38748 January 2007 · Number 101 A regular series of notes highlighting recent lessons emerging from the operational and analytical program of the World Bank`s Latin America and Caribbean Region. Low-income Housing in Latin America and the Caribbean Abhas K. Jha Housing is one of the most important sectors of the and a higher level of home ownership (73 percent) than economy­in developing countries as in richer ones­with most other regions of the world. The housing sector in LAC large positive externalities in terms of economic growth, has been driven by four powerful global trends of the past public health and societal stability. It is the primary form two decades: urbanization, democratization, decentralization of asset accumulation for the poor­often representing more and globalization. These trends have led to greater depth than 50 percent of the assets of households. However, of financial systems, a wider range of housing financial housing systems in developing countries are dominated by instruments, and a transformation in the role of governments badly designed, poorly targeted, and inefficient government from a housing provider to an enabler. The availability of subsidies, market failures in land markets, overwhelming housing finance has increased dramatically in the region over informality, a predominance of powerful vested interests the past decade, facilitated in particular by macroeconomic and a growing slum population. Indeed Bertrand Renaud stability and the growth of mortgage securitization. (formerly of the World Bank) has stated that "very few major sectors of the economy have been so much plagued Despite these positive trends, there remains a huge housing by unjustifiable amateurism in public policy as housing in deficit within the region. According to the United Nations developing countries." ,26 million housing units are currently inadequate and an additional 28 million units are urgently required to relieve Yet there is hope. More than three decades of experience crowding and substandard conditions. The price of serviced in low-income housing has led the World Bank to adopt land in Latin America is amongst the highest in the world, an "enabling plus" approach to housing policy, which relative to income. Informal tenure is common, accounting moves beyond simple housing provision to an approach for about one third of home ownership. The failure of that combines a healthy respect for markets with intelligent formal housing markets to accommodate swelling urban subsidy design. It attempts to establish functioning land populations has led to 128 million people living in slums markets and uses a holistic and integrated approach to in Latin America. Most housing in the major cities is self- home improvement that incorporates tenure security, hazard made, a percentage that has risen steadily. For instance, in mitigation and access to finance. In parallel, the focus of Mexico City an estimated 60 percent of the population lived the World Bank's strategy for housing in Latin America in self-constructed homes in 1990 compared to 14 percent has evolved from sites and services (in the 1970s and 80s) in 1952. Less than a quarter of all housing in Latin America to enabling housing markets (in the 1990s) to the current is financed through formal mechanisms, and mortgages still enabling plus model. This note focuses on the strategy to accounts for a small fraction of total credit. provide formal housing for low-income families in LAC. The Bank also has rich experience in urban upgrading and Housing finance systems in the region are still regularization of informal settlements in Brazil, Venezuela, overwhelmingly dominated by inefficient government Ecuador and Peru that would need to be dealt with in a subsidies and public institutions. In Mexico the main actors separate note. are INFONAVIT and FOVISSSTE, which are pension funds that also provide below-market interest rate subsidies The Housing Sector in LAC and originate mortgage loans. The latter in particular has Latin America has a higher urbanization level (76 percent) a very high level of default on its loans. In Argentina the National Mortgage Bank obtains high interest, inflation- Housing Reform in Mexico and Brazil adjusted rediscounts from the Central Bank. Its portfolio The housing sector in Mexico has been the stage for the also shows a high level of delinquency. In Uruguay, the country's "overlooked revolution." A combination of housing mortgage market has long been dominated by the macroeconomic stability, after many years of turmoil, and state-owned Uruguay Mortgage Bank (BHU), which even good policy has led to a boom in middle and high income until very recently accounted for 80 percent of all housing housing demand among Mexico's young and urbanizing mortgage credits. The one significant and positive outlier population. In 2000 the incoming Fox administration in this regard is Chile where the government moved to a made housing one of its top priorities. This led to the 2001 market enabling approach -in 1977- almost a decade before National Housing and Urban Development Policies and a multilateral institutions such as the