Financial systems and development

Financial systems and development:
an overview
The experiences of the 1980s have led many devel- years financial systems came under further stress
oping countries to reconsider their approach to de- when, as a result of the economic shocks of the
velopment. Although countries differ in the scale 1980s, many borrowers were unable to service
of government intervention and in the extent to their loans. In more than twenty-five developing
which they have already stabilized and restruc- countries, governments have been forced to assist
tured their economies, most have decided to rely troubled intermediaries. The restructuring of insolmore
upon the private sector and market signals to vent intermediaries provides governments with an
direct the allocation of resources. To obtain all the opportunity to rethink and reshape their financial
benefits of greater reliance on voluntary, market- systems.
based decisionmaking, they need efficient financial Conditions that support the development of a
systems.
more robust and balanced financial structure will
A financial system provides services that are es- improve the ability of domestic financial systems
sential in a modern economy. The use of a stable, to contribute to growth. By restoring macroecowidely
accepted medium of exchange reduces the nomic stability, building better legal, accounting,
costs of transactions. It facilitates trade and, there- and regulatory systems, specifying rules for fuller
fore, specialization in production. Financial assets disclosure of information, and levying taxes that
with attractive yield, liquidity, and risk characteris- do not fall excessively on finance, governments
tics encourage saving in financial form. By evaluat- can lay the foundations for smoothly functioning
ing alternative investments and monitoring the ac- financial systems. This Report reviews the lessons
tivities of borrowers, financial intermediaries of experience in both high-income and developing
increase the efficiency of resource use. Access to a countries and tries to identify the measures that
variety of financial instruments enables economic will enable domestic financial systems to provide
agents to pool, price, and exchange risk. Trade, the the services needed in the 1990s.
efficient use of resources, saving, and risk taking
are the cornerstones of a growing economy.
The economic background
In the past, governments' efforts to promote economic
development by controlling interest rates, In 1988 conditions were generally favorable for
directing credit to priority sectors, and securing economic growth in the developing countries.
inexpensive funding for their own activities have High-income countries enjoyed steady growth
undermined financial development. In recent with low inflation for the sixth consecutive year
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