Republic of Madagascar
Financial System Stability Assessment, including Reports on the Observance of Standards and Codes on the following topics: Banking Supervision, and Anti-Money Laundering

The insurance sector is underdeveloped and has been inadequately supervised to date, as the regulator lacks the requisite independence, skills, and resources. The three public pension systems, which cover less than 10 percent of the active population, appear to be fiscally unsustainable. The banking regulatory and supervisory framework is broadly adequate, although implementation and enforcement need further strengthening. The weak financial position of the Central Bank of Madagascar (BCM) could undermine macroeconomic and financial policies and contribute to economic and financial instability.


The insurance sector is underdeveloped and has been inadequately supervised to date, as the regulator lacks the requisite independence, skills, and resources. The three public pension systems, which cover less than 10 percent of the active population, appear to be fiscally unsustainable. The banking regulatory and supervisory framework is broadly adequate, although implementation and enforcement need further strengthening. The weak financial position of the Central Bank of Madagascar (BCM) could undermine macroeconomic and financial policies and contribute to economic and financial instability.

I. Background

A. Structure of the Financial System

11. The financial system in Madagascar is dominated by commercial banks (Figure 1 and Table 1). All seven registered commercial banks are foreign-owned,1 with three subsidiaries of large French banks (Crédit Lyonnais, Société Générale, and BNP-Paribas) accounting for around 65 percent of banking sector assets. Nonbank financial institutions (NBFIs) account for around 16 percent of financial system assets, and include insurance companies, pension funds, and several other institutions that are involved in microfinance. NBFIs are small and do not pose systemic risks. Access to financial services is still very limited, with only 35 percent of low-income households having access to depository services and 2 percent to credit.

Figure 1.
Figure 1.

Features of the Financial Sector

Citation: IMF Staff Country Reports 2006, 305; 10.5089/9781451825398.002.A001

Sources: BCM and CSBF.
Table 1.

Structure of the Financial System, 2003-2004

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Sources: BCM, CSBF, and Ministry of Finance.

Figures for insurance available only for two companies ARO and Ny HAVANA 2004.

Caisse de retraite de la Caisse Nationale de Prevoyance Sociale (CNaPS) and FUNRECO (private pension Fund).

Caisse d’épargne, CCP and three unlicensed financial (microfinance) cooperatives. Information for Caisse d’épargne not available for 2004.

B. Potential Sources of Vulnerability

12. Although growth has accelerated in recent years, Madagascar is susceptible to frequent exogenous shocks. The economy grew by over 5 percent per year in real terms in 2003-05, and real growth is expected to average 6 percent per year over the medium term. However, the country remains vulnerable to: (i) weather-related shocks, such as the cyclones which severely damaged the country’s infrastructure and rice crop in 2004; (ii) price shocks to both key commodity exports, such as vanilla, and imports, such as petroleum products; and (iii) trade policy shocks, such as those resulting from the termination of the Agreement on Textiles and Clothing in early 2005 and the expected termination of the third party provision under the African Growth and Opportunity Act in 2007.

13. Against the above background, economic developments in Madagascar have felt the effects of significant political turmoil. The political crisis of 2001-02 brought a sharp downturn in economic activity, with real GDP falling by around 13 percent in 2002. While the banking sector continued operations throughout the crisis and ensured the continuity of the payments system, the quality of the banks’ loan portfolio deteriorated significantly.

14. Recent macroeconomic performance of Madagascar has been broadly satisfactory, buoyed by strong performance in the agricultural, construction, tourism, transport, and export processing zone sectors; however, the external sector remains weak. The current account deficit widened considerably in 2004, despite the sharp depreciation of the exchange rate. Furthermore, the limited data available for 2005 point to a considerable weakening in the value of vanilla exports, due to a plummeting in world vanilla prices, though, on the positive side, performance in the export processing zones, including garments and tourism-related sectors, seems to be good.

15. The operating environment for financial services shows considerable structural weaknesses and is not conducive to a robust development of the financial sector. Macroeconomic improvements and political stability have been relatively recent. Weaknesses persist in the legal, judicial and accounting frameworks, financial information on enterprises is available only to creditor banks, and integrity and governance concerns persist. Banks’ risk perceptions, and relatively high levels of nonperforming loans, lead to high-risk premiums and correspondingly high lending rates. Payment systems are slow.

II. Strengths and Vulnerabilities of the Financial System

A. Commercial Banks

Financial soundness indicators

16. The financial soundness indicators show a generally adequately capitalized, liquid and profitable banking system, although NPLs remain a concern (Table 2). The overall capital adequacy ratio (CAR) is well above the required minimum of 8 percent. In late 2004, the CAR of one large foreign institution fell slightly below 8 percent, as a result of a rapid increase in loans to the private sector issued in 2004, but this bank subsequently increased its capital, and its CAR rose to above 10 percent in March 2005. Solid bank profits are mainly due to high net interest income, supported by the predominance of unremunerated or low yield short-term deposits. Over recent years, banks have had large amounts of excess liquidity, on average 24 percent of required reserves during 2004, mainly for lack of viable lending opportunities.

Table 2.

Financial Soundness Indicators for the Banking Sector, 2000-04

(In percent unless otherwise indicated)

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Sources: BCM and CSBF.

FSIs recalculated by the staff for end-2004 in accordance with the Compilation Guide on FSI (

Net income divided by bank equity.

Recalculated from the balance sheet as specific provisions divided by gross NPLs. The denominator of this ratio as calculated by CSBF staff was net of accrued interest on NPLs, which led to a higher ratio.

17. Loan quality of commercial banks remains a concern. The ratio of NPLs to total loans remains high, although declining (11.4 percent as of December 2004, compared to around 20 percent as of December 2002). The ratio of provisions to NPLs is low at 49 percent.2 The NPL problem is compounded by the lengthy legal procedures for claim recovery, the lack of training of the judiciary in financial matters and weak financial information on borrowers.

18. Although diversification over sectors is adequate, corporate credit overall is concentrated in a relatively small number of borrowers. Bank loans to the ten largest corporate clients account for 24 percent of the total corporate loan portfolio. In comparison to countries at similar levels of development, the sectoral distribution of credit is reasonably diversified, with the largest concentrations in the industrial and trade sectors.3 Credit to households is low but growing rapidly.

