Financial systems and development

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esources in government securities or programs ance between safety and real returns and by fosterwith low returns in the social sectors. (Sometimes ing greater competition. contractual savings institutions hold government securities because they lack alternative investment Securities markets opportunities.) Although a government with a deficit needs Well-developed securities markets enlarge the funds from a source other than the banking sys- range of financial services. Short-term money martem, it does not necessarily need long-term fi- kets provide competition to the banks in supplying nance. Furthermore, the government's legitimate credit to larger corporations, and under appropriconcern with the soundness of the assets in which ate conditions capital markets can provide longpension funds invest need not preclude invest- term finance to government and large firms. ment of those funds in the private sector. Governments in high-income countries have enacted MONEY MARKETS. The development of securities prudential rules for pension and insurance invest- markets usually starts with trading in a short-term ments, and these rules allow pension funds to in- money market instrument, often a government sevest in private sector activities. Chile and Singa- curity. Other money market instruments are interpore have moved in recent years to allow the bank deposits, bankers' acceptances, certificates of pension authorities to invest in other than govern- deposit, and commercial paper issued by nonfiment securities (see Box 7.7). nancial corporations. Money markets provide a Because pension and insurance institutions are noninflationary way to finance government defilikely to be relatively large and therefore able to cits. They also allow governments to implement afford professional management, these managers monetary policy through open market operations are able to play a role in the monitoring and control and provide a market-based reference point for of the firms in which they invest. Governments setting other interest rates. Furthermore, money can encourage the industry to develop by creating markets are a source of funds for commercial a regulatory framework that seeks a proper bal- banks and other institutions with limited branch Box 7.8 Capital markets in India In the 1950s India's capital markets helped to mobilize bay exchange increased from $11.8 billion to $19.4 bilfinancial resources for the corporate sector. The impor- lion between the end of 1980 and 1987; average capitalitance of these markets then diminished, because subsi- zation ratios remained roughly equal to 6.5 percent of dized credits were available from commercial and de- GNP. The number of listed companies on all exchanges j velopment banks, equities had to be issued at a increased from 2,114 in 1981 to 6,017 in 1987. New I ' discount substantially below market value, the capital issues of debentures also multiplied. However, there * market lacked liquidity, and investor safeguards were were also abuses, such as the use of misleading proj inadequate. spectuses and insider trading. In addition, the process- A reform of the Foreign Exchange Regulations Act in ing of new issues, which were heavily oversubscribed the early 1970s limited the expansion of foreign-owned because of their low prices, was plagued by delays in and foreign-controlled companies. In response, many share allocation. companies decided to become Indian companies. This In April 1988 the Securities and Exchange Board of * led to the issue of substantial quantities of company India was established to oversee and regulate the marshares at low prices. The market's revival continued in kets. In August 1988 a credit rating agency was estab- , 1 the 1980s, as various measures were introduced to lished to grade capital issues. In January 1989 pro- i l stimulate both demand and supply. Incentives for eq- posals were published regarding the appointment of uity and debenture issues included reducing the corpo- market makers offering bid-and-asked quotations, the rate rate of tax for listed companies and fixing the per- responsibility of stockbrokers for vetting companies bemitted interest rate for debentures above that for fixed fore listing, the opening of stockbroking to banks and deposits but below that for bank loans. The govern- other financial institutions, and the creation of a seci ment also authorized the use of cumulative, convert- ond-tier market for smaller enterprises, with less onerible preference shares and equity-linked debentures ous listing requirements. The measures were intended and gave generous fiscal incentives to investors. to improve market liquidity and transparency and to The growth of the Indian capital markets has been provide adequate protection to investors. impressive. Equity market capitalization on the Bom- i 108
Table 7.1 Equity market indicators, 1987 Average market Turnover ratiob capitalization, (percentage Number of (percentage of average companies Country of GNP) capitalization) listed High-income countries Japan 92 93 1,912 United Kingdom 80 72 2,135 United States 58 93 7,181 Germany, Fed. Rep. of 21 161 507 France 18 56 650 Developitig countries Jordan 60 15 101 Malaysia 58 23 232 Chile 27 11 209 Korea, Rep. of 19 111 389 Portugal 10 44 143 Zimbabwe 10 4 53 Thailand 9 114 125 Mexico 8 159 233 Brazil 7 43 590 Philippines 7 62 138 Venezuela 7 8 110 India 6' 19' 6,017 Greece 5 18 116 Pakistan 5 9 379 Nigeria 4 1 100 Colombia 3 8 96 Turkey 3 6 50 Argentina 2 16 206 a. Average market capitalization is a five-quarter average of the total value of listed stock, based on year-end data, assuming constant exponential growth during the year. b. Turnover ratio is the value of stocks actually traded as a percentage of the average total value of listed stock. c. Bombay exchange. Source: IFC. networks, including foreign banks and