book Crisis: Collapse of the National Bank

of Fiji: the drama is quite similar, but the characters and the effects are different. The

content such as growth and mismanagement with destruction of $220 million (8 per cent

of Fiji’s GDP), lack of corporate governance, lack of repayment capability, lack of

management and lending expertise and lack of supervisory controls.

There is some evidence that Vunibobo actually wanted a commission of inquiry

into NBF but Cabinet opted instead for the RBF to carry out the investigation of

NBF’s affairs. For the rest of his tenure as Minister for Finance, Vunibobo was in

the ironic position of having to defend the government’s position not to have an

inquiry, and to vote against such motions in Parliament. Source: Munro et al. 2002:29.

The lesson for macroeconomic policies and policies for the financial sectors in many

economies with incorrect projections had misled the strategic formulators. The

policymakers and the heads of financial institutions extrapolated the good times far into

the future, often without qualification and there were no prudent assessments of such

projections. One lesson of the crisis is that all good things have to come to an end. If the

times are extraordinarily positive, and they continue for an extended period, there is a high

probability that the end will be painful. A second lesson is that there was essentially no

decoupling. The reduction in growth has not been limited to the advanced economies;

reduction in growth all over the world, has been significant.

This also raises questions about globalization, therefore the broader lesson of this crisis is

that globalization of trade (in both goods and services, such as tourism), finance (in both

the availability and cost of credit), and labor (in terms of the direct and indirect demand

for labor and the flow of remittances) has tied countries together to a much greater extent

than they had been for more than century, since the early 1900s. This reality was

underappreciated. These interconnections have a lot of impact on each other and it must

be realized that with the recovery phase, there has been lot of attention given to self

protection and retention of the funds flow. The consequence is that in today's world any

crisis that affects a major country or group of countries in the global economy or financial

system will have some, largely adverse, effects on all other countries. It follows that the

58

citizens and authorities of all countries, large and small, have a common interest in the

quality of the economic and financial policies in other countries, in particular in the

systemically important countries. It means basically that prudential guidelines and the

policies need to be readjusted.

The IMF report (Blanchard, 2009) cited some of the key points at the macro level and this

included but was not limited to what it saw as the most basic one, is that flawed incentives

and interconnections in modern financial systems can have huge macroeconomic

consequences. It has been noted that there has been significant impact in the economic

growth, with examples of sharp declines forecast for the US, Japan, Germany, South.

Korea, Mexico, Brazil and the UK as provided in Figure 8. The report states that these

need to be understood and tackled in the best possible way. The perimeter of regulation

should be broadened and made more flexible, with enough disclosure to determine the

systemic importance of institutions and the associated degree of needed oversight. A

macro-prudential approach to regulation and compensation structures should mitigate pro-

cyclical effects, promote robust market clearing arrangements and accounting rules, raise

transparency about the nature and location of risks to foster market discipline, and

facilitate systemic liquidity management. It is also important that such policy and

regulations and interpretations are simple, like adaptation of International Financial

Reporting Standards with adequate training and understanding of such practices.

59

Figure 8 Percent Growth in GDP

The central banks should adopt a broader or holistic macro-prudential view, taking such

interconnections into account in their decisions on asset price movements, credit booms,

leverage, exchange controls, reserves and the buildup of systemic risk. The timing and

nature of preemptive policy responses to large imbalances and large capital flows needs to

be reexamined. There is also call for expertise need to be overcome and senior policy

makers engaged in promoting global stability, including via early warning exercises. The

case for cooperation in financial regulation is pressing, especially in the resolution of

cross-border banks. A failure to meet the financing and insurance needs of crisis-hit

countries will worsen vulnerabilities and outcomes.

It is also very important that corporate governance and risk management reforms are on

top of the agenda on the institutional and international level as these were predominant

factors of the GFC. This includes the necessity for boards to appoint, select, train and

develop with right size and fit and proper requirements. It is also very important that the

60

board of the institutions play important role in terms of the good governance with duties

and responsibilities of the board of directors. The literature indicates that ultimately it is

the board’s responsibility ‘to ensure the company’s continuing prosperity’ (Harper 2005,

p.7). Whilst improving and increasing shareholder value is seen as an important function

for the board, arguments have also been put forward that a longer time period should be

taken. According to Healey (2003) and Cadbury (2002) decisions are often made so that

the shareholder value in the short term is favorable, without taking into consideration the

long term implications of certain decisions. These are some of the key points that have

arguable or confusing points with the GFC. The independence of the board has been

extensively discussed in the governance literature and used as a basis for governance

principles, as in the ASX Corporate Governance Principles (2003). This is supposedly

achieved by having a majority of independent directors on the board. However, the

number of independents does not necessarily lead to a ‘better’ board performance or

improved company performance. Some directors have an individual skill base that is

important and further, the ‘cost’ of having independent directors may be their lack of

knowledge of the company (and possibly the industry) and limited time, as points to be

considered with other external limitations. In Fiji, for instance the “right” people may be

deterred from accepting because of the risk of the travel bans.

The Basle Committee on Banking Supervision guidelines, Principles for Enhancing

Corporate Governance (June 2010) clearly outlined some of the key functions that

should be ingrained at all institutional levels. The board should actively carry out its

overall responsibility for the institutions (bank), including its business and risk

strategy, organization, financial soundness and governance. The board should also

provide effective oversight of senior management.

To fulfill this responsibility, the board should:

- Exercise sound objective judgment and have and maintain appropriate

qualifications and competence, individually and collectively;

- Follow good governance practices for its own work as a board; and

61

- Be supported by competent, robust and independent risk and control functions, for

which the board provides effective oversight.

It is also important that the capital regulation needs to capture systemic risk more

comprehensively. One of the key lessons from the current crisis is that existing prudential

capital requirements do not consider the potential systemic impact of stress at individual

financial institutions despite advance measurements with Basle II and (now) III

requirements, which could not preclude the institutions from failing. The authorities such

as the Reserve Bank of Fiji need to act proactively by making financial institutions more

resilient to risks and preventing potential negative externalities from failure of large

and/or complex institutions. This could be achieved through prudential measures tailored

to contain the effects of systemic risk (e.g., capital requirements that take into account

size, complexity, or interconnectedness of the institution).

The supervisory oversight of liquidity management practices needs to be given equivalent

attention in terms of solvency risk and more prudential measures should be in place for

such effective controls. A study (Naes. et al. 2011) has shown that time variation in the

equity market liquidity is related to changes in the participation in the stock market,

especially for smaller firms. The study also denoted that participation in small firms

decreases when economy (and market liquidity) worsens. The adherence to sound

liquidity management principles should be given equivalent attention by supervisors,

management, and markets, as exposures to credit and market risk. Supervisors should

carefully monitor business models that rely on the continuous availability of wholesale

secured or unsecured funding, and impose higher liquidity requirements on these firms.

Regulatory frameworks also need to be strengthened to assess funding liquidity risks of

banks that are active across-borders and need access to liquidity in multiple currencies.

This should also contemplate the state’s fiscal policies that foster economic growth. The

risk management rules need to capture systemic risks in a better way. The Basle

framework needs to capture tail risks more effectively, with trading books and off-balance

sheet exposures possibly to be treated in the same way as other exposures. Also, capital

requirements for and risk management of counterparty credit risk at banks needs to be

62

strengthened and banks need to disclose how exposed they are to actions of peers. The

reporting and methodologies of treatment of impairments, probability of defaults,

exposures at defaults and loan losses should be interpreted consistently.

The regulators and supervisors need to monitor and challenge assumptions used within

risk management systems. Current requirements do not adequately reflect the probability

that correlations become high, either between positions within an individual financial

institution, or among institutions. Tools capable of identifying the potential for market,

credit, operational and liquidity risks to become highly correlated are needed. The

systemic risk from counterparty failure needs to be minimized through the netting and

collateral mechanisms of post-trading central counterparty clearing houses. Greater use of

capital surcharges for gross exposures in over-the-counter derivatives and payments

transactions would encourage trading to move to markets using central counterparty

clearing houses and matching systems. There is also a need for a transparent, effective and

cross-border oversight over such central counterparty clearing houses and this would have

included trade off of superannuation funds.

Financial institutions’ failure resolution frameworks need to be improved. To reduce

moral hazard arising from public support expectations and the risks of disorderly collapse,

regulatory authorities need to have the power to close or restructure troubled financial

institutions, both banks and non-banks, outside standard bankruptcy processes. This

requires robust legal processes for early intervention in and resolution of weak financial

institutions, compatible across legal jurisdictions and in the context of Fiji, the Banking

Act 1995, Section 14 (Figure 9) provides the powers of Reserve Bank of Fiji to be further

enhanced to maintain the sound and safe platform.

63

Figure 9: Section 14 of Banking Act 1995

The use of non-discretionary trigger points for interventions could help mitigate the

temptation to forbear, though there is no international consensus on the use of such

triggers for supervisory action. Such measures need to be complemented with financial

infrastructure more robust to counterparty failures but with some international framework

that could be easily adopted even in the developing countries.

The regulated firms should be encouraged to adopt long-term, risk-based compensation

structures. Short-term oriented bonuses based on business and trading strategies reliant on

leverage and continuous market liquidity have resulted in excessive risk taking by a wide

range of institutions and this should be discouraged at the outset. The financial services

industry should establish guidelines aligning risk-adjusted returns to compensation and

requiring greater disclosure of compensation structures to investors. Supervisors should

take a view on such compensation practices as part of their review of bank corporate

governance and risk management and be empowered to take appropriate action, including

through operational risk charges.

It is also known that current prudential approaches largely failed to prevent the build-up of

systemic risk, speculative bubbles and leverage over a favorable economic cycle.

Furthermore, current rules aggravate economic downturns. Existing regulations require

banks to hold more capital in downturns, as risk measures increase, while capital is

64

already depleted, forcing banks to cut back on lending, thereby contributing to a

worsening of the initial downturn; this basically means the capital adequacy requirements

should be flexible to variation. It is also suggested that supervisors need to provide

incentives to firms to smooth the impact of macroeconomic shocks. How best to design a

countercyclical a prudential policy that reduces systemic risks, something though a new

policy area, which can motivate the institutions, may be with a cheaper source of funding

if it is from a central bank and or some tax incentive programs from the state, for this

regulation.

The countercyclical capital regulation and loan loss provisioning requirements should be

important components of such a framework. This could take the form of altering liquidity,

collateral, capital, or loss provisioning requirements when asset prices, loan growth, or

leverage diverge substantially from their long-run trends. Building such additional shock

absorbers into the Basel II framework could dampen pro-cyclicality. The volatility of

property lending may be reduced through countercyclical loan-to-value limits, while

stricter requirements could restrain the rapid growth of unhedged foreign currency credit.

Designing and implementing such rules will not be easy. If possible, the authorities should

be non-discretionary, employ several indicators of macroeconomic risks, and act

symmetrically on the up- and downswing, while being cognizant that markets will set

typically higher standards. It is also essential that policies may target specific sources of

risks (e.g., limits on sectoral loan concentration, tighter eligibility and collateral

requirements for certain categories of loans, limits on foreign exchange exposure, and

maturity mismatch regulations). Policies should also aim at reducing existing distortions

and limiting of such guidelines. The effectiveness of measures can be enhanced (and

sometimes depends on) adequate cross-country supervisory cooperation to avoid

loopholes, such as switching from domestic lending in foreign currency to direct foreign

credit. This cooperation will be increasingly vital as financial systems become more

integrated. Coordination among host- and home-country regulators and monetary

authorities will also be critical when it comes to liquidity (and solvency) support in case of

a bust.

65

The market discipline has not been sufficiently effective in complementing supervision.

The improvement will require enhanced disclosure of information on off-Statement of

Position commitments, firms’ liquidity profiles, and risk exposures and concentrations

both within and between financial institutions, The provision of information to consumers

of financial services should also be enhanced where necessary. Design of market

disclosure rules, however, should not make firms reluctant to provide information out of

competitiveness concerns, and make investors and others willing to use and act on

information available. The market discipline should not to be fully effective unless failure

resolution frameworks are substantially improved and moral hazard is reduced.

The lesson also includes that information on and management of counterparty risk needs

to be improved. Supervisors need to be able to identify where counterparty risk

concentrations are building up (both domestically and cross-border) in order to take

appropriate corrective actions to reduce such correlations. In particular, consistent

supervisory information is needed on large exposures (including to unregulated entities)

and on concentrations in various types of collateral taken in transactions of secured loans

and repurchase agreements.

As mentioned through the governance framework, the conflicts of interests in the

production of credit ratings need to be addressed. The diminished credibility of credit

ratings can be addressed through changes in the governance of the ratings process,

including the separation of agencies’ rating activities and their advisory function. Further

actions are needed to allow investors to interpret better the outputs of the ratings process.

This may include greater requirements for transparency over raters’ models assumptions

and greater clarity over the meaning of ratings scales, including through reformed scales

for structured credit products.

The regulators also need to play an important role with enhancing accountability.

Consideration should be given to including the mitigation of systemic risk as an explicit

goal for central banks and regulators whose mandate includes the pursuit of financial

stability. The crisis has shown the importance of central banks in promoting financial

stability through prompt emergency liquidity provision and, at times, extraordinary market

66

operations. The supervisors (State) and central banks need to cooperate with each other to

obtain and share information necessary for the conduct of monitoring systemic risk.

Central banks should have access to all necessary information to assess systemic risks to

the macro-economy and the payments system, as well as assess counterparty risks for

monetary and emergency liquidity operations. They may also need to be given appropriate

influence on the regulation and supervision of systemically important institutions. At the

national level, the organization of supervision can be improved by developing a clear

allocation of responsibilities among and nurturing the independence and accountability of

relevant agencies. Consistent supervision requires sufficient resources, close

communication, and a flow of information among all parties responsible for oversight and

financial crisis management, including central banks and finance ministries, national and

international. The role of the legal framework in ensuring such inter-institutional

cooperation is critical and should include mechanisms through which one regulatory

agency can effectively share its concerns with another and this may include revision

Finally it is more than internal or external policies as this whole episode has given various

lessons that need a clear and cohesive direction and commitment from all the stakeholders

to act in concert in order to respond to systemic risks in the global economy.

4.10 Conclusion

The GFC and the subsequent response from government, shareholders, boards and

regulators have focused renewed attention on Credit Risk Management in banks and

financial institutions. As part of this, organizational structures, business models, and

policies and processes are all under review in financial institutions, across the globe as

there was a need for more checks and balances. It has also brought a number of

weaknesses in macroeconomic policy, financial regulation, and global financial

architectures into the open era which gaps and shortfalls. These include the treatment of

systemically important financial institutions; the assessments of systemic risks and

vulnerabilities; and the resolution of financial institutions. The aspirations of free trade

concept, with integration and advance technology and innovation of the financial

67

instruments and products have also contributed significantly under the guise of

globalization.

The crisis was not primarily triggered by macroeconomic policy; conversely it has

exposed flaws in policy pre-crisis, forced policy makers to explore new policies during the

crisis, and forces us to think about the architecture of macroeconomic policy post-crisis. It

also raises the questions of effective implementation of those policies like Basle II or even

Basle III or with continuous failures having Basle (IV), capital adequacy requirement and

the measurements, which had very limited impact in preventing the bank runs and the

collapses. The policies need to be simple to understand and effective in implementation

and monitoring. Whilst it is beyond the scope of this thesis, but some studies have shown

that accounting standard complexities have contributed towards the failures due to lack of

interpretation of standards and reporting requirements.

In many ways, the general frame of policy should remain the same. The ultimate goals

should be to achieve a stable output gap and stable inflation. Nevertheless, the crisis has

made clear that policy makers have to watch many targets, including the composition of

output, the behavior of asset prices, and the leverage of different agents and the impact on

the shareholders returns, which is not to be over ambitious. It has also made clear that they

have potentially many more instruments at their disposal than they had used pre-crisis.

The challenge is to learn how to use these instruments in the best way with adequate and

sustainable returns.

The combination of traditional monetary policy and regulation tools, and the design of

better automatic stabilizers for fiscal policy, are two promising routes. The reform agenda

is enormous, much remains to be done, and new questions have come up for the design of

more stable national and global financial systems with support and cooperation in a

collaborative way through G20 countries or other collective forums. The global nature of

the financial crisis has made clear that financially integrated markets, while offering

benefits in the long run, pose significant short-term risks, with large real economic

consequences, and that reforms are needed to the international financial architecture to

safeguard the stability of an increasingly integrated global financial system, but this

68

architecture need to be simple. Such reforms need to be guided by the right principles

rather than being formulated as rushed responses to public pressure. The reforms should

rely on economic reasoning to identify the market failures and the externalities as well as

to devise the best way to solve the incentive problems.

The conflict of interests in the financial services industry is large in most countries and

political lobbying will therefore be a key determinant of the final outcome of this process;

however, there has to be level of good governance for the best interest of the mutual

global financial system, with various new challenges now emanating like political

upheavals, climate change and natural disasters, which are beyond the control of the

financial gurus.

The concentrated efforts of the financial industry to protect these interests can create

obstacles in implementation of the necessary reforms, which we have noticed with certain

bureaucrats. Therefore, policymakers should not underestimate the ability of the

financial industry to influence the reform process as well as the ability of the markets to

find loopholes to get around restrictions and recognize limits on what regulation and

supervision can realistically achieve, with classic example of the Banking Services Report

by the Consumer Council of Fiji with 21 recommendations provided to Commerce

Commission of Fiji.

While there are many lessons for financial reform going forward, as summarized in this

study, there remain many areas of unknowns where further policy research would be

useful. These include such areas as competition policy for a stable financial system,

approaches to consumer protection in financial services, and the political economy of

financial regulation, financial openness, and financial crises.

Every bank and financial institution faces both common and unique sets of challenges in

managing credit risk across their respective commercial lending portfolios. There is an

identified need to introduce (or enhance existing) risk appetite setting and reviewing, to

improve portfolio reporting and management of credit exposures, to improve the early

69

identification of deterioration in a portfolio, and to strengthen and institutionalize sound

risk culture with adequate training and development programs.

The meltdown of subprime mortgages clearly articulates various causes and all can be

concluded with following three key points as stated by the IMF president, Strauss-Kahn

who said that the crisis in financial markets was the result of:

� A regulatory and supervisory failure in advanced economies;

� A failure in risk management in the private financial institutions; and

� And a failure in market discipline mechanisms.

Source: World Must Act Together to Limit Crisis Damage—IMF

This denotes that all institutional players, policy makers, state and the regulators have to

work harder and set the correct direction as there will continue to be a demand for housing

but affordable housing, which should be promoted by state policies and national

framework. This framework must include financial and legal service so that there are clear

guidelines for the ownership and retention programs.

70

5 METHODOLOGY

5.1 Research Approach

This research adopted as a case study approach (Robson, 2000) of HAF to identify the

factors that contribute towards the problem loans. Consequently, the purpose of the

research is an exploratory one and the methodology is also multi-method, including

inspection of certain problem loan information, the analysis of previous policies,

guidelines and procedures. It included the interview of staff and management of the Credit

Risk Management section of HAF and discussion with some of the customers whose

accounts were in arrears.

The questionnaires were designed in a semi-structured format with certain multiple choice

questions. Some of the questions were ended and some used a Likert scale to get the most

information from the respondents.

The observations phase included the way Loans Recoveries Staff interviewed customers

who had called in to make arrangements for the arrears and also the way they spoke to

them on the phone. By watching, certain conclusions have been drawn which, are

elaborated more under Chapter 7. Oobservation also included participation observation,

where the researcher had been part of the interview.

For the Staff Questionnaires, 10 members of Loans Recoveries Staff were selected at

random out of 28, and the questionnaire as per Appendix (11.4) was provided to them.

Manager Credit Management and Acting Manager Credit Approvals were interviewed as

per Appendix 11.3 to identify the causes of problem loans. Twenty customers were

interviewed as per the questionnaire sample in Appendix 11.2. The researcher, while

formulating and asking questions, observed some of the basic skills like “enquiring mind”

as to why events appeared to have happened, used general sense as “good listening” to

fully understand without bias and noting the exact words. The method also included

adaptiveness and flexibility for the changes considered to interpret the information

correctly. The researcher tried always to be open and receptive to contrary to findings.

The preliminary findings were critically analysed with opinions from other managers as

71

second checks to maintain a summative evaluation process with the results. The

questionnaires were coded and the results obtained were put on a spread sheet for analysis.

Each set of questions was then encoded and data analysed.

