Date post: | 20-May-2015 |
Category: |
Documents |
Upload: | samanthafox |
View: | 578 times |
Download: | 1 times |
Building Integrated Financial Markets 10 years after the Asian Crisis
(Chapter 4 of ADB Flagship Study)
Jenny CorbettAJRCANU
This is a first draft and not for quotation. 17 September 2007
Chapter 4Building Integrated Financial Markets 10 years after the Asian CrisisJenny Corbett
I Introduction
10 years after the financial crisis of 1997 there is still some debate about the proximate
and more fundamental causes of the crisis. There is broad consensus that at the time of
the crisis, Asian financial systems were not equipped to handle the capital flows
generated by rapidly changing global markets, giving rise to the “double mismatch”
problem. There is much less consensus on which specific aspects of their financial
systems were crucial to the multiple failures.
Most economies have subsequently strengthened financial supervision and disclosure;
consolidated and recapitalized financial firms; improved reserves and asset quality; and
restructured non-financial firms with an eye to governance (including privatization). As a
result, the region has seen considerable financial deepening and improvements in
financial sector performance. The contagion of the 1990s, however, demonstrated that
the quality of every financial system in the region is of overall regional concern so it is
relevant to look at the range of experience across the region, not just at average
performance. Some assessments of the progress in quality of the financial sectors are
still gloomy but broadly there is a evidence of considerable improvement.
Today most Asian countries have made partial progress to more diversified financial
systems but have not yet developed a full range of assets and markets of sufficient
quality to intermediate their large savings and investment flows. Thus, reforms need to
continue, along with initiatives to deepen and connect capital markets and these policies
need to be coordinated with macroeconomic policies on the capital account.
The initiatives required to accelerate financial development, and financial integration, are
largely national, but regional cooperation can offer support, for example, by defining
standards for supervision, disclosure and regulation, by creating settlement
mechanisms, and by jump-starting a range of markets. Such measures should reduce
financial vulnerabilities region-wide and also improve access to resources for
investments in infrastructure, business capacity, social needs and consumer durables.
These are key steps toward achieving the long-term vision of a more closely integrated
Asian capital market though they cannot guarantee stability if the global financial
markets are harbouring systemic problems.
This paper is designed to consider the current situation of financial integration in the
East Asian region against the background of changes in financial systems since the
crisis of 1997. Since the main indicators of integration reflect the extent of cross border
financial flows (or the price convergence that would indicate the potential for arbitrage
even if physical flows don't take place) the natural first focus is on border barriers and
capital controls. There are, however, several deeper elements that also need
consideration. To begin with, the questions of national treatment and market entry
behind the border have an obvious impact on the activity of foreign service providers.
Even deeper, and more difficult to assess, is the role played by different levels of
development in the markets in the region, by variation in the quality, reliability and
transparency of markets and the impact of differing regulatory systems. Despite a
plethora of studies on financial integration in the region there is no clear view of how
important these elements are, nor which among them rank most highly as barriers to
greater financial development and integration. It is therefore difficult to give good policy
advice and to identify priorities for regional cooperation. Many things can be done, but
current advice does not, and cannot, reflect empirically established priorities and
sequences. A more coordinated research effort to establish these is an urgent priority
II Savings and investment
Financial systems develop in response to the need to intermediate savings and
investment. While savings in the region have remained high over the last ten years,
private sector investment has not returned to levels achieved during the higher growth
period before the crisis. 9The matching current account surpluses are discussed
elsewhere).
Two features are important: national differences in savings-investment balances are
significant and “within sector” patterns are informative. The private sector (combined
corporate and household) savings-investment balances give an aggregate sense of how
much of domestic saving is being absorbed by the corporate sector for investment
purposes (and, by implication how much is absorbed either by the government or foreign
sectors). Looking specifically at the corporate sector’s own S-I balance is also
informative since it indicates how much financing is required from outside the sector.
Both of these flows of funds have implications for the financial system since they
demonstrate in aggregate what funds transfers are taking place domestically and
externally.
