PARLIAMENT OF THE REPUBLIC OF SOUTH AFRICA PORTFOLIO COMMITTEE FOR FINANCE

1. PARLIAMENT OF THE REPUBLIC OF SOUTH AFRICAPORTFOLIO COMMITTEE FOR FINANCE Presentation by The Banking Association South Africa 19 September 2006

2. FSC Foundation Principles Voluntary commitment Broad-based black economic empowerment Consistent with sound business practice January 2004 to December 2014 timeframe Mid-term review – 31 December 2008

3. FSC Empowerment Financing Underlying principle • Reallocate SA national savings on a more equitable basis What national savings Allocated to what Implied target level Housing Infrastructure SMEs Agriculture Targeted investment BEE Txns Total Banks Retirement funds Life Offices Collective investments Short term insurers Total R774bn R730bn R456bn R136bn R34bn R2 130bn R42bn R25bn R5bn R1bn R73bn R50bn R123bn (5.75%) • Banks (36%) • Housing • Infra. • SME • Agric • Other savings (64%) • Housing • Infra R26bn R0-20bn R0-20bn R5bn* R1bn* R47bn R22-42bn R5-25bn • Other (non bank) savings institutions must buy MBS and invest in infrastructure to achieve targeted investment targets * Only banks are likely to accommodate SME and agriculture finance (cannot pass on to Life and/or Retirement funds)

4. FSC Target Market Housing in South Africa Financial Sector Charter target market Dependant on Government for 'social' housing (7m hseholds) • 2-4m households earning between R1 500 and R7 500 (+CPIX) monthly household income • 2008 FSC targets Without Govt support With Govt support Rbn Underserved*'commercially-viable' market (2-4m hseholds) Origination 40 50 • Targeted • investment • Banks • Other F/S 8 11 Functioning market (3-4m hseholds) 24 31 Total = 12-14m hseholds (45m people) Focus of Government/Private Sector partnership Doorway to success of BNG philosophy * Sub-standard infrastructure and services, poor community governance, and an undesirable social environment are currently barriers to lending

5. FSC Housing – Issues The major issue: Housing units not available

6. Shortage of Housing Units in SA* Houses Existing Shortage Gauteng KZN E/Cape W/Cape Others needed houses ‘000 ‘000 ‘000 ‘000 ‘000 ‘000 ‘000 ‘000 2,5k – 7,5k income bracket 2 630 1 969 661 191 128 77 73 192 New units needed each year for 5 yrs*¹ 132 38 26 15 15 38 Current p.a. supply 19 9 1,4 1,3 2,7 4,6 The challenge is daunting – especially when considering other development/construction priorities * Research into Housing Supply & Functioning Markets: Matthew Nell &Associates/The Settlement Dynamics Project Shop – December 2005 *¹ To reduce shortage by 60% in 5 years

7. Shortage of Housing Units – over 40% in 7 Metros* Given resource constraints, focused interventions needed to achieve an impact * Research into Housing Supply & Functioning Markets: Matthew Nell &Associates/The Settlement Dynamics Project Shop – December 2005 *¹ To reduce shortage by 60% in 5 years

8. Supply Constraint #1 • Lack of access to well located/reasonably priced land • Public sector land not being assembled • procurement regulations written for a commodity • (evaluates price), not integrated development • (evaluates product suitability) • procurement process is such that it is a barrier • to entry for developers • transfer to a centralised entity unlikely to provide • the solution • Private sector land too expensive

9. Supply Constraint #2 • Serious delays in land proclamation and servicing process • Land to stands - was 12/18 months; now 30/59 months • Stands to houses - was 5 months; now 19 months • lack of capacity (especially in Municipalities and • Provinces) • lack of bulk service capacity

10. Supply Constraint #3 • Ever increasing cost inputs (render product unaffordable • and thus not provided) • Land, material & unit labour costs will not drop • House cost beyond affordability reach of target market • Subsidy (unintended) consequence – market distortion • No complementary commitments in other relevant charters mirroring the FSC housing commitment