Furthermore, certain documents, which included the policies and guidelines, were

analysed through the experience that has eventually affected the quality of the credit. The

organization structure, inclusive of the board duties and responsibilities and the line of

communication were also taken into consideration. The Management Information System

aspect of the operation was also considered in the study. The ideas and views were

translated in accordance with framework provided in Appendix 11.7.

The researcher examined and analysed the work process for the credit approval, which

included the completion of the credit application (Appendix 11.6), screening of the

applications and the requirements for the credit applications, the checklist for the credit

requirements (and thereafter the disbursements and the general administration. In the

credit administration, the researcher looked at the work process of the arrears management

and the enforcement guidelines with the general and the best practices of the credit

administrations functions.

In addition to this, the researcher has also examined the audited Financial Statements of

HAF for the six years and carried out analysis to correlate the performance of the

Institution and the problem loans.

5.2 Analytical Framework

The analysis was carried out through the conceptual Explanatory Factor Analysis (EFA)

approach, where the model was developed through premising that a cause of each factor

that contributed towards the problem loans was analyzed in accordance through each stage

of the credit cycle, inclusive of macro exogenous and endogenous factors. This was

further expanded with defaults caused by the borrower and or lender and total independent

variables. The factor analysis is a means by which the regularity and order in phenomena

72

can be discerned (R. J. Rummel).19 The phenomena are independent of each other, there

are a number of distinct patterns for which the researcher classified the factors into three

credit cycles: Business Development which had twelve factors, Credit Execution and

Administration, with fifteen factors and Review encompassing fourteen factors, equating

to total of forty-one variables.

In order to validate the empirically identified factors for causes of problem loans, a survey

instrument consisting of 41 items had been developed in the present study as mentioned

earlier. The instrument was developed based on a thorough review of literature and the

professional experience of the researcher in the finance industry. The instrument has been

fine-tuned based on comments and suggestions from experts (academicians, researchers

and practitioners) so as to address effectively all the aspects of credit defaults. A critical

aspect in the evolution of a fundamental theory in any management concept is the

development of good measures to obtain valid and reliable estimates of the construct of

interest. Therefore, without establishing the reliability and validity, it is difficult to

standardize the measurement scales, and hard to know whether they truly measure what

they intend to measure. Nonetheless, the various steps involved in the development and

validation of the measurement scale are shown by means of figures presented in results.

Conventionally, EFA (Sureshchandra et al. 2002) is used for the situation where the

relationships between the observed and latent (factor) variables were either unknown or

uncertain. The approach proceeded in an exploratory manner to discover the underlying

factors, thereby illustrating the relationships between the latent factors and the observed

variables. The purpose was to come out with the minimum number of factors that would

explain the variation among the observed variables. Nevertheless, this approach suffers

from certain limitations. The primary limitation is that in EFA, it is assumed that the

correlations between the variables are due to one or several underlying hidden factors that

generate the raw data. The researcher might have only an imprecise but not an explicit

idea about these correlations or factors. Moreover, even if the researcher is fairly sure

19 http://www.hawaii.edu/powerkills/UFA.HTM

73

about the presence of a particular factor, he might not know which variable influences

other factors and which factor has a dominant influence on such results. Therefore, the

investigator might lack any sound evidence on which to make his/her interpretations.

Furthermore, scales are assigned (1 to 3 as positive points and -1 to 3 as negative) to those

factors on which loading are to a significant extent. Therefore, it is possible for an item to

load substantially on more than one factor and hence the distinctiveness of the factors is

affected. Beside this, in pure EFA, items are loaded only on a statistical basis and not on

any theoretical justification, thereby affecting the valid identity of the factors. Essentially,

EFA is particularly useful only in the absence of a sufficiently detailed theory about the

relationships of the observed variables to the latent constructs; nonetheless the researcher

has ensured that best resulted were ascertained and appropriate interpretations were made

thereon.

The Annual Reports of HAF were analysed in the main areas of Corporate Governance,

Credit Risk Management, Profitability and Performance, Information System and Human

Resources, which contribute directly or indirectly towards the problem loans. The

researcher has also taken into consideration other economic indicators over the study

period, like Gross Domestic Product (GDP), Real Estate Lending Trends , Inflation,

Private Sector Credit Trends and accumulative Interest Spread.

5.3 Limitations

The researcher faced few limitations while carrying out the study that were major in view

of tenor of the research and the data availed. It was not easy to get recent data, perhaps as

the researcher is employed by an institution of similar activities; conversely senior

management and the staffs have been very co-operative and supportive of the study. Some

of the information could not be provided due to the process of reform of HAF whereby

study has been carried by the accounting firm, KPMG, looking at the merger of Public

Rental Board and HAF. The paper on the merger is before the Cabinet and as such, it was

difficult to establish a roadmap of HAF. It is to be noted that towards the conclusion of the

study, the board and some of the senior management of HAF changed, with new direction

and new work plans, so the flow of information was inconsistent. There were also some

issues in regard to customer confidentiality and sensitive information regarding the

74

financial status of the customers. Nonetheless, the Authority secretariat, Mr. Jagdish

Prasad was very helpful.

5.4 Conclusion

The information reflects the facts and views of the researcher ascertained through various

data sources and corroborated. The researcher added further depth and texture to the

analysis by incorporating beyond the details of the primary and secondary information

after the feedback from all the respondents. The combination of over 25 years of

professional lending experience of the researcher in the financial sector of Fiji, of which

two and half years were at HAF, amassed with post graduate qualification, brings more

precise and practical findings with appropriate conclusions and recommendations.

75

6 RESULTS

6.1 Factor Analysis The factors contributing towards problem loans were taken into three classifications as [1]

Business Development & Analysis, [2] Credit Execution and Administration and [3]

Review. For each of the classifications, the factors identified were scaled from 3 to -3,

with most agreeing scaled as 3 and disagreeing as -3.

The Business Development & Analysis has 12 factors, Execution and Administration has

15 factors and the Review has 14 factors, thus total factors are 41.Three management and

ten staff respondents were interviewed. For each of the factors by each type of respondent

(Management & Staff) mean (X) was calculated.

For the Business Development and Analysis, the equation is applied as

�B d f= mf1+sf1….mf12+sf12 (1.a)

where:

� Bdf = Business Development Factor

� mf = management factor analysis

� sf = staff factor analysis

Weighted Average Factor for B d f (x1) = � mf1+sf1….mf12+sf12 (1.b)

n=12

n= no of factors

For Credit Execution and Administration, which has 15 factors the equation is applied as

� ca f = mf1+sf1….mf12+sf12 (2.a)

where Ca f is Credit Execution & Administration Factors

76

Weighted Average Factor for Ca f (x2) = � mf1+sf1….mf15+sf15 (2.b)

n=15

n = no of factors

For Reviews, which has 14 factors, the equation is applied as

�R f= mf1+sf1….mf14+sf14, (3.a)

where R f is factors during Review

Weighted Average Factor for Rf (x3) = � mf1+sf1….mf14+sf1 (3.b)

n=14

6.1.1 Business Development Table 7 Business Development Factor Analysis

BUSINESS DEVELOPMENT HAF MGT

HAF STAFF � MEAN

1. Lack of product development and loan policy 1 2 3 1.5 2. Latest innovations in the financial sector 3 2 5 2.5 3. Weak economic conditions 3 3 6 3 4. Competition with other lenders 2 3 5 2.5 5. Poor analysis of the proposal 1 2 3 1.5 6. Borrower failing to provide correct details 3 2 5 2.5 7. Overvalued collaterals -3 -2 -5 -2.5 8. Cross selling of the products 1 3 4 2 9. Marketing targets / failing in quality lending

focusing on quantity 3 3

6 3 10. Personal interest of the officers -2 -1 -3 -1.5 11. Lack of staff competency and skills. 3 -2 1 0.5 12. Influenced by outsider 1 2 3 1.5

In the Business Development category, the management felt that the latest innovation in

the financial sector (like hire purchases, credit cards and even money-lenders), the weak

economic conditions, borrowers failing to provide correct details, compromising the

quality of lending to the quantity and lack of staff competency and skills, were the

greatest contributing factors to problem loans. In addition, the management believed that

the competition in lenders contributed moderately. The cross selling of the products (like

motor vehicle and personal loans together with home loans resulting in over

77

commitments), outside influence (mostly prominent people), lack of product development

and loan policy and poor analysis of proposal contributed least toward the problem loans.

The management strongly disagreed that overvalued collaterals and personal interest of

the officers would have contributed towards the problem loans.

The staff felt that the weak economic conditions, competition among the lenders, cross

selling of products, marketing targets/failing in quality lending or focusing on quantity

were the factors contributing the most. They also believed that other factors that followed

were lack of product development and loan policy, latest innovation in the financial

sector, poor analysis of the proposals and borrowers failing to provide correct details

contributed moderately. As management conveyed, the staff also did not agree that

overvalued collateral and personal interest of the officers would have contributed towards

the problem loans and they have also denied that lack of staff competencies and skills is

one of the contributing factors.

On the aggregate level for the Business Development, the factors ranked as having made

the largest contribution were weak economic conditions, marketing targets failing in

quality loans and focusing on quantity, followed by latest innovations in the financial

sectors, competition with lenders, borrowers failing to provide correct details, cross

selling of products and thereafter, lack of product development, poor analysis of the

proposals, influenced by the outsider and finally lack of staff skills and competencies. The

overvaluing of collateral and personal interest of officers was not considered as the

contributing factors.

78

Figure 10: Graphic Presentation of Business Development Factor Analysis

Business Development Factors

1

2 4

5

6

7

8

9

10

11

12

3

-3

-2

-1

0

1

2

3

4

1 2 3 4 5 6 7 8 9 10 11 12

Factors

Rat

ing

6.1.2 Credit Execution and Administration Table 8 Credit Execution and Administration Factor Analysis CREDIT EXECUTION & ADMINISTRATION

HAF MGT

HAF STAFF � MEAN

1. Failing to follow loan policy 1 2 3 1.5 2. Releasing of funds before the collaterals are

perfected. 1 2

3 1.5 3. Failing in timely review of the account. 2 3 5 2.5 4. Borrower failing to comply with the approval

conditions. 2 2

4 2 5. Financial innovations, which results with over

commitments of the borrower after approval. 2 3

5 2.5 6. Dishonesty of customer in meeting repayment. 1 2 3 1.5 7. Customer had genuine problems. 1 2 3 1.5 8. Officer’s own interest and frauds. -3 -2 -5 -2.5 9. No verification of the financials provided 2 3 5 2.5 10. Additional loans provided despite adverse

records -2 2

0 0 11. Collateral over valued -2 -2 -4 -2 12. Additional loans provided with inadequate

collateral -3 -2

-5 -2.5 13. Political and legal factors 3 2 5 2.5 14. Funds not utilised as per the purpose 2 1 3 1.5 15. Social and economic factors 2 2 4 2

79

In the Credit Administration and Execution, the management strongly felt that political

and legal factors (such as the existence and the core functions of the HAF to provide

affordable housing to moderate to low income earners) contributed most towards the

problem loans, followed by timely review of accounts, borrowers failing to comply with

approval conditions, financial innovations, lack of verification of financials, funds not

utilized for the purpose and, social and economic factors would have supplemented the

problem loans. The least contributing factors were failing to follow loan policy, releasing

of funds before collaterals are perfected, dishonesty of customer in meeting the

repayments and customers had genuine problems. The management did not agree that

officers’ own interest and frauds, additional request provided despite adverse records,

collaterals over valued and additional loan provided with inadequate collateral would have

contributed to the problem loans.

The staffs were of the view that failing in timely review of the accounts, financial

innovations and no verification of the financials had contributed most towards the

problem loans. The moderate factors according to the staff, were failing to follow loan

policy (which could be after approval), borrower failing to meet the approval conditions,

dishonesty of the customer, customer had genuine problems, additional loan provided

despite adverse records, political and legal factors, social and economic factors. The factor

contributing least would be funds not utilized for the purpose. The staff members did not

agree that officer’s own interest; collateral overvalued and additional loans provided with

inadequate collateral were contributing factors.

On the aggregate level, during Credit Administration and Execution, it is noted that failing

to make timely review, financial innovation with over -commitments of the borrower after

approval, no verification of the financials provided, political and legal factors contributed

the most to the problem loans. The next set of factors was borrowers failing to comply

with approval conditions and, social and economic problems. Thereafter, other factors

included dishonesty of customers; customers had genuine problems, and funds were not

utilized for the intended purpose of the loan. The factors that would not have contributed

to the problem loans were officers’ own interest and frauds, collaterals over-valued and

additional loans provided with inadequate collaterals.

80

Figure 11 Graphic Illustration of Credit Execution & Administration Factor Analysis

Credit Execution & Administration

1 2

34

7

8

9

10

1112

13

1415

5

6

-3

-2

-1

0

1

2

3

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

Factors

Rat

ing

6.1.3 Review Table 9: Review Factor Analysis

DURING REVIEW HAF MGT

HAF STAFF � MEAN

1. Failing to comply with the approval conditions 2 3 5 2.5 2. Failing to receive financials 3 3 6 3 3. Dishonest practice by the debtor 2 2 4 2 4. Dishonest practice by the officers of HAF -2 -2 -4 -2 5. Negligence by the HAF staff 3 2 5 2.5 6. Failing to inspect the property. -2 -2 -4 -2 7. Failing to review the account timely manner. 3 3 6 3 8. Failure to take immediate series of recovery

actions 3 2 5 2.5

9. Failure to restructure the loan despite debtor’s request. 2 3 5 2.5

10. Failure to administer the release of the funds 2 3 5 2.5 11. Failure to ignore the negative credit references 1 2 3 1.5 12. Legal complications 1 3 4 2 13. Failure to call up the debt 3 3 6 3 14. Poor economic conditions affected the disposal

of the property 1 1 2 1

During the Review process, the management felt that failing to receive financial or

(updated Statement of Financial Position) negligence of the staff, failing to review the

accounts in a timely manner, failure to take immediate recovery action, failure to

81

restructure and failure to call up the debts were some of the major contributing factors of

the problem loans. The other factors that management felt that contributed to the problem

loans were failing to comply with approval conditions, dishonesty of the customer, failure

to restructure and failure to administer the release of funds. The other factors were

ignoring negative credit references, legal complications and poor economic conditions

that affected the disposal of the properties. The management did not agree that dishonesty

of the staff and lack of inspection contributed towards the problem loans.

The staff felt that failing to comply with approval conditions, failing to receive financials,

failing to review the accounts, failure to administer the release of funds, failure to call up

the debts and legal complications were the greatest contributing factors. The next set of

factors were dishonesty of debtors, negligence of HAF staff, failure to make immediate

series of legal actions, ignoring the negative credit reference; the least influential factor

as poor economic conditions. The staff did not agree that dishonesty of the staff and

failing to inspect the property contributed toward the problem loans.

On the aggregate level the most contributing factors were- failing to receive financials,

failure to review of accounts, negligence of the staff, failure to take immediate series of

recovery action, failure to restructure the accounts and failure to administer release of

funds. The other factors that caused problem loans during the Review process were

dishonesty of the customer, legal implications, ignoring negative credit references and

poor economic conditions. The factors that would not have directly or indirectly

contributed, according to the interview process, were dishonesty of the HAF staff and

failing to inspect the properties.

82

Figure 12: Graphic Illustration of Review Factor Analysis

Reviews

12

3

4

5

6

78 9 10

1112

13

14

-3

-2

-1

0

1

2

3

4

1 2 3 4 5 6 7 8 9 10 11 12 13 14

Factors

Rat

ing

6.2 Demographic Details As articulated in the methodology, some the staffs were interviewed through a set

questionnaire as provided in Appendix 11.4.

Ten staff members were interviewed and for the years of experience in lending:

� 2 of them had service less than 5 years,

� 3 had experience between 5 and 10years

� 5 had experience between 10 and 15 years

6.2.1 Level of Satisfaction for the Training

Two staffs were delighted, four were satisfied, one was neutral and three were unsatisfied

in the context of the training and development. This denotes that there is a gap in the

structured training programs.

83

6.2.2 Education Level

During the study period one staff was a graduate who had a degree from an Indian

University; two were taking University of the South Pacific extension courses and had

completed half of the studies towards degree, either in accounting or management. The

rest of the seven had secondary school education and said they had no plans for further

studies, although the HAF has study scheme.

6.2.3 Level of Empowerment & Satisfaction

Most of staff expressed the opinion that the management takes their views in the decision-

making process and this reflects the participatory management style with certain degree of

empowerment. Two of the respondents were satisfied about the management-staff

relationship, three of them remained neutral and five of them were not satisfied.

6.3 Preventing Loan Losses Staff Responses

In response to the questions on preventing the loan losses, the staffs felt that there should

be:

a. Strict policy compliance;

b. Consistent in process; and

c. Proper control & reviews.

6.3 1 Management Responses on Other Issues

At the time of study, Lending Division had four managers:-Manager Credit Approval*20,

Manager Credit Recoveries, Manager Credit Management and Manager Legal. All of

them report to General Manager Lending and the General Manager Lending reports to the

Chief Executive, who reports to the Board of Directors, appointed by the Minster of

Public Enterprise. The key functions of each of the managers are stated in Table 4. The

Manager Credit Management conveyed that arrears had been increasing, whilst the total

portfolio was declining.

20 The position that the Researcher held in the organization from 2002 to 2005

84

The management did not have any immediate statistics of the arrears in terms of the

ethnicity of the debtors; however, it is believed that most of the arrears accounts were of I-

Taukei members of the community.

For the reduction of the arrears, the General Manager Lending had restructured the Credit

Management unit so that two staff reported directly to him and the account allocation was

reviewed with reallocation between the Manager Credit Management and Manager Credit

Recoveries. There were vigorous graduated steps taken to regularize the accounts with

immediate follow- ups, visitations, warning letters, demands and immediate mortgage

sales, through State assistance for the most vulnerable section of the defaulters.

6.3.2 File Records

In view of customer confidentiality; only limited information was provided, however; two

file records extracted illustrate how the non-performing loans (NPL) were formed and

handled. In the illustrations below, the names and particulars of the customers have been

withheld preserve customer confidentiality.

85

Figure 13 Customer Credit Default Sample 1

Name: XXX, YYY and ZZZZ Account No.: 1111111 Survey Ref: DP YYYY Subdivision: Caubati Market Value: $24000.00 HA balance: $22,238.46 Arrears: $4,336.56 FNPF Balance: nil Property Description: A 2 Bedroom Total: $22,238.46 Terrace House Last Receipt: 30/11/2001 Background Loan of $23,760.50 was approved to the above applicants to purchase this property with an interest rate of 9.5% for the first year and 11.5%variable thereafter .Client accepted to service loan within 196 months with a repayment of $49.94 weekly for the first year. Deposit of $5000.00 was received on 30/09/94.

Employment History

XXX - P.A Lal & Co.Body B uilder1994 to 1997 - Moved out of the property 1997 YYYY - P.A Lal & Co 1997 Janel Electrical 1999 ZZZZZ -Curry House 1997 -Migrated to New Zealand 1998 Arrears History Client defaulted from January 1997. Account performance deteriorated from 1999.Visited client on 28/01/98 and discussed account status .First notice was posted on 14/10/99. It took two years to start with recovery actions on the account. No respond from client .Demand notice served on 26/11/99.No respond from client. Client visited our office with a letter from employer (xxx Electrical) in May 2000. On September 19th 2000 account was suspended for three months after approval from management. XXX continued payment in early 2000 and stopped on 01/12/01. Served demand notice on 18/06/02. Should not have served demand because of the non prejudice as per earlier demand and should have proceeded with mortgagee sale. No response from client. Final Warning served on 12th December 2002. Client is unemployed and is not in a position to service his debt. Observation Reflects lack of policy direction, the enforcement programs and timely review of the account which has resulted with NPL.

86

Figure 14 Customer Credit Default Sample 2

Customer Details

Name: AAA Account No.: 99999 Survey Ref: DP 9999

Subdivision: Caubati Market Value: $30,000.00 HA balance: $24,984.49 Arrears: $5090.83 FNPF Balance : $ 3,980.00 Account Category: Type 17 Total: $28,964.49 Last Receipt Date: 6/09/02 Property Description: A 2 Bedroom Wooded House on piles

Background

On 21st September 2000, a loan of $22,325.95 was approved to the above applicant to purchase this property. AAA was occupying this property before inquiring. AAA accepted the offer to service the loan within 20 years with an interest rate of 9.5% percent for the first year on a repayment of $95.25 per week, with effective from 01/04/01.

FNPF deposit of $3,980.00 was received on 20/09/00.

