An Overview of the Financial Consumer Protection Systems in Central and West Asia Rúben Barreto September 2011

2

I. INTRODUCTION 1. The provision of financial services is affected by asymmetric information and power imbalances between providers and consumers. On one hand, lenders and insurance providers do not have full information on the inherent risk of a borrower or insured person.1 This has raised the need to protect creditors and investors’ rights, as a way of incentivizing provision of finance. On the other hand, consumers’ financial literacy may be insufficient to assess products’ appropriateness, costs, and risks, especially when financial institutions offer financial products that are too complex to understand.2 This has raised the need to protect consumers from providers’ abusive practices and to avoid consumers’ poor decision-making in personal finance matters that can lead to financial distress. The systems created to protect the parties involved in a financial transaction typically include both the rights written into laws and regulations, and monitoring and enforcement mechanisms. 2. Recent events3 reinforced the concerns that the balance of power in a financial transaction is often inclined towards financial institutions, i.e. financial consumers typically have less negotiating power than financial providers. In particular, consumers may not be obtaining the benefits they were expecting from the use of the financial product, when (i) financial institutions have abusive practices (e.g. aggressive sales and collection, deceptive advertising, overcharging, etc.), sell inadequate products, or do not fulfill their contractual obligations; or (ii) consumers do not have the capacity to understand and challenge these abusive practices, or do not have adequate protection of their legal rights. This situation is exacerbated when competition levels in the industry are low. See Figure 1 below. 3. These concerns have led governments, associations of financial consumers and other civil society organizations, and financial institutions, in both developed and developing countries, to work on the improvement of the quality of financial services, i.e. to ensure that the benefits of increased access to financial services outweigh the costs and are equitably distributed between providers and consumers.4 These interventions try to balance the asymmetric forces underlying a financial contract between the provider and the consumer, through a mixed approach of three different pillars (i) consumer protection, (ii) promotion of

1 Central themes related to ex-ante information asymmetries between lender/borrower and insurer/insured person

include the adverse selection problem (Akerlof, 1970), credit rationing (Stiglitz and Weiss, 1981), the moral hazard problem (Stiglitz and Weiss, 1983), and the ex post verification problem (Gale and Hellwig, 1985).

2 Individual’s financial literacy levels evolve under a continuous spectrum. For each level of financial literacy, there is only a certain degree of complexity in a financial product that an individual can properly manage. More complex financial products require higher levels of financial literacy. If overall financial literacy does not evolve in tandem with financial sector development, there is an increased risk that poor decisions over personal finance matters can lead to financial distress, especially if consumer protection systems are not appropriate or if industry practices are not up to good standards.

3 Notably, the ‘sub-prime’ mortgage crisis in the United States, and the unusually high incidence of suicides among microfinance clients in Andra Pradesh, India.

4 Two different definitions of ‘quality of financial services’ have been used thus far. First, a positive definition, related to the efficiency of financial intermediation, whereby good quality financial services provide the right signals for an efficient resource allocation across space and time, preventing excessive risk-taking and thus financial crises. This definition is aligned with the functional approach to financial intermediation of Merton and Bodie (1995), and Levine (1996), and is also followed by Cole (2007), and Ju and Wei (2008). Second, a normative definition, related to fairness in financial intermediation, whereby good quality financial services ensure that benefits are equitably distributed between providers and consumers (e.g. based on the risk taken by each side). Hannig and Jansen (2011) use a definition of quality that is aligned with this normative approach. This document focuses more on this normative definition of quality of financial services.

3

standards and competition in the financial services industry, and (iii) financial education.5 These three approaches can be seen as both alternative6 and complementary solutions.

