1. Credit Guarantee Funds and Basel Accords 2nd CGC Regional Conference SMEs Financial Inclusion – Role of Banks and Credit Guarantee Schemes Credit Guarantee Company, Cairo, Egypt May 11, 2016

2. Content 1.Evolution of Basel in the Context of CGFs 2.Recognition of Guarantees / Guarantors under Basel 3.Guarantees, SMEs and Basel II (Empirical Data) 4.Basel in MENA Region 5.Recognition of Guarantees – the Case of Afghanistan and Tajikistan 6.LANDT CGFs: Afghanistan and Tajikistan 7.Specific Approach to Risk Management 8.Example: Hands-on Involvement of CGF in Bank Operations

3. Basel I (1988)Basel II (2004) BASEL III 2010 0% 10% 20% 50% 100%  Approach too simplistic – based on rather arbitrary categories than actual Probabilities of Default (PD)  Standard CAR of 8% - capital arbitrage opportunity for big banks  Advanced approach costly and sophisticated; misuse by large FIs (2008 crisis)  Challenge for a non-public, not rated CGFs working with less sophisticated banks / countries. Private ruling from central banks as an option Source: Basel documents, Bank for International Settlements 1. Evolution of Basel in the Context of CGFs

4. Eligible Guarantors (protection providers) Basel 1 -OECD central governments, domestic and non-domestic public sector entities (PSEs), MDBs, OECD incorporated banks, OECD securities firms, non OECD banks (residual maturity < 1 year) Basel 2 Standardized approach -Sovereign entities, PSEs, banks and securities firms with a lower risk weight than the counterparty -Companies (including insurance companies) with A- or better rating Foundation IRB -Same as under the standardized approach, but internal ratings in lieu of external ones are utilized -The mitigating effect of guarantees are captured under PD calculation Advanced IRB: -Same as the foundation IRB approach -All parameters in control of bank -Choice to reflect the guarantee for LGD calculation -Range of eligible guarantors not limited (with certain minimum requirements) Source: Basel documents, Bank for International Settlements 2. Recognition of Guarantees/Guarantors under Basel

5.  USA, Australia and Italy Basel II in general increases capital requirements for SME loans If banks classify SME loans as retail, 75% risk weight applies (instead of 100% for corporate loans) Level of regulatory capital (RC) under Basel II is the same as under Basel I in case of 20% of SMEs portfolio classified as retail (break-even point) More than 20% yields to lower level of regulatory capital  Word-wide Guarantees incentivize banks to expand SME lending. Banks in return benefit from: Lower capital requirement due to preferential treatment of guarantees Lower capital requirements due to preferential treatment of their expanded SME portfolio Source: Universidad Carlos III de Madrid: Credit Risk Mitigation and SMEs Bank Financing in Basel II: The case of the Loan Guarantee Associations 0% Retail classification 20% Change in RC Break-even 3. Guarantees, SMEs and Basel II (Empirical Data)

6. Standardized approach Unrated claims on corporates Probability of DefaultRequired CapitalRisk Premium 0.03%8%1.61% 20%8%10.59% Retail Probability of DefaultRequired CapitalRisk Premium 0.03%6%1.21% 20%6%10.19% Internal Ratings-based approach Corporates with sales < EUR 5 million Probability of DefaultRequired CapitalRisk Premium 0.03%0.96%0.20% 20%15.98%12.18% Retail Probability of DefaultRequired CapitalRisk Premium 0.03%0.38%0.09% 20%8.50%10.69% Eligible guarantee present (risk weight of 50%) Probability of DefaultRequired CapitalRisk Premium 0.03%4%Lower 20%4%Lower Eligible guarantee present (risk weight 50%) Probability of DefaultRequired CapitalRisk Premium 0.03% Lower or same 20% Lower or same  Spain Larger recognition of SMEs under BASEL II resulted in lower regulatory capital requirements and lower credit risk premiums Source: Universidad Carlos III de Madrid: Credit Risk Mitigation and SMEs Bank Financing in Basel II: The case of the Loan Guarantee Associations, own calculations 3. Guarantees, SMEs and Basel II (Empirical Data)

7. Source (pie charts): Institute of International Finance, Chief Risk Officer Forum, Survey on risk management and regulatory challenges: Survey results 4. BASEL in MENA Region

8. National Bank of Tajikistan ruling Risk weight: 70% Provisioning: 50% CGFT Credit Guarantee Fund Tajikistan Higher profit: due to less provisioning for Partner Institutions Portfolio growth: due to strategic impact of available guarantees Released capital: due to CAR relief Effect of Guarantees on Income ∆ revenue + from released capital (CAR) + from retained earnings (provisioning) + from more and larger loans (growth) ∆ expenses + from guarantee fees (if paid by bank) - from better quality portfolio and cash- like guarantee security ∆ net income + overall effect  Potential for lower cost for borrowers Basel INational Bank of TajikistanDa Afghanistan Bank 0% 10% 20% 50% 100%0% 10% 70% 70% 100%0% 20% 50% 100% 5. Recognition of Guarantees – the Case of Afghanistan and Tajikistan

9. 6. LANDT CGFs: Afghanistan and Tajikistan ACGF Afghan Credit Guarantee Foundation USD 6m + 13m Set-up in Germany SCSA LLC Kabul Afghan Partner FIs TCSP LLC Dushanbe Tajik Partner FIs CGFT Credit Guarantee Fund Tajikistan USD 16m Set-up in Germany Local subsidiary Country Partner FIs Other Countries CGF Investors / Stakeholders German govt. CGFs US govt. OeEB FMO DEG Strat. consulting, design, evaluation World Bank IFC DFIs Govts. CGFs Consulting Clients

10. 7. Specific Approach to Risk Management Least developed countries, conflict and post-conflict, challenging environments -- weak financial sector (sometimes incl. regulator) Strong risk management of CGF (in a narrow sense) Focus on control of operational risk of banks Design based on incentives for banks (stick and carrot) Strict selection of banks / MFIs and due diligence Comprehensive technical assistance to build SME lending capacity Individual guarantees at start (vs. blanket or portfolio guar.) Active role of CGF, strong presence on the ground Hands-on involvement in banks‘ operations Specific balance between operating expenses and risk

11. 8. Example: Hands-on Involvement of CGF in Bank Operations Loan request Loan appraisal Credit committee Disburse- ment Closing Bank Process Appraisal: hand in hand coaching / mentoring Committee participation Delinquency management - hand in hand coaching / mentoring Verification site visit CGF – Process Involvement CGF – Monitoring & Audits Pre-disburse- ment file audit Post-disbursement file audit -Criteria defined as per need of PI and assessment of PIs’ performance -Differentiated by loan size, branch, even by loan officer -Gradual withdrawal (e.g. after loan officer and branch certification) towards blanket guarantees – delegation of authority Delinquency file audit (after 20 days past due) CGF – almost role of internal audit Focus on skills of credit analysts / coaches Better portfolio quality for guaranteed loans Trust of banks in added value of guarantees Specific value proposition of CGF and Control / improvement of operations

12. 8. Example: Hands-on Involvement of CGF in Bank Operations Loan request Loan appraisal Credit committee Disburse- ment Closing Bank Process Delinquency management - hand in hand coaching / mentoring Information of disbursement by bank CGF – Process Involvement CGF – Monitoring & Audits Pre-disburse- ment file audit Post-disbursement file audit Delinquency file audit (after 20 days past due) Blanket Guarantees

13. Thank You! Q & A Bernd Leidner Managing Partner Leidner & Thiesen GmbH Berlin, Germany b.leidner@landt-group.com +49 – 162 – 912 9487