Data from Lee and McKibbin (2006) (Figure 1) show the pattern for the region. As
noted, investment demands have fallen while savings rates have generally stayed
constant in the region (Japan is an exception since demographic effects have begun to
impact savings behaviour). The fall in investment is much greater for the Southeast
Asian countries than for those in the North (Figure 2 below). The causes of the decline
are debateable. They must reflect increased uncertainty about future growth and
productivity prospects since the pre-crisis days but they may also reflect a species of
“credit crunch” (cf Kramer, F&D, 2006). This is the implication of the often stated claim
that it is necessary for sustainable growth that the region should recycle more of its own
savings within the region. The idea that it is bad for growth to have regional savings
flowing out of the region and in to the US and Europe must imply that regional
borrowers, i.e. investors with good projects (including public sector infrastructure
projects), cannot find the funding they need. There is currently insufficient research to
support or reject such a claim and most statements about the need to recyle regional
savings are statements of belief rather than analysis. As a recent Finance and
Development article put it in assessing the “savings glut” argument about global
imbalances
“ [there is a …] possibility that a significant part of the picture reflects an investment slump
in emerging Asia. Excluding China, aggregate saving has been relatively stable over the
past 10 to 15 years and, according to some IMF studies, broadly consistent with economic
fundamentals (IMF, 2005). In contrast, aggregate investment declined sharply around the
time of the crisis, has recovered only partially, and by some measures seems low relative to
its fundamental determinants. To be sure, the underlying picture is more complex—notably,
the mix of saving (public, household, and corporate) has changed over time, and the extent
and nature of the investment slump, as well as the factors underlying it, differ across
countries. But the broad-based decline in investment relative to GDP warrants an attempt at
a regional explanation.” (Kramer,2006)
Detailed data on corporate sector savings and investment patterns are not easily
available but the pattern displayed in Figure 3 (Lee and McKibbin’s Figure 7) is likely to
be borne out in many of the countries of the region. Where the corporate sector was
previously a large borrower of external funds most countries show a shift to internal
financing – the corporate sector’s demand for funds is largely met from its own savings.
The Japanese data illustrate this point. The significance of this pattern is that, as the
flows of funds change, both the outstanding indebtedness of the corporate sector and
the role of market intermediaries will also change. Corporate sectors that rely heavily
on external financing will display a marked savings-investment gap (i.e. a financing
need) while those that are largely internally financed will show a smaller gap. Over
time, and across countries, these financing needs will change and the pattern of the
corporate sector’s own savings also changes. The sectoral S-I gap thus gives some
clue to the role performed by external capital markets – in largely internally-financed
systems the role of capital markets would be different from the role in systems where the
corporate sector is more externally financed1. For a more advanced view of whether the
region as a whole is sending savings out of the region, and whether this is creating a
financing shortage for investment inside the region, we would need a careful study of
sectoral and industry level data.
Figure 1
Source: Lee and McKibbin op cit
Figure 2
Source: Jong Wha Lee and Warwick McKibbin, Domestic Investment and External
Imbalances in East Asia, Lowy Institute Working Paper in International Economics no
206, October 2006
Figure 3
Source: Lee and McKibbin op cit
III Regional Integration and Regional Interdependence
What is the meaning of integration?
In recent years many studies of the causes of the financial crisis and of the changes
since those years have focused on the way the region’s financial systems link with other
financial systems. High profile studies have asked the question “How financially
integrated are countries in the region, both globally and among themselves?” (World
Bank, 2006) and many have reported (and repeated) claims that “Standard measures of
financial integration indicate that inter-regional integration continues to dominate intra-
regional integration” (Cowen et al, 2006). Others note that Asia is less regionally
integrated than Europe in terms of finance (Lee, 2007, Eichengree and Park, 2005). In
addition it is usually commented that trade integration has progressed further than
financial integration. On the face of it there is multi-faceted data to support these
observations but they pose a fundamental question about what is meant by financial
integration and whether it is meaningful to describe systems as “more integrated’ with
some subset of the global financial system than another. If we take the statements as
meaningful the big questions that remain are what are the barriers holding the region
back and what policy initiatives could help.
But before we can consider those questions a closer look at what the data can really tell
us about the nature of financial integration is needed. As described below, many of the
most widely used measures reflect the extent of openness of financial markets (i.e. the
absence of barriers to capital flows and, hence, arbitrage) rather than integration in a
deeper sense that would reflect the closeness and interoperability of these systems.