Figure 1. The Cost-Benefit Relation of Access to Finance

A=Benefits from using a financial product; B=Costs of using the financial product. Note: The expected net benefits of access to finance are equal to (A – B) in the upper side of the figure. However, (i) the benefits may be lower than expected (left circle in the lower side of the figure), if the consumer does not extract the expected profitability from the investment; or (ii) the financial costs may be higher than expected (right circle in the lower side of the figure), if the consumer fails to understand ex-ante the extent of such costs (either due to lack of information or inability to process information), or is unable to challenge financial institutions’ abusive practices and is not adequately protected by the legal systems. Extreme situations occur when access to finance makes the consumer worse off, because financial costs are larger than the benefits obtained. 4. Financial consumer protection aims to have in place appropriate regulations to correct information and power imbalances, and to encourage sustainable provision of services through, (i) transparency,7 (ii) fair treatment (in particular, avoiding harmful business practice and products), and (iii) effective recourse (complaints, recourse and redress mechanisms). Appropriate regulation can effectively match products in the fast-moving financial market with the consumers for which they are appropriate (Willis, 2008). Typically, consumer protection regulations seek to protect retail consumers, who are more prone to the risks of information and power asymmetries. They also seek the exit of lower quality providers that have deceptive and abusive practices, or that seek to maximize profits in the short term, at the expense of long-term value for customers and shareholders (Brix and McKee, 2010). Ardic et al. (2011) offer a literature review on consumer protection in financial services. 5. But creating financial consumer protection systems is a challenging task that needs to evolve in line with overall financial sector development, regulatory capacity, and consumer culture and experience in using formal finance. Brix and McKee (2010) propose two broad packages of regulation for tailoring financial consumer protection rules to country context, and for allocation of regulatory resources. The first package includes basic provisions that are less complicated and less costly to implement in less developed financial markets, such as basic registration, basic information requirements, basic standards of conduct for financial institutions, 5 See Responsible Finance Forum (2011) for examples of recent initiatives by development agencies and

development finance institutions in these three areas. 6 For example, promoters of consumer protection highlight the fact that financial education, although seductive,

promising both a free market and increased consumer welfare is not an effective solution per se, given the velocity of change in the financial marketplace, the persistence of biases in financial decision-making, and the disparity between educators and financial providers in the resources with which they reach consumers (Willis, 2008).

7 This means timely information disclosure throughout the service relationship, i.e. before, during, and after the financial contract is signed (Hannig and Jansen, 2011).

AB

A B

Expected

Actual

A B

4

basic recourse process offered by the financial provider, and basic market monitoring by regulators. The second package includes measures that can be phased in as financial markets develop, products become more complex, and new risks emerge. This second package includes expanded prohibitions to mitigate over-indebtedness, attention to new technologies and distribution channels, and third-party recourse mechanisms. 6. Rutledge (2010) and Rutledge et al. (2010) propose a set of good practices to analyze laws, regulations, and institutions involved in financial consumer protection and financial literacy. The good practices are derived from assessments of consumer protection regimes in nine middle-income countries of Europe and Central Asia (Azerbaijan, Bulgaria, Croatia, the Czech Republic, Latvia, Lithuania, Romania, the Russian Federation, and Slovakia). The authors propose that these good practices should have universal application, and should be part of consumer protection strategies for countries worldwide. Nonetheless, they suggest that low-income countries can phase-in the recommendations. 7. This document builds on the literature on financial consumer protection systems, and takes a more quantitative approach to provide an overview of the financial consumer protection systems in the ten countries covered by the Public Management, Financial Sector, and Trade Division of the Central and West Asia Department (CWRD) of the Asian Development Bank.8 This overview aims to identify possible areas in these systems where basic financial consumer protection may be missing, and where improvements could help to address problems in the quality of financial services provision. This document does not aim to provide an in-depth assessment of each of the ten financial consumer protection systems. In particular, it does not aim to assess the actual effectiveness of the existing systems, as the required data for such assessment is not available. Further analysis is required to properly inform policy making.

II. OVERVIEW OF THE FINANCIAL CONSUMER PROTECTION SYSTEMS IN CENTRAL AND WEST ASIA COUNTRIES

8. The overview is based on a set of indicators that cover the three areas of financial consumer protection systems: (i) transparency, in particular disclosure requirements; (ii) fair treatment; and (iii) effective recourse. In addition, it also looks into the systems’ institutional arrangements in the countries, in particular the financial regulator’s responsibilities over financial consumer protection, and the supervisory agency’s monitoring and enforcement mechanisms. 9. In order to conduct a consistent treatment across the ten CWRD countries, and thereby facilitate comparisons, most of the data is obtained from a survey on financial consumer protection that covered financial regulators of 142 countries.9 The survey covers both the scope of existing legal framework, and the extent of supervisory and enforcement powers. The survey was conducted for the annual Financial Access report by the Consultative Group to Assist the Poor and the World Bank Group (CGAP, 2010), and is the first effort of this kind to collect information on the details of existing legal and institutional frameworks for financial consumer protection, using consistent methodology. This approach is, however, subject to the risks of self-reporting, in particular those arising when respondents have a different interpretation for the

8 These are Afghanistan, Armenia, Azerbaijan, Georgia, Kazakhstan, Kyrgyz Republic, Pakistan, Tajikistan,

Turkmenistan, and Uzbekistan. They will be referred as CWRD countries. 9 In addition, data from the International Association of Deposit Insurers and from national deposit insurance schemes

was used to inform about the status of deposit insurance in the ten CWRD countries.