Stress tests

19. Results of the stress tests conducted by the mission suggest that credit risk is the main risk facing the banking system (Table 3). In the event of a severe shock to the asset quality (e.g., a doubling of NPLs for each individual bank, or a migration of 10 percent of outstanding loans to more severe classifications), the banking system as a whole would lose more than 30 percent of its capital base. The impact on the overall capital adequacy ratio would be slightly smaller but still significant as Tier I capital accounts for around 90 percent of the total regulatory capital. For the majority of banks, even substantial exchange rate or interest rate shocks would not have serious impacts on capital.

Table 3.

Summary Results of the Stress Tests

(Data per December 31, 2004)

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Sources: CSBF; and Fund staff estimates.

Group 1 includes three French-controlled banks, and Group 2 includes the other four banks.

50 percent of current bank holdings of government securities and placements with other banks are assumed to be shifted toward loans.

The magnitude of such a shock would correspond to the level recorded in the aftermath of the political impasse in 2002.

The magnitude of these shocks was similar to the largest monthly depreciation and the largest monthly appreciation of the FMG against the Euro and the U.S. dollar observed over the last 10 years.

The magnitude of such a shock would be similar to the increase in the central bank main rates in May-July 2004.

Scenario 1 is based on an assumption of a moderate shock to the agriculture sector (25 percent of all agriculture loans become nonperforming, the FMG depreciates by 20 percent, and the FMG interest rates increase by 300 bp). Scenario 2 is based on an assumption of a significant shock to the agriculture sector (50 percent of all agriculture loans become nonperforming, the FMG depreciates by 20 percent, and the FMG interest rates increase by 300 bp). Scenario 3 is based on an assumption of an economy-wide shock (10 percent of all outstanding loans become nonperforming, the FMG depreciates by 30 percent, and the FMG interest rates increase by 500 bp).

20. Given the small size and particular structure of the formal commercial banking system—i.e., significant foreign ownership—the cost of recapitalization could most likely be borne by the banks or their parent institutions. A doubling of NPLs would correspond to the level recorded in the aftermath of the political crisis in 2002, and would require recapitalization of around 0.1 percent of GDP. The worst case macroeconomic stress test scenario would require broadly 0.6 percent of GDP. Moreover high profitability will help cushion any recapitalization effort.

Systemic liquidity and lender of last resort

21. The interbank money and foreign exchange markets function reasonably well, although chronic excess liquidity reduces its necessity and is a disincentive for its development. The market would benefit from introduction of standardized instruments, such as repos and reverse repos, with a standard contract (“contract cadre uniforme”) agreed upon by all market participants. As a result of restrictions on loans in foreign currency, banks hold a large share of their foreign assets in the form of correspondent accounts with parent banks or other banks overseas, and are unlikely to face shortages of foreign exchange liquidity.4 Earlier missions had identified a need for counterparty risk management in the money market, in order to mitigate the segmentation of the market, and the authorities have requested technical assistance in this area. The lack of suitable borrowers also contributes to banks’ high liquidity.

22. The Treasury has been an important contributor to the liquidity in the system, through the use of statutory advances from the BCM, in the amount equal to 15 percent of previous year’s budget receipts. In 2005, the use of this facility has been limited voluntarily to 10 percent of budgeted receipts. Such advances should be strictly limited to a low percentage of average recurring revenue and be promptly repaid. The BCM has sufficient instruments to manage liquidity in the system: reserve requirements, central bank benchmark rates, open market operations with T-bills, two automatic refinancing windows for 24-hour and 2-10 day credit, at penalty rates of 5 and 7.5 percent above the BCM base rate. However, the instruments have not always been used in a timely and efficient manner.

23. There is an active market for T-bills, but better coordination between the BCM and the Treasury is needed on the timing and amounts to be issued. T-bill issuance is primarily dictated by budgetary needs, and does not always take sufficient account of liquidity conditions in the market. Forecasting of the systemic liquidity situation needs improvement as well. The Treasury also has access to the abovementioned statutory advances, further decreasing the effectiveness of T-bills as a monetary policy instrument. There is also a need to develop a comprehensive public debt management program.

24. The BCM has the necessary instruments to provide liquidity to the banking system, but its weak financial condition could limit its ability to do so. In practice, banks rely mainly on interbank liquidity. In addition to the repo facility, the BCM can provide lender-of-last-resort (LOLR) support. The LOLR support is intended to function automatically, but every transaction needs to be approved by BCM management, which can lead to undesirable delays in emergency situations.

Banking supervision

25. While a broadly adequate set of rules and regulations has been put in place, enforcement by the CSBF needs to become more effective, and the supervision of microfinance and AML/CFT responsibilities will create additional burdens. Furthermore, even as the CSBF is being reinforced, its operations could be adversely affected by the weak financial position of the BCM. Based on the Banking Law of 1996, the CSBF supervises commercial banks as well as finance companies and microfinance institutions.5 Until March of 2005, the Commission had not functioned for several years, as a result of unfilled vacancies on its Board. This led to a backlog of regulation, administrative decisions and reports as well as an inability to take effective enforcement action. The Board vacancies have recently been filled, however, and a long agenda of overdue activities awaits the newly constituted CSBF.

26. The FSAP mission was presented with an action program of the CSBF, covering a broad range of measures to strengthen supervision. These include revision of the banking law, introduction of International Accounting Standards (AIS), regulations on interest rate risk and liquidity, introduction of a program for on-site inspections, stress testing, issuance of new prudential regulations, corrections in the capital definition in conformity with Basel I and increase in the minimum risk-weighted capital adequacy ratio from 8 to 10 percent. The self-imposed deadlines in the plan show heavy bunching in the final months of the annual work program. This does not seem realistic, also because the newly hired staff will not be fully effective for some time.

27. Although a formal assessment of compliance with the Monetary and Financial Policies Transparency Code was not performed, banking supervision policies and practices overall seem sufficiently transparent for interested parties. This is partly a result of the small size of the system and easy contacts between the authorities and banks. On the other hand, the introduction of new foreign exchange regulations in the Spring of 2005 was not subject to a meaningful consultation process and should be reviewed. In principle, an annual report is issued by the CSBF on its activities and on the condition of the banking sector, but since its creation in 1995 the CSBF has issued only three reports, most recently in 2001.

