95975 Improving Protection in Financial Services for Bulgarian Consumers Evgeni Evgeniev and Magdalena Filipova1 between 2003 and 2011, as household borrowing rose from 7 percent of GDP in 2003 to 25 percent in 2011. Loans for Key Messages household purchases gained an increased share in the loan  Optimal consumer protection in financial portfolio. Since December 2003, the percentage of loans services and high consumer financial capability are with maturities of between one and five years has decreased at the heart of a financial sector in Bulgaria that (from 65 percent of total household loans to 6 percent by aims to be effective, competitive, and fair. end-2011); loans with maturity above five years have increased proportionately and stood at 66 percent by end-  Regulation of consumer protection and access to 2011. Bad and restructured loans rose from 1 percent of financial education programs have become highly total households in December 2004 relevant due to the global financial crisis and to 18 percent by the end of 2011. subsequent government attempts to reduce risks to Loans by nonbank credit financial stability. institutions have shown higher  A 2009 World Bank report2 found gaps in delinquencies than those from Bulgaria’s financial consumer protection framework commercial banks. and recommended: i) strengthening the institutional The use of bank/debit cards has structure; ii) improving rules on consumer significantly increased since disclosure; iii) reinforcing rules governing financial January 2005, as confirmed by a survey conducted in 2010 institutions’ consumer business practices; iv) by the market research institute GfK Bulgaria. Thirty-four improving consumer complaint mechanisms; and v) percent (20 percent in 2005) of respondents reported having expanding financial education for consumers. a bank card, using it only for direct deposits from their  A 2010 World Bank survey3 found that employer, and 9 percent (2 percent in 2005) own a credit consumers have low trust in private financial card. Findings from the survey suggest that Bulgarians institutions and that a large percentage have limited continue to be underinformed about the opportunities – and financial information and knowledge, preventing risks – offered by the ownership and use of credit and debit them from making advantageous financial decisions. cards, highlighting the need for improving access to, and the quality of, financial education. Outline of Bulgaria’s Financial Services Industry Although the expansion of financial services has brought Financial services in Bulgaria have grown significantly over significant benefits for consumers, it has exposed both the past decade. Consumer debt increased almost sixfold providers and recipients to greater financial risk. The recent financial and debt crises point to the array of risks 1 consumers face. In Bulgaria, these risks relate to the high The authors would like to thank Sue Rutledge and Juan Carlos Izaguirre share of Greek-owned banks (25 percent of assets), the from the World Bank for helpful comments on this knowledge brief, which builds on key results in two World Bank studies: the 2009 report growth of nonperforming loans (NPLs) (15 percent of total “Diagnostic Review of Consumer Protection and Financial Capability in loans), and a further delay in the recovery of credit, which in Bulgaria” and the 2010 “Household Financial Capability Survey in turn is slowing economic recovery. Given these risks, Bulgaria.” financial consumer protection requires strengthened market 2 World Bank, “Diagnostic Review of Consumer Protection and Financial Capability in Bulgaria” (Washington, DC: World Bank, 2009). supervision and regulation and wide-ranging financial 3 “Household Financial Capability Survey in Bulgaria,” conducted by education initiatives. Alpha Research for the World Bank in May 2010. ECA Knowledge Brief Why is Financial Consumer Protection Important? National policy on consumer protection is developed by the National Consumer Protection Council (founded in 1999). Greater prudential financial regulation and oversight have Its role is to advise MEET and to develop multiyear become medium-term targets as a result of the global strategic plans for consumer protection. To date, the financial crisis impact. Furthermore, robust consumer National Council has been slow to start, and there is protection and financial literacy are needed to: (i) help currently insufficient coordination among government mitigate financial risks; (ii) promote the deepening of agencies responsible for financial consumer protection. financial markets to serve a broad population, including low-income households; and (iii) improve the efficiency of The Consumer Protection Commission (CPC) under the retail financial market. These measures help ensure the MEET’s authority is the primary body responsible for long-term stability of the financial system. Financial sector enforcing consumer protection legislation and handling governance and business conduct regulation and supervision complaints on consumer credit, payments, and remittances. also play an important role in medium- to long-term It has strong authority, including the right to issue stability, as they help build consumer trust in financial individual administrative acts and penal decrees and impose institutions, generate conditions for the best choice in the “forceful administrative measures”. However, on consumer supply of and demand for financial products, and ensure disputes, the CPC is limited to mediation, primarily through that financial institutions address consumer needs. ad hoc conciliation committees. In other parts of the financial sector, such as insurance, pensions, and securities, At its heart, the need for consumer protection arises from an consumer protection is enforced by the Financial imbalance of power, information, and resources in favor of Supervision Commission (FSC), which has its own financial service providers, thus disadvantaging consumers. complaint mechanism. In addition, complex financial products may be difficult to assess even