5

same question.10 The survey only covers credit and deposit products, and does not include investments, pensions, insurance, or other financial products.

A. Description of data on financial consumer protection 10. Disclosure requirements typically mandate disclosure of standardized information about the terms of financial products, to prevent abusive practices, and to enhance competition, by allowing consumers to compare offers. The survey covers two broad types of disclosure: (i) disclosure upon opening of a financial transaction (account opening), whereby providers notify customers in writing of pricing, terms and conditions, and general rights and obligations; and (ii) periodic disclosure, through account statements. The overview includes two variables―one variable for each type of disclosure―that measure the breadth of the disclosure requirements in each country. These variables are the percentage of disclosure requirements that each country has in place for banks and other regulated financial institutions, out of a total of thirteen disclosure requirements at account opening (or twenty six requirements, i.e. the double, for both banks and other regulated financial institutions) and twelve periodic disclosure requirements (or twenty four requirements, i.e. the double, for both banks and other regulated financial institutions) that are measured by the survey and considered to be international good practices.11 11. Restriction of unfair treatment. Consumer protection regulations aim to ensure fairness in financial services. The survey asked financial regulators whether the country has in place provisions to restrict unfair treatment, namely (i) deceptive advertising, (ii) unfair or high-pressure selling practices, (iii) abusive collective practices, and (iv) unauthorized use of client data or breach of client confidentiality. The overview includes one variable that measures the breadth of the legal restrictions on unfair treatment in each country. The variable is the percentage of legal restrictions on unfair treatment that each country has in place, out of the above mentioned four legal restrictions measured by the survey and considered to be international good practices. 12. Effective recourse mechanisms. Recourse mechanisms are considered a remedial approach in consumer protection systems, and are used when transparency and fair treatment regulations are not sufficient to protect consumers from providers’ abusive or deceptive practices. These recourse mechanisms work as an alternative to the use of legal courts, and are especially important when individuals have insufficient resources and/or understanding of court systems and procedures, or when judiciary systems are weak. A first tier recourse mechanism is the financial provider’s internal system to address and resolve customers’ complaints. Incentives to create these internal mechanisms are part of a basic consumer protection system. If a customer’s complaint is not resolved under the financial provider’s internal procedures, then a third-party recourse mechanism could help to resolve the dispute. Third-party recourse 10 Moreover, it should be noted that only central banks were surveyed, which may understate a country’s scope of

involvement in financial consumer protection where an agency other than the central bank is responsible for this area.

11 Disclosure requirements at account opening are based on notification in writing to customers, and include plain language requirements; local language requirements; standardized disclosure format; disclosure of recourse rights and processes; requirements related to deposit products (annual percentage interest rate, method of compounding, minimum balance requirement, fees and penalties, and early withdrawal penalties); and requirements related to credit products (annual percentage interest rate, computation method, fees, and insurance). Periodic disclosure requirements include provision in the periodic statement of information about dispute procedures, about deposit products (interest rate calculation, interest earned, fees imposed, and account balance), and about credit products (transactions during the period, annual interest rate, interest and fees charges for the period, minimum amount due, due date, and outstanding balance).