World Bank and IADB number of subsequent reform measures which are discussed did. In 2002, Chile's Ministry of Housing and Planning in detail in Box 1. As a result, Mexico has the highest (MINVU) stopped giving mortgage loans and gave up volume of mortgage-backed securitization transactions in the direct construction of houses. In 2004, 96 percent of Latin America, while the government is on track to meet its resources were targeted to subsidy programs and only 4 target of providing 750,000 housing solutions this year. percent to building programs. The World Bank has been an important catalyst and partner The World Bank Group Housing Strategy in LAC in Mexico's housing reform. Through the now-closed The huge housing deficits and the obvious inadequacies of FOVI loan the Bank (along with the IADB) financed the the government-dominated housing finance system in LAC creation of Sociedad Hipotecaria Federal (SHF) in 2001, have led the World Bank to gradually but radically alter to spur development of the secondary mortgage market. the way it approaches housing. The current "enabling- Through the three-loan DPL and HUTAL series the Bank plus" approach is embodied in ongoing shelter projects in has worked with the Government of Mexico in formulating Mexico (the three Housing Development Policy Loans- its national housing and urban policies. In addition the DPLs- series and parallel Technical Assistance) and Brazil Bank has supported Mexico's comprehensive property (two housing DPLs and a Sector Wide Approach-SWAp for registry modernization program and the development of urban upgrading) and a project under preparation in Peru (a comprehensive risk atlases for Mexican cities. Current proposed Adaptable Program Loan-APL). work in progress includes technical assistance on housing subsidy reform, as well as a comprehensive assessment of Central elements of this approach include: urban land market microstructure and dynamics that will · Support for developing a policy and institutional culminate in selected pilot programs for increasing the framework for housing and urban development that supply of land for low-income housing. IFC, in turn, has draws together the disparate stakeholders helped develop mortgage markets through local currency · A greater role for the private sector and community providers debt facilities to major originators in the sector, including · Support for widening and deepening housing finance Su Casita, Hipotecaria Nacional, and Hipotecaria Credito systems through a variety of products like mortgage y Casa and is focusing on providing warehouse credit insurance, standardizing mortgage securitization lines to support mortgage securitizations, and other capital · A shift away from implicit interest rate subsidies to market securities, and is also supporting the development of upfront demand-side subsidies a viable secondary mortgage market. · Increasingthesupplyofservicedlandforlow-incomehousing · Mainstreaming hazard mitigation into urban planning Brazil, like Mexico, has been pursuing market-based · Mainstreaming and up-scaling urban upgrading into reforms to address the enormous deficit in its housing stock, the overall city planning and financing process particularly for low and moderate income households. · Capacity building for local governments in areas such Official estimates of the total housing deficit vary from as land-use planning, regulation and zoning. 5.4 to 6.3 million households. The country also faced the challenge of a financial system ravaged by years of high This strategy has been complemented by the IFC's work in the real interest rates and volatile inflation. The Government of housing sector in LAC, which has focused on building viable Brazil has undertaken a number of reform measures starting primary and secondary mortgage markets in the region through from the 1997 Law 9514 that established a comprehensive a combination of investments and technical assistance. legal framework for mortgage securitization. 2 · January 2007 · Number 101 Box 1: Recent Housing Reform in Mexico and Brazil Mexico: In 2000, bankruptcy reform improved contract enforcement and creditor rights by clarifying and streamlining the process and strengthening lenders' ability to repossess assets. (The collateral provisions were further strengthened in 2003.) In January 2002, Mexico introduced a revised legal framework for credit bureau operations. This law, coupled with supporting bank regulation, improved the timeliness of credit bureau data on the cred- itworthiness of potential borrowers, increased lenders' use of credit bureau information and strengthened privacy protections. Mexico's first mortgage- backed securities were issued in December 2003, following years of improvements to the associated information systems. Other structural changes supporting securitization include the application of uniform underwriting standards, consistent loan valuation standards and transparent foreclosure rules. As a result of these efforts, Mexico's mortgage-backed securities market now compares favorably in terms of volume and number of transactions with those of comparable countries like Malaysia