Remedial measures and safety net

28. The CSBF has an adequate range of sanctions to enforce legal and regulatory standards as well as improvements in the banks’ conduct of business. These include requests for explanations by the bank, warnings and binding instructions, removal of management, the appointment of a provisional administrator for a maximum of six months (once renewable), and withdrawal of the banking license, leading to immediate liquidation. Withdrawal of a banking license can be suspended by the Minister of Finance for eight days during which the CSBF must review its decision. Pending this period, the CSBF may take conservatory measures. The Chairman of the CSBF also has the authority to “invite” shareholders or members for financial assistance to the bank. He may also request other banks, on a nonmandatory basis, to participate in a life-boat operation.

29. Currently, no deposit insurance system exists in Madagascar, although the authorities are debating its introduction. Issues being debated include legal personality for the insurance fund, mandatory membership for all banks, risk-based contributions, no coverage of wholesale clients or foreign exchange deposits, ceilings per client, per institution and authorization for the fund to intervene in a bank. It is important that a system be properly structured to limit moral hazard and potential quasi-fiscal liabilities. A well designed system could help protect small depositors and thus provide an incentive to increased participation in financial intermediation.

30. Of the approximately 140 “caisses” of the mutualist credit institutions (around 4 percent of banking system assets), around 80 (three networks) benefit from mutual solidarity arrangements, assuring assistance from other entities in the organization. Two of the five mutualist networks (“reseaux”), totaling around 60 “caisses,” do not participate in such solidarity arrangements, but are considering establishing a guarantee fund. In practice, there are serious concerns with regard to the safety of the mutualist groups, in particular as three out of five networks have not been licensed and are therefore not under supervision. The process to license these networks has been ongoing for many years, and has not been finalized for unclear reasons. The licensing and placement under supervision by the CSBF of these networks should be finalized immediately or the networks closed.

B. Insurance Companies

31. With only three companies in operation, the insurance industry remains underdeveloped, even when compared to most other markets in the region (Table 4). A sound and stable financial situation and the establishment of an efficient regulatory and supervisory regime are the necessary conditions for the development of the sector. A new insurance code, largely in conformity with international standards, was adopted in 1999 but has not been effectively implemented.

Financial Situation of the BCM

According to the audited financial statements for 2004, the BCM had negative equity equivalent to US$26 million, and reported operating losses over each of the last three years. In 2004, the losses of the BCM amounted to the equivalent of US$14 million (or 1.5 percent of its total assets). The losses have been largely due to the absence of remuneration on a significant amount of loans to the government, write-off losses due to financial transactions assumed on behalf of the treasury and high operating expenditures. Loans to the government stood at around 21 percent of total assets of the BCM at end-2004. The bulk of these loans (77 percent of the total) consisted of unpaid, BCM-guaranteed London Club debt, which the BCM had to assume when the guarantee was called. BCM loans to a former state enterprise, for which the obligations were transferred to the state when the company was privatized, have also remained unremunerated and account for an additional 15 percent of the total exposure of BCM to the state.

A financially strong BCM is needed to ensure its ability to carry out its prime functions. Failure to promptly address the losses and their causes could interfere with monetary and exchange rate management, performance of the LOLR function, and/or jeopardize the supervisory functions of the CSBF, which is funded and staffed by the BCM—and is currently in need of reinforcement in human and financial resources.

The underlying causes of the insolvency of the BCM, e.g., the ongoing operating losses, need to be urgently addressed. The authorities intend to seek Fund TA to develop a basis for sustained financial viability of the BCM. Key measures to return the BCM to profitability are: (i) either remuneration at market rates of all government debt on the central bank’s balance sheet, or repayment or other forms of removal by the treasury from the BCM’s balance sheet; (ii) review of noninterest operating expenditures with a view to their reduction to a level commensurate with revenues; and (iii) nonrecurrence of transfers of government debt or quasi-fiscal expenses to the BCM, other than through statutory advances on tax revenues at the beginning of the budget year, provided these advances are at an acceptable level and are promptly repaid.

Table 4.

Insurance Market and International Comparison, 2003 1/

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Sources: Swiss Re Sigma 6/2003, WB WDI.

Additions in this table reflect rounding of figures.

32. The insurance market is dominated by two state-owned insurance companies, which hold a market share of 89 percent of premium income. There has been no foreign presence since the 1975 nationalization of a French insurer. However, foreign companies have expressed an interest in entering the market, although reportedly not as potential parties to the planned but long-delayed privatization of the two state-owned companies. Nonlife insurance—including compulsory motor third party liability, traditional property and casualty, health, and travel insurance—dominates the sector with 77 percent of total premiums. Life insurance offering has not evolved for the past thirty years.

33. The performance of the insurance sector is generally weak. Although claims ratios are low and stable, expense ratios are fairly high—which seem to suggest that tariffs are set too high with respect to the risk taken, and nominal rates of return are relatively low.6 While the two state-owned insurance companies are rather inefficient, the private insurer is insolvent and unable to meet claims payments. A detailed supervisory report on this private company recommended its liquidation, but this was not acted upon. It has been under provisional administration since early 2005.

34. Insurance supervision is currently the responsibility of the Ministry of Finance, which lacks trained staff, resources and operational independence. Considerable upgrading of its effectiveness will be required in a more dynamic liberalized market. This will include training in off-site and on-site examinations, remedial actions, and in licensing of new companies, application of sanctions, liquidations and wind-ups.

C. Pension Funds

35. The pension sector in Madagascar is dominated by three publicly-managed institutions which operate pension schemes for formal sector employees. In addition, insurance companies offer some limited private pension products, and there is at least one private company which provides endowment and annuity products. Existing private sector plans (other than those offered by insurance companies) operate in a legal vacuum, which represents a potential vulnerability to the savings and old age security of fund members. It is estimated that the present schemes, private and public combined, cover less than 10 percent of the active population.

36. Two of the three public pension funds currently show cash flow deficits, and short term projections indicate that their financial situation is likely to deteriorate. While income currently exceeds payout at the third (and largest) provider, the level of benefits does not appear to be sustainable, and rationalization is necessary to streamline benefits and contributions. None of these pension providers has performed an actuarial study of their schemes.

37. A comprehensive regulatory and supervisory framework for pension providers needs to be established. There is currently no direct oversight or supervision for either public or private pensions, and the scope of private funds is not known as there is no reporting requirement. An appropriate regulatory framework would provide, inter-alia, (i) for powers of the supervisory body; (ii) funding, reporting, valuation and actuarial standards; (iii) permissible assets; (iv) tax treatment; (v) information to members; and (vi) prohibitions on self-dealing and transactions with related parties. Capacity of the designated supervisor will need to be built from the ground up.