6

mechanisms can remain outside the scope of a basic consumer protection system, but are important for more advanced financial sectors. 13. The survey asked financial regulators if the country has in place legal standards for financial institutions’ internal complaints resolution systems. This overview includes one variable that measures the breadth of these legal standards for financial institutions’ complaints resolution systems. The variable is the percentage of the three pillars of a complaints resolution system (procedures and processes, timeliness of response, and accessibility) that are effectively backed by legal provisions. The survey also inquired financial regulators if a third-party dispute resolution mechanism―a general ombudsman, a financial ombudsman, or a mediation service―is functioning in the country, and this overview includes the findings for the 10 CWRD countries. 14. Deposit insurance schemes are also recourse mechanisms that depositors can appeal for compensation in the case of imprudent (or fraudulent) management of deposit-taking financial institutions. Notwithstanding, a deposit insurance scheme is usually put in place by governments with the aim to prevent bank runs, and thus to avoid financial instability. This overview also identifies if the ten CWRD countries have a deposit insurance scheme in place. 15. Institutional arrangements for financial consumer protection. Different countries have different institutional structures to ensure that financial consumer protection laws and regulations are effectively implemented, and to handle complaints and inquiries by consumers. Typically, institutions responsible for these matters are: (i) the general consumer protection regulator, (ii) the (prudential) financial regulator, or (iii) a self-dedicated agency for financial consumer protection matters. In many countries, it is also typical to have multiple regulators responsible for overseeing the financial consumer protection system. Because the survey is only targeted to financial regulators (central banks), this overview only looks into whether central banks have responsibilities over financial consumer protection, and, if that is the case, whether they have a dedicated unit to handle these matters. This overview reports the findings for the 10 CWRD countries. 16. Monitoring and enforcement mechanisms. The ability to implement, monitor, and enforce regulations is critical for an effective consumer protection system. The survey asked the financial regulators if they have available a different number of enforcement tools and monitoring methods to ensure compliance by regulated financial institutions.12 The overview includes one variable that measures the extent to which the supervisor uses different enforcement and monitoring tools. The variable is the percentage of enforcement and monitoring tools used by the supervisor, out of a total of twelve tools measured by the survey and considered to be international good practices.

B. Data analysis 17. Table 1 provides the overview of the financial consumer protection systems in the ten CWRD countries, using the eight variables described in section A. This analysis attributes the same importance (weight) to all legal provisions or tools that are included in each variable. For 12 Enforcement tools include (i) issuing warnings to financial institutions, (ii) requiring providers to refund excess

charges, (iii) requiring providers to withdraw misleading advertisements, (iv) imposing fines and penalties, (v) issuing public notice of violations, and (vi) withdrawing the offending provider’s license to operate. Monitoring methods include (i) requiring financial institutions to report statistics on the number of complaints received, (ii) a call center to receive complaints, (iii) monitoring providers’ advertisement and websites, (iv) mystery shopping, (v) interviews and consumer research, and (vi) onsite inspection and investigation of financial institutions.

7

each variable, the value is compared to a threshold, in order to analyze the system’s level of development. The thresholds are used to assess if countries have in place a basic package of regulation for financial consumer protection, as proposed by Brix and McKee (2010), and described in para. 5. The countries that are below the threshold are considered to have a less developed framework. For the variables that are continuous in nature―variables 1, 2, 3, 4, and 8―, three different thresholds are used: (i) the threshold defined by Ardic et al. (2011), i.e. 50%; (ii) the average of the CWRD region; and (iii) the average of the countries that are in the same income group.13 The other variables―5, 6, and 7― are discrete in nature, and either have a value of 1, if the country has in place the consumer protection mechanism, or 0 otherwise. In the case of discrete variables, a null value is considered an indicator of a less developed financial consumer protection framework. 18. Disclosure requirements at account opening are generally widespread across the CWRD region. Aside from Kazakhstan and Armenia, all other countries that report data are above the different thresholds, and thus are considered to have a basic framework in this regard. Kazakhstan is below all the three thresholds, having in place only 30.8% of the disclosure requirements at account opening measured by the survey. Armenia scores 50% and only meets one of the thresholds. Georgia and Turkmenistan do not report data. 19. The picture looks different in the case of periodic disclosure requirements, with most of the CWRD countries that report data failing to meet the three thresholds. Only Armenia (50%), Tajikistan (50%), and, to a lesser extent, Uzbekistan (45.8%), have acceptable periodic disclosure requirements. Georgia and Turkmenistan do not report data. The legal frameworks on periodic disclosure requirements in the region seem to have scope for improvement. 20. Most of the CWRD countries seem to have in place adequate legal provisions to restrict unfair treatment, with five countries having in place all the four international good practice provisions measured by the survey. The exceptions are Afghanistan, Georgia, and Tajikistan that do not have in place any of the legal restrictions on unfair treatment measured by the survey and considered to be international good practices, and thus fail to meet all the three thresholds. Turkmenistan does not report data. 21. Most of the CWRD countries also seem to have in place adequate legal standards for financial institutions’ complaints mechanisms, with five countries having in place all the three international good practices measured by the survey. The exceptions are Georgia, Kazakhstan, and the Kyrgyz Republic that fail to meet all the thresholds. In particular, Georgia and the Kyrgyz Republic do not have any of the legal standards in place. Turkmenistan does not report data.