Care is needed in thinking about what these measures are telling us about Asia’s
engagement with the region and the world in financial terms.
Takagi (2004) is clear that the use of the term financial integration is not new but that
over time the term has become used in a number of different ways. One use of the
term, the most common, is to mean price arbitrage, as described below, when rates of
return on financial instruments with identical characteristics are equalized across
markets. The term has also been used to describe the relationship between markets
with large transactions volumes between them, somewhat akin to the idea of trade
integration. More integrated markets would have greater capital flows and trade in
financial services. A third meaning, dealt with elsewhere in this volume, is that of
monetary integration, referring to close co-movements between exchange rates or
interest rates resulting from coordination of monetary policies. But as Takagi points out,
while these meanings are related to each other they are not synonymous and may not
even be consistent. Perfectly integrated markets in the price sense may not exhibit any
capital flows at all if financial flows are very elastic with respect to price. Price
adjustments could take place instantaneously with no quantity movements at all. And
markets that are completely open, in the sense of having no explicit barriers to financial
flows, may still exhibit low transactions volumes if other markets act as financial
intermediaries for them. Some markets may also have few formal barriers but may still
fail to attract or generate flows and may remain segmented from other markets in the
price sense, because they are overlooked by investors or for what Freixas et al, 2004
call “institutional or cultural” reasons. Takagi concludes, as does this study, “There may
not be a clearly established logical connection between financial integration and other
aspects of economic interdependence, … but we need to better understand what is
meant by financial integration ..”
How integrated are Asia’s financial markets?
Measures of financial integration are broadly divided into 3 types: price measures,
quantity measures and regulatory or institutional measures. The price measures are
based on assumptions that in fully “integrated”, or completely open, markets, arbitrage
would bring price equality on similar assets. In the case of cross-border transactions,
involving different currencies, interest parity conditions are used and there is a hierarchy
of measures with increasingly stringent assumptions and implications about the degree
of integration. At the least stringent level, covered interest parity would show a basic
degree of financial integration (or at least, a failure of CIP would suggest strongly that
markets were not integrated) while at the top of the pyramid (least likely to hold) real
interest parity would indicate not only integrated markets but also similarity of risk
preferences. Some studies also look for price co-movements in other asset classes such
as stock markets but here the theoretical basis is less compelling, since asset and risk
characteristics may vary significantly. Even within interest parity studies the details of
methods vary considerably and the fundamental question remains whether the assets
being compared are truly identical as required by theory.
Covered interest parity measures are based on the idea that if currency risk can be
“covered” by hedging then the interest rates on identical instruments will be identical. If
forward markets for currencies exist then any gap between interest rates will be
“covered” by the gap between the spot exchange rate and the forward rate. Domestic
investors will accept lower interest rates if their currency is set to appreciate and they
can lock in that appreciation by forward contracting, so that their overall return in local
currency will be the same as in identical instruments in foreign currency. Since the
currency risk is entirely removed from investor’s calculation any deviation from CIP must
be due to barriers to the free flow of investor’s funds. Thus, the deviation from the CIP
condition measures the extent of barriers to capital flows. Deviations from other interest
parity conditions (uncovered and real interest) may reflect additional conditions in the
market as well. In the case of UIP deviations may reflect exchange rate risk or country
risk that is not covered and deviations from real interest parity reflect the fact that
purchasing power parity frequently fails over medium run periods. But it is clear that
what these conditions mainly measure is the existence of some barrier to investment
flows i.e. a lack of openness of financial markets. This may be due to explicit capital
controls or to other barriers to foreign funds entry (or domestic funds exit) or it might be
due to a lack of information and awareness of external opportunities in small countries
that are “off the radar” of the international investment world. It might also be because
there are few truly identical financial instruments and, at the retail level at least, the
difference between a bank deposit in your home country and one abroad is likely
determined by your confidence in the level of protection afforded by regulations and the
ease of access to funds. Such factors may even influence assets such as wholesale
money market funds.
There have been several studies of the extent to which interest parity conditions hold
between individual Asian economies and global or regional indicators and between pairs
of countries. Several older studies are surveyed by Cavoli et al (2004) and they also
recalculate the uncovered interest parities between 8 East Asian economies (Table 1).