III. Financial Infrastructure

A. Legal and Judicial Framework

Legal environment

38. Several legislative reform initiatives have taken place recently in the financial sector:

  • Business, banking and other financial laws have been modernized and improved. New legislation governs such topics as securities trading, commercial and credit registries, companies, secured transactions and insolvency; and

  • Furthermore, in order to address the existing obsolete formal property rights regime, Madagascar is currently formulating a new land reform strategy.

39. However, recent initiatives have not resolved all existing deficiencies:

  • There is still no regulatory framework for insolvency liquidators;

  • Individuals remain unable to pledge an asset without transferring possession of the collateral, which hinders access to credit;

  • No foreign-owned bank/mortgagee may be awarded title to real estate following foreclosure on a mortgage, which further constrains lending;

  • In order to develop lending to small- and medium-size enterprises (SMEs) and consumer loans to individuals, alternatives to mortgage-based lending need to be encouraged and legal mechanisms created or improved; and

  • Finally, in the absence of a bank insolvency law, depositors have limited protection against insolvency of a deposit-taking institution.

40. Efforts to improve the legal framework in Madagascar are hindered by a lack of legislative skills. Drafting skills are weak, and technical complexities and nuances in the legislation are not necessarily appreciated. As a consequence, legislation is sometimes difficult to implement in a practical way. Moreover, legal information, including jurisprudence, remains inaccessible to many in the judiciary, to lawyers, and to the population at large.

Judicial system

41. In 2004, the Ministry of Justice started a program of judicial reform, including simplification of procedures to reduce massive backlogs in commercial cases. In two pilot courts, a process of random allocation of cases has been initiated, so as to limit personal considerations. The establishment of the Training College for Judges and Clerks (École Nationale de la Magistrature et des Greffes) is another positive development.

42. Further efforts are needed to modernize the judicial system, but the Ministry of Justice lacks the necessary resources to carry out basic administrative mandates, let alone tackle important reform. Corruption in the judiciary remains a major concern despite the recent establishment of an apparatus to tackle corruption in the public sector. However, only a few concrete measures have been taken so far to address corrupt behavior in the public sector. Furthermore, the 2005 budget for the justice sector generally, and for judicial reform in particular, has been curtailed at a time when significant expansion is needed to implement the government’s good governance strategy. Without the necessary financial and full-time human resources of the caliber needed, the Ministry of Justice is set up for certain failure in the execution of any generalized and thorough judicial system reform agenda.

B. Payment System

43. The payment system in Madagascar is underdeveloped, which constrains the emergence of a modern and efficient financial system. Cash transactions still dominate, due to low bank penetration (only approximately 3 percent of the population has a bank account, and there are only 7 bank branches per million inhabitants). The clearing system is entirely manual, with physical exchanges of checks and bills taking place in 14 clearing houses.

44. The system for clearing and settlement via the books of the BCM may pose risks. It is not automated and depends on how long it takes for the checks to reach BCM headquarters by fax or mail. This can result in time lags between the closing of positions at bank branch accounts and settlement on the books of the BCM, making end-of-day closing positions unpredictable for banks.7 Banks are highly liquid and have not encountered acute settlement risk. However, this could change under tighter liquidity conditions.

45. The legal framework for the payment system is outdated, with core provisions dating back to 1935. Moreover, a law recently adopted by Parliament on uncovered checks, intended to promote check usage, is overly harsh and rigid, and may be counter effective. This law need to be revised, and the legal framework modernized to allow for the secure development of noncash (especially electronic) payment instruments and processing systems.

46. A number of reform initiatives, supported by strong stakeholder motivation, are underway or planned. Recent positive developments include the standardization of checks, the modernization of bank information systems, and the launch of card systems. Furthermore, under the U.S Millennium Challenge Account agreement, up to US$21 million has been earmarked for payment system reform. This affords Madagascar an excellent opportunity to modernize its payments, clearance and settlement systems. However, administrative capacity to provide leadership to these reform efforts needs strengthening.

C. Anti-Money Laundering and Combating the Financing of Terrorism Framework

47. AML/CFT policies and practices are in an early developmental stage in Madagascar, and currently do not meet international standards. Although an AML/CFT law has been adopted, the necessary regulations and implementing procedures are not yet in place, and oversight by the authorities is not yet effective, although preliminary drafts have been approved by the CSBF and the industry has been consulted.

48. Draft implementation instructions for the AML/CFT Law are in an advanced stage of preparation but still require improvements. Through lack of training, experience and the necessary manuals and instructions, the prudential authorities are unable at this time to exercise oversight over banks’ compliance with sound AML/CFT practices, off-site as well as on-site. While the large foreign-owned banks have well developed internal AML/CFT rules, based on those used by the parent bank, this is not the case for the microfinance institutions, money changers and other smaller commercial banks.8

IV. Financial Sector Developmental Issues

A. Access to Financial Services—Issues and Challenges


49. Given the magnitude of the still unserved market in Madagascar and tentative or nonexistent efforts of banks to expand and deepen outreach, further development of the microfinance sector remains a key factor in increasing access to finance. The MFI sector in Madagascar is relatively young but it is growing rapidly. At end-2004, the sector included nine financial cooperatives, one finance company (établissement financier), three international nongovernmental organizations, and the Caisse d’Epargne de Madagascar (CEM). The CEM, which is not a licensed financial institution and is not authorized to grant credits, caters mostly to low-income savers and accounts for roughly 80 percent of total depositors of MFIs. Given the large number of depositors, it is a matter of concern that CEM is not subject to supervision by any regulatory authority and relies solely on external audits as a control mechanism.9

50. Adequate supervision of MFIs by the CSBF is a major prerequisite for further sound development of the sector, although care should be taken not to stifle the sector with over-burdensome regulation and supervision. Only six groups of MFIs are formally registered and licensed and are under CSBF supervision (five cooperative networks and a finance company). Although steps have been taken to reinforce CSBF, the adequacy of resources needs to be kept under review, to see whether further reinforcement may be necessary to maintain regular and systematic oversight, in particular on-site inspections. Off-site supervision and reporting are routinely delayed, due primarily to the manual preparation of reports in most MFIs and slow means of communication.

