1. Overview of Financial Development Issues
Thorsten Beck
World Bank

2. Outline Goal of the development assessment
Analytical/research underpinning
Conducting the development assessment
Linking functional and institutional approaches
Typical components
Characteristic messages

3. Functions of financial markets
Ease the exchange of goods and services
Payment services
Mobilize and pool savings
Savings services
Produce information ex ante about possible investments and allocate capital
Credit services
Monitor investments and exert corporate governance after providing finance
Facilitate the trading, diversification and management of risk

4. Financial institutions and markets
Financial intermediaries
Collect savings and intermediate in the form of debt, collect proprietary information about debtors and monitor them directly
Financial markets
Attract savings in the form of debt or equity instruments to provide resources for firms; information collection and dissemination through price mechanism
Contractual savings and insurance
Mobilize savings through contingent contracts, offer risk management services, provide investment resources in different forms (institutional investors)

5. Goal of development assessment
Benchmark provision (quantity, quality and cost) of the key financial functions and services that support growth
Identify obstacles to efficient provision
Recommend policy actions

6. Finance helps foster growth…

7. … and alleviate poverty

8. Benchmarking
Available quantification covers both quantitative measures of performance…
(e.g. depth, activity, reach, cost and price efficiency)
…and some qualitative indicators of infrastructures
(e.g. on legal, regulatory and informational infrastructures)
… and more recently, some quantification of penetration
More on this later
Depth is an inadequate measure

9. Financial depth of financial institutions and markets
Quantitative Data
Financial depth of financial institutions and markets
M2 to GDP
Private Credit to GDP
Efficiency of service provision
Interest spreads
Market liquidity

10. Qualitative Data on Infrastructures
Legal
Creditor protection; bankruptcy; corporate governance…
Informational
Accounting & auditing / transparency
Credit & property registries
Transaction technology
Payments and settlements
Government
Including regulatory “style”
Ownership

11. Typical Obstacles Gaps in the financial infrastructure
legal, information and regulatory systems (soft)
transactional technology (incl payments & settlements; communications generally (harder)
Flaws in regulatory or tax policy
(including competition policy)
Deeper governance issues impeding policy-making
(esp. favoring incumbents over newcomers).
whose inadequacies or unintended side-effects distort or suppress the functioning of the financial system to an extent not warranted by the goals of the policy.

12. Issues in the development assessment (1)
Market Infrastructure for Access
Collateral and bankruptcy laws; competent and impartial courts;
Information infrastructure (e.g. credit registry, accounting and auditing, rating agencies)
Payments: is the system competitive & reasonable in cost?
Monopoly Power and Related Distortions
Detecting evidence of market power
(e.g. use of cross-country regressions)
Positive and negative policy to limit damage
Permissive entry and legislative environment
Minimum scale issues and globalization

13. Issues in the development assessment (2)
Special Institutions for Access
E.g. development banks, microfinance
Issues include subsidies, incentives, burdensome regulation
The Demand Side
Assessing unmet needs of corporates & households (not easy - data deficiencies, including for cross-country benchmarking)
Taxation issue covers such matters as special taxes and quasi-taxes facing financial firms, such as financial transactions taxes and stamp duties, special taxes on bank income, the arrangements for deducting loan-loss provisions against corporate income tax, and unremunerated reserve requirements. It includes the question of how savings are taxed and whether the tax system is biased against saving, or as between different savings media (bank deposits vs. government bonds vs. equities). It also extends to the taxation of corporate income, including allowances and incentives for different types of investment.
Demand side: Collecting information and processing information on unlisted corporations can be time consuming, and to do it properly may represent a major investment of resources into the collection of statistics which could be wasted if not properly integrated into an institutional development effort with the national statistical authorities. One task for FSAP teams is to judge how much effort should be put into this, given competing priorities within the overall assessment. A further question which must be addressed is how reliable and useful is the accounting information that can realistically be expected from even the middle-size firms.
Likewise, to understand how well the financial needs (not just credit) of small firms and poorer households are being served may require survey-based information, which is hardly practicable in the timescale over which the FSAP is conducted.
Methodologies under-defined and information sources diffuse and unreliable
(True also for the whole of the development side -- inherent)

