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Evolution of the financial systemsEvolution of the financial systems in transition countries: in transition countries:

a comparativea comparative perspective.perspective.

Leszek BalcerowiczPresident of the National Bank of Poland

The Future of Domestic Capital Markets in Developing Countries

Washington, 15th April 2003

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I. INITIAL CONDITIONS IN TRANSITION ECONOMIES:

1. THE ECONOMY WAS DOMINATED BY STATE-OWNERSHIP AND THE MARKET WAS ELIMINATED THROUGH CENTRAL PLANNING (THE MOST EXTREME FORM OF STATISM);

2. THE FINANCIAL SECTOR DISPLAYED A FAR-REACHING SIMILARITY:

– A MONOBANK STRUCTURE OF THE BANKING SYSTEM, NO INDEPENDENT CREDIT DECISIONS AND RISK MANAGEMENT;– NO PRUDENTIAL REGULATIONS AND SUPERVISION;– NO MONEY MARKET, NO STOCK EXCHANGE;– AN EXTREMELY LIMITED RANGE OF FINANCIAL INSTRUMENTS;– NEITHER INTERNAL NOR EXTERNAL CURRENCY CONVERTIBILITY.

3. SUCH A FINANCIAL SECTOR WAS:– SIMILAR TO THE ONE IN CHINA AT THE START OF ITS REFORMS; – EVEN MORE STATE-DOMINATED THAN THE BANKING SECTOR IN INDIA AND OTHER EMERGING ECONOMIES 12 YEARS AGO.

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210,5

251,1224,7

9892,7

1306

9,75,1

91

26,3

1710,80

50

100

150

200

250

300

350

400

Source: EBRD Transition Report 2001.

4. MACROECONOMIC CONDITIONS IN TRANSITION ECONOMIES VARIED MUCH MORE THAN INSTITUTIONAL ONES, ESPECIALLY WITH RESPECT TO: A. INFLATION: HYPERINFLATION IN POLAND, THE FSU VS. MUCH LOWER INFLATION IN CZECHOSLOVAKIA, HUNGARY AND ROMANIA;

Inflation (annual average, in per cent), a year before transition began (1989 for Poland, Hungary, Slovenia, 1990 for Czech Rep., Slovakia, Bulgaria,

Romania, 1991 for the former Soviet Union countries).

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B. THE SIZE OF MONETARY OVERHANG DUE TO REPRESSED INFLATION: LARGER IN THE FSU, BULGARIA, ROMANIA AND POLAND THAN IN HUNGARY OR THE FORMER CZECHOSLOVAKIA.

“Repressed” inflation 1987-1990

(difference between increase in real wages and real GDP from 1987 to 1990) 25,7

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-7,1-7,7

16,813,6

12

-7,1-10

-5

0

5

10

15

20

25

30

Hungary Czech Rep. Slovakia Slovenia Poland Romania Bulgaria former SovietUnion

countries

Source: IMF World Economic Outlook, October 2000.

5

0

5

10

15

20

25

30

Ukraine Russia Poland Czech Rep. Slovenia Hungary Estonia

II. SUBSEQUENT DEVELOPMENTS (TRANSITION) HAVE DIFFERED SHARPLY AMONG THE TRANSITION ECONOMIES WITH RESPECT TO:

1. Stock market capitalisation, turnover and bond-market development

Stock market capitalisation (% GDP), 2001.

Source: EBRD Transition Report 2002.

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2. Credit to the private sector (% GDP), 2001..

Source: IMF International Financial Statistics.

0

5

10

15

20

25

30

35

40

45

Ukraine Russia Estonia Poland Hungary Slovakia Czech Rep. Slovenia

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3. Credit to the private sector (% GDP) dynamics, 1996 - 2001

20

30

40

50

60

1996 1997 1998 1999 2000 2001

Slovenia Slovakia Poland Hungary Czech Rep.

Source: Stability and Structure of Financial Systems in CEC5, NBP, May 2002.

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0

5

10

15

20

25

30

35

40

Bulgaria Czech Rep. Hungary Lithuania Poland Latvia Estonia

4. Share of non-performing loans and costs of banking restructuring.

The fiscal costs of the restructuring of banks differed markedly, higher costs did not correlate with an improvement in banking sector

performance.

Costs of Banking Sector Restructuring (% GDP), 1991-1998.

Source: Zoli, Cost and Effectiveness of Banking Sector Restructuring in Transition Economies, IMF WP/01/157, 2001.

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THE DIFFERENCES IN FINANCIAL SECTOR DEVELOPMENTS WERE LESS DUE TO THE DIFFERENT INITIAL CONDITIONS AND MORE TO THE DIFFERENCES IN THE QUALITY OF GENERAL AND SECTORAL POLICIES.