51. While the soundness indicators for the MFIs under CSBF supervision appear to be satisfactory on average, some prudential rules for MFIs need to be strengthened. In particular, the minimum capital adequacy ratio and loan loss provisioning rules for MFIs are currently the same as those for commercial banks. Given the higher risks involved in microfinance business, it would be more appropriate to have tighter capital and provisioning requirements for MFIs than for commercial banks. However, a careful balance will need to be struck between a possible need for stricter capital requirements and the need to avoid over-regulation.

52. The quality and diversity of financial services offered by MFIs need substantial improvement. The provision of deposit services is already creating value among the clientele by providing safety and, to the extent that institutions remain stable, reliability. Yet the limited range of deposit types, the scarcity of credit provision, and the paucity of payment and insurance services represent a major challenge that Malagasy MFIs are only beginning to address, with limited efforts that are largely confined to urban areas. Scaling-up of outreach, with regard to deposit services outside of the CEM and credit services, is clearly a priority, if microfinance is to make an impact in Madagascar as a poverty alleviation tool.

53. The legal framework governing MFIs has several flaws. In particular, deposit-taking MFIs which are not financial cooperatives are not subject to any regulation. Also, as a result of tax exemptions and the possibility to collect deposits, all licensed MFIs except one are registered as financial cooperatives regardless of whether that organizational form reflects their actual ownership structure and operational model (financial companies cannot mobilize deposits and do not benefit from any tax exemptions). Either a new microfinance law will be passed (a draft law which has been prepared recently suffers from a number of important shortcomings), or the banking law will be revised to include an MFI category.

Small- and medium-size enterprise financing

54. There is a group of small- and medium-size enterprises (SMEs) that is too large to obtain financing from the microfinance sector, but not sufficiently formal to be served by the banking system. While the microfinance sector has had some success in providing credit to micro and small enterprises, particularly in urban areas, there are small enterprises with credit demand that cannot be satisfied by MFIs since it is beyond the regulatory single borrower limit. These firms, however, do not have formal financial statements, a pre-condition to obtain loans from the banking system. Their access to bank finance is also impeded by lack of clear property rights over their land, which is often used as collateral for bank loans. Further, the lack of effective credit information sharing with MFIs prevents these borrowers from building up a credit history that they could present to banks as they graduate from the MFI sector.

55. While there are several governmental and sectoral initiatives to foster the access of SMEs to bank finance, they seem to be too limited or ineffective in reaching their target. In particular, the guarantee fund, created in 2003 and financed by Malagasy banks, does not guarantee the smallest loans. Few new borrowers seem to have been brought under the guarantee.

56. Enforcement of the legal obligation to disclose annual financial statements of enterprises, and the establishment of a credit reference bureau could help overcome some of the obstacles to SME financing. A credit information sharing system that collects relevant information on all clients—at a minimum past and outstanding credit and payment history—and makes this information available on request to financial institutions, can allow lenders to provide credit more safely, and borrowers to build up a credit history. It can thus help foster access to credit, especially by smaller borrowers who have a greater need to establish a positive track record. Given the existence of the Centrale des Risques in the BCM, the central bank seems a natural location for such a credit reference bureau.10

57. The development of leasing and factoring could also help SMEs obtain financing. In fact, leasing and factoring do not rely heavily on the judicial system and obviate the need for other forms of collateral. The recently enacted leasing law provides the legislative basis for a rapid expansion of leasing in Madagascar. However, there is no law on factoring. There is currently only one provider of leasing in Madagascar. Under the old law, leasing had no legal advantage in terms of enforcing claims in case of default, although the property right of the financed equipment stays with the lessor. This has been remedied under the new law, which also follows international accounting standards concerning which party books the asset on its balance sheet. However, no provision in the Malagasy legislation seems to allow the sale of claim to a third party, which is a pre-condition for factoring.

B. Promoting Long-Term Financing

58. The financial system provides little long-term financing to the economy. The macroeconomic environment, the widespread lack of reliable accounting information, and deficiencies in the legal and judiciary systems discourage long-term financial intermediation. In addition to general political and economic uncertainty in the last few years, inflation and interest rates have been high and volatile, further pushing up risk premiums in lending rates. Pre-conditions for the development of long-term financing include sustained macroeconomic and political stability, use of accurate accounting records, financial disclosure, predictable rule of law, and a functioning system for registering and enforcing property rights.

59. While creating the above conditions will require long-term commitment and planning, several other measures could be taken almost immediately. In particular, a standardization of the mechanism to adjust floating interest rates, used on most long-term loans, periodicity of revision, and transparency in adjustment of rates, would be desirable. Also, the taxation of financial products should be modified to eliminate the bias against long-term financial instruments. Specifically, bank savings accounts currently represent a greater share than their product appeal would normally justify, because they benefit from the distorted tax regime on interest earned, relative to time deposits.

60. As there are no established securities markets, no public raising of private capital occurs. Shares of private sector companies are generally held with an indefinite time horizon, and the few transfers of shares which take place are mostly related to corporate events (e.g., privatizations, mergers, etc.,). Moreover, besides the bills and bonds issued by the government, there has been no issuance of debt securities to the public in recent years. A substantial volume of government financing is raised through issuance of short-term treasury bills. With sustained macroeconomic stability, consideration might be given to gradually lengthening the maturity of government securities.

61. The liberalization of the insurance market and the development of a nascent private pension sector should contribute to greater demand for longer-term securities. Currently, market financing is impeded by the lack of multiple and diversified institutional investors. The reforms in the insurance and pension sectors could have a significant impact both on developing the market for long-term finance and on improving the performance of the insurance companies and pension funds.

ANNEX Observance of Financial Sector Standards and Codes—Summary Assessments

The Annex contains summaries of the assessments of compliance with the 40 +9 Recommendations of the Financial Action Task Force on Anti-Money Laundering and the Combating of the Financing of Terrorism (FATF 40+9), and with the Basel Core Principles for Effective Banking Supervision (BCP). The FATF 40 +9 assessment was prepared by Mr. Pierre-Laurent Chatain, and Mmes. Isabelle Schoonwater and Maryline Goncalves, all of the Financial Sector Vice-Presidency of the World Bank, from July 4 to 16, 2005. The assessment of the BCP was performed by Messrs. Marcel Maes, formerly of the Belgian Banking Commission, and Mr. Jean Sarazin, of the Office of the Superintendent of Financial Institutions of Canada, from April 21 to May 3, 2005. Also detailed assessments were prepared for both of these codes.