Arrears History

AAA’s ability to pay is in doubt. No installments received to date except for the FNPF deposit received on 20/09/00. Interviewed clients on the following days: 29/05/01 – AAA promised to commence deduction from June 2001. 03/09/01 – Client will be leaving for Apia and he arranged to pay $300.00 per month. In addition property was rented out. Posted first notice on 16/11/01. No respond from client.

Served demand notice on 19/06/02. Client responded and arranged to pay $200.00 monthly. Client failed to honor his arrangement. Observations Reflects the character of the debtor, whereby he has ignored his obligations. Thorough assessment of the proposal has been lacked on the file records. Lack of tracking and follow up as the account started defaulting since 01/04/01. There were no proper policies when the repayment should resume.

6.4 Customer Responses

As mentioned earlier, some of the HAF customers were also interviewed in accordance

with questionnaire provided in Appendix 11.2. Twenty customers were randomly selected

87

from the list, interviewed and some of them were also visited in Makoi and Caubati, HAF

subdivision.

Table 10: Customer Sample by Age

Age 25-35 35-45 45-55 55+ Total MALES FEMALES

No. 5 12 3 - 20 13 7

Table 11: Customer Sample by Ethnicity

Fijians (I-Tauki) /Rotumans Indo-Fijians Others

10 8 2

From the twenty respondents interviewed, over 70 per cent had the houses in a joint name,

either with the spouse or with any immediate family members.

Some of the customers failed to provide the details of the loan repayment and two of

them (10%) did not know how much HAF was supposed to deduct:

� 60 per cent of the sample were supposed to make arrangements for direct

deduction for the repayment from the salary but failed to do so; for no reasons at

all which denotes total ignorance;

� 40 per cent of the sample were paying cash

� 40 per cent of the sample had encountered arrears in the last six months and the

details are as follows:

Table 12 Default Statistics

No. of Times No. of Debtors Percentage of Sample 1 time 3 (15%)

2 times 2 (10%)

3 times 2 (10%)

4 times 1 (5%)

88

The most common reason for the arrears that the customers provided was family

commitment and reduction in pay or even job losses of either of the applicants that had

affected the ability to service the debt. All the sample customers provided equity from Fiji

National Provident (FNPF) towards the purchase of the property, where the minimum

requirement is around ten per cent.

Some 40 per cent of the respondents informed that the Authority had failed to follow up

on advising the arrears and they called in on their own accord to make arrangements,

whilst 60 per cent advised that they were either visited by Authority staff, and or had

received a letter from the Authority about the past due or the default.

The results revealed that 20 per cent of them, after follow up, had regularized the

accounts, 50 per cent had requested for restructure of the accounts and the balance of 30

had said they would call in later to make arrangements.

The Manager Credit Management conveyed that the Information System, (AS 400), which

was going through the process of integration, had some problems with repayments, split

account repayments, tracking and review dates. The Board of the Authority had already

approved the purchase of a new system for the organization.

The new IT system was finally approved and implemented during the year after

Management Information Services team’s wide consultation with the staff of the

Authority and all the critical aspects of our business process were covered in the

document. Both senior officials from Navision and Indus India visited Fiji to assist in

the installation of the new system. The system is to be fully implemented in 2009.

Source: Housing Authority of Fiji Annual Report 2009: pp 11

These were some of the qualitative aspects of the findings that the researcher was able to

determine and will be further expanded in the next chapter which documents the

Discussion part of the paper. The next section articulates the performance analysis of

HAF.

89

6.5 Performance Evaluation

HAF’s Financial Statements from 2004 to 2009 provided in Appendix 11.8 have been

evaluated and performance measured. The correlation of NPL to Profitability is

contemplated. The NPL ratio provided in Table 13 is expanded with respective

performance ratios.

Table 13: Non-Performing Loan Position

Year 2004 2005 2006 2007 2008 2009

NPL ($M) 24.1 21.3 20.9 25.9 23.2 41.3

% Change -12% -2% 24% -10% 78%

NPL (%) 16.5 14.6 14.5 17.7 16.3 43.8

OPERATING PROFIT BEFORE INCOME TAX [$M]

2.067 2.487 2.281 0.583 1.559 0.548

Source: Annual Reports, 2005 and 2009

Table 13 clearly displays that the best period was in 2006 when NPL stood at 14.5% NPL

when the economy was booming. It cannot be correlated that the political upheavals of

2006 would have contributed towards the problem loans immediately or directly, as the

worst ratio was not recorded until 2009, which is three years after the political events.

There has been a significant increase, by 78 per cent in 2009 with a portfolio of $41.3

million, which represented around 43.8 per cent of the portfolio. However, it is to be noted

(refer Appendix 11.9) that in 2009, the GDP growth was – 3 per cent and the salary and

wage earners total was 128,000 compared to 2007 (128,700) and 2008 (130,800). This

denotes that economic conditions could affect the NPLs. Conversely, it should be noted

that in 2009: (1) the Authority adopted the RBF Loan Classification framework, which is

a more standardized approach to managing NPL; and (2) management commenced use of

a new management information system. However, as per Table 14, the ratio of Provisions

to Loans and Advances was the highest in 2008 at 1.27 per cent, whereas in 2009 it was

1.20 per cent. While referring to Table 14, it is also noted that most of the performance

ratios like ROE, ROA, and Assets to Equity were low in 2009. However in 2007, the

90

Authority also recorded the second lowest surplus, with the ratio of NPL at 17.7 per cent.

While looking at the expenses, the highest was in 2007 with Total Expenses to Total

Assets (%) as 8.43 per cent compared to 5.66 per cent in 2009. The Cost to Income Ratio

(%) was 96 per cent in 2007 whereas in 2009 it was 94 per cent. It is also to be noted that

in 2004, 2008 and 2009 Interest Expenses ratio to Total Expenses were quite high,

exceeding 70 per cent in each of the three years as the trend of interest spread in the

domestic market appeared to be highest as provided in the diagram below.

Source: RBF Economic Chart Book July 2009.

91

Table 14 Performance Evaluation of Housing Authority

PERFORMANCE MEASUREMENT OF INSTITUTION

HOUSING AUTHORITY

PARTICULARS 2004 2005 2006 2007 2008 2009 Return on Equity (%) 5.00% 5.68% 4.31% 1.09% 2.83% 0.99% Return on Assets (%) 1.30% 1.59% 1.25% 0.34% 0.98% 0.36% Total Assets to Equity (times) 3.84 3.57 3.45 3.16 2.89 2.74 Total Expenses to Total Assets (%) 5.57% 6.04% 7.09% 8.43% 5.83% 5.66% Total Revenue to Total Assets (%) 6.88% 7.63% 8.34% 8.77% 6.81% 6.02% Operating Expense as a % of Gross Loans & Advances 6.69% 7.17% 10.01% 10.89% 7.09% 7.13%

Cost to Income Ratio (%) 81% 79% 85% 96% 86% 94% Profit Margin (%) 18.94% 20.86% 14.99% 3.93% 14.38% 5.97% Net Interest Margin (%) 41.74% 48.11% 52.36% 41.57% 40.43% 41.29% NII/Total Income (%) 40.83% 44.07% 40.50% 33.24% 41.66% 48.89% None Interest Income/Total Income (%) 59.17% 55.93% 59.50% 66.76% 58.34% 51.11%

Interest Expenses /Total Expense (%) 70.32% 60.06% 43.35% 48.63% 71.68% 73.92%

Ratio of B& Debts/ Total Expenses (%) 15.43% 15.52% 20.61% 15.19% 6.68% 7.05%

Ratio of Provisions to Loans &Advances 0.46% 0.81% 0.94% 1.05% 1.27% 1.20%

Ratio B Debts to Loans & Advances 1.03% 1.11% 2.06% 1.65% 0.47% 0.50%

Ratio NII/ Loans &Advances 3.37% 3.99% 4.77% 3.77% 3.45% 3.71% Source: Analysis by Researcher

The other analysis provided in Table 15 indicates that the margin was worst in 2007

although the Return on Equity was worst in 2009 (0.99%) whereas HAF is expected to

provide minimum of 10 per cent in accordance with Strategic Intent. The implication is

that the problem loans affect the performance of the institution.

92

Table 15 Profitability Analysis of the Housing Authority

Profitability Analysis of Housing Authority 2007 2008 2009

Net Margin (after Interest &Tax) 3.93% 14.38% 5.97% [Net Operating Income/ Revenue] Asset Utilization (Times) 0.087723 0.068109 0.0602 [Revenue/Asset] Return on Assets (Times) 0.003449 0.009796 0.003593 [Net Income/Asset] Leverage Multiplier (Times) 3.160039 2.891091 2.743551 [Asset / Equity] Return on Equity (%) 1.09% 2.83% 0.99% [Net Income/Equity]

Source: Analysis by Researcher

The next chapter, which is the Discussion part of the study, documents various analyses

and interpretations. The section focuses on important points in regard to the subject and

makes reference to some of the best international guidelines and practices of Credit Risk

Management, inclusive of the corporate governance framework. In a nutshell, the section

tries to elaborate what has happened, why it has happened and what have been the

implications of such happenings at HAF and been beyond.

93

7 DISCUSSION

7.1 Overview

This chapter correlates various analyze and interpretations through qualitative and

quantitative information. It covers the exogenous and endogenous factors that cause

problem loans. As mentioned in Chapter 1, getting an affordable shelter is a global

problem but losing a shelter is another major problem in the financial system and this

happens when the debtor is unable to service the debt and the financier proceeds with the

legal action through mortgagee sale to sell the property. The researcher sympathizes with

the people for their lives been uprooted with enforcement and at times, it might not be

their fault so much as the result of situations that are beyond their control. Occasionally, it

has been found that the lenders fail to execute effective workout programs. It results not

only in termination of the debtor- creditor relationship; but also with loss of homes, it is a

loss to the lender together with various social and economic problems.

The chapter brings to the discussions the insight of the corporate governance framework of HAF

with duties and responsibilities of the board and the senior management, the impact of pricing,

individual lending policies, competition and marketing strategies with other external and internal

variables as articulated in chapter 8 which will contribute towards understanding problem loans by

bringing together literature reviews and an appropriate conceptual framework. The section also

draws comprehensive literature reviews inclusive of the experiences of GFC, the causes,

implications, recovery process and most importantly, the lessons learnt from bubbles and burst.

The comparative analysis with respondents’ feedback and current procedures and

practices of HAF are also expanded while comparing the best practices and international

standards for housing or real estate financing that can be adopted by HAF. The objective

also includes measurement of performance evaluation of HAF with causes of problem

loans and ways to prevent the same.

7.2 Governance Structure

The board of directors of HAF is appointed by Minster for Local Government, Urban

Development, Housing and Environment and in accordance with the Housing Act, Rev Ed

94

1985 (Cap 267). The board reports functionally to the Minister for Local Government,

Urban Development, Housing and Environment and indirectly reports to the Minister of

Public Enterprises for strategic performance and intents. The board is normally appointed

for a period of three years. The board of HAF has three board sub-committees, which are

Finance, Audit and Risk Management Board Sub-Committee, Human Resource Board

Sub-Committee and Land, Housing and Squatter Resettlement Board Sub-Committee. The

Chief Executive Officer reports to the board, with four General Managers and Board

Secretary reporting to him, as provided in Figure 15. The board is responsible for the

governance of the HAF, managing it under the Housing Act. The Annual Report for 2009

describes that the relationship between the board and management as one of partnership

that was vital to the delivery of its objective and the Authority’s long term success. The

researcher is of the view that rather than partnership, more appropriate term should be

“fiduciary duty” in which the element of governance is more focused on the essence of

accountability and responsibility. The board consisted of six members namely Ratu

Josateki Nawalowalo, Fr Kevin Barr, Ms. Lavina Padarath, Mr. Chandar Singh and Ms.

Rosie Langi, all of whom were appointed by the Housing Minister. There are no clear

guidelines for the Fit and Proper requirements and qualifications of the Board of Directors

and as such, the composition fails to get the right mix of the people in promoting the

principles of good corporate governance.

The principles of corporate governance play an integral part as an effective and best

practice that promotes and advocates transparency, accountability and responsibility in all

fairness in setting the standards that fulfills the fiduciary “duty of care” and “duty of

loyalty” through the following (OECD) principles that need to be adopted and enforced at

all levels of business at HAF. The OECD principles are as follows:

a. Foster an effective corporate governance framework with appropriate legal,

regulatory, institutional foundation and commitments that are vital for HAF;

b. Support the rights of the shareholders (State) and promote the shareholder

participation within the rules and procedures of corporate control;

95

c. Promote equitable treatment of all the shareholders including the minority

shareholders in reaffirming the investor confidence (other ministries like Public

Enterprise and Finance) in the institution;

d. Promote the rights of the stakeholders established by law and or mutual

agreements that encourages active co-operation between HAF and stakeholders for

sustainability of a financially sound enterprise;

e. Strong, timely, transparent disclosure accurately made on all material matters of

HAF, including financial situations, performance ownership and the governance of

the authority; and

f. The board of HAF is chiefly responsible for the strategic guidance of the Authority

not only for the accountability and interest of HAF and shareholders, but also

expected to take due regard of and deal fairly with all the stakeholders.

The composition must also include directors who would have sound financial experience

and expertise, some from land development and civil engineering backgrounds, apart from

particular social backgrounds. There has to be an appropriate governance structure and

reporting lines, whilst we note that there are three board sub-committees. The formation of

the board sub-committee should have a right mix of members with appropriate experience

and qualification, which was found to be lacking at the board level of HAF. In terms of

the best practices of the governance framework, the core functions should have a special

board sub-committee. There should be a Credit Board Sub-Committee. The Finance,

Human Resource and Land Development Housing and Squatter Resettlement could be

consolidated as Housing, Finance and Administration Board Sub-Committee and totally

independent Risk Management and Audit Board Sub-Committee ought to be considered.

The current structure of the Finance and Audit Sub-Committee lacks the independency of

the audit and risk management functions and would compromise the good governance of

the entity. Credit Risk Management forms one of the core activities of HAF, with various

policy challenges and as such, there has to be an appropriate board sub- committee with

respective mandate and charter to carry out the duties and responsibilities effectively.

96

Figure 15: Organization Structure of Housing Authority

Source: Housing Authority Annual Report 2009

There is no appropriate standardized governance framework, something that should be

fostered by the Ministry of Public Enterprise and it is understood that the ministry is

working towards such framework. Some of the elements of the framework should include

but not limited to:

a. Corporate Governance Policy;

b. Board and Chairman appointments;

97

c. Fit and Proper Requirements;

d. Powers, Duties and Responsibilities of the Board of Directors

e. Board and Sub-Committee Charter with annual reviews;

f. Reporting structure and Reporting Guidelines;

g. Code of Conduct;

h. Conflict of Interest and Process of Handling Conflict of Interest;

i. Board Performance Evaluation and Compensation;

j. Risk Management and Audit guidelines;

k. Conduct of Meetings, Minutes and Board Papers; and

l. Whistle Blower process, Protection and Investigation process.

A comprehensive corporate governance conceptual framework as set out by Bank of

International Settlement (BIS), in Table 16, though it deals with banks and financial

institutions provides a complete structure for HAF to implement. The researcher briefly

tries to look at some of the principles that would apply to HAF.

Table 16 Corporate Governance BIS 14 Principles –Part A

Corporate Governance BIS 14 Principles Observations and Recommendations

1.

Does the have board has overall responsibility for the bank, including approving and overseeing the implementation of the bank’s strategic objectives, risk strategy, corporate governance and corporate values? The board is also responsible for providing oversight of senior management.

The board has to adopt a well structured corporate governance framework as this has been a missing link with appropriate strategic direction, risk strategy, corporate values and the oversight of the management.

2.

Are the board members qualified, including through training, for their positions? They should have a clear understanding of their role in corporate governance and be able to exercise sound and objective judgment about the affairs of the bank.

The board mix must be well qualified that is also have financial and business acumen , perhaps members of the professional bodies and have Fit and Proper requirements as set by (Reserve Bank of Fiji) in terms of the character, qualifications and skills, and financial soundness.

3.

Does the board define appropriate governance practices for its own work and have in place the means to ensure such practices are followed and periodically reviewed for improvement?

This has been lacking as shown with no independency of the Audit & Risk Management Board Sub-Committee and the framework lacks the key points as mentioned (a-l) with no proper review and appraisal system of the board.

4. In a group structure, the board of the parent

This criteria may not apply to HAF, it is being

98

company has the overall responsibility for adequate corporate governance across the group and ensuring that there are governance policies and mechanisms appropriate to the structure, business and risks of the group and its entities.

only one entity. However; the governance framework with policy direction need to be improved and this should be fostered with a framework set at the ministerial level, which had been discussed in past Public Sector Workshops, that the researcher attended.

5.

Under the direction of the board, senior management ensures that the bank’s activities are consistent with the business strategy, risk tolerance/appetite and policies approved by the board.

The senior management has been quite qualified and experienced. However, the climate of change management is found to be lacking due to the external and as well as internal factors, therefore business strategies, appropriate risk framework, tolerance limits and appetites are not strategically set.

6.

The firm has an independent risk management function (including a chief risk officer or equivalent) with sufficient authority, stature, independence, resources and access to the board.

HAF should have an independent risk management function and ingrain the culture of risk management, with Risk and Audit unit that currently is reporting to the CEO, should be reporting to appropriate (Audit) Board Sub-Committee.

7.

Risks are identified and monitored on an ongoing firm-wide and individual entity basis, and the sophistication of the firm’s risk management and internal control infrastructures keeps pace with any changes to the firm’s risk profile (including its growth), and to the external risk landscape.

There is no appropriate risk management unit that should take the responsibility of identifying and monitoring of enterprise level risk management of HAF together with internal control system of such risks.

Table 17 Corporate Governance BIS 14 Principles –Part B

� Corporate Governance BIS 14 Principles Observations

8.

Effective risk management has robust internal communication within the firm about risk, both across the organization and through reporting to the board and senior management.

There are policies and processes. However, some of these policies, especially in Credit Risk Management need to be reviewed; as the Lending policies were last reviewed in 2003 and during the period of research Manager Special Project – Policies was tasked to complete the same. The Authority has objectives and policies on Financial Risk Management but they are not effectively followed.

9.

Do the board and senior management effectively utilize the work conducted by internal audit functions, external auditors and internal control functions?

During the research period it was noted that the Authority had some International Financial Reporting standards in 2009 and that is why it was delayed.

10.

Does the board actively oversee the compensation system’s design and operation, and monitor and review the compensation system to ensure that it operates as intended?

This has been beyond the scope of the research. However, there is an appropriate appraisal system of management and staff but there is no evaluation system for the board of directors.

99

11.

Are employee compensations effectively aligned with prudent risk taking, adjusted for all types of risk, compensation outcomes symmetric with risk outcomes and compensation payout schedules sensitive to the time horizon of risks?

There is a compensation system but the strategic intent and the state expectation have been below guidelines and that could be due to the lack of change management.

12.

Do the board and senior management know and understand the firm’s operational structure and the risks that it poses? (i.e. “know-your-structure”)

The board and management are knowing the operational structure and the risks that it possess, but it appears that due to ineffective will and commitments together with external factors (due to segment of customers and social obligation) it lack commercial objectivity.

13.

Does the board and senior management understand the purpose, structure and unique risks of the firms operations if the firm operates through special-purpose or related structures or in jurisdictions that impede transparency or do not meet international standards? Do they seek to mitigate the risks identified?

The board and management need to understand two points, (1) the core functions of HAF and (2) the commercial part of HAF. The point is that HAF may not be able to sustain itself just serving the low income earners, who have high risk of default, it has to diversify its portfolio and also expedite other income streams like land rental, valuation, insurance, land development and sub-division programs.

14.

Is the governance of the firm adequately transparent to its shareholders, depositors, other relevant stakeholders and market participants?

There seems to be lack of disclosure in terms of the reporting and regulatory requirements, though HAF does not have a deposit taking license.

7.3 Policy Environment The research is limited to Credit Risk Management policies and processes, which include

loan submission and approval, documentation, disbursements, credit administration and

management, and enforcements. The subsections of this chapter discuss them in more

detail.

The Housing Act under which HAF operates needs changes for the HAF to operate

effectively and in the main, board should look at the commercial focus of the operation

and a possibility of the deposit taking mechanisms as a way of reducing the borrowing

costs. For the deposit taking platform, there could be some strong measures and prudential

guidelines set up with the comfort of a government guarantee and perhaps, oversight by

RBF, apart from the current ministerial reporting system. The commercial arm needs to be

operated in self- sustainable manner compared to the current structure in which

sustainability of focusing focus lower income against the government guarantee and

subsidy.