13 CWRD countries are divided into different income groups based on the classification of the World Development

Indicators. Afghanistan, Kyrgyz Republic, and Tajikistan are included in the low-income group. Armenia, Georgia, Pakistan, Turkmenistan, and Uzbekistan are included in the lower-middle income group. Azerbaijan and Kazakhstan are included in the higher-middle income group.

8

Table 1. Overview of the Financial Consumer Protection Systems in CWRD Countries

(1) (2) (3) (4) (5) (6) (7) (8)

Country

Disclosure requirements at account opening

Disclosure requirements (periodic)

Restriction of unfair 

treatment

Standards on Fis for 

complaints resolution

Recourse mechanism(FO, GO, MS)

Deposit Insurance Scheme

Compliance monitoring and enforcement

(%) (%) (%) (%)(year of 

establishment)(%)

Afghanistan 69.2% 0.0% 0.0% 100.0% MS (2009) A 50.0%Armenia 50.0% 50.0% 100.0% 100.0% FO (2005) A+ 66.7%Azerbaijan 92.3% 0.0% 100.0% 66.7% GO (2007) A+ 75.0%Georgia n.a. n.a. 0.0% 0.0% ‐ ‐ ‐ n.a.Kazakhstan 30.8% 0.0% 100.0% 33.3% ‐ (1999) A+ 75.0%Kyrgyz Rep. 76.9% 0.0% 75.0% 0.0% ‐ (2008) A 58.3%Pakistan 76.9% 16.7% 100.0% 100.0% FO, GO, MS ‐ A+ 58.3%Tajikistan 69.2% 50.0% 0.0% 100.0% ‐ (2011) A+ 50.0%Turkmenistan n.a. n.a. n.a. n.a. n.a. (2000) n.a. n.a.Uzbekistan 76.9% 45.8% 100.0% 100.0% ‐ (2002) A 75.0%

ThresholdsArdic et al. (2011) 50.0% 50.0% 50.0% 50.0% 1 1 A 50.0%CWRD Region 67.8% 20.3% 63.9% 66.7% 1 1 A 63.5%Low‐Income countries 37.6% 20.0% 36.5% 27.8% 1 1 A 31.6%Low‐Middle Income countries 52.8% 31.6% 54.5% 55.6% 1 1 A 41.7%High‐Middle Income countries 62.6% 39.9% 70.8% 50.8% 1 1 A 52.2%

Financial regulator is responsible for 

consumer protection (A) and has a 

dedicated unit (A+)

Source: author’s calculations, based on CGAP, Financial Access 2010; International Association of Deposit Insurers. FO=Financial ombudsman; GO=General ombudsman; MS=Mediation service.

