Friday, July 01, 2005
Imperfect Commercial Law and Market Augmentation: Institutions and Financial Underdevelopment
By: Paul Holden and Jennifer Sobotka
For: The Center for Institutional Reform and the Informal Sector (IRIS) for the U.S. Agency for International Development, 1999
Financial markets in developing and transitional economies are largely underdeveloped. Ratios of credit to the private sector to GDP tend to be low, most financial intermediation is undertaken by commercial banks, only large businesses have access to credit, and consumer credit is generally restricted to the privileged few. Some observers have pointed to shortcomings in the institutional foundations in these countries to explain the lack of financial market development. Inadequate property rights for both fixed and movable property, poorly functioning legal systems, and the lack of good credit and borrower information have all been identified as explaining this phenomenon. There has been, however, little discussion of the ways in which governments can and should act to strengthen existing markets or provide a solid foundation from which a nascent financial system can grow and prosper. Financial markets need a strong institutional foundation to function effectively and intermediate between savers and investors. Governments have a role in promoting effective institutions. This paper explores some ways in which they could do this and identifies some examples of how financial market development has been promoted in developing countries through effective reform as well as some cases where reforms have not had the desired effect. The paper focuses mainly on Latin America but also refers to examples from the transition economies of Eastern Europe and the Former Soviet Union. Latin America illustrates how government policy options can be limited by weak institutions while countries in the Former Soviet Union bear witness to the problems that can occur if markets are freed where there are no institutions in place to underpin transactions.
For: The Center for Institutional Reform and the Informal Sector (IRIS) for the U.S. Agency for International Development, 1999
Financial markets in developing and transitional economies are largely underdeveloped. Ratios of credit to the private sector to GDP tend to be low, most financial intermediation is undertaken by commercial banks, only large businesses have access to credit, and consumer credit is generally restricted to the privileged few. Some observers have pointed to shortcomings in the institutional foundations in these countries to explain the lack of financial market development. Inadequate property rights for both fixed and movable property, poorly functioning legal systems, and the lack of good credit and borrower information have all been identified as explaining this phenomenon. There has been, however, little discussion of the ways in which governments can and should act to strengthen existing markets or provide a solid foundation from which a nascent financial system can grow and prosper. Financial markets need a strong institutional foundation to function effectively and intermediate between savers and investors. Governments have a role in promoting effective institutions. This paper explores some ways in which they could do this and identifies some examples of how financial market development has been promoted in developing countries through effective reform as well as some cases where reforms have not had the desired effect. The paper focuses mainly on Latin America but also refers to examples from the transition economies of Eastern Europe and the Former Soviet Union. Latin America illustrates how government policy options can be limited by weak institutions while countries in the Former Soviet Union bear witness to the problems that can occur if markets are freed where there are no institutions in place to underpin transactions.