100

The lending policy has guidelines and processes, formulated and implemented in 2003,

and that should be continuously reviewed. The adaptation of the new Information Systems,

which at the time of the assessment was in the process of integration, required a

reasonable level of changes and this included grading of loan accounts in accordance with

RBF Supervision Policy (3) guidelines. These are some of the international best practices

that the HAF has embarked on but the systems, processes and the people need to adopt

these changes. The policy allows correct classification of loans as categorized on two

variables, aging and security position as articulated in Table 18.

Table 18 Reserve Bank of Fiji Loan Classification

The lending and the marketing are the two different faction of the HAF though they share

the same objective as sustainable growth. Marketing looks at the increasing of portfolio

and lending looks at the growth but with the quality of credit. A separate unit of Credit

Approval has the function of evaluating all the proposals on the basis of default and the

6Cs of lending. The most important is character followed by capacity, cash, capital,

collateral and then the conditions, as per the application form provided in Appendix 11.6.

It is noted that previous loan applications failed to incorporate these details, not even

including the basics of the financials and nor for any proposal was there a basis on which

101

decisions were to be made. There was no evaluation and analysis of the proposal beyond

the system calculation of the eligibility. There was no format as to how applications were

submitted for approval and those approvals lacked the basic lending knowledge; however,

with certain procedural changes these things over the period of time have changed.

HAF has no major research and development section that should carry out some of the key

functions, looking at continuous improvements of products and services. In accordance

with the current guidelines, HAF looks at the housing needs of the people who have

household income from $16,500 to a maximum of $50,000. Previously those over $50,000

would require ministerial approval and this is one of the points that the Authority needs to

consider while making some of the amendments to the Act, as lower sections of the

salary/wage bracket are more vulnerable to income disparities and fluctuations. This is

clear from results in the last chapter showing that most of the sample customers (40 per

cent) had encountered problems in the recent six months for reasons as family

commitment and reduction in pay or even job losses that affected the debt serviceability.

The product development and implementation lacked few of the basic concepts in all the

steps (Kolter, 2002: 336-349) as idea generation, idea screening, development and testing,

marketing strategy development, business analysis, product development, test marketing

and then commercialization. The failure to follow these basic steps of product

development had cost Authority dearly in terms of funding and operating expenses, which

also includes the land development programs, under which the Authority has some

properties to sell in western and northern part of the country. Whilst land development and

sale is beyond the scope of this paper, the Authority does face challenges in ensuring

timely availability of the land, due to flow on effect of other external factors and

infrastructure improvements. Nevertheless, the credit should go to the chief executive

officer of HAF, Alipate Naiorosui with the support of the board in taking an optimistic

stand to redeem the lon- term expensive bonds, with cheaper sources of funds and

effective ways to manage HAF.

102

7.3.1 Lending Policy Guidelines

The current policy guidelines allow flexibility of the loans with an equity contribution of

minimum of 10 per cent, whereas the commercial banks require 20 per cent with

exception of Home Finance Company Limited (HFC) with minimum contribution of 10

percent. The term of the loan can be for 30 years (360 months), compared to the banks

having 25 years (300 months). These terms are considered to be part of the social

responsibility of HAF in promoting affordable housing scheme. In terms of the debt

serviceability, the commitment ratio or the debt servicing ratio (DSR) is that all those

applicants with earning up to $25,000 would be allowed total commitment (inclusive of

the home loan repayment) to a maximum of 35 per cent and those over $25,000 allowed a

maximum of 40 per cent. In terms of the equity, 10 per cent minimum contribution is

required, and as such most of the ratio of Loans to Security is greater than 90 per cent,

taking the fees and charges into account, which includes the State cost like mortgage and

transfer stamp duty, where applicable, though there are some provisions of exemptions for

the first- time buyers. The framework lacks the risk and returns as those loans with equity

less than 20 per cent and DSR higher than 35 per cent should be backed with risk

premium rates of say 100 basis point. Currently HAF has normal home loan lending rate

of 7.99 per cent variable and those disparities of DSR and Loanable Value Ratio (LVR),

above reasonable guidelines can be appropriate with rate of 8.99 per cent.

The policy should take into consideration the latest innovations in the financial systems of

Fiji with introduction of debit and credit cards, which have contributed towards the

problem loans, as mentioned in the findings. This aspect should be thoroughly assessed

with the financial position of the debtors or the potential applicants. At times, it is beyond

the control of the officers to get correct information as the customers could be asymmetric

and withhold the total commitments, whilst salary slips and bank statements are sighted.

At times after taking the housing loans from the Authority, the debtors are influenced by

“no deposit” marketing strategies of hire purchase dealers, or imprudently use credit

cards, which result in higher commitment and face difficulties in payments of the debts.

Eventually, HAF ends up paying those debts under the Personal Loans and restructures

the financial position of the customers to preclude over commitments and eases the

repayments. From the interviews and the trends noticed, the debtors have ensured that

103

their hire purchase accounts commitments are promptly met because of smaller

installments and the chances of repossession being high compared to the mortgagee sale

of houses which take minimum of three to five months.

The policy currently does not take into consideration of the economic conditions and the

other micro -economic factors that would contribute towards the creation of problem

loans. From the trends and the Results, it is noted that the worst performing year for HAF

was 2009 when ratio of nonperforming loan was 41.3 percent and the Gross Domestic

Product (GDP) growth was negative 3 per cent as provided in Figure 16.

Figure16 Comparative GDP, Inflation and NPL Graph

The weak economic conditions whether of micro or macro economic factors, have also

contributed towards the problem loans at HAF. Some of the customers were also

dependant on foreign remittances and the GFC had affected those income streams, thus

affecting the debt serviceability. The lack of economic growth in the country has impacted

the employment status and hence, the debt serviceability. The target market of HAF is low

to moderate income earners, who are highly likely to job losses which affect the cash-

inflow. Some of the debtors have also absconded and some who had work permits to New

Zealand that did not get renewed, returned to Fiji but had found difficulty in finding a job.

Comparative GDP, Inflation and NPL Graph

20.9 25.9

23.2

41.3

1.9-0.9 0.2

-33.1 4.3 6.6 6.8

-10 -50510 15 20 25 30 35 40 45

1 2 3 4

Year 2006- 2009

Percentage

% of NPL GDP %Inflation %

104

The other correlation that needs to be adjusted is the level of inflation which is displayed

in Figure 17. The level of inflation affected the disposable income in meeting the loan

repayment and as provided in Figure 17, most hikes was in food items and as such, for

loan repayment obligation customers had difficulties. It is always advisable that such

factors are allowed for; in eligibility assessment, with sensitivity analysis by adding say

100 basis point interest calculation, while calculating the DSR. The other economic factor

was that there was no major wage increase in any of the sectors that consisted of the low

or moderate income earners.

Figure 17 Inflation Position June 2009

Source: RBF Economic Chart Book July 2009

7.4 Integrated Credit Risk Management

The detailed framework is provided in Appendix 11.7. This establishes that the board has

to play a lead role in re-strategizing, with effective management of the loan portfolio’s

credit risk. This requires the board and also management to understand and control the

HAF’s risk profile and its credit culture. To accomplish this, they must have a thorough

knowledge of the portfolio’s composition and its inherent risks. They must understand the

105

portfolio’s product mix, industry and geographic concentrations, average risk ratings, and

other aggregate characteristics. They must be sure that the policies, processes, and

practices implemented to control the risks of individual loans and portfolio segments are

sound and that lending personnel adhere to them. These are some of the key aspects of the

credit process and standards that are missing and that could be embedded in formation of

the board credit sub-committee.

The board should set limits for the concentration of the portfolio that would include, what

per cent of the portfolio should consist of; say low income earners, perhaps those below

household income of $25,000 and those over $25,000. The board should also look at the

geographic limits of the portfolio in terms of the Central, Western and Northern Regions.

This would mean enunciating a system that would enable them to monitor quality of the

credit portfolio and take remedial or enforcement measures as and when any deterioration

occurs. Such a system would facilitate HAF to ascertain whether loans are being serviced

as per facility terms, the provisions are adequate; the overall risk profile is within the

established limits. This system with appropriate reporting to the board sub-committee

would mean an efficient and effective credit monitoring system that would assist senior

management to monitor the overall quality of the total credit portfolio and its trends.

Periodically the management could fine-tune or reassess its credit strategy /policy

accordingly before encountering any major setback. This monitoring also has to be

considered with the changing market and economic environment.

7.5 Credit Risk Management Strategy

The management responses revealed that only part of the credit risk management strategy

was the reduction of the impaired assets with performance ratio whereas some of the key

components of the credit strategy with review of the concentration and demographic limits

to specific types of borrowers and salary range were not documented. The strategy should

also include limitation of types of lending products like Personal Loans, Car Loans and

Village Housing Loans based on the risk and returns. There was a reporting system made

on a monthly basis for the total loans approved, loans settled, systemic reporting of the

arrears. The researcher is of the view, that arrears reports should be extracted on daily

106

basis in accordance with the region, account controller, further categorized by portfolio,

arrears amount, portfolio in arrears and the aging of the arrears. There should be aggregate

and individual account controller key performance indicators and with the tone at the top

from the board for the senior management to drive that. The grading system as discussed

in an earlier part of this chapter needs effectively to be implemented. This sort of

mechanism would ensure that some proactive attention is given, as the interviews with

customers revealed from 40 per cent of the sample, that the Authority had failed to follow

up on advising the arrears; customers called in of their own accord to make arrangements,

despite having heard nothing from HAF.

7.6 Loan Discipline and Culture

The discipline and credit culture again has to be set with tone at the top and this is

explained in section 7.2 of this chapter under the governance framework, with appropriate

authority limits. All the lending activities with approvals, documentation and

administration are executed in a centrally manner. For the limits and authority, Manager

Credit Approval has a continuous limit of $75,000, General Manager Lending, $150,000

and the Chief Executive Officer, $250,000. The rest of the applications would progress to

the board for confirmation. One of the weaknesses of the approval limits identified during

the research was that approval limits were set in a non analogical way. The best practice

of limits and authorities, for example is that if an officer has limits up to $75000, he or she

should only approve loans on an aggregate level of $75000. This means if customer has a

total existing balance of $55,000 as outstanding loans (which might include personal and

housing loans) and there is a request for an additional $35,000, it should not be approved

by that officer as the aggregate exposure equates to $90,000, whereas HAF considers only

the split limit of $35,000. This is not a best practice as then there is a split request to

accommodate without progressing to the next level of the credit chain.

The credit approval process is discussed in detail in section 7.8 of the paper. After the loan

is approved through the process as portrayed in Figure 18, the loan agreement is prepared

by Credit Approvals and then passed to Customer Relations, who then liaise with the

customer for executions and after execution it is passed to the Legal Department for

107

preparation of security documents. It would be appropriate that there should be another

process of Compliance within the Credit Management unit.

The compliance function would be the essence of maintaining the quality of the credit. It

should occur prior to issue of the loan agreement which should be prepared by a separate

unit compared to Approvals, perhaps the Legal Department; it should pass to Compliance

to check if the approvals were within the proper policies and guidelines. After that the

loan agreement should be prepared and with acceptance of the agreement compliance

should be completed, prior to disbursements. This would eventually improve the credit

culture with another compliance review to be conducted three months after the

disbursements and thereafter, on an annual basis. Overall the policies and procedures in all

sections of Credit Risk Management need to be enhanced and improved.

Figure 18 Loan Submission Process

7.7 Staff Training and Education

The staff Training and Development plays an important role and HAF has appropriate

training programs for the staff though a detailed discussion of them is beyond the scope of

thesis. It is imperative that training should include credit assessments, credit

documentation, compliance and disbursements, credit administration and workout

strategies. The study revealed that some of the staffs were not content with the training

.

Customer Lodges

Application to

Customer Relations

Customer Relations assess and submits to Credit Approvals

Credit Approval sanctions

applications

Loan Approved

& Loan Agreement Prepared

Declined / Deferred Referred

to Customer Relations

Customer Relations either

rectifies the deferment and resubmits or

advises Customer

108

programs; conceivably there could be appropriate training programs with key performance

indicators such as that a minimum of 75 per cent of the total Credit Risk Management

staff must attend the internal training and around 35 per cent should attend external

training. It is also noted that study programs were open during the period of research;

conversely; staff were not very keen on studies. It is cultural change that needs to shape up

for the training programs with pre- and post-evaluation. There should be internal

departmental trainings too, in the Credit Risk Management section together with job

rotations either within the unit or even exchange from the Customer Relations team.

7.8 Credit Approvals

The credit application form as provided in the Appendix 11. 6 captured most of the

important details for assessment of the statement of financial position but it would be

prudent that the approval team is thorough with the assessment, due to innovations in the

financial system with introduction of the credit cards and hire purchase promotions. The

loan application articulates the 6Cs of lending that need to be captured for the individual

customers and with the lessons learnt from the GFS; as discussed in section 4.2 , character

and capital are no longer the most important aspect of lending. If the customer has no

ability to pay, he or she can compromise the character and even capital if there is a

negative equity and simply abandon the property. Our discussion with Manager Credit

Management revealed that some of the customers fell into those categories after

retirement at the revised age of 55 years. They tried to sell the house and after they could

not, they just left and went back to the villages. Some of them were trying to secure the

assistance of their children who were not quite keen to assist whilst some were able to do

so with joint ownership with the children. This is where the Business Development needs

to be mindful of changes to economic conditions, which should be considered in the

proposals and at the policy level. It is always important that factual and correct

information is provided for the transaction. If the transaction and amount are not

thoroughly assessed, where the policy should foster this, then the principle source of and

the use of funds with anticipated income theory would be compromised. This would

basically mean, while disbursing the funds, the work process must capture all the pre -and

post -conditions of the approval, ensuring that they are duly met and where waiver is to be

109

sought then it is accordingly approved. The credit approval process is based on the

probability of defaults and these defaults are fragile considering the niche market of HAF.

The Bank of International Settlement has provided very clear and basic guidelines under

the Sound Credit Granting process and it is quite important that HAF adopts such

comprehensive analysis is adopted by HAF. The guidelines mentions that lender should

receive sufficient information to enable a comprehensive assessment of the true risk

profile of the borrower or counterparty. Depending on the type of credit exposure and the

nature of the credit relationship to date, the factors to be considered and documented in

approving credits include:

� Purpose of the credit and sources of repayment;

� The current risk profile (including the nature and aggregate amounts of risks) of

the borrower or counterparty and collateral and its sensitivity to economic and

market developments;

� The borrower’s repayment history and current capacity to repay, based on

historical financial trends and future cash flow projections, under various

scenarios;

� The proposed terms and conditions of the credit, including covenants designed to

limit changes in the future risk profile of the borrower; and

� Where applicable, the adequacy and enforceability of collateral or guarantees,

including under various scenarios.

7.9 Security Documentation

Once the loan agreement is signed, then security documentation is prepared through the

in-house Legal Department of HAF, which has experienced legal convenacying officers;

however, at the time of the assessment there was no qualified solicitor to authenticate and

verify those documents. The perfecting of the documents requires necessary consents for

the mortgage from the owners such as the Lands Department, the I-Taukei Land Trust

Board, the Housing Authority (itself) or the Methodist Church, with necessary searches

for the encumbrances. Once the documents are prepared and checked then customers are

invited to execute the same in the presence of independent notary personnel. It is quite

110

important that all the security documents are correctly prepared with relevant details and

particulars so that they are perfectly stamped and registered in timely fashion at Office of

the Registrar General. Once the signed documents are returned, then proper sealing and

stamping are completed and funds released thereafter. However; in a few instance it was

noted that security documents had not been perfected but funds had been released. At

times the errors are identified after the funds were released and documents returned from

the Office of the Registrar General. Most of the customers provide the equity contribution

from Fiji National Provident Fund (FNPF) account and the maximum allowed is two-

thirds of the balance, for which FNPF takes either first or second charge. If the withdrawal

is more than 20 per cent of the project cost then FNPF prefers to take either first mortgage

for the amount in excess of the 20 per cent and for the balance, it takes third charge

subsequent to HAF’s second charge. This perfection and settlement with FNPF can at

times delay the settlement and return of documents, which should take no more than three

months. FNPF’s charges also dilute the security coverage as in case of enforcement, the

prior ranking would need to be settled first.

It is quite important that security documents are correctly documented and perfected so

that the matter does compromise the enforceability in cases where the debt is to be

crystallized.

7.10 Usage of Funds

HAF has its separate Valuation and Inspection Teams to ensure that funds have been

properly utilized; however, there were some instance where funds were not properly

utilized by the customers in completion of the building; and in a few cases the building

contractors failed to perform as per the schedule of the work and in few instance there had

been cost over-runs. The cost over-runs resulted in granting further loans and this eroded

the equity or the margin in the project as in most cases customers were unable to meet

further equity. It becomes more complicated where FNPF charges were registered as the

first. The respondents have commented that lack of inspection is not considered to be

causes of problem loan, however the researcher is quite confident that cost overruns or

abuse of funds contribute towards the problem loans as either the customer is over -

111

committed to various lenders and as such used the funds elsewhere or further loans are

granted with a slight bending of lending guidelines to complete the project.

7.11 Credit Administration

Credit Administrations is the cornerstone of any credit quality and profitability of the

institution. HAF’s key financial ratios as mentioned in Figure 19 show a lot of

fluctuations. Whilst some could be due to the exogenous factors like inflation, political

and legal factors, GDP and so forth, equally vital are the endogenous factors as suggested

by respondents, and those factors are part of the of the Credit Administration.

112

Figure 19 Financial Highlights 2009

Source: Housing Authority Annual Report 2009.

�

�

�

113

The endogenous factors include lack of verification of financials and funds not utilized for

the intended purpose, factors that the management and staff can address accordingly. The

file records and documentation with inspection and verification of the purpose play the

important role. The inspection of the property and the abuse of funds should be noted in

few instances that show the lack of satisfactory policy environment of HAF. There could

be instances of post approval conditions like a customer’s failure to clear outside debts

prior to release of approved funds and not having been verified and this results in over

commitments, thus the customer ends up to be over committed. In a few instances, whilst

the customer may not have extra commitments during the approval period, nonetheless,

after the loan is approved with mortgage purchase, it is a fashion to acquire white goods

and furniture since that is bought on hire purchase, the disposal income is quickly eroded

with commitments. It is important to conduct a periodic review of accounts by account

controllers and relationship staff, so that the loyalty and call care program of the

customers is maintained. This would enable HAF to discover any adverse factors that

would affect the credit. The review should also look at the application and capitalization

of interest, repayment loaded, frequency of repayment, other covenants of the agreement,

valuation of the property and the insurance cover. HAF is one of the few institutes that

offer mortgagee and health insurance cover to its covers through Dominion Insurance

Limited. The review of the account should look at the type of the mortgage insurance

cover: whether it is in line with the agreement covering all the borrowers through multiple

cover, partial cover and so forth. The administration function also includes the systemic

input and during the research period it was noted that there was no major control of the

input, though there was a conceptual process for independence. However the functional

units also had access to input the data and limits which of course could compromise the

data integrity. This basically meant that the Manager Credit Management would be able to

adjust limits and arrears profiling and he would be the same person to check the reports.

The risk grading system implemented in 2009 should be graded by a separate unit after

confirmation by Credit Approvals and verification of the data by separate unit, thus

bringing effective control mechanism.

114

The Housing Authority in 2009 adopted the Reserve Bank of Fiji Risk Grade System of classifying its impaired assets and this had a great impact on our Loan Portfolio. The Non performing loans increased from $23.2m in 2008 to $41.33m in 2009 thus…negatively affecting our performing portfolio as well. This is equivalent to an increase in NPL of about 78%.

Source: Housing Authority Annual Report 2009.

Some of the basic credit administration functions recommended by Bank of International

Settlement are effective and efficient monitoring of the accounts with reports and

reporting policy guidelines, proper file documentation and file maintenance system. The

files and electronic data should have some of the basic customer details and information

captured.

Finally, the loan review function of the Credit Administration should determine that

the credit files are complete, that all loan approvals and other necessary documents and

covenants have been obtained and are in order. The review of the account should also

progress through the approval chain to maintain separation of the duties, which was the

case during the research.