leasing and and the corporate sector. By making long-term infactoring companies. By enabling large corpora- vestments liquid, capital markets mediate between tions to issue short-term securities in the form of the conflicting maturity preferences of lenders and commercial paper, money markets make the cor- borrowers. Capital markets also facilitate the disporate loan market more competitive and reduce persion of business ownership and the reallocation the market power of large commercial banks. Mea- of financial resources among corporations and sures to promote the growth of money markets industries. have been among the most successful financial re- In mature economies, new share issues have forms in high-income and developing countries been overshadowed in recent years by the retirealike in the 1980s. ment of existing equity. In the United States and One such measure is to issue government securi- the United Kingdom, as a result of mergers and ties at market interest rates. The reluctance of fi- takeovers and the spread of share repurchase pronance ministries to pay market rates on their debt grams, net new equity finance has been negative is usually the biggest obstacle to the development for several years. In earlier periods, however, secuof money markets. Governments also need to re- rities markets were far more important as a source move regulatory obstacles, such as the rules that of finance. From 1901 to 1912, for example, new prevent banks from issuing certificates of deposit stock issues provided 14 percent of corporate fior corporations from issuing commercial paper. nancing in the United States. In several develop- The publication of clear rules of conduct for market ing countries, including India and Korea, the secuparticipants is essential. rities markets have raised impressive amounts of new equity and bond finance in recent years (see CAPITAL MARKETS. Capital markets provide long- Box 7.8). term debt and equity finance for the government Several developing countries have made great 109
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Oxford University Press NEW YORK OX
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countries' financial institutions i
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4 Financial sector issues in develo
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7.1 Shares of medium- and long-term
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* Fractional reserve banking. The p
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NTB Nontariff barrier * Growth rate
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and grew even faster in 1988 than i
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etter loan recovery procedures, mor
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l~ ~~~ ~ ~~~~~~~~~~~~~~~~~~~ ;:: ;
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The early years of the recovery wer
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Figure 1.4 Growth of export volume
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Figure 1.6 Saving and investment ra
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edly, in Argentina, Brazil, and Mex
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5~~~~ '~ ' S " ''t.*:'.: .:,0!3gft"
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Box 1.2 Debt concepts A variety of
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Table 1.1 Selected economic indicat
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Figure 1.8 Domestic and external li
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Box 1.3 Foreign equity investment E
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j Box 2.1 Life without money "Some
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other ways too. By imposing direct
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Box 2.2 Transaction costs and the s
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Box 2.3 Real interest rates and gro
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I Box 2.4 Swapping risk All economi
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Box 2.5 Deposit insurance Most high
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GOVERNMENT. As well as being regula
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and receivables, whereas developmen
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with the expansion of nonlocal trad
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over. Even so, bankers and industri
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Box 3.3 Financial swindles i Swindl
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Box 3.4 Financial underdevelopment
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Box 3.6 Universal banking One of th
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1960s. They speeded the internation
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4 Financial sector issues in develo
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Box 4.1 Directed credit in Turkey ,
Page 72 and 73: Box 4.2 Lending program for small e
Page 74 and 75: Box 4.4 The Botswana Development Co
Page 76 and 77: markets to finance their deficits,
Page 78 and 79: 0~~~~~ = == X .. _- -- = -_ _ _ __
Page 80 and 81: Figure 4.3 Financial savings and th
Page 82 and 83: Box 4.8 Financial indexation in Bra
Page 84 and 85: Financial systems in distress Not s
Page 86 and 87: t !< 4> - !: e z u- >as uei- i.e_.S
Page 88 and 89: tem. They have succeeded in stemmin
Page 90 and 91: governments gave too little thought
Page 92 and 93: Box 5.4 The U.S. savings and loan c
Page 94 and 95: or take a step in the other directi
Page 96 and 97: have been even larger. The cost of
Page 98 and 99: ~Foundations offinancial systems If
Page 100 and 101: (an issue closely related to the as
Page 102 and 103: several centuries. The spread of su
Page 104 and 105: Bankruptcy and reorganization monit
Page 106 and 107: Box 6.5 Elements of a bank supervis