14. Issues in the development assessment (3)
Other cross-cutting aspects of policy environment
Taxation/subsidization of intermediation
Distorting or inhibiting subsectors or key instruments
Missing products/markets
E.g. leasing/factoring, why missing: underlying laws, regulations, tax?
Cross-sectoral competition aspects
E.g. banking vs. NBFIs; banking vs. securities markets
Damaging side-effects of over-heavy prudential rules
Taxation issue covers such matters as special taxes and quasi-taxes facing financial firms, such as financial transactions taxes and stamp duties, special taxes on bank income, the arrangements for deducting loan-loss provisions against corporate income tax, and unremunerated reserve requirements. It includes the question of how savings are taxed and whether the tax system is biased against saving, or as between different savings media (bank deposits vs. government bonds vs. equities). It also extends to the taxation of corporate income, including allowances and incentives for different types of investment.
Demand side: Collecting information and processing information on unlisted corporations can be time consuming, and to do it properly may represent a major investment of resources into the collection of statistics which could be wasted if not properly integrated into an institutional development effort with the national statistical authorities. One task for FSAP teams is to judge how much effort should be put into this, given competing priorities within the overall assessment. A further question which must be addressed is how reliable and useful is the accounting information that can realistically be expected from even the middle-size firms.
Likewise, to understand how well the financial needs (not just credit) of small firms and poorer households are being served may require survey-based information, which is hardly practicable in the timescale over which the FSAP is conducted.
Methodologies under-defined and information sources diffuse and unreliable
(True also for the whole of the development side -- inherent)

15. The methodological challenge: functions versus silos
Statistics, regulation and market performance remains segmented along lines defined by institutional/organizational form (“silos”).
Though cross-cutting infrastructures are also central.
But development aspects need to be analyzed and reported along functional lines.

16. Combining the perspectives (of functions and sectoral silos)
The development assessment has two phases:
Information gathering phase
Including infrastructural and sectoral
Analytical and reporting phase
Evidence to be distilled by mission leaders using functional perspective
(institutional silos)

17. Information gathering phase
Infrastructural reviews
Sectoral reviews (industry & regulation)
The demand side
Missing markets & other cross-cutting issues
(institutional silos)

18. Infrastructural reviews
Legal
Creditor protection; bankruptcy; corporate governance; competent & impartial courts…
Informational
Accounting & auditing / transparency
Credit & property registries; rating agencies
Transaction technology
Payments and settlements
Government
Including regulatory “style”
Ownership
Goes beyond cross-country data

19. b) Sectoral reviews (examples)
Banking etc. (also devt. banks, mortgage finance & other specialized institutions & MFIs)
Including competitiveness, ownership, efficiency, entry, unneeded regulatory impediments (e.g. on microfinance)…
Insurance and contractual savings
Including public pension funds
E.g. market penetration, product range, asset portfolio
Securities markets
E.g. liquidity, transactions costs, scale, linkage to ROW
Issues covered supplementary to the standards assessments

20. c) The demand side Corporate sector assessment Households
Infer unmet service needs from their financing patterns etc.
Households
Reach of mainstream and microfinance (including credit cooperatives etc)

21. 2. Analytical and reporting phase
Delivering the message:
Describe the functional gaps
E.g. lack of term finance; no venture capital; high intermediation costs; limited access; nascent insurance industry…
Pinpoint the source(s) of the gaps and deficiencies
Propose strategic approach to solution
highlighting cross-sectoral aspects

22. Development versus stability?
Usually mutually supportive
(An insolvent banking system cannot provide the needed service)
Occasionally conflicting
“Belt-and-braces” approach may damage effectiveness of banks without helping safety
Example: Powerful bank supervisors might help stability, but are also associated with higher corruption in lending
Examples -- collateral requirements; deposit insurance