when full information is disclosed. Consumers The European Union’s (EU) Directives on Consumer empowered with information and basic rights are an Credit, Distance Selling, and Unfair Commercial Practices, important source of market discipline, encouraging financial which strengthened consumer rights, became law in institutions to compete by offering better products and Bulgaria upon its EU membership in 2007. However, while services. By strengthening transparency and accountability Bulgaria’s legal and regulatory financial consumer in the delivery of financial services, consumer protection protection framework has improved, many gaps remain, also helps promote good governance in the financial sector. resulting in limited financial knowledge and low trust in private financial institutions among Bulgarian consumers. Throughout Europe (including Bulgaria), the rapid growth of household lending over the last decade has been Figure 1: Trust in the Private Financial System accompanied by increasing consumer difficulty in 100% understanding the risks and obligations assumed and/or the 11% 14% full range of choices available. Effective and efficient 30% 32% 80% consumer protection should thus provide consumers with: 35%  Transparency, by providing plain, adequate, and 46% DK 60% comparable information about prices, terms and 43% negative conditions, and risks of financial products and services; 47% 40% 33% average  Choice, by ensuring fair and noncoercive practices in 26% the sale and promotion of financial products and 20% 16% positive services, and collection of payments; 21% 15% 14% 11%  Redress, by providing inexpensive and speedy 0% 6% mechanisms to address complaints and resolve disputes; Banks Insurance Leasing Securities  Privacy, by ensuring protection from third-party access Source: Household Financial Capability Survey in Bulgaria, May 2010. to personal financial information. The Bank survey found that trust among financial consumers is particularly low in the leasing and securities The Evidence in Bulgaria sectors, while over 50 percent of Bulgarians indicate either Under Bulgaria’s Consumer Protection Act, the Ministry of unsatisfactory or no knowledge when asked to self-evaluate Economy, Energy and Tourism (MEET) is the main their financial literacy level. The survey methodology government authority responsible for consumer protection. (developed by the World Bank) incorporated a test for the respondents, which showed similar distribution. ECA Knowledge Brief Figure 2: Quality of Financial Services Improving consumer disclosure laws. Consumer 100% disclosure forms the core element of consumer protection, 22% which can be obtained by enforcing restrictions and 30% requirements on financial institutions in presenting financial 80% 45% 12% 53% products. For instance, due to the growing variety and DK 60% 20% complexity of financial products, a clear and standardized negative format is needed to help consumers make informed choices 40% 24% 40% 20% average and ensure that they fully understand the financial products 33% they purchase. The Law on Consumer Credit in Bulgaria, 20% 21% positive 26% 20% which applies to loans between €200 and €20,000 and 17% 10% requires detailed disclosure to consumers, is a good start. A 0% 7% “Key Facts Statement” for each type of standard retail Banks Insurance Leasing Securities financial product would also help consumers understand the Source: Household Financial Capability Survey in Bulgaria, May 2010. material conditions of their contracts. Professional associations could develop standardized formats for this Five Recommendations kind of statement for each retail item, and consumers should The World Bank “Diagnostic Review of Consumer be able to obtain a copy of the full terms and conditions without having to apply for any product. Protection and Financial Capability in Bulgaria” 4 included the following objectives: (i) examine the country’s existing Strengthening the rules governing consumer-related rules and practices against good practices; (ii) recommend business practices. The Association of Bulgarian Banks ways to improve consumer protection and financial literacy; has developed a code of ethics, but it needs to be widely and (iii) refine a set of good practices for assessing disseminated and regularly monitored by professional consumer protection and financial literacy. The review used associations and the CPC. Cases of noncompliance could be international good practices that incorporate EU provisions published on the websites of professional associations to on consumer protection; reports of European financial warn future clients, and all providers of consumer financial regulatory and supervisory agencies; laws, regulations, and services could be registered and become subject to business codes in the United States, Australia, and Canada; monitoring by a supervisory agency. In addition, special and good practices for financial education and awareness attention could be paid to financial intermediaries and debt used by the Organisation for Economic Co-operation and collection services, and training and/or certification Development (OECD). The review on Bulgaria resulted in a requirements for all sellers of financial products may be number of recommendations. considered. Strengthening the institutional structure. A clear Enhancing consumer complaints and dispute institutional structure is needed for consumer protection in mechanisms. Consumers need to be confident about using financial services in Bulgaria. Based on international the available redress system, that is, that their concerns will experience, the long-term recommendation would be to be addressed efficiently and in a fair and transparent establish a financial ombudsman (as in the United manner. This is especially required in Bulgaria, where Kingdom) that would clarify and consolidate the consumers have expressed a strong distrust in the financial institutional structure for financial consumer protection. institutions. The violation of consumer protection laws has This presents some challenges in Bulgaria, however, as the gained increasing importance within the EU. In Bulgaria, Constitution restricts authority to make binding final legal only about 1,800 complaints were received by the FSC in decisions to the court system. The review therefore 2010, showing an upward trend since 2006. recommends expanding the CPC’s authority and capacity as an interim solution. Various – and not mutually exclusive – Figure 3: Dynamics of Complaints alternative institutional frameworks include:  The CPC is responsible for supervising compliance with consumer protection legislation for all financial services, not only consumer credits and payments.  