Finance for Growth: Policy Choices in a Volatile World (World Bank Policy Research Report)

229 Pages·2001·1.261 MB·English

by  World Bank

A World Bank Policy Research Report
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A copublication of the World Bank and
OXFORD UNIVERSITY PRESS
Oxford University Press
OXFORD NEW YORK ATHENS AUCKLAND BANGKOK BOGOTA BUENOS AIRES CALCUTTA CAPE
TOWN CHENNAI DAR ES SALAAM DELHI FLORENCE HONG KONG ISTANBUL KARACHI KUALA
LUMPUR MADRID MELBOURNE MEXICO CITY MUMBAI NAIROBI PARIS SÃO PAULO SINGAPORE
TAIPEI TOKYO TORONTO WARSAW
and associated companies in
BERLIN IBADAN
© 2001 The International Bank for Reconstruction
and Development / The World Bank
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Published by Oxford University Press, Inc.
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The findings, interpretations, and conclusions expressed in this study are entirely those of the authors and
should not be attributed in any manner to the World Bank, to its affiliated organizations, or to members of
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Contents
Foreword ix
The Report Team xiii
Acronyms and Abbreviations xv
Overview and Summary 1
Summary 4
Policy Implications and Stylized Applications 23
The Next Generation of Research 29
1. Making Finance Effective 31
How Finance Helps 34
Structure 44
Financial Infrastructure 55
Access 65
Conclusions 71
2. Preventing and Minimizing Crises 75
Why Finance Has Been So Fragile...and Remains That Way 78
Regulating Banks: Harnessing the Market 90
Financial Sector Safety Nets 104
Conclusions 118
3. Government Failure in Finance 123
Bureaucrats as Bankers? 124
Governments as Caretakers 140
Conclusions 153
4. Finance without Frontiers? 157
Capital Account Liberalization: Costs and Benefits 160
Financial Services: Allowing Foreign Provision 162
Opening the Equity Market 169
v
C O N T E N T S
Debt Flows and Interest and Exchange Rates 179
Into the Future: Technology and Communications 190
Conclusions 194
References 197
Boxes
1.1 Using regression coefficients to infer policy effects 38
1.2 Finance as an export sector 43
1.3 Time, income, and inflation: stylized facts about financial depth 47
2.1 Poverty and crises 76
2.2 Narrow banking 91
2.3 Subordinated debt proposals 103
2.4 The rise of deposit insurance? 106
2.5 Implicit value of deposit insurance to the bank’s shareholders 112
3.1 Political economy and financial policy 129
3.2 Can bank privatization be sustained? 132
3.3 The rise, reprieve, and fall of state banks in Africa 134
3.4 Looting in the Czech Republic 138
3.5 Intervening sets the stage for the next crisis 145
3.6 Lessons from the Reconstruction Finance Corporation 150
3.7 The Swedish experience: a Saab in every garage? 152
4.1 Depositary receipts and country funds 163
4.2 Poor sequencing of Korea’s financial liberalization 181
4.3 Theory of twin crises—currency and banking 185
4.4 Derivatives and capital control evasion 186
4.5 Dollarization—asset price and pass-through effects 188
Figures
1 Financial depth and per capita income 5
2 Financial depth and growth 6
3 Bank-to-market ratio and per capita GDP 7
4 East Asia poverty before and after the financial crises 11
5 Government ownership of bank assets and per capita income 15
6 National financial systems ranked by size 19
7 Comparing the share of foreign and state ownership in crisis and
non-crisis countries 21
1.1 Financial development and per capita income 35
1.2 Financial development over time 36
1.3 Naïve and modeled impact of financial development on growth 37
1.4 Financial depth and macroeconomic volatility 39
1.5 Relative contribution of financial development to productivity and
capital intensity 40
1.6 Three measures of the relative development of banks and organized
securities markets 45
vi
C O N T E N T S
1.7 Average leverage of listed firms in industrial and developing
economies 50
1.8 Intermediation spreads 51
1.9 Measures of stock market and banking development 52
1.10 Market value of family-owned firms as a percentage of the total
equity market value of the top 20 firms 54
1.11 “And the owner is...the Suharto family group” 55
2.1 Total fiscal costs (increases in the stock of public debt) relative to
GDP in the year of crisis 83
2.2 Estimates of fiscal cost of and output dip for 39 banking crises 85
2.3 Volatility by region, 1970–99 86
2.4 Volatility in asset markets 87
2.5 Classification of substandard loans, 1997 95
2.6 Subordinated debt in Argentina, 1996–99 104
2.7 Explicit deposit insurance systems: the rise of deposit insurance
around the world, 1934–99 105
2.8 Deposit insurance coverage 108
2.9 Deposit insurance: net benefits 114
3.1 State ownership in banking, 1998–99 125
3.2 Government ownership of bank assets 126
3.3 Nonperforming loans, Argentina, 1991 132
3.4 Lending to state-owned enterprises in Argentina 133
3.5 Government ownership of banks during the East Asia crisis 141
3.6 Stylized evolution of three banks through a crisis: sound, salvageable,
and doomed 149
4.1 Share of developing economies in aggregate world money stock 159
4.2 Increase in the market share of majority foreign-owned banks,
selected countries, 1994 and 1999 165
4.3 Estimated impact of foreign bank entry on domestic bank
performance 167
4.4 Stock of foreign holdings of (gross) debt and equity, 1997 170
4.5 Equity market liberalization dates 172
4.6 Impact of liberalization on the amplitude of equity price
cycles 174
4.7 Mexico country fund discount, 1993–99 177
4.8 Real treasury bill yields for industrial and developing countries 183
Tables
1.1 Effects on credit availability of adopting a negative-only credit
scoring model for various default rates 70
2.1 Selected financial crashes 80
2.2 Typical balance sheet 94
3.1 Estimated individual impact of an accommodating approach to
resolution policies 143
4.1 Real interest rates 183
vii
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Foreword
T
HE WORLD BANK GROUP HAS LONG RECOGNIZED THAT
poverty reduction and growth depend on effective national
financial systems. Understanding just how finance contributes
to development—and how good policy can help guarantee its
contribution—has been the focus of a major research effort at the Bank
in recent years. This research has included systematic case-study analyses
of the experiences of specific countries, as well as more recent econometric
analyses of extensive cross-country data sets. Finance for Growth draws
on this research and uses it to develop an integrated view of how financial
sector policy can be used in the new century to foster growth and bring
about poverty reduction.
At its best, finance works quietly in the background; but when things
go wrong, financial sector failures are painfully visible. Both success and
failure have their origins largely in the policy environment. Policy needs to
create and sustain the institutional infrastructure—in such areas as infor-
mation, law, and regulation—that is essential to the smooth functioning
of financial contracts. Above all, policymakers need to work with the mar-
ket to help align private incentives with public interest. As the ever-dimin-
ishing cost of communications and information technology leads to greater
integration of global financial markets, policymakers face new challenges
in ensuring this alignment. Governments must be prepared to recast their
policies to take advantage of the opportunities resulting from global inte-
gration, and also to guard against the associated risks.
This book draws on the latest research to confirm some long-held
views and challenge others. Some commentators have long regarded fi-
nance as largely irrelevant to the drive for poverty reduction; but the
evidence here shows clearly that financial development has a strong and
independent role in increasing general prosperity. Countries that build a
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