7.12 System Support

There had been some problems with Management Information System of HAF and

during the research there was integration from the old AS 400 to the new system. The

management was in the process of rectifying the teething problem. Previously the system

had issues with splitting problems where the customer had more than one account and the

system with direct deductions from the employer was unable to input the required

amounts for respective accounts. There were user acceptance test and requirements test

in process. The most important aspect of MIS is the interest appropriation and arrears

calculation. In addition to that, it is quite important that capitalization of fees and charges

or penal rates is appropriate, in line with relevant statutory requirements like Consumer

Credit Act 1999. One of the provisions of the Act is that the penalty rate on default

customers should be applied on the arrears amount only and not on the portfolio. HAF

did not have such penal rate but had default fees.

The system should be able to provide an adequate monitoring mechanism especially for

115

the arrears accounts with portfolio and arrears balances, aging and provision to document

the comments. The system also should have integrated to the policies and research

showed that there was no clear policy for enforcement procedures.

7.13 Management of Sub-standard Borrowers

There is a broad policy guideline for the management of the arrears accounts, where

casual follow ups are made up to 7 days after arrears and then a first warning letter is

issued, giving the customer 14 days to clear the arrears. Due to lack of monitoring at

times, this is overlooked and on expiry of the 14 days, another advice is sent giving 7

days to clear the arrears. Thereafter, if the customer has cleared, then the account is re-

established or in case of failure, a formal demand notice is issued giving 30 days to meet

the default amount. The issuance of the demand notice actually means the entire debt is

called up and any arrangement or payments would be made on a without prejudice basis.

On the expiry of the demand notice, there is another special final notice is given before

the account is put through the enforcement of mortgagee sale. During this time most of

the customers come forward to make arrangements and some of them come once the

mortgagee sale is advertised. Some of the debtors also seek assistance from the political

leaders and due to HAF’s social obligation process and political interference; the actions

are withdrawn without proper workout strategies.

There is a policy framework for the rehabilitation process when at least 50 per cent of the

arrears are cleared and balance of the 50% could be re-amortized subject to the

demonstration of the proper repayment capability with all enforcement costs being met.

However, it is very rare case that this thing is being monitored or complied with, as

mentioned by Manager Credit Administration. It appears that there is lack of policy

compliance or it is weighted out by HAF’s social obligation.

7.14 Other Causes of Defaults

It is also noted that the setback in the sugar industry and the land cases have contributed to

the defaults too. The leases of the immediate families have expired and the customers took

extra burdens to help them, thus that affecting the disposable income. The family

116

obligation and the sentimental issues relating to the land affected the serviceability of the

loans. Another factor was the downsizing of the civil service, which created further

problem loans with the mandated retirement age of 55 years. The causes of extra marital

affairs and matrimonial issues was another factor as we noted that few of the primary

borrowers who were based overseas were sending funds to the spouses, but the spouses

failed to meet the repayment as they started living with another partner.

Figure 20: Non -Performing Loans (2003-2009)

Source: Housing Authority Annual Report 2009.

In certain cases, where the loans were more customer and competition focused, it deviated

from the quality assessment and the debtors had not even provided all the correct

information. Therefore; because of the asymmetric information, problem loans

eventuated. This was quite common in 2009 when there was intense competition and as

such 2009 (as per Figure 20) recorded the highest NPL. The collateral had not been the

major draw-back of the problem loans as the valuation section of the Authority had been

totally independent and the valuation were quite conservative and safe. However, due to

delays in follow ups of the loans which at times had taken more than a year, the loans with

accrued fees, charges and interest had exceeded the collateral value. Furthermore, there is

always the second charge (mortgage) of Fiji National Provident Fund from whom the

debtor had acquired the equity. The cross selling of the product, as selling of own lots of

117

Housing Authority or even selling of repossessed properties, the lending had been relaxed

and the policies were not critically followed, which eventuated in the problem loans.

During the research there were no cases of personal interest shown for any problem loans;

though this could not be ruled out. Conversely, it is to be noted that the sales target for the

bonuses and good appraisal reports, contributed towards the problem loans, as the focus

was quantity growth than to quality growth. There has been no regular review of the

accounts and it took sometimes for the Authority to follow up for the arrears.

The assessment of staff skills, talents and competencies has also affected the problem

loans. The organization culture has been relaxed and non-productive, with a high rate of

absenteeism, which had affected the flow of work and proper evaluation and speedy

decisions. Due to absenteeism, the proposals were held up and then decisions were made

in haste, without thorough evaluation. The staff were also not particularly keen on self-

development as per the current trend as only a few were taking extension classes. There

has been no motivation and the attitude seemed to be negative for any changes that the

Authority was going through.

The political and the ministerial interference has also been a contributing factor for

problem loans whereby prior to mortgagee sale, the ministerial approval is sought. It may

be a prerogative of the Government to ensure that everyone in the country has a shelter

but these should be balanced with effective workout programs and enforcements. There

was no major impact of natural factors that would affect the serviceability of the loans and

in cases of death of the debtors, so far the loan were covered under mortgage protection

cover whereby the loans were fully settled. Operational risk with lack of product and

process knowledge and negligence of the staff contributed towards the problem loans. The

legal complication like dispute over the property and other restriction of caveats had also

resulted in problem loans where the properties were not disposed off at even forced sale

value and the Authority had to sustain the losses. This could be due to lack of staff

competencies in legal aspects.

118

The economic cyclic pattern also contributed to the problem loans and studies have

proven that after twenty four to thirty six months loans start to default in most cases. It is

noted that credit boomed in 2006 as per Figure 21 and after three years, it became most

sour with highest NPL in 2009 as in Figure 20.

Figure 21 Private Sector Credit Growth

Source: RBF Economic Chart Book July 2009.

119

Figure 22: Gross Domestic Product

Source: RBF Statistical Annex May 2011.

The economic factors like the level of growth affected the problem loans as cited earlier

since 2009 had the highest negative growth of – 3 per cent (Figure 22) and affected the

credit quality. The policies should be flexible and adjustable to the changing environment

and that comes with the foresight of the board and senior management. It would be

interesting to note the credit quality of other institutions in similar operation, if they

experienced had the same trend. We have made a comparison of Home Finance Company

Limited’s (HFC) trend of impaired assets for 2008 and 2009 and found that in 2009, the

position improved as mentioned in Table 19.

120

Table 19 HFC’s Impaired Asset Trend

The trend at HFC denotes that the robustness of the policy and governance environment,

with other endogenous factors can overrule exogenous factors such as GDP growth and

inflation. However, this point could be arguable due to the different niche market that

HFC in comparison to HAF’s low to moderate income earners, with element of social

obligations.

The next chapter based on the results and the discussion, documents the conclusion of the

findings.

Provisioning HFC

Audited 30-Jun-08

HFC Audited

30-Jun-09 Total Provisions ($000) 3,780 2,112

Total Assets ($000) 178,872 161,729

Total provisions as % of

Total Assets 2.11% 1.31%

Total Loans and Advances 147,370 138,415

Total provisions as a % of

Loans and advances 2.56% 1.52%

121

8 CONCLUSIONS

The provision of affordable housing is a challenge all over the world and even the

advanced economies are not spared following the GFC. Fiji is no exception too as found

through this study. There is a significant demand for the housing, which is demonstrated

by the number of squatter settlements around the main centre. Government is committed

to improving the housing standard and as such, has implemented some of the new policy

initiatives like the National Housing Policy framework and the Special Social HAF Policy

on loan write-off. Conversely, there is a notable need to support the design and

implementation of sound national housing finance policies, which should include

enhancing the affordability of the housing finance alternatives for lower-income segment.

On the other hand, there is need to foster long-term funding for housing finance, as

mentioned in the earlier chapters of this study. There is a need to enlarge primary

mortgage markets, making them accessible to underserved population segments but with

some prudent measures after the lessons and experiences from the GFC and the

performance of HAF.

Many countries have changed from the housing policies with a heavy intervention of the

State as a direct builder and lender to more market-oriented policies though in some

instances, this was ineffective in the past. HAF has been an example of this, with an

element of moral hazard with abuse of systems and controls. It is important that there is a

true spirit of public private partnership, with an institutional corporate governance

framework. The intervention of the State should be there to support the homeownership

programs. In the context of the credit risk management, the role of the State should focus

on providing not only subsidy but insurance platforms for example mortgage insurance,

general insurance and if possible, unemployment insurance, which should cater for the

debt serviceability. This should be taken through the additional stamp duty costs on the

normal insurance premiums or explored with the Insurance Council of Fiji. The market

and credit risks can be effectively managed with the linkage of the capital market as there

122

is a growing demand for debt instruments in the domestic capital markets that can be

partially met by mortgage-related debt instruments. The State is promoting the capital

market development with tax incentives; however, the institutions need to have proven

track records of profits in order to achieve investor confidence and public institutions

would take some time for this, as most in terms of the Public Enterprise Ministry intent,

are supposed to provide a minimum of 10 per cent return on equity.

Due to lack of capital market growth, there is a need for a policy framework to control

mismatch of the institutional borrowings, as it has short term borrowings but for long term

mortgage funding. It can be concluded that Fiji is limited to sustainable source of funding

base with the only major source as Fiji National Provident Fund. The instruments are also

limited. It appears the financial industry, with commercial banks and a few mortgage

lenders lack intensive competition due to the size and structure of the financial system.

The State continues to perform its obligations for institutions like HAF, where the lending

is associated with subsidies. As a result, the institution lacks the commercial mix of

efficiency and effectives in the operation. It is concluded that a complacent institutional

culture, lack of discipline, a lax attitude towards change management and lack of foresight

are some of the factors that result in the high rate of arrears. The governmental

intervention with repeated debt relief programs and guarantees keeps the institution, board

and management in a very seemingly comfortable environment. In addition to wrong

policies, there could be other obstructions to the housing, like purchasing and debt

servicing ability, which affect the quality of the loans. The limited growth of formal

mortgage markets and the unsuitable terms of accessibility for lower-income families of

the existing housing finance alternatives have resulted not only in huge unmet housing

needs but also in the search for housing solutions.

It can be disputed that due to lack of proper housing policy, which includes financing

costs, informal human settlements have proliferated resulting in various social and

economic costs in terms of lack of public space, deficient public services (water and

electricity), exposure to natural disasters, environmental pollution. These all could be

illustrated with squatter settlement around the country. The literature has proven that it is

estimated that costs of regularizing existing infrastructure in these informal settlements are

123

from twice to three times higher than costs associated with developing planned

settlements and in that instance; the all stakeholders need to play an important role,

inclusive of the financers.

In order to enhance accessibility to housing for lower-income families, there is a need to

create an institutional framework that exerts pressure on permanently decreasing housing

prices and affordability to service the credits. One way to accomplish this is to reform the

grounds of land production. In terms of the debt serviceability, there is also evidence

showing that a housing tenancy with a property title is associated with a higher investment

in upgrading the housing units. In designing housing subsidies, authorities must consider

the appropriate types of subsidy depending on the different market segments, since their

needs and capabilities differ. This should not be confined to only debt reduction interest

subsidies, as found in case of HAF. For the low-income market segment, subsidies should

focus on improving living conditions and increasing new suitable housing options, as a

form of equity rather than on providing interest subsidies. The lending programs should be

based on the probability of the default and whilst this is one of the pillars of assessment by

HAF, the ratio of the Non Performing Loans (NPL) has increased in the recent times. To

expedite the expansion of primary mortgage markets, some recommendations can be

made based on a number of experiences. Records have shown that publicly-owned

mortgage lenders not excepting HAF, have a poor quality of underwriting, politically

motivated lending, inappropriate instruments, and weak or non-existent risk management.

HAF had some level of risk management framework in the past; however, that has been

ignored and ineffectively managed.

The State should focus on the development of mortgage markets through creation of the

proper infrastructure. It is suggested that for the elimination of barriers to lending, if it can

expedite the programs with accelerated development of mortgage markets by improving

the legal and regulatory framework, for example an efficient and inexpensive title and

mortgage registration process. In addition, the State should act as the second -tier bank by

providing the guarantees of the institutional borrowings, thus sharing the burden and

reducing the cost for the funding source, which subsequently would reduce the cost of the

borrowing and provide an affordable platform for people to service debts. These were

124

considered to be national policy gaps or some of the exogenous factors that would

contribute towards problem loans, due to cost and structure, apart from the economic

factors such as unemployment, inflation and weak economic growth. The other external

factor that directly or indirectly contributes is the innovation in the financial system with

new ways and means of credit access such as hire purchase and credit cards which results

in with over commitments of the debtors and some of them subsequently falling into the

hands of the money lenders. Legal and political factors can also cause problem loans. The

social factors such as extra- marital affairs, single parents, abandon families or death of

the main income earner were regarded as other factors that affected the debt serviceability.

Some of the debtors were based offshore and records revealed that money sent for loan

repayment through spouses or relatives were not paid to HAF, as they either had settled

with new partners or had abandoned the homes.

The endogenous factors are not exceptions to the problem loans and first it starts with the

governance framework that is found to be weak at HAF. The organizational culture

(Baker, 2007) is framed by what business assumes to be true of itself and the environment

it operates in. An extensive literature exists on organizational culture, which also relates to

the productivity. One of the broad categorises could be related to the process and role,

powers, tasks and the rewards, and this is something that HAF has to consider, as further

articulated and recommended in the final chapter of the thesis. Change Management is

required and studies have shown organizational behaviour (Robbins, et al. 2008) has never

been more important for managers than now, as employees getting older, corporate

downsizing occurs, heavy use is made of temporary employees (which was common at

HAF), global competition requires employees to become more flexible and learn to cope

with rapid changes in order to be competitive. It was noted that staff were reluctant with

the new Information Technology System at HAF. The change management (Baker, 2007)

needs to determine the nature and extent of the changes to the structure, authorities and

limits, tasks and responsibilities. It should commence with the tone at the top. The

appointment of the board, the composition of the board and skills and competencies of the

board are considered to be an integral part of the effective institution. There are no proper

policies and procedures, mandates or comprehensive governance platform at HAF. The

controls and checks at the board level are concluded to be conflicting with Finance and

125

Audit board sub-committee. It is important that Board Audit and Risk Management

Committee is independent. The governance weakness includes effective policies and

procedures as it is concluded that some of the policies would require changes and reviews,

especially loan approvals based on risk and returns and the enforcement and workout

policies. In fact, the policies and procedures are expected to be living documents with

changes of regulatory requirements and revisions of consumer protection laws, loan

assessment policies and compliance of pre and post funding and arrears management to be

considered. It can further ascertain that HAF lacked appropriate credit strategy and culture

in maintaining the effective and sound credit environment. It is also noted that there is no

clear work process after the approval and prior to funding, where the issues relating to the

conditional approvals could be verified. The compliance, if possible could be checked by

a separate unit from the Approval team so that the independence of the checking can be

maintained.

In addition; on the strategic level, whilst HAF had its strategic plan in place, which has

been beyond the examination of this paper, it is concluded that the foundations of the plan,

such as Vision, Mission Statement, Aims and Objectives, are not fully embedded at all

levels of the company. It is imperative that a holistic and systemic approach, together with

a high level and practical aspects of change management (Baker, 2007) are taken into

consideration for managing any entity and its functions, which in the case of HAF

includes effective management of the credit risk. The other factor that contributed towards

the problem loans was the human capital, which lacked a sufficient level of skills and

competencies in managing credit risk. Though the credit officers were given opportunities

to enhance the skills and knowledge; commitment and the willingness to enhance the

knowledge with study programs that HAF offered, was lacking. Some of the management

had taken the opportunity to take full time MBA programs; however, those were broad-

based management skills, which might not contribute effectively in the specific core

functions of HAF. If it was directly helpful, then there should have been a bonding and

retention program so that the upgraded staffs were not lost.Contemplating the skills and

experiences of the credit officers; it can be concluded that at times; they failed the

analytical assessments of the proposals with no proper applications and the basis for the

recommendations.

126

The divisional heads appear to lack integrated Human Resources Management skills to

motivate and inspire people. There is no major link to the Authority’s strategies and

supportive Human Resource Strategies, not only confined to Credit Risk Management but

to other operations, including (Stone, 2008) growth, retrenchment, stability, or

combination of all with proper human resource planning and detailed forecasts of

employee supply and demand. It should be (Stone, 2008) an integrated part of the

organization’s overall planning process, which includes rewards and recognition

programs, as a few staff were unsatisfied with the current system.

The Management Information System (MIS) and its functional capabilities also

contributed to the problem loans as it lacked a system of recording with splitting of

repayments from one source to more than one account. It is also concluded that there is no

proper report generation for the arrears management and review of accounts, which

denotes weaknesses in controlling, monitoring and reporting of the credit administration,

though a new system was implemented during the research period.

One other area is controls and checks of risk management, audit and compliance of overall

operation of the Authority, and in particular credit risk management. The external audit is

facilitated through the Office of Auditor General and outsourced to a local accounting

firm. However, it is important that internal audit functions are enhanced with direct

reporting to the Board. A risk managements framework should encompass the scope of risks to

be managed, the processes, systems and procedures to manage risk and the roles and

responsibilities of individuals involved in risk management. At present, all of this is lacking

conceptually at HAF. It is also concluded that a framework should capture all risks that HAF is

exposed to and have flexibility to accommodate any change in business activities with appropriate

action plans.

The final point noted is that there are no systemic methods of forecasting the probability

of the defaults and taking appropriate actions with any models and assessments that could

have an impact on the profit and loss. It is noted that HAF is in the process of

implementing Reserve Bank of Fiji Supervision Policy (3) guidelines; it may be

appropriate that some systemic models are taken for quarterly assessments. It is important

127

that management should consult the RBF, which is anticipated to play an instrumental and

active role for the local institutions that lack expertise and exposure on the subject. In

addition, there has to be a common platform or framework among the financial

institutions that would stimulate consistency in terms of the risk and performance

measurements. If the proposal is adopted or applied differently due to different approaches

with data, methodology, assumptions and judgments, this will result in inconsistent

parameters in the financial system without any proper market discipline measures.

The model mentioned basically means that credit risk measurement needs to consider

various dynamics in analyzing the exposures such as Probability of Default (PD), Loss

Given default (LGD), Exposure at Default (EAD) and so forth. Based on these parameters

or dynamics, typical models are applied in determination of the risk exposure. Regulatory

changes brought about by the upcoming Basel Accord (3) would assist to refine how

credit risk is measured. It is suggested that for each exposure, credit risk calculations

generally will provide three factors:

� Probability of Default (PD): Measures how likely a customer is to default (without

looking at how severe the loss would be);

� Loss Given Default (LGD): Measures how much the bank is likely to recover; and

� Exposure At Default (EAD): Measures how much the customer is likely to owe if

he defaults.

Figure 23: Stress Test Framework

The stress test framework starts with macro-economic factors, within which the Debt

Servicing Ratio and Loanable Value Ratio, the shocks (with variance and co-variance),

Current Situation Macro

Economy Factors -DSR

& LVR

Shocks: Variance and Co –variance

Borrower Behaviors

PD & LGD Bank Balance Sheet

128

borrower behavior, Probability of Default and Loss Given Default with its implications for

the balance sheet is considered. The detailed stress test is beyond the scope of this paper.

Some of the factors are controllable and some are not, but policies should be made to be

flexible and proactive. The data and analysis substantiate that there is a need for a

dramatically more fundamental overhaul of the entire National Housing Policy Program

for the moderate to low income earners, with robust internal institutional polices to

preclude any systemic risk to the institutions, inclusive of the HAF and the nation at large.

The causes and implications from the GFC have provided wide knowledge and lessons as

the collapse of NBF is still vivid in the minds of the people. The expansion scope should

be targeting a poorer and larger segment of the population that has been barely serviced so

far, radically changing lending methodologies, and seriously altering the mandates and

modus operandi of the wholesale finance organizations, as well as policy programs and

other supportive institutional mechanisms. The commercial banking sector should play an

equivalent role as part of the corporate responsibility for those segments.

Based on the research findings, the researcher systemically concludes in detail in the

following paragraphs and correlates to the research finding and results.

In the Business Development category, the latest innovation in the financial sector (like

hire purchases, credit cards and even money-lenders), the weak economic conditions,

borrowers failing to provide correct details, compromising the quality of lending to the

quantity and lack of staff competency and skills, were the greatest contributing factors to

problem loans. In addition, it can be concluded that the competition among the lenders or

financers contributed moderately. The cross selling of the products (like motor vehicle

and personal loans together with home loans resulting in over commitments), outside

influence (mostly prominent people), lack of product development and loan policy with

poor analysis of proposal contributed least toward the problem loans as articulated by the

management. There was very strong disagreement by management that overvalued

collaterals and personal interest of the officers would have contributed towards the

problem loans, however this has been beyond the scope of the paper to test and it is to be

noted that such valuation are carried out by in-house valuers. The results with

129

comparative trend of GDPs have also contributed towards the problem loans at HAF.