and South Africa. Sociedad Hipotecaria Federal (SHF) was created in 2001 to spur development of the secondary mortgage market by guaranteeing credits and creating a central database on borrowers, loans and mortgage-backed securitizations. Through partial guarantees, SHF has assumed a significant amount of the credit risk in securitized mortgage pools, lowering issuers' transaction costs and re- ducing the credit enhancement needed to meet a particular rating standard. The Mexican government, in turn, has explicitly guaranteed SHF's obligations through 2009. In addition to originating mortgages, SHF has been a major funding source for Mexico's mortgage finance companies (SOFOLs).Overall, 35 percent of SOFOL direct funding comes from government sources. Brazil: The Brazilian Housing Finance System relies on two basic funding sources: savings deposits held by the public with financial institutions au- thorized by the Central Bank of Brazil; and mandatory deposits made by employers in accounts held in the names of their employees in the Fundo de Garantia do Tempo de Servico or FGTS.However, many potential borrowers have been deemed ineligible to receive loans from these sources of financ- ing due to concerns over the difficulty and expense involved in foreclosing on property. This ineligibility led to the creation of a new source of funding. Law 9514 of 1997 changed the face of the Brazilian mortgage industry, principally through the introduction of a new securitization vehicle (CIBRASEC- Companhia Brasileira Securitização or the Securitization Company) that will improve liquidity in the mortgage marketing and a new type of real estate investment instrument-the CRI (Certificado de Recebiveis Imobiliarios or Certificates of Real Estate Receivables), which is a note issued exclusively by securitization companies. In February 2001, Brazil's Congress passed a constitutional amendment that guarantees the right to adequate housing for all Brazilians. In addition the Government of Brazil has been trying to enhance the role and impact of the market-based housing finance system (SFI) and to improve the existing the savings-linked Sistema Brasileiro de Poupança e Empristimo (SBPE) and the higher-end market based mortgage system, known as the SFI (Sistema Financeiro Imobiliário). As regards SBPE, key efforts have been focus on the orderly and phased expansion and deregulation of the SBPE and broadening its reach through changes to the targeting and weighting of loans eligible for financing. For the broader SFI, the Government aims to set the stage for a gradual expansion of market-based finance as market conditions evolve. The Government has created the Programa Social de Habitaçao (PSH), which combines an upfront down-payment subsidy to households with an upfront subsidy to lenders to compensate them for the extra risks and costs in lending to lower income households, and a well conceptualized auction system for participating financial agents. The Bank is supporting the efforts of the Government of would make local currency funding available to support Rio Brazil through the Housing DPL and TAL as well as the Bravo Securitizadora, a leading real estate securitization upcoming SWAp that focuses on areas such as institutional company in Brazil. development, better targeting of subsidies, establishing a credible regulatory and legal framework for housing finance. The Challenges Ahead In addition, the Bank is undertaking a technical review of The Bank's recent housing work in LAC has highlighted the issues related to the development of a functioning credit a number of emerging issues and gaps in our analytical insurance market; a strategic study of the medium-term knowledge. Main issues that require further attention include: future of FGTS, the Federal Pension Severance Guarantee Fund, which has established a program for upfront housing How do we make land markets work for low-income subsidies for the poor; and providing support to the federal housing? The supply of serviced land is the greatest urban upgrading program. In parallel, IFC's housing bottleneck to increasing the supply of low-income housing. finance strategy in Brazil aims to increase market liquidity Yet there are very few empirical, data-driven studies of by supporting the business activities of securitization urban land markets in the region. In finding a solution, companies, mobilizing funding from capital markets much of the problem is aligning the incentives of local investors, and helping standardize residential real estate governments (who often control the supply of land) with origination and securitization practices along international federal and state governments, who are responsible for lines. For example, in June 2006 IFC provided a credit- providing low-income housing. One interesting model is linked guarantee to Banco ABN AMRO Real S.A., which January 2007 · Number 101 · the Metrovivienda land banking/poverty alleviation program in still niche area of housing finance. The poor typically build Bogota, Colombia. However, each country in LAC needs its their homes incrementally and microfinance instruments own form of a sustainable