These are simple uncovered interest differentials using 6 month commercial CD rates
and using the actual spot rates 6 months out in place of expected exchange rate
changes and the authors note that this constitutes a joint test of the covered interest
parity condition and the currency risk premium. Thus, data issues cannot be ignored
(and there are no hypothesis or significance tests offered) but these data do not appear
to support a view that there has been a general increase in the degree of integration of
money markets around the region since the crisis. Some pairs of countries (Indonesia
with Malaysia, Indonesia with Hong Kong, Malaysia with Hong Kong, Philippines with
Malaysia; Singapore with Philippines) appear to have nearly fulfilled the UIP condition
during the period 2000 to 2002 and to have come closer to UIP after the crisis than
before. On average Indonesia, Singapore, Korea and China have smaller differentials
after the crisis than before, though it is not clear that the simple averages are very
meaningful.
Table 1 Uncovered Interest Differential (in percent) January 1995-December 1996
Foreign Counties
Domestic Economy Malaysia Philippines Singapore Thailand Korea China Hong Kong Indonesia AverageIndonesia 2.98 2.53 4.83 1.98 5.26 1.02 3.84 - 3.21Thailand 1.01 0.54 2.85 - 3.27 -0.96 1.73 -1.98 0.92Malaysia - -0.45 1.85 -1.01 2.41 -1.96 0.66 -2.98 -0.21Philippines 0.45 - 2.28 -0.54 2.87 -1.51 1.44 -2.53 0.35Singapore -1.85 -2.28 - -2.85 0.54 -3.79 -2.57 -4.83 -2.33Korea -2.41 -2.87 -0.54 -3.27 - -4.37 -1.92 -5.26 -2.95China 1.96 1.51 3.79 0.96 4.37 - 2.68 -1.02 2.04Hong Kong -0.66 -1.44 1.23 -1.73 1.92 -2.68 - -3.84 -1.03
Source: Cavolli et al, 2004
Uncovered Interest Differential (in percent) January 2000-June 2002Foreign Counties
Domestic Economy Malaysia Philippines Singapore Thailand Korea China Hong Kong Indonesia AverageIndonesia 0.04 2.8 3.3 3.6 2.04 0.6 -0.03 - 1.76Thailand -3.38 -0.78 -0.56 - -1.76 -2.82 -3.44 -3.6 -2.33Malaysia - 2.8 2.44 3.38 1.37 0.56 -0.07 -0.04 1.49Philippines -2.8 - 0.02 0.78 -1.13 -2.24 -2.86 -2.8 -1.58Singapore -2.44 -0.02 - 0.56 -0.45 -1.94 -1.55 -3.3 -1.45Korea -1.37 1.13 0.45 1.76 - -1.31 -1.94 -2.04 -0.47China -0.56 2.24 1.94 2.82 1.31 - -0.63 -0.6 0.93Hong Kong 0.07 2.86 2.57 3.44 1.94 0.63 - 0.03 1.65
Source: Cavolli et al, 2004
Poonpatpibul, Tanboon and Leelapornchai (2006) use the same “law of one price”
motivation to report the cross-country variation of overnight money market rates for 9
East Asian economies and note that while the dispersion fell markedly after 1999 the
standard deviation remains around 3% (Figure 4). They compare this with a figure for
European unsecured lending rates (Baele et al, 2004) of virtually zero after the
introduction of the Euro but since neither of these studies use covered or uncovered
interest differentials and therefore are not correcting for currency risks, comparisons
after the introduction of the Euro (with no currency risk) are not informative. Pre-Euro
deviations within Europe averaged around 2% between 1994 and 1998 so apparently
Asia post crisis is rather closer to Europe pre-Euro. Baele et al add a further test, which
would be useful for Asia if data were available, that compares the cross-country variation
with in-country variation (i.e across banks within country) to see whether the remaining
variation between countries is greater than the normal variation between banks. In
Europe both are nearly the same but no information is available for Asia. Without data
for the pre-crisis era in Asia it is also rather difficult to discern whether there has been an
increase in this measure of integration.