Both of these assessments were prepared on the basis of the laws regulations and practices in place at the time of assessment.

The assessments were based on several sources, including:

  • Self-assessments by the authorities;

  • Reviews of relevant legislations and regulations, policy statement sand other written sources; and

  • Interviews with officials and staff of the relevant agencies, market participants, service providers, donor agencies and others.

Financial Action Task Force (FATF) 40+9 Recommendations on Anti-Money laundering and Combating of the Financing of Terrorism

Current situation with regard to money laundering and the financing of terrorism

62. The main offenses connected to money laundering or the financing of terrorism are drug trafficking, precious metal and precious stone trading, and offenses related to international trade transactions, although the 2004 law on AML expands the concept of money laundering to cover the proceeds of all serious crime. Financing of terrorism has not yet been made a criminal offense. Drug trafficking, also on a regional basis, is significant in Madagascar. The authorities are aware of the problem and have undertaken numerous large-scale seizure operations, but are severely resource-constrained and find little cooperation regionally.

63. Mining and international trade are vulnerable sectors. Precious stones are mined and subsequently exported, often without the knowledge of the authorities. Marketing of these stones also generates considerable external financial flows, susceptible to money laundering and the financing of terrorism. This is all the more worrying as the profession is not covered by the new law on money laundering (see below). The government project on mining intends to streamline the allocation of concessions, professionalize the industry and improve oversight.

64. Customs inspections have uncovered numerous fraudulent practices. Finally, the rapid growth in the number of casinos appears more than the market can support.11 Licensing and controls over casinos are inadequate, and certain business practices seem illegal. Corroboration has been obtained concerning the presence of foreign Islamic fundamentalists among the recently established nongovernmental organizations (NGOs).

Main findings

Overall conclusion

65. Despite the progress achieved recently, the assessment shows a low level of compliance with the FATF 40 + 9 recommendations. The mission urges the authorities to increase the pace of reform of the current legal system and to provide the FIU with the technical and human resources it needs to meet the international standards. The AML roles of the central bank and the CSBF must be clarified and strengthened considerably. The FIU, the supervisory authorities as well as the police and judiciary need adequate financing, structures and training. Procedures must be developed for AML investigation and prosecution.

66. Combating money laundering and the financing of terrorism are new concepts for Madagascar and much remains to be done to build an adequate legal basis and to instill a different mind frame. A stronger control culture must be built, particularly in the banking and other financial sectors, which will need to put in considerable effort to implement the new law.

Summary assessment

67. A number of weaknesses have been identified in the current AML/CFT measures: (i) financing of terrorism is not a specific criminal offense; (ii) the Financial Intelligence Unit (FIU) is not yet in operation; (iii) the absence of preventive rules in the majority of the sectors subject to supervision; (iv) noncoverage of nonfinancial professions; (v) embryonic AML/CFT supervisory measures in the financial sector; and (vi) a judiciary inexperienced in cases involving financial crime.

68. Compliance would require efforts on all fronts: (i) acts of terrorism and the financing of terrorism must be made criminal offenses; (ii) nonfinancial professions (lawyers, notaries, accountants, etc.) as well as politically exposed persons (PEPs), NGOs, dealers in precious metals and precious stones and money transmitters must be explicitly covered by the law; (iii) the FIU must be provided with all necessary resources; (iv) administrative controls in key sectors must be strengthened; (iv) more in-depth supervision of banks, exchange bureaus and other financial institutions; (v) training of police and judiciary in AML/CFT; and (vi) allocation of the necessary resources.

Legal framework and international cooperation
International cooperation

69. Madagascar has ratified the UN Convention Against Illicit Traffic in Narcotic Drugs and Psychotropic Substances of 1988 (Vienna Convention) on March 12, 1991. It has signed the 2000 UN Convention against Transnational Organized Crime (Palermo Convention) and the 1999 International Convention for the Suppression of the Financing of Terrorism. Ratification is under way.

Criminal law

70. The new AML law of 2004 covers all the main crimes and offenses, except the financing of terrorism. Enforcement powers and international cooperation have also been established or strengthened, for instance on undercover operations, controlled delivery, and systematic extradition.

Provisional measures

71. Malagasy law provides the full arsenal of provisional and punitive measures, such as confiscation, freezing and seizure of goods, moneys, or proceeds of crime. The law also empowers the seizure of assets connected to the offense as well as evidence that may help identify such assets.

The Financial Intelligence Unit

72. The new law also creates a Financial Intelligence Unit (FIU), lays down measures for prevention and detection of money laundering, sets prudential rules and establishes a reporting system. To perform its duties, the FIU may obtain from any public authority, or from a wide range of persons information relating to the “know your customer,” rule, also on beneficial owners, originators, or the transactions themselves. The FIU refers to the public prosecutor when there is a suspicion of money laundering. It may, subject to reciprocity and confidentiality, exchange information with foreign FIUs. However, only judicial and law enforcement authorities are authorized to apply the freezing, seizure or confiscation powers.

Combating corruption

73. Madagascar ratified the UN Convention against Corruption, and, under the Office of the President, has set up an institutional framework, consisting of the High Council on the Fight Against Corruption (CSLC), the Independent Anti-Corruption Office (BIANCO) and, within the judiciary, the Anti-Corruption Criminal Data System (CPAC).

Effectiveness of the current measures

74. However, the FIU has not yet been made operational, and there is not yet a nationwide structure to oversee the effectiveness of the AML efforts or to promote further reform.

Preventive measures applicable to the financial and nonfinancial institutions

75. The new law lays down an adequate “know your customer” system, including retention of identity documents. However, a significant shortcoming is the lack of provisions on “politically exposed persons” (PEPs). However, the law remains vague on due diligence and retention of documents on the nonfinancial legal and accountancy professions and enterprises, in particular lawyers, notaries, and public accountants, covering only persons or legal entities who carry out, control, or advise professionally on financial transactions.

76. Banks and financial institutions as well as insurance companies and casinos are required to report suspicious transactions to the FIU. The law places, however, no explicit obligation on dealers in precious stones or metals, NGOs, money transmitters, lawyers, and accountants, and is therefore not compliant with international standards.

77. Banks are required to set up internal AML programs to centralize information on customer identity, originators, to train staff on an ongoing basis and to monitor the effective implementation and effectiveness of the programs.