GENERAL POLICIES:• FISCAL AND EXCHANGE RATE POLICIES;• ENFORCING THE RULE OF LAW;•PROTECTION OF CREDITORS’ AND MINORITY SHAREHOLDERS’ RIGHTS;•LIBERALISATION.

FINANCIAL SECTOR

ENTERPRISE SECTOR

INITIAL CONDITION

S

• PRIVATISATION;• PRUDENTIAL REGULATION AND SUPERVISION;•RESTRUCTURING OF NON-PERFORMING LOANS.

• PRIVATISATION.

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III. SOME SPECIFICITIES OF FINANCIAL SECTOR REFORMS IN ACCESSION COUNTRIES:

1. FAST INTERNAL AND EXTERNAL FINANCIAL LIBERALISATION, ESPECIALLY RELATIVE TO CHINA, INDIA AND THE ASIAN TIGERS. AS A RESULT THE ACCESSION COUNTRIES HAVE BECOME FINANCIALLY VERY OPEN RELATIVE TO MOST OTHER EMERGING ECONOMIES.

• Internationally issued bonds as a % of total bonds outstanding, 2000.

0

5

10

15

20

25

30

35

40

Emerging Europe Latin America Asian Tigers

Source: BIS Papers No 11, The development of bond markets in emerging economies, BIS 2002.

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0

20

40

60

80

100

120

• Private non-bank sector external loans from BIS reporting banks

as a % of credit to non-government, 2001.

Source: IMF International Financial Statistics and BIS Quarterly Review, September 2002.

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2. RELATIVELY FAST BANK PRIVATISATION AND A LARGE ROLE OF FOREIGN INVESTORS.

• Share of state-owned banks assets in total banking assets (%), 2001.

0000

20

40

60

80

100

Source: Central bank’s Annual Reports and BIS Papers No 4, The banking industry in the emerging market economies, BIS 2001.

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• Share of total banking assets controlled by foreign investors (%), 2001.

0

10

20

30

40

50

60

70

80

90

100

Source: Central bank’s Annual Reports and BIS Papers No 4, The banking industry in the emerging market economies, BIS 2001.

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3. RAPID INTRODUCTION OF REGULATIONS PROTECTING CREDITORS’ AND SMALL SHAREHOLDERS’ RIGHTS, BUT MUCH SLOWER IMPROVEMENT IN THEIR ENFORCEMENT.

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0

50

100

150

200

250

300

350

400

Pola

nd

Hun

gary

Slov

enia

Cze

ch R

ep.

Est

onia

Mex

ico

Indo

nesi

a (2

000)

Indi

a (1

997)

Tur

key

(200

0)

Bra

zil

Tha

ilan

d

Kor

ea

Chi

le

Chi

na (

2000

)

Mal

aysi

a

Aus

tria

Ger

man

y

USA

Uni

ted

Kin

gdom

Swit

zerl

and

IV. PRESENT RELATIVE POSITION OF ACCESSION COUNTRIES:

1. Relative size of the financial sector in accession countries is:– much smaller than in EU Members States and other developed economies and lower than in the Asian Tigers, Chile, Israel and China.– not very different from Mexico, Indonesia, India, Turkey and Brazil.

Credit to non-government and stock market capitalisation, % GDP, 2001

Source: IMF International Financial Statistics, FIBV and stock exchanges websites.

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0

1

2

3

4

5

6

7

8

9

Est

on

ia

Hu

ng

ary

Po

lan

d

Slo

ven

ia

Cze

ch

Rep

.

Mex

ico

Ind

ia (

19

97

)

Tu

rkey

(2

00

0)

Ch

ile

Bra

zil

Isra

el

Ko

rea

Ch

ina

(20

00

)

US

A

Sw

itzer

lan

d

Un

ited

Kin

gd

om

Sp

ain

Jap

an

Ger

man

y

New

Zea

lan

d

Po

rtu

gal

Au

stri

a

2. The financial sector in accession countries is bank-dominated, with limited importance of capital and commercial debt markets. The ratio of credit to stock market capitalization is similar to that in bank-based developed countries (Germany, Japan, Portugal, New Zealand) and much lower than in Austria.

Credit to non-government vs. stock market capitalisation, 2001 (ratio as a %).

Source: IMF International Financial Statistics, FIBV and stock exchanges’ websites.

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3. Credit to non-government in accession countries is:– comparable to that in other developing countries (except for Chile, Israel, the Asian Tigers and China), – much lower than in developed countries (except for Denmark, Greece and Finland);– lower than indicated by the level of GDP per capita.