9

22. Only a few of the CWRD countries have in place a third-party recourse mechanism for financial consumer disputes. It is noteworthy that, with the exception of Armenia and Azerbaijan, none of the former Soviet countries have in place a third-party recourse mechanism for financial consumer disputes. This seems to be linked with the poor track-record of complaints mechanisms in former Soviet countries, where trust in government and other ‘third-party’ institutions tends to be low, and thus individuals generally do not use such type of solutions to resolve disputes. This particular mechanism may not be the most effective for these countries at this stage of development. Afghanistan has in place a mediation service, while Pakistan has in place all three different third-party recourse mechanisms for financial consumer disputes. Turkmenistan does not report data. 23. Deposit insurance schemes are widely available in the CWRD region. The exception is Georgia and Pakistan that do not have explicit deposit insurance by the government or the country’s monetary authorities. However, the history of deposit insurance schemes in the region is very recent, with most countries having established such schemes only within the past decade. Afghanistan, the Kyrgyz Republic, and Tajikistan have established a deposit insurance scheme only after the beginning of the global financial crisis (2008), in line with several countries around the world that created such schemes to prevent bank runs.14 24. With the exception of Georgia, financial regulators in CWRD countries have responsibility over financial consumer protection, and half of them (Armenia, Azerbaijan, Kazakhstan, Pakistan, and Tajikistan) have a dedicated unit to handle these matters. Turkmenistan does not report data. Brix and McKee (2010) indicate that CGAP field work suggests that this option better positions countries in terms of (i) specialization of the regulator, (ii) opportunities to identify problems in the market, and (iii) ability and political will to enforce sanctions. However, in countries where the prudential financial regulator only regulates deposit-taking institutions, consumer protection coverage may not reach institutions that target poorer consumers, who typically use more unregulated non-bank providers. 25. Financial regulators in the CWRD region seem to have in place the basic tools for monitoring and enforcing compliance of consumer protection regulations by regulated financial institutions. Afghanistan (50%), the Kyrgyz Republic (58.3%), Pakistan (58.3%), and Tajikistan (50%) have scores below the region average, but are still above the other two thresholds. It is also noteworthy that the maximum score in the region is 75% (in Azerbaijan, Kazakhstan, and Uzbekistan), showing that financial regulators do not use all available tools and mechanisms to monitor and enforce compliance. Turkmenistan does not report data. 26. Consumer advocates and debt counseling organizations can provide useful information and help the regulators in the identification of common issues regarding consumers’ rights and provision of financial services. These can become complementary monitoring mechanisms for financial regulators. In CWRD countries, general consumer associations typically handle financial consumer matters. Prominent associations in the CWRD region include the Protection of Consumer Rights (Armenia), the Independent Consumers Union (Azerbaijan), the Consumers Union of Georgia, the National League of Consumers of Kazakhstan, the Network for Consumer Protection in Pakistan, and the Consumers Union of Tajikistan.15 Some regulators mitigate the inexistence of effective consumer advocates, by perusing consumer complaints or

14 See Laeven and Valencia (2008) for an overview of countries that established deposit insurance schemes during

crisis episodes. 15 These organizations are members of Consumers International, a federation of 220 general consumer associations

of 115 different countries in the world (www.consumersinternational.org).

10

actions taken against financial institutions to identify areas of concern and trends in market practices (Hannig and Jansen, 2011).

III. CONCLUSIONS 27. Financial consumer protection systems in the CWRD region generally meet the basic requirements in terms of legal and institutional framework. The majority of the countries have in place the basic legal provisions and institutional mechanisms required for less developed financial markets, i.e. basic information disclosure requirements, basic standards of conduct for financial institutions, basic recourse system offered by the financial provider, and basic market monitoring by regulators. 28. However, there are some exceptions within the region, prominently Kazakhstan, but also Afghanistan, Georgia, and the Kyrgyz Republic. In Kazakhstan, deficiencies in basic information disclosure requirements and basic regulations for complaints’ resolution, seem to indicate that the country’s financial consumer protection system is not up to the standards required by its level of financial sector development. The situation in Kazakhstan deserves further attention, with the developments in the financial sector over the last few years raising concerns over the quality of financial intermediation. Georgia’s financial consumer protection system mirrors the deregulatory approach taken by the country over the last decade, and most of the regulatory and institutional mechanisms measured by the survey are absent. Given Georgia’s approach, the improvement of industry standards (self-regulation) and financial education seem to be good candidate solutions for ensuring consumer protection. Afghanistan is at early stages of development of its financial sector, but the high amount of donor funds channeled into the sector raises concerns over the quality of financial services. Afghanistan may consider looking more carefully into ways of improving basic periodic disclosure requirements and provisions to prevent unfair treatment. The Kyrgyz Republic’s recent experience in the financial sector, with borrowers demonstrating on the streets against financial institutions’ practices, highlights the need to improve financial institutions’ internal system for complaints. The Kyrgyz Republic could also look into possibilities to strengthen information disclosure requirements. 29. Overall, the legal framework on periodic disclosure requirements is the area in financial consumer protection systems in the region that seems to have more scope for improvement. Also, only a few of the CWRD countries have in place a third-party recourse mechanism for handling financial consumer disputes, but the effectiveness of this mechanism in these countries is questionable, and may not be an effective policy option at this stage of development. 30. It should be reiterated that effective consumer protection includes not only the rights written into laws and regulations, but also the effectiveness of their enforcement. This overview does not aim to provide an in-depth assessment of the ten financial consumer protection systems. In particular, it does not aim to assess the effectiveness of the existing systems. To properly inform policy making, further refinement of this assessment is required, including micro-level studies at the country level. Information from consumers’ complaints, from consumer advocates and debt counseling organizations, or from actions taken against financial institutions, can also help in the identification of common issues and market practices regarding provision of financial services. 31. Creating financial consumer protection systems is a challenging task that needs to evolve in line with overall financial sector development, regulatory capacity, and consumer