11. Estimated salary to buy a new house* 10,000 • Monthly household income level • Upper FSC market (CPIX adjusted) 7,500 • Estimated salary to buy a second hand house* 5,000 • Lower FSC market (CPIX adjusted) 2,500 0 Oct-03 Apr-04 Oct-04 Apr-05 Oct-05 Apr-06 • June ‘06 • Contributors • Dec ‘03 • Dec ‘04 • Dec ‘05 • Stand • 93 000 • 46 000 • 57 000 • 80 000 • Building cost (top structure) • 86 500 • 93 100 • 99 000 • 102 600 • 2nd hand affordable house • 102 500 • 122 600 • 140 900 • 151 500 • Prime interest rate • 11.5% • 11.0% • 10.5% • 11% * Based on calculated average house prices, 20-year loan at prime plus 2; 25% instalment to income Source: ABSA affordable house price index; The Rode report 2004 & 2006; The Building Cost Report 2006 Housing is rapidly becoming too expensive for the Finance Sector Charter Target Market

12. Subsidy Distortion Effect - Illustrative Above R3 500 income must “self finance” (between R28 400 & R48 600) to get same value as below R3 501 income 52000 48 000 46 800 36 000 23 600 3 400 Bulk infrastructure “Self finance” Land Top-up Subsidy Top structure 0 1 500 3 500 7 000 Income

13. Subsidy Distortion Proposal Reduce “self finance” for lower incomes – to R12 400 at R3 501 (still R48 600 at R7 000) 52 000 48 800 46 800 36 000 23 600 3 400 Bulk infrastructure Reduced “Self finance” Land Subsidy Top-up Top structure 0 1 500 3 500 7 000 Income

14. FSC Housing - Issues H The risk issues: Affordability Dysfunctional market

15. Fixed Rate needed as Target Market has no “Cushion” to absorb Rate Increase Monthly income 3 500 25% to repay loan < 880> 80 000 @ 12% 2 620 Minimum Living Standard 2 500 Cushion 120 1% rate increase 57 2% rate increase 115 3% rate increase 173

16. What a borrower pays for when buying a house (repaid at R2 960 pm over 10 years) Serviced stand and bulk infrastructure 90 000 25% Top structure (house) 100 000 28% Any attempt to improve homeowner affordability must target these big contributors to cost Transfer and registration 8 100 2% Up front cost 198 100 55% Cost of money: investors/depositors funds @ 8% (repo rate) 90 300 25% Cost of risk: credit losses absorbed @ 4.5% default and 46% LGD (PIC report) 41 000 12% Bank operating cost: R3 400 origination cost and R600 annual servicing cost (Banking Association report) 9 400 3% Capital cost plus margin (after tax ROE = 19% for 5% regulatory capital)) 16 100 5% Total cost to borrower 354 900 100% Rand* % of total cost * For a loan at prime plus 1.5, repaid over 10 years. Source: Banking Association analysis

17. Rand* % of total cost Serviced stand and bulk infrastructure 90 000 20% Top structure (house) 100 000 22% Any attempt to improve homeowner affordability must target these big contributors to cost Transfer and registration 8 100 2% Up front cost 198 100 44% Cost of money: investors/depositors funds @ 8% (repo rate) 142 700 31% Cost of risk: credit losses absorbed @ 4.5% default and 46% LGD (PIC report) 61 500 14% Bank operating cost: R3 400 origination cost and R600 annual servicing cost (Banking Association report) 12 400 3% Capital cost plus margin (after tax ROE = 26.5% for 5% regulatory capital) 36 500 8% Total cost to borrower 451 200 100% What a borrower pays for when buying a house (repaid at R2 500 pm over 15 years) * For a loan at prime plus 1.5 repaid over 15 years. Source:Banking Association analysis

18. Housing Options Needed to Normalise Dysfunctional Market Mortgage with no subsidy A 'staircase' to homeownership Mortgage with Govt subsidy A housing “social safety net” Pension backed & unsecured finance Rent-to-buy Social housing Financial Sector Government

19. Loss Limit Insurance (after bank takes first loss) needed to • normalise dysfunctional market • Individual cover to “reach” <R5 000 monthly income market • dysfunctional market - high propensity to default • and loss given default – resulting in unaffordable • risk premium • Pool cover to access funds from financial sector • without performance data - required for AAA rating - • funding cost unaffordable

20. Way Forward Prioritise Supply Issues • Procurement regulations • Process inefficiencies • Risk sharing arrangements through partnering • Fixed rates • Loss limit insurance • Housing ladder