Credit to non-government as a % of GDP, 2001

0

20

40

60

80

100

120

140

160

0 5000 10000 15000 20000 25000 30000 35000 40000

USA

Denmark

Switzerland

Germany

Malaysia

Korea

China

Thailand

Chile

India

Indonesia

Brazil

RussiaMexico

Poland

Estonia

Hungary

Czech Rep.

Slovenia

Finland

Greece

Source: IMF International Financial Statistics.

Cre

dit

to n

on

-govern

men

t %

GD

P

GDP per capita PPP

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4. The level of banking deposits in accession countries is: – similar to those in Latin American countries, Indonesia, India and Turkey;– lower than in the Asian Tigers and China;– lower than in developed countries with bank-based financial systems, but not very different from those in Canada, Denmark, Finland, France and the US (i.e. countries with other more developed forms of savings - insurance, investment funds, etc.).

Banking deposits as a % GDP, 2001

0

20

40

60

80

100

120

140

160

0 5000 10000 15000 20000 25000 30000 35000 40000

USA

Denmark

Switzerland

Germany

Malaysia

Korea

China

Thailand

ChileIndia

Indonesia

Brazil

RussiaMexico

Poland

Estonia

Hungary

Czech Rep.

SloveniaFinland

FranceCanada

Source: IMF International Financial Statistics.

Dep

osit

s

% G

DP

GDP per capita PPP

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5. Bond market development in accession countries is similar to that in other emerging economies (except for Malaysia and Korea), but this is mainly due to issues of public sector bonds.

Total bonds outstanding as a % of GDP, 2000..

21

59

22

58 60

37

102113

47

10

70

1024

31

130

165

0

20

40

60

80

100

120

140

160

180

Source: BIS Papers No 11, The development of bond markets in emerging economies, BIS 2002.

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6. Outstanding amounts of private sector bonds are very low, but this is a common feature of emerging economies (except for Malaysia, Korea, Hong Kong, Singapore and Chile).

Total private sector bonds outstanding as a % of GDP, 2000.

0

10

20

30

40

50

60

70

80

Source: BIS Papers No 11, The development of bond markets in emerging economies, BIS 2002.

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Source: FIBV and stock exchanges’ websites.

0

30

60

90

120

150

180

210

240

Po

lan

d

Cze

ch R

ep.

Slo

ven

ia

Hu

ng

ary

Est

on

ia

Ind

on

esia

Mex

ico

Th

aila

nd

Tu

rkey

Bra

sil

Ko

rea

Isra

el

Chin

a (2

00

0)

Chil

e

Mal

aysi

a

Au

stri

a

New

Zea

lan

d

Po

rtu

gal

Jap

an

Gre

ece

Un

ited

Sta

tes

Un

ited

Kin

gd

om

Fin

lan

d

Sw

itze

rlan

d

7. Stock market capitalisation in accession countries is:– much lower than in all advanced economies (except for Austria and New Zealand);– similar to that in Indonesia, Mexico, Thailand, Turkey and Brazil.

Stock market capitalisation, 2001.

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Source: FIBV and stock exchanges’ websites..

0

10

20

30

40

50

8. Stock market capitalisation in accession countries is not very different from levels prevailing in EU economies ten years ago.

Stock market capitalisation: more advanced transition countries, 2001 vs. advanced economies, 1992.

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0

20

40

60

80

100

120

140

160

180

200

Po

lan

d

Slo

ven

ia

Czech

Rep

.

Est

on

ia

Ch

ile

Ind

on

esi

a

Bra

sil

Isra

el

Mala

ysi

a

Tu

rkey

Ko

rea

Taiw

an

Au

stri

a

New

Zeala

nd

Po

rtu

gal

Jap

an

Au

stra

lia

Germ

an

y

US

A

Source: FIBV and stock exchanges’ websites..

9. Stock market turnover in accession countries is very low:– much lower than in all advanced economies (except for Austria);– similar to that in Chile, Indonesia, Brazil and Israel, but lower than in other emerging markets.

Stock market turnover (% GDP), 2001.

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V. The accession countries’ financial systems are highly integrated with the EU financial market:

1. Financial market’s legal framework is fully harmonized with EU standards. Banking directives were from the very beginning a hallmark on which the national law and prudential regulations were modeled.

2. Most banks in accession countries are controlled by foreign banking groups.

3. Foreign investors are also active in other financial services (insurance, investment funds).

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4. The best domestic companies have already gained access to foreign financing, either through direct loans from mother companies abroad or loans from foreign banks, or through issues of debt securities and GDRs/ADRs on external capital markets.

5. The future of stock markets in accession countries has not yet been decided. One possible solution is integration with one of Europe’s trading platforms.