11

culture and experience in using formal finance. An incremental and proportional approach would balance the nature and extent of critical problems with the costs of the new regulations. Development assistance should focus on those countries that are experiencing low quality financial intermediation, and interventions should be tailored to the level of financial sector development in the countries. Further research is required to identify which CWRD countries are experiencing (or may be at risk of) low quality financial intermediation. Also, proper selection of tools to improve the consumer protection systems is yet to be without doubts, as there is still no certainty about whether behavioral aspects are more important than cognitive aspects for financial behavior. If behavioral aspects are more important, then consumer protection regulations seem to be more adequate; if cognitive aspects are predominant, then we should focus on financial education. 32. On the other hand, the need to balance the interventions should not be an excuse for not acting at all. To wait until a pronounced market failure has occurred to devise a regulatory response is not a solution (Brix and McKee, 2010). Development interventions in the financial sector are traditionally focused on the supply-side, and have helped to increase the economic opportunities for households and small and medium enterprises. However, donor organizations and development partners should keep in mind that these interventions may also transfer additional risks to financial consumers, and we can not rule out the possibility that the benefits of financial intermediation are accruing to just a few, in particular to financial institutions.

12

References Akerlof, G. 1970. The market for ‘lemons’: Quality uncertainty and the market mechanism. Quarterly Journal of Economics. Ardic, O., J. Ibrahim, and N. Mylenko. 2011. Consumer Protection Laws and Regulations in Deposit and Loan Services: A Cross-Country Analysis with a New Data Set. World Bank Policy Research Working Paper. Brix, L. and K. McKee. 2010. Consumer Protection Regulation in Low-Access Environments: Opportunities to Promote Responsible Finance. CGAP Focus Note. 60. CGAP. 2010. Financial Access 2010. The State of Financial Inclusion Through the Crisis. Cole, S. 2007. Financial Development, Bank Ownership, and Growth. Or, Does Quantity Imply Quality? Working Paper. Gale, D. and M. Hellwig. 1985. Incentive-compatible debt contracts: The one-period problem. Review of Economic Studies. 52. 647-663. Hannig, A. and S. Jansen. 2011. Financial Inclusion and Financial Stability: Current Policy Issues. In M. Kawai and E. S. Prasad, eds. Financial Market Regulation and Reforms in Emerging Markets. Asian Development Bank Institute and The Brookings Institute. Ju, J. and S. Wei. 2008. When is Quality of Financial Intermediation a Source of Comparative Advantage? NBER Working Paper Series. Laeven, L. and F. Valencia. 2008. The Use of Blanket Guarantees in Banking Crises. IMF Working Paper. Levine, R. 2010. Financial Development and Economic Growth. Views and Agenda. World Bank Policy Research Working Paper. Merton, R. and Bodie, Z. 1995. A Conceptual Framework for Analyzing the Financial Environment. In D.B. Crane et al., eds. The Global Financial System: A Functional Perspective. Harvard Business School Press. Boston MA. Responsible Finance Forum. 2011. Advancing Responsible Finance for Greater Development Impact. A stock-taking of strategies and approaches among development agencies and development finance institutions. Consultation draft report. Rutledge, S. 2010. Consumer Protection and Financial Literacy: Lessons from Nine Country Studies. World Bank Working Paper. Rutledge, S., N. Annamalai, R. Lester, and R. Symonds. 2010. Good Practices for Consumer Protection and Financial Literacy in Europe and Central Asia: A Diagnostic Tool. World Bank Working Paper. Stiglitz, J. and A. Weiss. 1981. Credit rationing in markets with imperfect information. American Economic Review. 71. pp. 393-410.

13

Stiglitz, J. and A. Weiss. 1983. Incentive effects of terminations: Applications to the credit and labor markets. American Economic Review. 73. pp. 912-927. Willis, L. 2008. Against Financial-Literacy Education. Iowa Law Review.