78. However, practical weaknesses persist, for instance, because banks, other than the subsidiaries of major foreign groups, do not yet have the IT to monitor and detect unusual, doubtful or complex transactions, nor have compliance officers been appointed. As the FIU is not yet operational, individuals and legal entities are not able to report suspicious transactions. The FIU has also not been able to issue practical procedures against money laundering.

79. In the insurance and securities sectors, there are no internal procedures or rules to prevent the use of companies to launder money or finance terrorism.

80. The CSBF is the relevant authority to monitor banks’ compliance with the rules. However, the CSBF has not yet performed any AML focused on-site inspections. Neither in the insurance and securities sectors, nor with regard to money transmitters, bureaux de change or micro-credit institutions have similar inspections been conducted. The insurance and securities regulators have not issued AML instructions. The CSBF, however, is on the point of issuing an AML instruction.

81. The self-regulatory bodies of nonfinancial professions, in particular lawyers and accountants, do not monitor compliance with the new rules. Furthermore, initial and ongoing controls of NGOs, casinos and mining concessions are inadequate, poorly coordinated and intransparent.

Table 5.

Priority Action Plan to Improve Compliance with the FATF Recommendations

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Authorities’ response

82. The authorities recognized that the current AML regime needs several improvements on both the legal and operational levels. The enactment of a specific law for combating terrorist financing has been perceived as an important issue that has to be carefully considered in the short run in order to fully comply with the international standards. The authorities broadly agreed on the recommendations made by the team to address the main weaknesses identified in the supervisory, law enforcement and judiciary sectors. They expressed interest in receiving assistance, in particular for the operationalization of the FIU.

Basel Core Principles For Effective Banking Supervision

Institutional and market structure—Overview

83. Madagascar’s banking sector, with total assets equivalent to around 25 percent of GDP, is stable, liquid, adequately capitalized and profitable, but remains shallow and undiversified. Credit to the private sector stands at around 10 percent of GDP. Commercial banks hold 84 percent of total system assets and offer only basic savings and credit products to a select clientele.

84. The Malagasy banking system consists of seven banks. The three subsidiaries of large French banks account for around 65 percent of system assets. Of the four remaining banks one is a subsidiary of a Benin-domiciled parent bank, two are subsidiaries of Mauritian banks. One formerly domestic bank was recently acquired by investors from Hong Kong.

85. Mutualist financial institutions with five networks (180,000 members), microcredit institutions (5,500 clients) and the Caisse d’Epargne de Madagascar (CEM) are the main microfinance providers in Madagascar. Of these, only the mutualist financial institutions are formally (on paper) under CSBF oversight. A new legal framework for nonbank intermediaries is in preparation, in connection with a National Microfinance Strategy. The banking system is one of the smallest in comparable African countries, although the branch network is relatively dense.

86. Banking and microfinance supervision is exercised by the CSBF, based on the 1996 Banking Law.

General preconditions for effective banking supervision

Macroeconomic stability

87. Recent macroeconomic performance of Madagascar has been broadly satisfactory. Growth has been supported by strong performance in the agricultural, construction, tourism, transport, and export processing zone sectors, the external sector remains weak. However, Madagascar is susceptible to frequent exogenous shocks, such as adverse climatic conditions, price shocks to commodity exports, import prices, and trade shocks, such as the recent termination of the Agreement on Textiles and Clothing.

88. In 2001-2002 Madagascar experienced significant political turmoil. The crisis led to a fall in real GDP of around 13 percent in 2002. The banking sector continued business throughout the crisis and kept the payment system operational, although asset quality suffered.

Public infrastructure

89. The operating environment for financial services still shows weaknesses. Macroeconomic and political stability are still relatively recent. Weaknesses persist in the legal, judicial and accounting frameworks. Financial information on borrowers is limited to creditor banks, and integrity and governance remain a concern. Lending risk and relatively high levels of nonperforming loans, lead to high risk premiums and lending rates. Payment systems are slow.

90. There is no systematic policy to promote transparency of monetary and financial policies, although the small size of the financial community implies that market parties generally have the information they need. Nevertheless, timely consultation of the industry is needed in the preparation of administrative measures and regulations. The CSBF envisages publishing an annual report over 2004. Since 1995 only one report was issued, in 2001.

Market discipline

91. Financial market discipline is limited, mainly due to the small number of institutions and the nonenforcement of rules on the disclosure of corporate financial data. Corporate financial statements are not available to the public. Furthermore, with 70 chartered accountants in the country, accounting and auditing capacity is limited. Banks’ annual statements are generally disclosed by the institutions themselves.

Resolution of problem banks

92. For several years, remedial action by CSBF against banks and microfinance institutions has been delayed as a result of unfilled vacancies on the CSBF Board.

93. The CSBF has an adequate range of sanctions to enforce legal and regulatory standards, including an invitation to bank management to explain its position, the issuance of warnings and binding instructions, removal of management, the appointment of a provisional administrator, and withdrawal of the banking license.

94. The CSBF’s order to surrender the banking license—after an eight-day period within which the Minister can ask the CSBF to reconsider—leads to immediate liquidation of the bank. The Chairman of the CSBF also has the authority—unused since the enactment of the LB in 1996—to “invite” the shareholders or members to provide assistance to the institution. The authorities are debating the introduction of a deposit insurance system. Banks do not frequently access the lender-of-last resort facilities of the BCM, as they are highly liquid, with high liquid reserve requirements of 15 percent, and loan to deposit ratios averaging around 50 percent (end 2004).

95. There are concerns about the safety of the mutualist groups, in particular as three out of five networks have not been licensed and are therefore not under supervision. Slightly over half of the mutualist “caisses” benefit from mutual solidarity arrangements, although two of the five mutualist networks, with around 60 “caisses,” do not participate in such solidarity arrangements, but are considering establishing a guarantee fund.

Main findings

Overall conclusion

96. Considerable work is still needed to improve compliance with the Basel Core Principles (BCP), although the authorities are to be commended for losing little time to undertake the most urgent measures as soon as the CSBF had become operational again.

