How the blockchain nails serial debt defaulters

Zimbabwe’s economic situation has seen many of those borrowing from financial institutions failing to honour obligations. The high incidences of defaulting are amplified by cases of high profile individuals who have had properties attached and auctioned off to settle their debts.

Nevertheless, it is also apparent that some individuals have deliberately default because they are aware that taxpayers through government will pick up the tab. The piece examines how the Blockchain technology can put a stop to this without the need to expend many resources.

In 2014, Zimbabwe’s central bank, the Reserve Bank of Zimbabwe (RBZ) created an entity, the Zimbabwe Asset Management Company (ZAMCO) that it mandated to take over toxic debts on the books of financial and non-financial institutions.

Toxic debts

These toxic debts or non-performing loans (NPLs) as they as commonly known, are loans which debtors fail to service for one reason or the other. Apparently, it seems a deliberate failure to repay loans does not come with the usual perks such as getting blacklisted or being declared insolvent.

As a consequence, the average NPLs levels in proportion to the total advances, had by 2014/15 reached a dangerous rate of 20.45% against a standard of 3% or less. The lack of a deterrence against failure to payback is partly responsible for this growth.

Many banks, including the country’s biggest when measured by the deposits mobilized, the Commercial Bank of Zimbabwe (CBZ) Holdings, faced uncertain futures as their NPL ratios had ballooned to alarming levels.

Something had to be done then as this (CBZ) as well as other institutions in a similar predicament faced an inevitable collapse. That is how ZAMCO came to life.

Overbearing influence of the defaulting political elite

CBZ Holdings, a supposedly a publicly listed entity with both local and foreign shareholders, is the preferred financial institution of the country’s political and business elite.

Indeed, government holds significant stake in CBZ Holdings but is by no means the largest or the controlling shareholder.

Politicians’ preference of this particular institution is not a reflection of the bank’s marketing gravitas. Rather, it may well be an indictment against the bank’s lax credit controls as well as its inability to hold all its debtors to account irrespective of their position in society.

That the political elite routinely use this institution to facilitate their private deals with ease is not in question.

The overbearing influence by powerful politicians on the banks’ operations means it cannot pursue debtors like a normal bank can. That is how the number of defaulting borrowers keeps getting out of hand.

This depiction of CBZ Holdings is actually representative of what is happening across the entire banking industry although this challenge is more pronounced with locally established banks.

Consequently, that is how the level of NPLs grew to become a threat to the financial well being of the entire banking industry. This prompted the central bank to intervene via ZAMCO, a tax payer funded entity.

After nearly five years of operations, ZAMCO has managed to clear the majority toxic debts off the books of banks thus giving these a licence to resume the same lending practices that brought them on the brink.

However, ZAMCO is now expected wind down its operations as government has indicated it now wants to end the practice of bailing out delinquent institutions.

Lack of a credit reference agency

Unfortunately, the same problem is likely to recur in the not so distant future and again, tax payers will be asked to bail out the unrepentant banks.

Some have argued that this problem will persist partly due to the fact that Zimbabwe does not have a fully functioning credit reference bureau. High interest rates, economic recession and poor decision making are the other major causes of the high default rates.

A credit reference bureau normally acts as buffer against potential bad debtors. Those previously declared insolvent are stopped from borrowing from any financial institution until they reform.

It is amazing that after all the financial crises seen in the country, from the Roger Boka Universal Merchant Bank’s infamous collapse in the late 90s, to the 2004 financial crisis that saw a number of locally established banks folding as well as the recent one which prompted the creation of ZAMCO, nothing concrete has been done prevent their recurrence

In all the crises mentioned above, it was the high levels of un-serviced debts that caused the turbulence as well as the dropped confidence in the financial services sector.

Zimbabwe does not yet have a fully fledged credit reference bureau, an institution that is supposed to enable financial institutions to share borrowing history of potential borrowers. This information can be anything from a debtor’s repayment history to their previous business activities to which loans were advanced.

As it stands now, it is still possible for an individual to borrow from one bank to repay a debt at another bank. Bank A has no way of knowing a borrower’s history with Bank B unless of course the two banks have a working understanding that allows them to share information.

Two banks might share some information but because such information is not available to the rest of the banks, serial bad debtors will still be able to borrow from different banks at the same time. This practice of double dipping, as RBZ governor John Mangudya once put, prejudices financial institutions especially now in this hyperinflation environment.

The unfulfilled promise

The RBZ, being aware of this problem, has intimated several times that is plans to have a credit reference bureau up and running but progress on this front has been very slow.

Perhaps the same powerful politicians are exerting undue influence on RBZ to stops this envisioned plan.

Nevertheless, there is a solution that can potentially help put a stop to this practice of ‘double dipping’ and that solution lays in a technology and not an agency manned by individuals who are most likely to be manipulated by the corrupt politicians and businesspeople.

This solution is the blockchain, a technology which hitherto has been widely associated with cryptocurrencies like Bitcoin and XRP.

The Blockchain solution

Blockchain or the distributed ledger technology as it is also known, is a digital database containing information, such as records of financial transactions, which can be simultaneously used and shared within a large decentralised, publicly accessible network.

With this blockchain, it is possible to have a platform where all banks can share information concerning the borrowing history of all potential debtors. With this blockchain, all banks will get the same information at the same time thus leaving the malignant borrower without the opportunity to ‘game’ the system as is the case now.

For instance, if borrower A is declared insolvent or bad debtor by Bank X, this new information is shared almost immediately with the rest of the banking industry via the blockchain. Borrower A cannot therefore go and successfully borrow from Bank Y because this bank is already aware of this borrower’s status. Serial bad debtors will be exposed if this technology is adopted by all financial institutions.

The mere knowledge of such a technology might be enough to discourage serial and deliberate defaulters to continue with this practice.

A blockchain solution can be created with inbuilt functionality or smart contract that pre-empts a blacklisted individual from ever getting a loan approved across the banking industry.

Perennially exposed banks like CBZ Holdings and ZB Holdings, both listed on the Zimbabwe Stock Exchange, will benefit immensely from the inclusion of smart contracts in any such blockchain based solution.

It will not be up to an individual bank officer or any one individual within the organization to approve a loan to a blacklisted person. That task is left to a technology which cannot be bribed or threatened.

More importantly, information on the blockchain is immutable; no one person can arbitrarily alter data on the chain without the rest of the nodes (or computers) on network getting wind of this.

In that sense, the blockchain is a better solution than a credit reference bureau can ever be because this technology comes with an elevated level of transparency when compared to a regular agency manned by people who are fallible.

Stakeholders to the financial services industry must seriously consider this solution; shareholders of financial institutions must impress on the RBZ the need for this blockchain. With the Blockchain everyone else wins except bad actors.