HS201 .ppt
- 1. C H A R A C T E R I S T I C S Financial Sector Reform 18/03/2009 1 Leonard GSOM Emerging Markets March 2009
- 2. Objectives A. Objectives of Financial Sector Reform B. Measuring Financial Deepening C. Main Areas of Reforms 1. Improve Mobilization of Resources 2. Improve Resource Allocation 3. Improve Prudential Supervision of Financial Institutions 4. Strengthen Financial Competition 18/03/2009 2 Leonard GSOM Emerging Markets March 2009
- 3. A. Objectives of Financial Sector Reform A first objective of financial sector reform is to bring the bulk of capital accumulation in a country through the formal financial system, away from the informal financial markets. In other words, the objective is to induce “financial deepening” by increasing the volume of savings going to physical investments through formal, supervised financial institutions. An increase in the proportion of savings going to investments through the financial system should lead to an improvement in the use and allocation of these savings. Potential borrowers will have to compete for these savings and those with the most profitable opportunities and higher returns will have an advantage in obtaining these funds. The deepening or increase in the size of the financial system, therefore will improve the allocation of resources in the economy. 18/03/2009 3 Leonard GSOM Emerging Markets March 2009
- 4. Term and Size Transformation A second objective in reforming the financial system is to facilitate "term transformation"; that is, to convert relatively short-term savings and deposits into long-term financing, which is needed by capital investments with a relatively long depreciation period. A third objective of the financial system is “size transformation”; that is to consolidate relatively small private savings into larger blocks of finance that can be used to fund large profitable investments. Otherwise large projects would not be financiable. 18/03/2009 4 Leonard GSOM Emerging Markets March 2009
- 5. 18/03/2009 Leonard GSOM Emerging Markets March 2009 5 A fourth objective of an adequate financial system is to achieve “financial efficiency”; that is, to intermediate between savings and investments with minimum intermediation costs and minimum risks (which requires prudential supervision). In most Emerging Markets, the banking system is the mainstream of the financial system. Therefore, the degree of financial deepening can be measured by the actual flow of bank loans granted by the banking system. Since this flow is difficult to measure, a rough indicator of the size of the financial/banking system is the ratio of M2 (Currency in circulation plus demand and savings deposits) to GNP.
- 6. B. Measuring Financial Deepening Changes in the M2/GNP ratio over time indicate changes in the flow of private savings through the system. It indicates real additions to the ongoing loanable fund capacity of the banks. Typical M2/GNP ratios are: Latin America, 0.35, Transition Europe, 0.45, Emerging Asia, 0.75, USA/Canada, 0.60, Western Europe, 1.00, Japan, 1.20 Excessive M2/GDP ratios may also indicate over-reliance on banks and inadequate capital market development. 18/03/2009 6 Leonard GSOM Emerging Markets March 2009
- 7. C. Main Areas of Reform A precondition for the soundness of the Financial Sector is Macroeconomic Stabilization. With high inflation and devaluations, the financial systems will not be viable over the long term. The health of the Financial Sector also depends on the soundness and creditworthiness of its borrowers. In turn, this will depend on the sustainability of economic growth. Economic Liberalization and Public Governance are key to achieve sustainable rates of growth. 18/03/2009 7 Leonard GSOM Emerging Markets March 2009
- 8. 18/03/2009 Leonard GSOM Emerging Markets March 2009 8 In fact, the financial sector "reflects" the real economy. Within these preconditions, the following measures are needed to develop a sound financial sector: 1. Improve Mobilization of Resources (the liability side of the system) 2. Improve Resource Allocation (the asset side of the system) 3. Improve Prudential Supervision of Financial Institutions 4. Strengthen Financial Competition by Opening International Capital Flows and by Developing Capital Markets