Some of the customers were also dependant on foreign remittances and the GFC had

affected those income streams, thus affecting the debt serviceability, as mentioned earlier.

The lack of economic growth in the country has impacted the employment status and

hence, the debt serviceability. It is to be noted that the target market of HAF is low to

moderate income earners, who are highly likely to have job losses which affects the cash-

inflow. Some of the debtors have also absconded and some who had work permits did not

get renewed, returned to Fiji and apparently found difficulties in finding a job.

In Credit Administration and Execution phase, it is noted that failing to make timely

review, financial innovation with over-commitments of the borrower after approval, with

no verification of the financials, political and legal factors contributed the most to the

problem loans. Furthermore, it is concluded that next set of factors was borrowers failing

to comply with approval conditions and, social and economic problems. The approval

conditions could be like direct deduction of the salary or even avoid over commitments by

taking additional loans or outside loans, which customers take. It is also seen and

concluded that after few deductions of the salary, for repayment they tend to stop the

deductions. Thereafter, other factors included dishonesty of customers; customers had

genuine problems, and funds were not utilized for the intended purpose of the loan.

For the Review, as mentioned in the earlier chapter on the aggregate level, the most

contributing factors were- failing to receive financials, failure to review of accounts,

negligence of the staff, failure to take immediate series of recovery action, failure to

restructure the accounts and failure to administer release of funds. In addition, it is also

concluded that system issues had problems of rightfully calculating those arrears and

default cases. In addition, the other factors that caused problem loans during the Review

process were dishonesty of the customers, legal implications, ignoring negative credit

references and poor economic conditions. The factors that would not have directly or

indirectly contributed, according to the interview process, were dishonesty of the HAF

staff and failing to inspect the properties. It could be demonstrated whereby 60 per cent of

the defaulting customers were supposed to make arrangements that they failed to do so. It

130

can be also concluded that whilst there is very supportive and strong training platform

provided, staff are not that keen to take up the studies that would improve the

productivity.

For the tone at the top to be focused from the Board perceptive, it can be concluded that

corporate governance of the institution needs to be enhanced with proper controls, risk

management and reporting, benchmarking to international standards, similar to the banks

that can be fostered by the Ministry of Public Enterprise and it is understood that the

ministry is working towards such framework. Some of the elements of the framework

should include but not limited to:

a. Corporate Governance Policy;

b. Board and Chairman appointments;

c. Fit and Proper Requirements;

d. Powers, Duties and Responsibilities of the Board of Directors

e. Board and Sub-Committee Charter with annual reviews;

f. Reporting structure and Reporting Guidelines;

g. Code of Conduct;

h. Conflict of Interest and Process of Handling Conflict of Interest;

i. Board Performance Evaluation and Compensation;

j. Risk Management and Audit guidelines;

k. Conduct of Meetings, Minutes and Board Papers; and

l. Whistle Blower process, Protection and Investigation process.

The above are quite important for the good governance of the institution, which would

bring up proper accountability and responsibility and through findings, as expanded in

Discussion, such things are lacking at HAF, which the board accountability needs to be

more robust.

The part of the conclusion, correlating to the findings and the results is the improvements

on the policy environment of HAF. It is to be noted , as explained earlier on that Housing

Act under which, HAF operates needs changes for the HAF to operate effectively and in

the main, the board should look at the commercial focus of the operation and a possibility

131

of the deposit taking mechanisms as a way of reducing the borrowing costs. For the

deposit taking platform, there could be some strong measures and prudential guidelines set

up with the comfort of a government guarantee and perhaps, oversight by RBF, apart from

the current ministerial reporting system. The commercial arm needs to be operated in self-

sustainable manner compared to the current structure in which sustainability of focusing s

lower income against the government guarantee and subsidy. The policy has gaps which

results in non-performance of HAF as whole. It is also concluded that there is lack of

business development as analysis programs as during the study period it was found that

HAF has no major research and development section that should carry out some of the

key functions, looking at continuous improvements of products and services together with

the policies as reveled through the results and articulated in the Discussion. As per the

current guidelines, HAF looks at the housing needs of the people who have household

income from $16,500 to a maximum of $50,000. Previously those over $50,000 would

require ministerial approval and this is one of the points that the Authority needs to

consider while making some of the amendments to the Act, as lower sections of the

salary/wage bracket are more vulnerable to income disparities and fluctuations. This is

quite clear from results showing that most of the sample customers (40 per cent) had

encountered problems in the recent six months for reasons as family commitment and

reduction in pay or even job losses that affected the debt serviceability.

The findings also reveal that policy needs to be flexible too for commitments and

innovations as it takes into consideration of the latest innovations in the financial systems

of Fiji with introduction of debit and credit cards, which have contributed towards the

problem loans, as mentioned in the findings. This aspect should be thoroughly assessed

with the financial position of the debtors or the potential applicants. It is concluded that at

times, it is beyond the control of the officers to get correct information; as the customers

could be asymmetric, withholding the total commitments, whilst salary slips and bank

statements are sighted. At times after taking the housing loans from the Authority, the

debtors are influenced by “no deposit” marketing strategies of hire purchase dealers, or

imprudently use credit cards, which result in higher commitment and face difficulties in

payments of the debts. Eventually, HAF ends up paying those debts under the Personal

Loans and restructures the financial position of the customers to preclude over

132

commitments and eases the repayments, therefore perhaps for the low income earners,

financial literacy programs may be important too.

In addition, it appears that there is no proper strategies set out for the Credit Risk

Management. The board and management must understand and control the HAF’s risk

profile and its credit culture. To accomplish this, they must have a thorough knowledge of

the portfolio’s composition and its inherent risks. They must understand the portfolio’s

product mix, industry and geographic concentrations, average risk ratings, and other

aggregate characteristics. They must be sure that the policies, processes, and practices

implemented to control the risks of individual loans and portfolio segments are sound and

that lending personnel adhere to them. These are some of the key aspects of the credit

process and standards that are missing and that could be embedded in formation of the

board credit sub-committee, as mentioned through the findings. It is also concluded that

there is lack of compliance and quality checks of the loans approved. The compliance as

mentioned earlier function is essence of maintaining the quality of the credit. It should

occur prior to issue of the loan agreement which should be prepared by a separate unit

compared to Approvals, perhaps the Legal Department; it should pass to Compliance to

check if the approvals were within the proper policies and guidelines. After that the loan

agreement should be prepared and with acceptance of the agreement compliance should

be completed, prior to disbursements and it appears without checking the compliance,

loan agreements are issued and on execution funds in few instances released.

On the basis of the research, the following conclusions can be summarized as follows:

a. The increase of Non Performing Loan (NPL) has a significant impact on the

profitability and sustainability of the Authority;

b. The increase of Non Performing Loan(NPL) has a significant impact on the

reputation and image of Authority too;

c. HAF continues to get State support but should contemplate strategic reform

programs starting from the Regulations and Acts, and lessons learnt from past

performance should avoid repetition of such delinquency;

d. The increase of Non Performing Loan (NPL) contributes to the lack of market and

133

financial discipline that bridges the gaps between the rich and the poor;

e. The increase of Non Performing Loan (NPL) contributes to social and economic

problems; and

f. Therefore, causes of problem loans in the housing finance sector are beyond just

exogenous and endogenous factors.

The next and final chapter makes appropriate recommendations based on the results,

discussion and conclusions that could be taken for implementation where necessary, not

only by HAF but other institutions of similar operations and beyond.

134

9 RECOMMENDATIONS

The credit risk; as mentioned earlier, arises from the potential that an obligor is either

unwilling to perform on an obligation or its ability to perform such obligation is impaired,

resulting in economic loss to the institution. Therefore, losses may result from reduction in

portfolio value due to actual or perceived deterioration in credit quality. These further

results in direct accounting loss, therefore credit risk should be viewed beyond

endogenous and exogenous factors with recent dynamics that have proven that the 6Cs are

no longer the prime factors of assessments. Consequently, it should be contemplated in the

context of economic exposures. This encompasses opportunity costs, transaction costs and

expenses associated with a non-performing asset over and above the accounting loss. It

can be further sub-categorized on the basis of reasons and aging of default in terms of the

risk classification as Standard, Special Mention, Substandard, Doubtful and Loss. It is

essential that causes of such defaults or credit risk are adequately identified and

appropriate actions taken. The credit risk does not necessarily occurs in isolation and it

may interrelate to other risks like liquidity risk, reputation risk interest rate risk, and

market risk.

Following the study, some of the recommendations made are as follow:

I. Regulations and Policies

1. The State should look at a National Housing Policy framework and the

strategies for affordable housing scheme with adequate consultation and

discussion with all stakeholders including the policy makers, international

institutional agencies, developers, utility service providers, financers,

consumer protection advocates, land owing units like NLTB, Lands

Department etc, non-government organization and private sector merchants.

2. It may be appropriate that a Task Force be formed for the housing policy

formulation and implementation.

135

3. The State should look at some sort of collaboration with international

institutional agencies for technical assistance and grants such as the Asian

Development Bank, the World Bank At the same time it is noted that access to

such assistance may be restricted and have taken note of the EXIM Bank loan

and Waila City Project plans for HAF.

4. The State should look at the option of funding with more markets instruments,

as that would support HAF for cheaper sources in the long term avoiding its

Balance Sheet mismatch or even direct access of funding from RBF.

5. The surveillance of prices and controls on hardware items is noted with

appreciation and the enhancement of this with adequate controls and checks.

6. The Government Supplies should also improve on the sale of hardware items

in promoting housing ownership programs with proper controls and checks, or

there should even be public–private-partnership for homeownership programs.

7. The policy should also look at review of the Housing Act 1955 under which

HAF is established. The review should include other related acts and statutory

requirements that support the housing ownership and credit granting process

such as Consumer Credit Act, Banking Act, Reserve Bank of Fiji Act, Stamp

Duty Act and Land Transfer Acts.

8. It may be prudent, if RBF can extend its supervision and oversight function on

HAF operations so that the Authority’s policies and processes are in line with

some of the best international standards.

9. With the guidance of RBF, HAF should plan to get a deposit license and look

at operating partly on a commercial basis for its self -sustainability as one part

of the unit and this should catered through review of the Housing Act.

136

10. The other part of the HAF should remain as a social unit with low

administration costs and the break even approach so that the institution’s core

function and existence, the looking after of low to moderate income earners is

not eroded.

11. Such retention of the social unit would mean that if the Public Rental Board

has to merge, then it should amalgamate with social unit of HAF.

12. There should be appropriate insurance schemes for the default coverage and to

cover unemployment status, apart from the current general, health and

mortgage protection covers.

13. For the insurance scheme, HAF should look at getting an approved agency

license as a form of other income stream.

14. The Authority can be competitive but it must ensure that the policies and

guidelines are not breached and that policies are reviewed in order to be

competitive, with appropriate approved credit culture observed in the credit

chain.

15. To be responsive to weak economic conditions, the Authority may have certain

policies to accommodate the requests of the debtors when job losses occur

under the provision of hardship and social obligations together with built-in

insurance.

16. All HAF Credit policies of loan assessment, reviews, collections and

provisioning should be reviewed accordingly and periodically.

137

II. Enhancement of Governance Framework

17. The Ministry of Public Enterprise should provide a lead role for performance

evaluation of the Authority, with some disciplinary and change management

approaches.

18. The board and senior management must have effective formulation and

implementation of strategic plans, with adequate monitoring and controls such

as Vision, Mission Statement, Aims and Objectives fully embedded at all levels

of the Authority.

19. The board appointment, compositions, appraisal and remuneration should be

enhanced within an appropriate governance framework.

20. In terms of the best practices of the governance framework, the core functions

should each have a special board sub-committee. There should be a Credit

Board Sub-Committee. Finance, Human Resource and Land Development

Housing and Squatter Resettlement could be consolidated as Housing, Finance

and Administration Board Sub-Committee and a totally independent Risk

Management and Audit Board Sub-Committee to be considered.

21. The governance of the institution should be enhanced with proper Corporate

Governance Policies and Guidelines with Code of Conduct, Fit and Proper

requirements, with provisions of a whistleblower.

22. For the credit risk, it is the overall responsibility of Board of Directors to

approve credit risk strategy and significant policies relating to credit risk and

its administration and management functions, which should be based on the

overall business strategy, based on the credit information.

III. Enhancements of Principles of Credit Management

23. The Board of Directors should consider the following as Principles of Credit

138

Management articulated by the Bank of International Settlements:

a. Statement of the HAF’s willingness to grant credit based on exposure type

(for example, commercial, consumer, real estate), economic sector,

geographical location, currency, maturity and anticipated profitability;

b. This might also include the identification of target markets and the overall

characteristics that HAF would want to achieve in its credit portfolio

(including levels of diversification and concentration tolerances);

c. The credit risk strategy should give recognition to the goals of credit

quality, earnings and growth;

d. HAF needs to recognize that business to be profitable and, consequently,

must determine the acceptable risk/reward trade-off for its activities,

factoring in the cost of capital and desired return to the stakeholder;

e. The risk and returns should be supplemented pricing and sensitivity

analysis of those credit outside low guidelines at different pricing and fee

structure;

f. The Board of Directors should approve the strategy for selecting risks

and making profits, based on a past history, economic environment and

the projections provided;

g. The Board should periodically review the financial results and on the basis of this

review the results, determine if changes need to be made to the strategy;

h. The Board must also determine that the HAF’s capital level, funding

positions and margins are adequate for the risks assumed throughout the

entire organization, inclusive of other income streams of land rentals and

land development;

i. The strategy will need to take into account the cyclical aspects of any

139

economy and the resulting shifts in the composition and quality of the

overall credit portfolio and its impact on the low income earners;

j. This basically means that the policies need to change to adjust to the

micro economic environment;

k. Although the strategy should be assessed and amended periodically, it

should be viable in the long run and through various economic cycles;

l. The credit risk strategy and policies should be effectively communicated

throughout the organization and all re levant personnel should c lear ly

understand the HAF’s approach to granting, managing and enforcing

credit;

m. They should be held accountable for either complying or not complying

with established policies and procedures; and

n. The board should ensure that senior management is fully capable of

managing the credit activities conducted by HAF and that those activities

are done within the risk strategy, policies and tolerance limits approved by

the board.

IV. Audit ,Compliance and Risk Management

24. The audit and compliance should be enhanced to improve the credit culture

with an independent audit section to look at the management of the audit.

25. The internal audit should have competent staff that is fully aware of the loan

policies and guidelines.

26. The audit unit should report direct to the Risk and Audit Sub-Committee.

140

27. Accounts should be regularly reviewed and if the files are kept at the branches

and monthly reports to be sent to Head Office or alternatively the Head Office

should have a separate review team to review the accounts.

28. Dishonesty and asymmetric information seem to be beyond control; however,

all the proposals to be thoroughly assessed. For this purpose, the staff should

have adequate training in loan analysis and assessment.

29. A Compliance Unit should be set up to look at the standards and compliance

prior to funding and after funding.

30. The reporting line should be direct to the higher authorities, which may include

even the Board.

31. The Authority should establish Enterprise Risk Management with other action

plans as:

a. Training and Awareness programs;

b. Spot checks to form part of the monitoring tool that ensures all the

divisions are focused and recognize the importance of risk management;

c. An in–house audit framework (with emphasis to high risk areas) to be

drawn up and approved by the Board Risk Sub-Committee and progress

reported through monthly meetings;

d. A Risk Management Audit & Compliance Board Sub-Committee Charter

to capture the risk management appetite and tolerance limits with more

responsibilities to the Board Sub- Committee;

e. Implementation of an integrated monthly reporting system to the Board

Sub- Committee;

141

f. Appointment of external and internal auditors through structured process

overseen by the Ministry of Public Enterprise and RBF;

g. A risk management philosophy drawn up and approved by the Board and

embedded in the operations of HAF;

h. Effective analysis, communication and monitoring of external and internal

audit findings with independent reporting to the Board should be

implemented; and

i. Ongoing in-house spot checks to be conducted to ensure effective

implementation of the management responses on audit findings.

V. Human Resource Strategy

32. A Human Resource Management Strategy should be formulated in such a way

that as to support HAF’s strategy with the right people for the right job.

33. There should adequate training and development programs that may put

compulsory formal qualification and or performance indicators that 75% of the

work force on an annualized basis attended training.

34. There has to be timely recognition and rewards for the top performers, together

with a discipline framework.

35. Overall HAF needs to undergo a cultural change, making it more focused on

commercial acumen.

VI. Improvements of the Management Information System

36. The management information systems should be geared to support the

authority and credit strategies with correct data integration, supply and

142

reporting, including loan balances, grading, interest rates, arrears amount,

arrears portfolio, aging, arrears history and provisions for commentary.

37. The Authority should also consider periodic stress testing programs of credit

risk management portfolios, perhaps every six months with appropriate

software modeling.

38. There should be a proper product development unit, which should encompass

research and development and have apposite review and marketing plans with

a good marketing mix for repositioning of HAF.

39. The credit management data input and verification functions should be

separated so that there is control of those managing and those supervising.

40. Files records and management of customer files should be enhanced with most

records kept on the systems, working towards paper reduction and saving

environment.

The recommendations categorized are quite practical and achievable, and prepared on the

basis of the current challenges and predicaments of HAF. These recommendations are also

documented on the basis of the experience and the industry knowledge of the researcher,

who has more than 26 years of Fiji’s financial sector industry experience with various

projects and assignments taken during the course of profession, including a period of

employment at HAF. He has put in the recommendations of the risk management

framework of which he took charge at Home Finance Company (HFC), an institution

similar in operation to HAF. The researcher was extensively involved in implementation

of the Enterprise Risk Management and Governance framework. The researcher’s

appointment as HFC’s Company Secretary, Member of the FNPF Board Audit & Risk

Management Committee and the Chairman of the Maritime Safety Authority of Fiji has

enhanced the knowledge on corporate governance and institutional protocols for effective

management.

143

Finally, there is a need for a dramatically more fundamental overhaul of the entire

National Housing Policy Program for moderate to low income earners, with a robust

internal institutional policy to preclude any systemic risk to the institutions as mentioned

in the last chapter. These recommendations would be worthwhile and possible only, if

there is a will and commitment from the tone at the top for the change which needs to

happen in the best interest of meeting the housing need of Fiji.

144

10 REFERENCES

ASX Corporate Governance Council, 2003, Principles of Good Corporate Governance

and Best Practice Recommendation, Sydney, Australian Stock Exchange

Baker, D. 2007, Strategic Change Management in Public Sector Organization, Chandos

Publishing, Oxford.

Barbara, Y.P and Eddie, C.M 2002, “Option Pricing for real estate development: Hong

Kong Disney Land” in Journal of Property Investment & Finance, Vol.20 No.6-474.

Basle Committee on Banking Supervision guidelines, 2010 “Principles for Enhancing

Corporate Governance”, Bank for International Settlements Communications CH-4002

Basel, Switzerland.

Berger, Allen N. & DeYoung, Robert, 1997. "Problem loans and cost efficiency in

commercial banks," Journal of Banking & Finance, Elsevier, vol. 21(6), pages 849-870,

June.

Bessis, J., 2002, Risk Management in Banking, John Wiley & Sons, New York

Bhattacharya, H., 1998, Banking Strategy, Credit Appraisal and Lending Decisions,

Oxford University, Calcutta

Blanchard O, Caruana J, and Moghadam R, 2009 “International Monetary Fund Initial

Lessons of the Crisis”

Brueggeman, W.B and Jefferey D. Fisher, 1997: Real Estate and Investments, Irwin,

McGraw-Hill Boston.

Burns, J., 2002, Retail Credit Risk Modeling and the Basle Capital Accord http//

www.phil.frb.org/pcc/workshop/workshop6.pdf.Janauary.

145

Bush, C.M., 1996, Creating Efficient Banking System, Theory and Evidence from Eastern

Europe, J.C. Mohr, Tubingen.

Cade, E., 1999, Managing Banking Risk, Glenlake Publishing, Ltd, Chicago.

Cadbury, A., 2002, Corporate Governance and Chairmanship: A Personal View. New

York, Oxford University Press.

Campbell, C., and Brian Underdown, 1991 Corporate Insolvency in Practice, An

Analytical Approach, Paul Chapman Publishing, London.

Cauettee, J.B., Edward I. Altman and Paul Narayanan, 1998, Managing Credit Risk, John

Wiley, New York.