Figure 4
Source: Chaipat Poonpatpibul et al, 2006.
Takagi (2004) uses bilateral deviations from uncovered interest parity and bilateral
interest rate correlations to give a picture of which of ten Asian economies are closely
linked to each other. The results are not directly comparable to other interest rate
measures but broadly indicate that a few countries stand out as much less integrated
with others in the region and a few country pairs are strongly linked. Japan and
Indonesia appear to have larger deviations from UIP over the period while Taiwan,
Singapore and Australia have smaller ones. A few obvious pairs seem closely linked:
Australia with New Zealand and Singapore with Hong Kong. The interest rate
correlation data does not give the same picture however, suggesting that Australia has
rather small correlations with others in the regions. Indonesia has small correlations with
most others in the region (though some country pairs are exceptions) while Thailand and
Singapore have high correlations. It is difficult to take away an overall sense of close
regional integration in interest rate measures from this data and it averages the whole
period, pre and post crisis, giving no information about trends. Ngiam (2002) is cited by
Takagi as reporting that deviations from covered interest parity widened in the region
after the crisis compared with before, though de Brouwer had noted a shrinking of
differentials between the 1980s and 1990s.
In addition to price convergence in money or banking markets, similar arguments have
been made for bond and equities markets, although it is much harder to find anything
like identical assets in these markets. In fact, many of the tests for co-movement or
convergence of prices do not appeal strictly to the law of one price as justification but to
an idea that, if markets are integrated, then the basic discount rates will converge which
will cause other rates of return to move together.
Ghosh (2006) shows local currency bond returns (of what type is not specified)
exhibiting very low correlations between Asian region markets (China, Indonesia, Korea,
Malaysia, Philippines, Thailand, Hong Kong, Singapore and Japan) in 2004 and
comparisons with developed country (UK, USA, Germany) correlations of 0.8 or larger
make the contrast striking.
Stock market correlations tend to show a more marked picture of co-movement of prices
and suggest some increase in integration after the crisis. Ghosh 2006 shows
correlations of equity returns pre and post crisis for 8 Asian economies and for the group
of East Asia together. For most economies the cross-correlations, and those with the
group, increase after the crisis, and they are higher than correlations for the region with
the US or the EU. Tests for the importance of news as a determinant of equity returns
also suggests that news is more important after the crisis, implying more efficient
markets with less underlying volatility and markets that are more attune to developments
in the rest of the region and the rest of the world. With the exception of Korea, Thailand
and Hong Kong, however, the proportion of volatility explained by external news, even in
the post-crisis period, is still considerably lower than for the EU countries even before
the introduction of the Euro. There is at least general consistency with a number of
studies surveyed by Cavolli et al (2006) that stock markets in the region have become
more sensitive to external influences in the post crisis period although it is not easy to
read a regional effect in the results. Poonpatpibul et al (2006) give a similar picture
using only correlations, while Chai and Rhee (2005) give the same picture using both
correlations and variance decomposition, although the results of essentially the same
calculations as in Ghosh are of a completely different magnitude. They also find that
there is a large difference between the proportion of variance explained locally between
East Asia and Europe although they also show a reduction in local effects and an
increase in external ones in the recent period.
While no study does the comprehensive analysis across all the major financial markets
that Beale et al (2004) are able to do for Europe (covering money markets, corporate
bonds, government bonds, credit and equity), the pattern for Europe seems different
from the picture that has emerged for Asia. In Europe the money market is the most
integrated, government bond markets have become “significantly integrated” after the
introduction of the Euro while corporate bonds are “reasonably well integrated”. Equity
markets too have become more integrated while banking markets remain the least
integrated and display quite high price differentials, particularly in the consumer credit
sector. In the absence of detailed data for Asia all that can be said is that there is
evidence of some increased integration in price data for equity markets but not much in
the money markets and in bonds. Indeed some observers conclude that integration in
these areas has reduced since the crisis.