Page 108 and 109: they attempted to discipline bank m
Page 110 and 111: Developing financial systems What s
Page 112 and 113: Figure 7.1 Shares of medium- and lo
Page 114 and 115: Box 7.3 The financial history of a
Page 116 and 117: Box 7.4 Housing finance The formal
Page 118 and 119: Box 7.5 Bank modernization: Indones
Page 120 and 121: DEVELOPMENT FINANCE INSTITUTIONS. T
Page 124 and 125: strides in recent years in establis
Page 126 and 127: Issues in informal finance Small-sc
Page 128 and 129: Box 8.2 Rotating savings and credit
Page 130 and 131: original amount to the renter by th
Page 132 and 133: cooperatives' managers because it a
Page 134 and 135: Box 8.4 The Badan Kredit Kecamatan:
Page 136 and 137: Toward more liberal and open financ
Page 138 and 139: a brief period firms faced rapid ch
Page 140 and 141: Box 9.2 Financial reform in Korea K
Page 142 and 143: In the next stage, financial reform
Page 144 and 145: industry, policy reforms and the re
Page 146 and 147: Conclusions of the Report challenge
Page 148 and 149: tion "Risks and costs of finance" d
Page 150 and 151: Montes-Negret, Fernando. "The Decli
Page 152 and 153: D.C.: International Monetary Fund a
Page 154 and 155: Harberger, Arnold C. 1985. "Lessons
Page 156 and 157: croenterprises: Programs or Markets
Page 158 and 159: Douglas Graham, and J. D. Von Pisch
Page 160 and 161: Table A.2 Population and GNP per ca
Page 162 and 163: Table A.5 GDP structure of producti
Page 164 and 165: Table A.8 Growth of export volume,
Page 166 and 167: Table A.10 Growth of long-term debt
Page 168 and 169: Table A.12 Composition of debt outs
Page 170 and 171: Contents Key 157 Introduction and m
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Introduction The World Development
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Throughout the World Development In
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Population _ 0-15 million The color
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Table 1. Basic indicators __ GNP pe
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Table 2. Growth of production______
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Table 3. Structure of production __
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Table 4. Agriculture and food Value
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Table 5. Commercial energy ~~Energy
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Table 6. Structure of manufacturing
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Table 7. Manufacturing earnings and
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Table 8. Growth of consumption and
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Table 9. Structure of demand Distri
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Table 10. Structure of consumption_
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Table 11. Central government expend
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Table 12. Central government curren
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Table 13. Money and interest rates
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Table 14. Growth of merchandise tra
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Table 15. Structure of merchandise
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Table 16. Structure of merchandise
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Table 17. OECD imports of manufactu
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Table 18. Balance of payments and r
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Table 19. Official development assi
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Table 20. Official development assi
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Table 21. Total external debt Long-
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Table 22. Flow of public and privat
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Table 23. Total external public and
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Table 24. External public debt and
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Table 25. Terms of external public
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Table 26. Population growth and pro
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Table 27. Demography and fertility
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Table 28. Health and nutrition popu
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Table 29. Education Percentage ofag
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Table 30. Income distribution and I
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Table 31. Urbanization Urban popula
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Table 32. Women in development_____
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Technical notes This twelfth editio
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Box A.1. Basic indicators for count
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Box A.2. Selected indicators for no
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from the Food and Agriculture Organ
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Exports of goods and nonfactor serv
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spectively. Since 1987 data are not
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The table reports the value of manu
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teed, and private nonguaranteed lon
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the Demographic and Health Surveys,
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also the one used within the global
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Bibliography Production and domesti
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Country classifications: World Deve
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I i
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