Latin American Capital Markets

THE IMPACT OF THE MACROECONOMIC ENVIRONMENT ON CAPITAL MARKETS 103institutions in promoting the development of capital markets. One of the poorestcountries in the world, India has higher market capitalization than many developed countries.Its regulations are indeed quite cumbersome, but it has inherited the "commonlaw"framework from the British. India's market capitalization is almost 60 percentof GDR It ranks 23rd in the world in terms of percentage of GDP and 16th in termsof the ratio of trade value to GDR The country relies more on equity than on bankingdebt financing: the private sector banking debt is 25 percent of GDR The hugeBombay Stock Exchange allows prices to adjust and, for example, signaled the marketabout episodes of fraud and default on some private issues in China in 2000. 3 Naturally,Indian companies are small, but this is precisely what is worth pointing out.Thepreference for direct finance is not only high, but also growing, and more companiesare accessing the equity markets rather than bank financing.By contrast, in Guatemala in 1998-99, there were several episodes of fraudand default on some private issues, which provide an example of inadequate regulation(the second pillar).The self-regulated stock exchange in Guatemala began its operationsin 1987, handling mainly government debt and a small amount of privatedebt At that time, and in order to avoid an inflationary process, the central bankswitched to a more restrictive stance on monetary policy.This caused a huge incrementin interest rates, and some businesses could not honor their debt issues. Somecompanies actively issued debt in the parallel (informal) stock market and disappeared.All this caused an outcry for government intervention.When the crisis erupted, self-regulation meant very little, as regulation andofficial intervention were limited to a simple registry of companies wishing to tap thecapital market through the exchange.The registry was weak and had no infrastructure(no computers and little personnel), and there was conflict of interest with brokerswho had a stake in the listed businesses.The capital market had no regulationsregarding prospectuses and investment funds and no accounting standards.The case of Guatemala shows that in the design of an efficient institutionalinfrastructure an adequate balance must be kept between self-regulation and theenforcement of good accounting standards, strong corporate governance, and welldesignedprudential regulations.Minimum Size of the MarketCan small economies with good macroeconomic policies, no externalities producedby banking industry regulations, and efficient institutional infrastructure have solid cap-Copyright © by the Inter-American Development Bank. All rights reserved.For more information visit our website: www.iadb.org/pub3 The data are for December 2000, as described in Standard and Poor's (2001).