Claessens S., Ariccia G., Igan D., and Laeven L, 2010 “International Monetary Fund

WP/10/44 IMF Working Paper- Lessons and Policy Implications from the Global

Financial Crisis.”

Das, A., and S. Ghosh (2003), Determinants of Credit Risk�, paper presented at the

Conference on Money, Risk and Investment held at Nottingham Trent University in

November 2003.

‘Effects of Loans Write- Offs on Employments” 2001:// www.

Jil.go.jp./bulletion/year/2001/vol/40-09/01htm.

Essinger, J., 1999, The Virtual Banking Revolution, the customer, the bank and the future,

International Thomas Press, London.

Fay,S., 1997 , The Collapse of the Barings, W.W. Norton, New York.

Harper, J., 2005, Chairing the Board: a Practical Guide to Activities & Responsibilities.,

Kogan Page, London.

146

Hempel, G. H and Simonson 1999, Bank Management, (5th Edition), John Wiley & Sons,

New York.

Heffernan,S. 1999, Modern Banking in Theory and Practice, John Wiley & Sons,

Chichester.

Healey, J., 2003, Corporate Governance and Wealth Creation in New Zealand Palmerston

North, Dunmore Press Ltd, New Zealand.

Fiji Sun 10 May.2003-6.

…….. 10 March 2011-5.

Fiji Times, 16 Mar., 2003-7.

Gonzalez, G. M. 2005, Building Sustainable Housing Finance Markets: Proceedings of

The Housing Finance Roundtable in the Andean Region.

http://www.allbusiness.com/personal-finance/real-estate/1112765-1.html.

Grynberg, R., Doug Murno and Michael White, 2002, Crisis Collapse of the National

Bank of Fiji, Crawford House Publishing, Adelaide.

http: //aspin.asu.edu/hpn/ archives/Jul98/0042.html.

http://en.wikipedia.org/wiki/subprime_mortgage_crisis#_note.

http://ideas.repec.org/p/wop/pennin/96-01.html.

http://in .biz.yahoo.com./021227/26/1zj9v.html.

http:// www.Boj.or.jp/en/ronburn/sinyo.htm.

http://www.our civilisation.com/sign/sign/chap7.htm #Sign.

147

http://www.financewise.com/pulic/edit/riskm/credit/cre-models.htm.

http://pidp .eastwestcenter.org/pireport/2003/March/03-07-11 htm.

http://www.fhfb.gov/FHLB/FHLBPS index .htm.

http:// www ilo.org/public/english/region/asron/mdtmanila/training/unit2/ fijip ovt.htm#

poverty.

http://www.ilo…………………………………………………………………

http://www.hawaii.edu/powerkills/UFA.HTM.

http:// www.nlihc.org/press/pr030503.html.

http:// www.unescap.org/huset/pacific/pacific2.htm.

Japan Research Institute, Limited, 1999, The Japanese Economy in 1999, Escaping the

Worst Crisis of Postwar

http//:www.jri.co./JRQ/overview/1999/19901/JRQ199901prospect.html.

Jordan, S. J, “Problem Loans at New England Banks, 1989 to 1992: Evidence of

Aggressive Loan Policies”, New England Economic Review, 1998, np.

Kaufman, G.G, 1995, Bank Failures, Systemic Risk and Bank Regulation” Vol16 No1

http:// www .cato.org/pubs/journals/ cj16nl-3html.

Kidwell, D. S, Richard L. Peterson and David W. Blackwell, 2000 Financial Institution,

Markets and Money 7th Ed, Dryden Press, Forth Worth..

Kiel, G. C. and G. J. Nicholson, 2003, Boards that Work: A New Guide for Directors, Mc-

Graw Hill Australia.

148

Kirkpatric G, “Corporate Governance Lessons from Financial Crisis 2009” OECD

Steering Committee Vol. 2009/1.

Koch, T.W and S. Scott Mac Donald, 2000, Bank Management, Dryden Press, Forth

Worth.

Kotler, P and Gray Armstrong, 2001, Principles of Marketing 9th Ed, Prentice- Hall, Inc

New Jersey

McTaggart, D., Christopher Findlay and Michael Parkin, 2001, Economics, Pearson, NSW

Muniappan, G, (2002), “The NPA Overhang, Magnitude, Solutions and Legal reforms”

Reserve Bank of India

Naes R., Skjeltorp J A and Degaard, 2011, “Stock Market Liquidity and Business Cycle”,

The Journal of Finance Vol 66 No1 pp 174

Pearson Jr. R.V and Greeff M., 2006, Causes of Default Among Micro Housing Loan

Client, Siana Strategic Advisors (Pty) Ltd and Michael Greeff Business Consulting ,

Johannesburg.

Petersen, M.A and Rajan, R.G 2002 “The Information Revolution in Small Business

Lending”, the Journal of Finance, Vol 4 No 3 pp 2557-2568

Riggert, E.,1999, “Home Loan Defaulters up despite Low Rates” Courier Mail 2 Dec,

1999 http://www.ourcivilsation.com./decline/jobs/homeloan

Review, July 1995.

Robbins, S.P., Judge, T.A., Millett, B. and Marsh, T.W. 2008, Organizational Behaviour,

5th Ed, Pearson Education Australia, Australia.

149

Robson, C. 2000, Real World Research, Blackwell, Oxford.

Sanger ,D. E,1998 “ Japan’s Bad Debts Is Now Estimate Near $1 trillion,” New York

Times , 30 Jul http;// wwwmtholoke.educ/acad/intrel/japdebt.htm

Santiago, F.L, Jorge Martinez Pages and Jesus Saurian, 2002 “Credit Growth, Problem

Loans and Credit Risk Provisioning in SPAIN” http:// www.beds.es/doctrab/doc/ dt/0018

October

Schiopa T.P., 2000 “Competition among Banks: good or bad” dinner speech at the centre

for Financial Studies –CFS Frankfurt” http://www.ecb. Int/key/00/sp000407.htm:7 April

Sheng, A., 1996, Bank Restructuring Lesson from the 1980s, World Bank, Washington

Sinkey, J. F. Jr., 1998, Commercial Bank Financial Management, 5th Ed, Prentice Hall

New Jersey

Stone, R. J., 2008, Managing Human Resource 2nd Ed, John Wiley, Queensland

Sureshchandar G.S, Rajendra Chandrasekharan and R.N. Anantharaman, 2002

“Determinants of customer-perceived service quality: a confirmatory factor analysis

approach” Journal of Service Marketing, Vol 16 No 1 pp 9-34

Taylor, B., 2003, “Board leadership: balancing entrepreneurship and strategy with

accountability and control." Corporate Governance 3, 2: 3-5.

Truman E. M, 2009, “The Global Financial Crisis: Lessons Learned and Challenges for

Developing Countries”, Peterson Institute for International Economics

William Margrabe Group Inc., 2002 Credit Risk Management, http// Credit Risk, ht.

March.

150

11 APPENDIXES

11.1 List of Mortgage Sales

No. AccountNo. Name HA

Balance($) FNPF ($) Market Value ($)

Arrears($)

SpecificProvision

($) Occupancy

1. 357421

Name

s of th

e cus

tomer

s with

held

due t

o cus

tomer

confi

denti

ality

.

$37,643.41 $25,000.00 $13,502.22 $5,532.56 Sublet

2. 371114 $23,593.91 $3,745.00 $24,000.00 $6,246.03 Owner

3. 387932 $9,242.93 $12,700.00 $4,184.38 Vacant Lot

4. 447382 $35,75.09 $4,822.00 $28,000.00 $2,738.00 Vandalised

5. 410357 $51,758.65 $2,858.00 $37,000.00 $17,166.80 Sublet

6. 424994 $26,850.60 $4,632.29 $25,000.00 $4,632.29 Owner

7. 354783 $33,273.13 $25,000.00 $8,492.44 $10,386.72 Sublet

8. 361275 $66,863.52 $47,000.00 $6,748.71 $27,548.91 Owner

9. 390879 $23,450.36 $7,433.00 $24,500.00 $3,847.22 Vandalised

10. 189022 $22,844.91 $24,800.00 $7,287.38 Owner

11. 426571 $24,984.49 $3,980.00 $30,000.00 $5,090.83 Sublet

12. 333158 $22,238.46 $24,000.00 $4,336.56 Sublet

13. 330302 $54,794.42 $19,624.00 $57,000.00 $13,998.24 Sublet

14. 430242 $31,190.86 $12,300.00 $3,511.20 Sublet

15. 319864 $15,021.14 $4,852.00 $13,000.00 $7,183.64 Sublet

16. 115460 $50,912.67 $80,000.00 $11,560.46 Sublet

17. 152455 $7,031.02 $4,991.00 $21,500.00 $2,346.22 Family

18. 377112 $25,240.34 $3,790.00 $22,800.00 $2,921.13 Vandalised

19. 477214 $43,870.51 $27,000.00 $9,812.40 Vandalised

151

11.2 Customer Questionnaire

This research is part of an academic project for one of the Banking & Finance unit at Post Graduate level

at University of the South Pacific, and researcher is the student of the said unit. The research is carried out

on Housing Authority of Fiji .The objective of this research is to find out the factors that affect in housing

loan losses. You have been selected as one of the respondents to provide answers to the questions below.

All the answers will be treated confidentially and will be used for academic purpose only.

1. Your age in years (optional)

A under 25 B 25- 35 C 35-45 D 35-45 E 45-55 F 55 +

2 Your gender � male � Female

3. Your ethnicity

A Fijian B Indo- Fijian C Chinese D Others

4. Your monthly income $………

A $400- $600 B$600-800 C$800-$1000 D $1000-$1200 E $1200-$1400

5. Residential status

A Citizen B Permanent Resident C others

6 Employment status:

A Casual B Part-time C Fulltime D Unemployed E Student

7. Residential area

A City/ Town B Urban C Sub-urban D Rural

8. Your housing loan financier previously was

A ANZ B BOB C CNB D Habib E Wesptac

F Others (specify)…………………………….

9. Your Current housing loan balance $…………. (Optional)

152

10. Residential type

A Staying in the institution indebted house B flatting C with the relatives

D other unencumbered property

11 What is your monthly repayment to the institution ? $……

12. How much of your equity was required to raise the loan in terms of the %?

A 10-20 % B 20-30% C30-40% D40-50% E Over 50%

13. Is the house in the joint name?

Yes/ NO

If yes, relationship with the joint owner…………………….

14. Joint owner’s monthly income $…….

15. Total monthly commitments $………. (Commitment Ratio.)

16. After the housing loan other commitments that have incurred

$…………… Monthly Rep$……………….

17. The mode of repayment has been

A direct from the employer B the cash payment C From the institution D other Means

18. How were you able to get the loan from the Authority?

A During the Authority’s advertising program B known to any of the staff

C introduced by an influential personnel D You approached the Authority direct

19. The form of equity was:

A FNPF sum B FNPF + CASH C CASH D ANOTHER REAL ESTATE

153

21. Are you aware that any time the institution has reviewed your account or called you for the

discussion in regards to the account?

………………………………………………………………………………………………………

22. How many times in the last six months you have failed to meet your repayment on time?

A 1 time B 2 times C 3times D 4times

E more than 4 times

22. What were the reasons for you not meeting your repayment on time?

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

23. What actions and when the Authority had taken for the arrears?

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

24. Is the account in order now or still in arrears?

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

…………………………………………………………………………………………………

………………………………

25. How was the account regularised / if it has been?

…………………………………………………………………………………………………

…………………………………………………………………………………………………

Thank you very much for your responses!

154

Raj Sharma -9275818

11.3 Management Questionnaire

This research is part of an academic project for one of the Banking & Finance unit at Post Graduate level

at University of the South Pacific and researcher is the student of the said unit. The research is carried out on

Housing Authority of Fiji .The objective of this research is to find out the factors that affect in housing

loan losses. You have been selected as one of the managers to provide answers to the questions below. All

the answers will be treated confidentially and will be used for academic purpose only.

1. The current trend of the housing loan in your institution is

A increasing very fast B increasing C decreasing D constant

2. The provision of the loan losses in housing loans for the last 3 years has been:

A increasing very fast B increasing C decreasing D constant

3. Current status of your problem housing loans to the ratio of total housing loan would be:

A < 2% B between 2-4 % C 4-6 % D 6-8 % E over 8%

4. The highest to lowest problem loans in terms of ethnicity will be:

Fijian --------------

Indo – Fijian --------------

Others --------------

5. What would be the reasons for the above in (no 4)?

…………………………………………………………………………………………………

Any credit process includes three functions, which are business development and credit

analysis, credit execution and administration and credit review.

6. Which are the factors from highest to lowest that would or would have affected the loan losses

in your institution in case of business development & credit analysis in the recent years?

No 1 indicates highest level of agreeing/disagreeing

155

AGREE DISAGREE

Lack of product development and loan policy 1 2 3 1 2 3

Latest innovation in the financial sector 1 2 3 1 2 3

Weak economic conditions 1 2 3 1 2 3

Competition with other lenders 1 2 3 1 2 3

Poor analysis of the proposal 1 2 3 1 2 3

Borrower failing to provide correct details 1 2 3 1 2 3

Overvalued collaterals 1 2 3 1 2 3

Cross selling of the products 1 2 3 1 2 3

Marketing targets / failing in quality lending

focusing on quantity 1 2 3 1 2 3

Personal interest of the officers 1 2 3 1 2 3

Lack of staff competency and skills. 1 2 3 1 2 3

Influenced by an outsider 1 2 3 1 2 3

Decision overruled by superiors 1 2 3 1 2 3

7. Factors that would affect during credit execution and administration

Failing to follow loan policy. 1 2 3 1 2 3

Releasing of funds before the collaterals is perfected. 1 2 3 1 2 3

Failing in timely review of the account. 1 2 3 1 2 3

Borrower failing to comply with the approval conditions . 1 2 3 1 2 3

Financial innovations, which results with over

Commitments of the borrower after approval. 1 2 3 1 2 3

Dishonesty of the debtor in meeting repayment. 1 2 3 1 2 3

Customer had genuine problems 1 2 3 1 2 3

Officer’s own interest and frauds. 1 2 3 1 2 3

No verification of the financials provided 1 2 3 1 2 3

Additional loans provided despite adverse records 1 2 3 1 2 3

Additional loans provided with no additional collaterals. 1 2 3 1 2 3

Funds not utilised as per the purpose 1 2 3 1 2 3

Political and legal factors 1 2 3 1 2 3

Social and economical factors 1 2 3 1 2 3

156

8. Factors that would affect the loan losses during the review

Failing to comply with the approval conditions 1 2 3 1 2 3

Failing to receive the latest financials 1 2 3 1 2 3

Dishonesty practice by the debtor 1 2 3 1 2 3

Dishonesty practice by the officers of the institution 1 2 3 1 2 3

Negligence by the institution staff 1 2 3 1 2 3

Failing to inspect the property. 1 2 3 1 2 3

Failing to review the account on timely manner. 1 2 3 1 2 3

Failure to take immediate series of recovery actions 1 2 3 1 2 3

Failure to restructure the loan despite debtor’s request . 1 2 3 1 2 3

Failure to administer the release of the funds 1 2 3 1 2 3

Failure to ignore the negative credit references 1 2 3 1 2 3

Legal complications 1 2 3 1 2 3

Failure to call up the debt 1 2 3 1 2 3

Poor economic conditions- affected the disposal of the property 1 2 3 1 2 3

9. What steps you intend to take to minimise the loan losses in general with the current

resources?

………………………………………………………………………………………………………

………………………………………………………………………………………………………

10. How safe is the housing loan market in terms of credit risk together with other associated

risks?

………………………………………………………………………………………………………

………………………………………………………………………………………………………

Thank you very much for your responses!

Raj Sharma ph 9275818

157

11.4 Staff Questionnaire

This research is part of an academic project for one of the Banking g & Finance unit at Post Graduate

level at University of the South Pacific, and researcher is the student of the said unit. The research is carried

out on Housing Authority of Fiji .The objective of this research is to find out the factors that affect in

housing loan losses. You have been selected as one of the lending staffs to provide answers to the questions

below. All the answers will be treated confidentially and will be used for academic purpose only.

1. For how long you have been working in the loans section of the institution ?

A 0-5 yrs B 5-10 yrs C 10-15 yrs D over 15yr

2. Your satisfaction with the training provide in the institution in regards to the loan appraisals?

A Delighted B Satisfied C Neutral D Unsatisfied

3. What initiative have you taken to train your self?

………………………………………………………………………………………………………

………………………………………………………………………………………………………

4. Your academic qualification level:

A Secondary B Diploma C Graduate D Post –graduate

Any credit process includes three functions, which are business development and credit

analysis, credit execution and administration and credit review.

5. Which are the factors from highest to lowest that would or would have affected the loan losses

in your institution in case of business development & credit analysis in the recent years?

No 1 indicates highest level of agreeing/disagreeing

158

AGREE DISAGREE (-)

Lack of product development and loan policy 1 2 3 1 2 3

Latest innovation in the financial sector 1 2 3 1 2 3

Weak economic conditions 1 2 3 1 2 3

Competition with other lenders 1 2 3 1 2 3

Poor analysis of the proposal 1 2 3 1 2 3

Borrower failing to provide correct details 1 2 3 1 2 3

Overvalued collaterals 1 2 3 1 2 3

Cross selling of the products 1 2 3 1 2 3

Marketing targets / failing in quality lending

focusing on quantity 1 2 3 1 2 3

Personal interest of the officers 1 2 3 1 2 3

Lack of staff competency and skills. 1 2 3 1 2 3

Influenced by an outsider 1 2 3 1 2 3

Decision overruled by superiors 1 2 3 1 2 3

6. Factors that would affect during credit execution and administration

Failing to follow loan policy. 1 2 3 1 2 3

Releasing of funds before the collaterals is perfected. 1 2 3 1 2 3

Failing in timely review of the account. 1 2 3 1 2 3

Borrower failing to comply with the approval conditions . 1 2 3 1 2 3

Financial innovations, which results with over

Commitments of the borrower after approval. 1 2 3 1 2 3

Dishonesty of the debtor in meeting repayment. 1 2 3 1 2 3

Customer had genuine problems 1 2 3 1 2 3

Officer’s own interest and frauds. 1 2 3 1 2 3

No verification of the financials provided 1 2 3 1 2 3

Additional loans provided despite adverse records 1 2 3 1 2 3

Additional loans provided with inadequate collaterals. 1 2 3 1 2 3

Funds not utilised as per the purpose 1 2 3 1 2 3

Political and legal factors 1 2 3 1 2 3

159

Social and economical factors 1 2 3 1 2 3

7. Factors that would affect the loan losses during the review

Failing to comply with the approval conditions 1 2 3 1 2 3

Failing to receive the latest financials 1 2 3 1 2 3

Dishonesty practice by the debtor 1 2 3 1 2 3

Dishonesty practice by the officers of the institution 1 2 3 1 2 3

Negligence by the institution staff 1 2 3 1 2 3

Failing to inspect the property. 1 2 3 1 2 3

Failing to review the account on timely manner. 1 2 3 1 2 3

Failure to take immediate series of recovery actions 1 2 3 1 2 3

Failure to restructure the loan despite debtor’s request. 1 2 3 1 2 3

Failure to administer the release of the funds 1 2 3 1 2 3

Failure to ignore the negative credit references 1 2 3 1 2 3

Legal complications 1 2 3 1 2 3

Failure to call up the debt 1 2 3 1 2 3

Poor economic conditions- affected the disposal of the property 1 2 3 1 2 3

8. How often are you given training in terms of your service product?

A Weekly B Fortnightly C Monthly D as and when need arises

9. Does management take your views in the decision-making process and contribute towards the

policy formulation?

………………………………………………………………………………………………………

………………………………………………………………………………………………………

………………………………………………………………………………………………………

160

10. Your comments on the current appraisal systems in the institution

A Delighted B Satisfied C Neutral D Unsatisfied

11. Your comments about management –staff relationship that would affect the customer service

and the loan performance

A Delighted B Satisfied C Neutral D Unsatisfied

12. How can you as an employee minimise the loan losses?

………………………………………………………………………………………………………

………………………………………………………………………………………………………

13. How can the management minimise the loan losses?

………………………………………………………………………………………………………

………………………………………………………………………………………………………

Thank you very much for your responses!

