Latin American Capital Markets

40 REENA AGGARWALBox 2-2 ISecond-generation Regulatory Challenges• Development of financial intermediaries• Development of institutional investors• Role of self-regulatory organizations• Investor protection• Risk management• Financial engineering• Cross-border regulation$47.87 trillion in 2000; for the United States it increased 40 times, from $797 billionto $31.86 trillion. For the same period, emerging markets saw the most dramatic increaseof 162 times, from only $25 billion to $4.05 trillion (table 2-1).Several factors explain the growth of emerging markets, including privatization,participation of foreign institutional investors, increased domestic investorbase, and more issuers going to the market Clearance and settlement systems havealso become more efficient. The regulatory framework has undergone some majorchanges, with countries issuing new securities laws and setting up independent regulatoryagencies with a reduced role for the state.However; many emerging markets now need to start addressing "secondgeneration"capital market development issues (box 2-2).These include developmentof financial intermediaries that have staff with financial sector skills, an enhanced domesticinstitutional investor base, self-regulatory organizations, and mechanisms for investorprotection. Risk management at all levels of the financial structure is extremelyimportant but severely lacking in emerging markets. Emerging markets must also thinkabout introducing new financial products that are suitable for local markets and developfinancial engineering.This will require investment in human capital.Innovation is also important for competing in the global marketplace, and theregulatory structure should be supportive of such innovation. Both industrial and developingcountries have to work together to address cross-border trading issues.Some countries are making good progress on all these issues, while others lag behind.For example, Chile has been able to develop institutional investors, and Brazil is payingattention to corporate governance issues, with the Sao Paulo Stock Exchange(Bovespa) starting a new tier for companies that meet high corporate governancerequirements.Questions about how to regulate financial markets in the face of major transformationsare being studied and debated at many levels, even in developed markets.Copyright © by the Inter-American Development Bank. All rights reserved.For more information visit our website: www.iadb.org/pub