model for the supply of land for low- offer a good match for their cash-flows. Financial and income housing that addresses land market rigidities and failures. non-financial institutions across the region are piloting new housing microfinance loan products. For example, How do we build a robust system of housing indicators? Very Patrimonio Hoy run by CEMEX in Mexico allows poor few countries in the region have a housing information system consumers to lock in building material prices, while making that is comprehensive, reliable and up-to-date, and is of use to small regular repayments and receiving advice on home all stakeholders including the private sector, federal, state and building. A credit card based payment system that is widely local governments, and regulators. Mexico, a sophisticated accepted by building material suppliers and contractors is middle-income country, does not have a system for tracking one way of addressing high operating costs, which represent new housing starts and one often has to wait for the national a key constraint in scaling up housing microfinance. income accounts for data on the subject. Similarly, very few Remittances sent to Latin America and the Caribbean from governments or central banks track the systemic risk posed by all parts of the world are expected to total more than $60 housing finance, along the lines of the systemic risk review billion in 2006, surpassing both the amount of official conducted by the US Office of Federal Housing Enterprise development assistance and foreign direct investment to the Oversight-OFHEO). There are a number of private housing region, Housing is a priority area of usage for remittance databases (e.g. SOFTEC in Mexico), but there is a need for an finance. One of the most promising areas of housing finance initiative to pull together disparate sources of information into is how to design innovative instruments that could leverage one comprehensive source and also build regional and local this enormous flow of capital. For example, using the affordability and hedonic price indices. remittance history of a recipient to serve as collateral for a home mortgage or a home construction loan, or creating How do we make rental housing work for the poor? Rental vehicles by which some of these funds could be invested in housing is the Achilles heel of the Bank's housing practice. more liquid mortgage-backed securities. For many years the unspoken assumption by both governments and the Bank has been that home ownership is a universal How do we create a new class of medium and small aspiration. This is not true. There are many people (including developers? Experience in other countries has shown highly vulnerable groups) who cannot or do not want to us that small and medium developer capacity is key to own, and would therefore rather rent. Similarly, in developed addressing the supply of low-income housing. Large economies young people generally rent as they move between developers are most often uninterested in the small profit jobs and cities and find rental housing the most cost effective margins of low-income housing. However, small and way of allowing them to move to better opportunities. medium developers are handicapped by a lack of access Government policies, on the other hand, have been hostile to to construction finance. Guarantee schemes and bridge renting through tax treatment, rent control laws etc. There is loans are good ways to address this gap (as shown by the a need to better understand this market, in terms of its actual success of NURCHA in South Africa ) as is the provision size (at least in the main urban centers), social composition of some form of guarantees/ refinancing of long term of tenants, rents actually charged for different submarkets, mortgages which would go a long way to increasing estimated vacancy rates, and the undeclared/informal market banks' willingness to provide construction loans. Costa share. In addition, clearer information is needed on the detailed Rica, where NGOs have developed relatively sophisticated tax treatment, non-payment and other main risks, as well capabilities to deliver low-income housing, offers another as on the formal and informal gross and net yields received useful model. There is a clear need for an analysis of small by investors. Similarly, innovative financial instruments and medium developer capacities and needs, as well as like rent-to-own (as in the UK) and lease-to-own (Austria) for greater efforts to design financial instruments that best may be useful in this regard as would promoting non-profit address these needs. management of rental housing. About the Author How do we tap the full potential of housing microfinance Abhas K. Jha is a Senior Infrastructure Specialist with the Water & and remittances? Housing microfinance is a growing but Sanitation Cluster (LCSFW) of the Latin America and the Caribbean Region of the World Bank, based in Washington D.C. "en breve" is produced by the Knowledge Team of the Operations Services Department of the Latin America and the Caribbean Region of the World Bank - http://www.worldbank.org/lac · January 2007 · Number 101