RAJ SHARMA: 9275818

161

11.5 Factor Analysis of Causes of Problem loans

FACTORS HAF

MGT HAF

STAFF � MEAN

Business Development 17. Lack of product development and loan policy 1 2 3 1.5 18. Latest innovation in the financial sector 3 2 5 2.5 19. Weak economic conditions 3 3 6 3 20. Competition with other lenders 2 3 5 2.5 21. Poor analysis of the proposal 1 2 3 1.5 22. Borrower failing to provide correct details 3 2 5 2.5 23. Overvalued collaterals -3 -2 -5 -2.5 24. Cross selling of the products 1 3 4 2 25. Marketing targets / failing in quality lending

focusing on quantity 3 3

6 3 26. Personal interest of the officers -2 -1 -3 -1.5 27. Lack of staff competency and skills 3 -2 1 0.5 28. Influenced by outsiders 1 2 3 1.5

Credit Execution & Administration 29. Failing to follow loan policy. 1 2 3 1.5 30. Releasing of funds before the collaterals are

perfected 1 2

3 1.5 31. Failing in timely review of the account 2 3 5 2.5 32. Borrower failing to comply with the approval

conditions 2 2

4 2 33. Financial innovations, which results in over

commitments of the borrower after approval. 2 3

5 2.5 34. Dishonesty of the debtor in meeting repayment 1 2 3 1.5 35. Customer had genuine problems 1 2 3 1.5 36. Officer’s own interest and fraud. -3 -2 -5 -2.5 37. No verification of the financials provided 2 3 5 2.5 38. Additional loans provided despite adverse

records -2 2

0 0 39. Collaterals over valued -2 -2 -4 -2 40. Additional loans provided with inadequate

collaterals -3 -2

-5 -2.5 41. Political and legal factors 3 2 5 2.5 42. Funds not utilised as per the purpose 2 1 3 1.5 43. Social and economic factors 2 2 4 2

During Review 0 0 44. Failing to comply with the approval conditions 2 3 5 2.5 45. Failing to receive financials 3 3 6 3 46. Dishonest practice by the debtor 2 2 4 2 47. Dishonest practice by the officers of HA -2 -2 -4 -2 48. Negligence by the HA staff 3 2 5 2.5 49. Failing to inspect the property -2 -2 -4 -2

162

50. Failing to review the account in timely manner 3 3 6 3 51. Failure to take immediate series of recovery

actions 3 2

5 2.5 52. Failure to restructure the loan despite debtors’

request 2 3

5 2.5 53. Failure to administer the release of the funds 2 3 5 2.5 54. Failure to ignore the negative credit references 1 2 3 1.5 55. Legal complications 1 3 4 2 56. Failure to call up the debt 3 3 6 3

0 0 57. Poor economic conditions- affected the disposal

of the property 1 1

2 1 110 55 Average Weighted Factors 2.75 1.375

163

11.6 HA Loan Application Form

164

165

166

167

168

169

170

171

172

11.7 Credit Risk Management Framework

Role of Board and Management

Check�points� Specific�sample�questions�

The board of directors should have responsibility for approving and periodically (at least annually) reviewing the credit risk strategy

Are sound practices set out specifically addressed the corporate strategies and direction with long term sustainability?

(i) Establishing an appropriate credit risk environment; (ii) Operating under a sound credit- granting process; (iii) Maintaining an appropriate credit administration, measurement and monitoring process; and (iv) Ensuring adequate controls over credit risk

a. Management's awareness of credit risk control and the culture

Does the management have a clear policy on credit risk control and conduct lending operations prudently?

Are excessive loans, (i.e., those placing top priority on business expansion) eliminated by separating the credit administration function and business promotion function?

Does the management clearly understand that the institution and its subsidiaries are exposed to credit risk in both on- and off-balance sheet transactions?

Is there a clear policy and culture promoting asset quality?

Does the management fully recognize the significance of self-assessment, with frequency and reporting of such assessment, and ensure that the institution implements self-assessment adequately and reflects the results of the assessment in write-offs and provisioning?

To who is that reporting and assessment presented and what action plans are agreed?

Is the management aware of the importance of effectively utilizing the results of self-assessment in strengthening credit risk management?

Is the management aware of the need to control credit risk commensurate with the institution’s financial strength (i.e., capital) and liquidity strength?

173

2. Assets Quality Assessment and Calculation of the Amount of Write-Offs and Provisioning

Check points Specific sample questions

a. Criteria in self-assessment

Are the criteria appropriate?

Are the criteria for use in self-assessment officially instituted as internal rules approved by the Board? Are the criteria for use in self-assessment in accordance with the asset assessment policy provided by administrative or regulatory authorities? Does the institution have in place an operational/ policy manual for smooth and appropriate self-assessment? Are off-balance sheet transactions (commitments, contingent liabilities, etc.) also subject to self-assessment?

b. Organization for self-assessment

From the standpoint of adequate self-assessment, does the organization of the institution provide for a double-checking system and appointment of experienced staff or in-house audit/?

Are the departments conducting self-assessment and in charge of examinations based on the results of self-assessment clearly designated? Is there a level of independence? Does the institution have a double-checking system whereby a department independent from lending sections conducts self-assessment or examines the results when lending sections conduct self-assessment? Do the departments responsible for self-assessment and examination have experienced managers and staff? Are there appropriate training programs and guidance concerning self-assessment?

c. Adequacy and accuracy of self-assessment

Does the institution appropriately carry out self-assessment in line with the criteria for self-assessment and or the best practices?

Does the institution appropriately extract credit files subject to self-assessment (those listed in "line sheets") based on the criteria for self-assessment? Does the institution appropriately determine the borrower rating and loan classification taking collateral value into account, based on the criteria for self-assessment? Where self-assessment is inaccurate, does the institution identify the cause and apply the experience gained to improve it? Is there an appropriate self assessment software?

d. Reporting of self-assessment results to the management

Does the institution report the results of self-assessment to the management accurately and promptly?

Are the self-assessment results properly reported to the management? Are all relevant matters, such as problems in the implementation of the self-assessment system, appropriately reported to the management in order to improve it?

e. Appropriate calculation of the amount of write-offs and provisioning

Does the institution accurately calculate the amount of write-offs and provisioning based on the results of self-assessment? Is there any form of studies and benchmarks for this provisioning and or Impaired Assets?

Are the standards for write-offs and provisioning formally adopted in the internal rules after carrying out the necessary procedures such as obtaining the approval of the board of directors? Are the in-house standards for write-offs and provisioning in accordance with the policy of external auditors? Are the required amounts of write-offs and provisioning for individual credit files calculated based on self-assessment results and the write-off and provisioning rules? Are these rules based on the some standards and practices?

174

Does the institution file data for calculating the amount of bad debt reserves (i.e., charge-off ratio)? What are the reporting schemes?

3. Integrated Management Credit Risk

Check points Specific sample questions

a. Integrated risk management system

Does the management have in place a system for controlling credit risk on an integrated basis?

Does the institution regularly review whether there is a concentration of credit to a specific type of borrower (e.g., industry, company, or company group including its subsidiaries)? Is credit risk controlled on an integrated basis (domestic and overseas credit, on- and off-balance sheet transactions, securities held, the institution, and its subsidiaries)? Is credit risk on an integrated basis monitored regularly and reported to the management? Does the institution have in place a support system for measuring credit risk? Is the system able to capture correct arrears amounts, with correct aging and the interest rates? Is the system able to capture the arrears history Are credit risks inherent in new products and services recognized and examined by senior management beforehand? Does the institution study methods and try to establish a system for the quantitative measurement of credit risk with or without use of models?

b. Setting of credit limits and avoidance of credit concentration

Are credit limits set, and are these limits strictly monitored to avoid extension of excessive credit to a specific counterparty?

Is consideration given to the balance of loan portfolio by type of industry? In case of consumer loans, is there any correlation of industry employment? Does the institution avoid credit concentration by setting credit limits against a specific counterparty and company group concerned? Are there guidelines for the demographic limits of the credit extensions? Are credit limits set against credit risk exposures, including those arising from derivatives and securities transactions, commensurate with the institution’s financial strength? Are methods and models for measuring credit risk reviewed regularly?

c. Sophistication of management methods

Has the institution introduced and made use of a system which grades credits objectively and regularly reviews the grading ("loan grading and review system")?

Is there an objective standard for corporate rating based on quantitative and qualitative factors? Are ratings reviewed regularly? Does the institution set credit limits taking account of corporate ratings?

175

Is the number of bad loans on the part of highly rated clients nil or few? Are interest rates on loans set taking account of the loan grading? Is objective loan grading used in credit approval and follow-up monitoring?

d. Reporting system Does the institution have in place a system for accurately reporting results to the management based on a well-defined review policy?

Based on a well-defined review policy, is concentration of credit to a specific counterparty (e.g., industry and issuer) regularly (e.g., quarterly) reported to the board of directors? Are credit risk profiles and credit limit usage reported to the board of directors when necessary?

4. Loan Discipline Check points Specific sample questions

a. Authority of local credit officers

Does the head office assign the authority to approve credit to local/ branch credit officers appropriately?

Is the authority for credit approval assigned to local credit officers appropriately in line with management policy and business operations? Has the institution adopted a second checking system whereby the head office examines the loans approved by local credit officers? Are the lending activities centralized? What is the best approach for the credit granting process?

b. Credit administration by the head office

Does the credit Head Office carry out its screening functions fully and adequately check and monitor branches?

Do the credit officers instruct branches to conduct additional research and supplement loan criteria when necessary? Do the board of executive directors and credit review committee function effectively? What are the reporting lines and type of reporting? What are the authorities and limits of the Board?

c. Follow-up of lending conditions

Are the terms and conditions stipulated at the time of loan approval observed?

Does the institution rigorously manage loan terms and conditions by checking the books? Do internal audits check whether terms and conditions are being observed? Does the institution have in place a system to prevent loans not fulfilling conditions from being extended?

d. Violation of Loan discipline

Are there any violations of the internal credit administration systems?

Are there any cases of the ex post facto approval of loans, violation of credit approval authority, and related irregularities? Does the institution strictly manage repayment dates, and what is the incidence of delayed processing? Is the direct deduction of the repayment effectively processed?

e. Manuals Does the institution use manuals with checkpoints for credit evaluation to ensure that uniform credit approval criteria are employed throughout the institution?

Has the institution compiled manuals for credit evaluation and approval? Are the manuals adequately reviewed and revised?

176

5. Staff Training and Education

Check points Specific sample questions

a. Training and education for upgrading the level of credit officers

Does the institution seek to upgrade the level of credit officers throughout the organization?

Does the institution seek to enhance the level of credit officers through experience with daily business operations? Are training programs for lending operations conducted regularly for each staff level (e.g., lending staff and loan officers)? Has the institution introduced trainee programs such as the exchange of trainees between credit administration and business promotion departments? Does the institution have in place a sufficient training program for with approaches of job rotation, external courses etc. How effectively are the trainings are conducted? Is there post evaluation of the training? Is there a job switch between sales and credit so that the expectations of each department are fully understood?

B. Credit Administration

1. Credit Approval

Check points Specific Sample Questions

a. Credit analysis of firms and business proprietors

Does the institution sufficiently assess the borrower's credit standing?

Does the institution check the soundness of accounting policy and credibility of the financial statements or the Financial Position of borrowers? Does the institution analyze the financial condition of borrowers based on their financial statements and monitor their cash flow by means of cash flow charts? Does the institution have a clear understanding of borrowers' business skills and health? Does the institution gather information on a borrower's credibility? Does the institution utilize the results of industrial and business analysis by the research department?

2. Usage of Funds

Check points Specific sample questions

a. Screening of business prospects and usage of funds, and examination of debt-servicing capacity

Does the institution thoroughly examine business prospects, usage of borrowed funds, and debt-servicing capacity of the borrower?

Does the institution examine the rationality of a borrower's business project? Does the institution check a borrower's usage of funds? Does the institution have a good understanding of a borrower's source of repayment? What factors are used to analyze a borrower's sources of repayment for: (1) a revolving loan -- business prospects and debt-servicing capacity?

177

(2) a term loan -- the amount of revenue that can be appropriated for repayment purposes compared with funds borrowed or the consistent repayment capabilities with commitments Are there clear rules for setting credit limits, and are they strictly observed? Does the institution analyze cash flow to examine debt-servicing capacity backed by revenue?

3. Follow-Up

Check points Specific sample questions

a. Regular monitoring of borrower's business performance

Does the institution monitor the borrower's business performance regularly after loan extension through financial analysis?

Does the institution conduct financial analysis for each settlement period? Does the institution monitor changes in clients' financial condition by compiling and collecting balance-sheet estimates and monthly/quarterly profit/loss reports? Does the institution confirm the usage of borrowed funds through financial analysis?

b. Monitoring of large exposures

Does the institution have in place a system for monitoring large exposures?

Does the institution emphasize monitoring large exposures? Does the institution clarify credit policy regarding large exposures after receiving the board of directors' approval? Is the institution capable of evaluating credit risk including off-balance sheet transactions when necessary?

c. Monitoring of company groups

Does the institution have a solid understanding of the actual flow of funds between company groups?

Does the institution control credit risk exposure of company groups on a consolidated basis? Does the institution understand the business performance of the entire company group and flow of funds among group companies? Does the institution understand the group's financial condition on a consolidated basis?

4. System Support

Check points Specific sample questions

a. Financial analysis system

Does the institution have anduse an effective system for credit approval and follow-up?

Has the institution introduced and utilized a well-functioning financial analysis system for corporations? Does the institution regularly record the latest complete data required for and follow-up? Has the institution adopted and utilized a loan approval system?

b. Information- gathering for credit management of consumer loans

Does the institution systematically accumulate information on customers' credit standing?

Does the institution make inquiries about the credit standing of individual customers to consumer credit information centers? Does the institution have reference checks with Data Bureau? Does the institution have an automatic calling system to request customer payments, and does it utilize it effectively? Has the institution established its own information system on individual customers?

178

5. Management of Substandard Borrowers

Check points Specific sample questions

a. Administration system for substandard borrowers

Does the institution have in place a framework that emphasizes the administration of credit to substandard borrowers?

Does the institution distinguish loans to substandard borrowers from those to sound borrowers and manage them separately? Does the institution have a clear policy regarding the collection and disposal of problem loans, and are such loans administered by the head office and branches with sufficient cooperation? Is a list of delinquent borrowers regularly distributed to all branches? Or is there a system of auto generation of arrears accounts? Does the institution monitor the monthly business performance and moment-to-moment flow of funds of substandard borrowers? How often is the review of such accounts undertaken?

b. Business guidance to delinquent borrowers

Does the institution possess restructuring plans for delinquent borrowers, and does it provide specific guidance to these borrowers?

Does the institution regularly interview substandard borrowers' management regarding their actual business performance and provide appropriate guidance? Does the institution assign officers in charge and support restructuring of substandard borrowers? Does the institution instruct substandard borrowers to draw up a restructuring plan and check its feasibility?

6. Collateral and Guarantee

Check points Specific sample questions

a. Maintenance and appraisal of collateral

Is due consideration given to securing sufficient collateral?

(1) General Are the rules on the maintenance of collateral (e.g., reappraisal) appropriate? Does the institution aim to expand and strengthen its system support? Does the institution flexibly strengthen its maintenance of collateral in line with changes in a borrower's business performance? The levels of the appraisal and the policy guidelines for the appraisal

(2) Real estate

Does the institution frequently carry out on-site surveys? What are the guidelines for progressive construction cases Does the institution regularly reappraise real estate pledged as collateral? Does the institution constantly monitor collateral value against credit outstanding? Does the institution check whether buildings are insured against fire? Does the institution reappraise real estate pledged as collateral when necessary?

(3) Does the institution regularly (e.g., monthly) review the appraisal

179

Securities value of securities held as collateral? Does the institution review securities held as collateral when necessary?

b. Confirmation of guarantor's ability and intention to warrant loans

Are the guarantor's ability and intention to warrant loans confirmed?

Does the institution confirm the guarantor's intention to guarantee loans and the third party's intention to provide collateral with a signed document? Is the institution fully aware of a guarantor's property, annual income, and health condition, and does the institution regularly review such information?

180

11.8 Financial Statement of Housing Authority of Fiji 2004-2009

BALANCE�SHEET� HOUSING�AUTHORITY�

PARTICULARS (000) 2004 2005 2006 2007 2008 2009

ASSETS

Cash 2,347 3,095 1,282 7,212 1,755 2,412

Investments 5,011 1,000 25,063 6,000 0 0

Loans 132,201 131,662 129,161 130,783 130,894 121,058

Stock 10,823 13,299 12,714 11,013 10,457 12,222

Land held for future development 2,003 1,490 7,367 6,637 6,632 6,627

Property, Plant and Equipment 5,333 5,272 7,102 7,238 9,338 9,732

Others 977 511 763 138 67 474 Receivables Due From Other Financial Institutes 0 0 0 0 0 0

Securities Held 0 0 0 0 0 0

Unearned Revenue 0 0 0 0 0 0

Provision for Doubtful Debts 0 0 0 0 0 0

Fixed Assets 0 0 0 0 0 0

Receivables and Prepayments 0 0 0 0 0 0

Future Income Tax Benefit 0 0 0 0 0 0

TOTAL ASSETS 158,695 156,329 182,452 169,021 159,143 152,525

LIABILITIES

Borrowing 110,123 104,533 120,317 106,562 90,222 86,988

Employee Entitlements 409 430 540

Provisions 606 1,062 1,210 1,379 1,658 1,453

Creditors and other Payments 0 0 0

Other Borrowed Funds 0 0 0

Others 6255 6,515 8,481 7,593 12,217 8,490

Certificates of Deposit 0 0 0

Secured Borrowings 0 0 0

Deposits and Borrowings 0 0 0

Payables Due To Holding Company 0 0 0

TOTAL LIABILITIES 117,393 112,540 130,548 115,534 104,097 96,931

NET ASSSETS 41,302 43,789 51,904 53,487 55,046 55,594

CAPITAL AND RESERVES

Capital 41,772 41,772 41,772 41,772 41,772 41,772

Government Grant 15,958 15,958 15,958 15,958 15,958 15,958

Reserves 4,212 4,212 11,046 6,834 6,834 6,834

Accumulated losses/ Retained Earnings -20,604 -18,153 -15,872 -11,077 -9,518 -8,970

Capital Reserve 0 0 0 0 0 0

Issued or Paid Up or Assigned Capital 0 0 0 0 0 0

TOTAL CAPITAL AND RESERVES 41,302 43,789 52,904 53,487 55,046 55,594 TOTAL EQ & LIABILITIES 158,695 156,329 182,452 169,021 159,143 152,525

Source: HAF Annual Accounts 2004-2009

181

INCOME�STATEMENT�–�HOUSING�AUTHORITY�

PARTICULARS� 2004� 2005� 2006� 2007� 2008� 2009�

INCOME� �� �� �� �� �� ��

Interest�Income� 10,674� 10,921� 11,767� 11,856� 11,167� 10,871�

Interest�Expense� �6219� �5667� �5,606� �6,927� �6,652� �6,382�

NET�INTEREST�INCOME� 4,455� 5,254� 6,161� 4,929� 4,515� 4,489�

Other�Operating�Income� 6,456� 6,668� 9,053� 9,898� 6,324� 4,693�

Fee�and�Comm1ssion�Revenue� 0� 0� 0� �� �� ��

Recoveries�of�Bad�and�Doubtful�Debts� 0� 0� 0� �� �� ��

TOTAL�OPERATING�INCOME� 10,911� 11,922� 15,214� 14,827� 10,839� 9,182�

Staff�Costs� 3,659� 3,949� 4,231� 5,126� 4,584� 4,670�

Bad�and�Doubtful�Debts� 1,365� 1,464� 2,665� 2,163� 620� 609�Fee�and�Commission�Expense/Depreciation�� 0� 0� 0� 592� 503� 790�

General�and�Administrative�Expense� 0� 0� 0� 3,490� 1,061� 740�

Other�Operating�Expenses� 3,820� 4,022� 6,037� 2,873� 2,512� 1,825�

TOTAL�OPERATING�EXPENSES����������

8,844.00�������

9,435.00�� ��12,933.00�� ��14,244.00�� ����9,280.00�� ����8,634.00��

Add�Abnormal�Item�To�Net�Income� 0� 0� 0� �� �� ��OPERATING�PROFIT�BEFORE�INCOME�TAX� 2,067� 2,487� 2,281� 583� 1,559� 548�Income�Tax�Expense�Attributes�to�Operating�Profit� 0� 0� 0� �� �� ��OPERATING�PROFIT�AFTER�INCOME�TAX� 2,067� 2,487� 2,281� 583� 1,559� 548�

Source: HAF Annual Accounts 2004-2009

182

11.9 Appendix Economic of and Financial Indicators Fiji