The checks and balances on Hong Kong’s credit commitments

The Hong Kong Monetary Authority (HKMA) recently highlighted a number of ‘warning signs’ that the territory’s economy was in danger of over-heating. Rising levels of household and an accompanying surge in consumer spending have, according to the HKMA, left the economy worryingly exposed to increases in interest rates.

While there are certainly some startling statistics to back up their case, they don’t necessarily tell the whole story about the current state of the financial system.

Currently, the ratio of household debt to GDP stands at a record high of 61% compared to 59% at the end of last year. The previous record of 60% occurred in 2002 after the Asian financial crisis had severely dented the balance sheets of Hong Kong businesses and residents.

That year, the credit card delinquency ratio was at a record rate of 1.56% and over 25,000 personal bankruptcy orders were issued by the courts, meaning that there were more than 2,000 cases each month compared to fewer than 900 cases per month in 1998.

It was against this backdrop that the first fully-fledged, regulated credit reference agency (CRA) was set up in Hong Kong, which instituted some significant and far-reaching reforms.

Prior to this point, credit providers had primarily shared information – and thus based their lending decisions – on negative credit data only: these data include aspects such as non-payment of a debt, court judgments, bankruptcies, arrears and late payments.

In a breakthrough move, the HKMA called for the active participation of Hong Kong’s authorised credit providers in providing positive credit data for borrowers through the CRA. Positive credit data cover details such as the total amount and type of loans, credit card commitments and how much is repaid each month.

Access to this information gives credit providers a much more complete picture of a customer’s financial commitments so that they are able to make better informed decisions about extending credit.

And having this complete picture has provided a range of benefits for Hong Kong’s financial system, its credit providers, businesses and the public.

With better knowledge of the true creditworthiness of the borrower, credit providers have been able to expedite the loan approval process, better control bankruptcy losses and increase responsible lending.

The system allows banks to properly price credit on an individual basis and remove cross-subsidisation between good borrowers (who are in the majority) and bad ones (the minority), allowing the former to enjoy much lower interest rates.

The CRA’s work has also proved useful in business circles: for instance, some companies request credit reports from business partners; commercial landlords request them from potential tenants; and the reports are also valued in industries with particular concerns about the financial status of staff, such as banking or the jewellery sector.

In terms of the benefits to consumers, a better understanding of their credit rating helps them to guard against identity theft, provides assistance with managing debt, and gives them access to the credit they deserve and have earned for mortgages, loans and other forms of lending at some of the lowest rates.

Arguably though, the greatest contribution the CRA has made to Hong Kong’s economy is in its role in supporting responsible borrowing and sound financial management. Since 2002, the number of bankruptcies per year has fallen year on year from a high of more than 25,000 to 8,178 in 2012.

The rate of card delinquency has undergone a similarly dramatic fall from a ratio of 1.56% to 0.21% in 2012.

According to the World Bank’s Doing Business 2013 Report*, Hong Kong ranks fourth among 185 economies on the ease of getting credit. Decisive factors in this ranking include the efficient credit referencing system and comprehensive laws protecting consumers and lenders.

While it is important to make note of the HKMA recent remarks on rising household debt and rampant consumer spending, both businesses and consumers are in a much better position to reflect on any perceived risk.

This is due to the well-developed and regulated credit reference system, providing the welcome checks and balances on Hong Kong’s credit commitments. In helping to prevent individuals from over-stretching themselves, it provides a credible and considerable buffer against ill winds emanating from local and global financial systems.

* Source of information: https://www.doingbusiness.org/data/exploretopics/getting-credit