The financial supervisory agencies are responsible for ensuring this compliance.  A financial ombudsman handles disputes, complaints, and inquiries related to consumer financial services, eventually replacing the conciliation committees. 4 The study is available at www.worldbank.org/consumerprotection. Source: Bulgaria, FSC report. ECA Knowledge Brief All financial institutions need to establish a clear process by expected to be adopted also in mid-2012, which will set which consumers can submit disputes over transactions. common EU rules and requirements for securing mortgage Also useful would be to analyze statistics on the number loans. Finally, a new Directive on Deposit Guarantee and types of consumer complaints for systematic risks that Schemes is expected to be adopted by the EU as well. may threaten financial sector stability. In Bulgaria, no supervisory agency can take a binding decision on the Bulgaria would be required to transpose and incorporate all action to be taken by financial institutions in a consumer of this new EU legislation. Thus far, the only recent change dispute. A conciliation committee can attempt to find an in the area of consumer protection in financial services was out-of-court solution, but such committees must operate on the amendment to the Consumer Credit Law in 2010 the basis only of an amicable settlement acceptable to both (amend. State Gazette, vol.58/30/06/ 2010), which aimed to parties. In this respect, the limited number of settled-out-of- make calculation of the reference interest rate more court cases in Bulgaria and the prolonged duration of court transparent. Also as part of this change, credit institutions proceedings mean that there is no effective dispute- were required to publish the methodology applied on their settlement mechanism for financial services issues currently website to make it visible on their premises, and to give in place. This is limiting the conditions for a fair, open, and consumers access to historical reference values. healthy financial market. Clearly, the structure of conciliation committees needs to be improved. In December 2011, the FSC launched an international event entitled “Development Outlook of the Non-Banking Expanding financial education for consumers. In the Financial Sector,” bringing together the Bulgarian Prime long term, effective financial consumer protection relies on Minister and high-level government officials and experts well-educated financial consumers who have easy access to from the European Commission, World Bank, and the education about their financial services – not just the terms European Securities and Markets Authority, as well as of service, but also the risks and rewards of different nonbanking and bank regulators from the region, private personal financial strategies. sector, and academia to discuss a range of topics, including financial consumer protection and financial literacy. The Where Are We Now? FSC pointed to the need for a national strategy on financial consumer protection and financial education. As a follow- Several measures to improve Bulgaria’s financial services up, the FSC held a press conference in January 2012 system have already been implemented. The 2007 revisions offering its own Program on Consumer Protection and to various laws based on EU directives were mentioned Literacy in Financial Services for public consultation. The above. Changes to securities and insurance legislation program was adopted by the FSC in March 2012. incorporated several other EU directives, including the Payment Service Directive (2007), which became the Law Finally, the FSC has also championed an initiative, on the Payment Services and Payment Systems. And involving key ministries (Economy, Energy and Tourism; revisions to the Law on Credit Institutions brought leasing Education, Youth and Science; and Finance) and the Central and consumer finance companies under the supervision of Bank, to prepare a national program for financial education the Bulgarian National Bank (BNB). and literacy that requires the active involvement of private financial institutions, their professional associations, and In response to the financial crisis, the EU introduced some members of civil society. The result will be empowered new directives and made revisions to existing ones aimed at financial consumers – and, it is hoped, a stronger and more strengthening regulation and supervision (including stable financial system. consumer protection). The Directive on Credit Agreements for Consumers was amended in 2011 and is due to be About the Authors transposed into member states legislation by end-2012. The Evgeni Evgeniev is a Private Sector Development Specialist amendment provides new assumptions for calculating the with the Private and Financial Sector Development Unit of annual percentage rate for credit charges without fixed the Europe and Central Asia Region of the World Bank. duration or repayable in full repeatedly, and also standards Magdalena Filipova is an Intern with the Private and for the timing of the initial drawdown of credit and Financial Sector Development Unit of the Europe and consumer payments. A Mortgage Credit Directive is Central Asia Region of the World Bank. “ECA Knowledge Brief” is a regular series of notes highlighting recent analyses, good practices and lessons learned from the development work program of the World Bank’s Europe and Central Asia Region http://www.worldbank.org/eca