Summary assessment

Objectives, autonomy, powers, and resources (CP 1)

97. The legal framework allocates clear supervisory authority to the CSBF. However, for microfinance institutions, a strong legal and regulatory framework is still not in place. Nor is supervisory operational independence complete, as the Minister has the authority to suspend CSBF de-licensing decisions for an eight-day period. Strengthening of CSBF resources is ongoing, but concerns about the financial situation of the BCM could impact adequate funding and staffing of the CSBF in the face of its expanded responsibilities. However, CSBF IT capacity, staffing and training opportunities have been reinforced. Training has been supported by the Banque de France, the World Bank and the Financial Stability Institute. The mission suggested that banks could contribute to the cost of supervision. Supervisory officials have no explicit protection against lawsuits for acts performed in the exercise of their duty, or against legal defense costs. The authorities agree that more protection needs to be included in the law. The Group of Francophone Supervisors is preparing formal arrangements for the exchange of information with the home supervisors in Francophone countries, in particular France and the Monetary Union of West Africa (home supervisor of the Bank of Africa). Arrangements with the authorities of Mauritius are being formalized.

Licensing and structure (CPs 2–5)

98. The Banking law sufficiently describes activities permitted to licensed institutions and prohibits the use of the word “bank” by nonlicensed entities. Bank licensing rules are in line with international good practice, and applied appropriately. When the CSBF decides to withdraw a banking license, the Minister has eight days to have the decision reconsidered. This limits the operational independence of the supervisor, and creates an opportunity for dissipation of assets which needs to be closed off. Transfer of ownership in a bank, mergers, investments in other companies, and voluntary closing and restructuring of capital are subject to supervisory approval.

Prudential regulations and requirements (CPs 6–15)

99. Certain corrections are required in the regulatory definition of capital in Madagascar to fully conform to the Basel standard. No explicit regulations are in place on credit policies and asset quality review. The internal control regulations are intended to cover this, but are considered to be insufficiently strong, and not specifically aimed at banks’ credit policies. Also off-balance sheet items should also be covered by the impaired asset rules. Although difficult to apply in a small economy, large exposure limits need to be more strictly enforced. The authorities are developing regulations on liquidity and interest rate risk. Standards for exchange rate risk have already been put in place. Internal controls are adequately regulated. A law against money laundering and financing of terrorism still needs to be operationalized.

Methods of ongoing supervision (CPs16–20)

100. The CSBF is updating its manuals for on-site inspections and, with additional staff, will be better able to implement its on-site program. However, off-site analysis and on-site inspections could be better integrated, and more frequent on-site visits are recommended. The CSBF has powers to set reporting standards and collect any information. An electronic data storage system needs to be developed. Malagasy banks have only one small holding abroad, and supervision on a consolidated basis is largely unnecessary. However, the CSBF should be familiar with the structure of the groups operating in its jurisdiction.

Information requirements (CP 21)

101. Starting in 2005, IAS are being applied, and the banking law will need to provide for supervision on a consolidated basis. The CSBF has powers to sanction inaccuracies in the financial statements, review the contract between bank and external auditor, and veto an external auditor. It may also require the auditor to prepare reports on specific issues.

Formal powers of supervisors (CP 22)

102. The CSBF has sufficient remedial and intervention powers, including financial penalties, although the Minister has the power to delay withdrawal of a banking license for eight days. Temporary administration can be imposed. After its reconstitution in March 2005, the CSBF will be better able to exercise its powers in this area, although there has been a serious instance in the past when—notwithstanding full composition of the CSBF, no corrective action was taken.

Cross-border banking (CPs 23–25)

103. Agreements need to be concluded with foreign supervisory authorities on exchange of supervisory information. Negotiations with Mauritian supervisory authorities are ongoing, and the Group of Francophone supervisors decided to formalize cross-border cooperation arrangements among the countries involved.

Table 6.

Recommended Action Plan to Improve Compliance with the Basel Core Principles

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Authorities’ response

104. The authorities submitted two rounds of comments to the detailed assessment, in many cases of a technical and factual update, which were incorporated into the detailed assessment. However, the authorities indicated that the assessment criteria did not require the presence of a training institute for supervisors, so long as an adequate training program existed. The authorities were also of the view that the assessment of the principles on credit policy and provisioning could be upgraded, as these issues, also for instance concentration risk, were addressed in the regulation on internal controls. For the remainder, the assessment met with the broad agreement of the authorities.


At the time of the FSAP missions, the smallest bank in the country was domestically owned. That bank had a weak capital position and required immediate action by the authorities. Following the mission’s recommendations, the authorities set a deadline for recapitalization of this bank, which effectively took place in August 2005, through acquisition by a new foreign shareholder.


Based on staff calculations. The authorities calculate NPLs net of accrued interest on NPLs, which results in a higher provisioning ratio of 66 percent (Table 2).


About 10 percent of bank lending to domestic borrowers is covered by guarantees from the parent banks, thus minimizing the risk and allowing the banks to bypass the large exposure rule for single borrowers.


Banks are only allowed to make loans in foreign currency for trade purposes, and only for a period of up to 12 months. At the same time, there are no restrictions on accepting foreign currency deposits.


See the Report on Observance of Standards and Codes in the Annex for more discussion of the status of the banking supervision in Madagascar.


Investments of both insurance companies and pension reserves are in a mixture of short-term government paper (highest concentration) and real estate, with a characteristic mismatch between assets and liabilities. There is little foreign investment (due to legal restrictions) and little domestic equity or corporate bond investment due to the lack of a securities market.


While processing times are within acceptable limits for transactions which do not require physical transportation of checks, they range from 21 to 60 days for “out station” checks.


Considerable uncertainty still exists as to the legal status of money changers. The Ministry of Finance has delegated to the CSBF the responsibility to regulate, license and monitor money changers, which have so far not been subject to CSBF oversight. An appropriate legal basis needs to be created to provide sanctioning authority for the CSBF with regard to the money changers, without which its oversight role cannot be effective.


A related concern stems from the launch of deposit taking from the public by the former CEM partner La Poste in 2004, also seemingly without any regulatory oversight.


The Centrale des Risques, which is housed by the BCM, collects information on all bank loans above FMG 50 million and distributes aggregate information on outstanding bank credit for each client to all banks. Additionally, information on maturity (short-, medium- and long-term) of the credit is provided. No information on nonperforming loans is collected or provided at the client level, though information on bounced checks is collected and provided through a separate system.


Eleven casinos have been set up in four years.

Republic of Madagascar: Financial System Stability Assessment, including Reports on the Observance of Standards and Codes on the following topics: Banking Supervision, and Anti-Money Laundering
Author: International Monetary Fund