Quantitative measures capture the extent of cross-border financial flows or the extent of
cross-border holdings of foreign assets and liabilities. These measures have no
particular theoretical foundation but do at least show the extent of actual flows (or
stocks) of cross-border financial activity. The difficulties here are usually data. For
developing countries the accuracy and coverage of cross-border capital flow data is
particularly problematic, and for some asset classes almost non-existent. Nevertheless,
a number of studies have tried to discern patterns of cross-border activity and have
described these as reflecting the degree of integration of the markets. Ghosh (2006)
focuses simply on the proportions of assets held abroad in different regions and on the
sources of foreign-owned assets in the region. Both assets held abroad by the region
and the stock of foreign-owned assets inside the region grew, and this is offered as
evidence of increased integration with the world financial system. Ghosh notes also that
intra-regional holdings of both equities and bonds have increased and that the main
pattern is investment by the industrialising economies (Hong Kong, Korea and
Singapore) both into each others economies and into the developing economies (China,
Indonesia, Malaysia, the Philippines and Thailand) in both bonds and equities. The
developing East Asian economies have become considerable owners of equities in both
global markets and in the industrializing East Asian economies but do not have
significant bond holdings within the region. Ghosh takes these data to support the
conclusions of price data showing integration both globally and within East Asia in the
equities markets but less so in the bond markets. What is not evident is how this pattern
appears against any benchmarks. Are these holdings absolutely large or small and how
do they compare with either some theoretical norm or other regions’ behaviour?
At a minimum we need comparisons across countries and regions of the size of financial
holdings relative to GDP to give some normalization (Lane and Milesi-Ferretti, 2003,
Obstfeld and Rogoff). Asian economies hold, on average, assets valued at only about
half the European level relative to GDP (Lee (2007, using CIPS). Different data (IFS)
confirm broadly the same picture (Figure 5, Poonpatpibul et al, 2006) but there are
important caveats. Compared to the US, the average of Asian economies is quite
deeply integrated with the world financial system. The US has a much lower value of
foreign assets to GDP than either Asia or Europe. It can be misleading, however, to talk
of the degree of integration of the region as a whole, or on average. Within the Asian
region there is very large variation. Hong Kong and Singapore, as regional financial
centres, are much more integrated than the average European economy. Most of the
other countries of the region still hold very modest foreign assets in relation to their GDP.
Figure 5
Source: Poonpatipbul et al, BOT, 2006
The geographical distribution of asset holdings abroad and foreign holdings in the host
country give a more nuanced perspective on the Asian region’s engagement with
external financial systems compared with Europe and the US. This is not a theoretical
benchmark (which would make comparisons of countries’ holding relative to their share
of world financial endowments to judge deviation from the expected portfolio allocation in
a perfectly open world2) but it is a reasonable rule-of-thumb comparison.
On average, Lee shows that East Asian economies held about 4.9% of their foreign
portfolio assets within East Asia in 2003, while they owned 8.6% of the total foreign-held
assets in the region. These compared with 57% and 62% for Europe’s holdings in
Europe. (see Lee, Tables 1 and 2). Lee concludes, as do Poonpatpibul et al, that Asia
is much less integrated into the world’s financial system than Europe. In corss-border
bank flows Eichengreen and Park (2005) conclude the same.
Closer examination suggests something rather different. If Japan is excluded from the
East Asian group then 17% of assets held abroad are held in the East Asian region
compared with Europe’s 57%. In equities the proportion is 20% compared with Europe’s
53%, while in long term debt the comparison is 15% against 46% and in short term debt
18% against 59%. There is still, certainly, a large difference between Asia and Europe,
but excluding Japan increases the figures by several multiples. This reflects the fact
that Japan, a large, post-industrial economy is heavily invested in equivalent economies
elsewhere, rather than near neighbours. It also highlights the growth in Asia’s
integration in all directions since the first detailed data became available in 1997.
The pattern of ownership of the regions’ liabilities is also different from the conventional
view when Japan is excluded. Ownership shares jump from only 8.2% of all foreign held
liabilities in East Asia to 22%. These shares are still smaller than European ownership
of liabilities in Europe (at 61%) but by less of a margin. The pattern is consistent across
the different portfolio investment markets but remarkably, in short term debt, Asia’s
holdings of the regions’ liabilities (at 86% excluding Japan) is larger than Europe’s
holdings within Europe (at 86%). On these data, the markets in which the Asian region
is most “regionally integrated” in terms of its holdings of assets are first the equity
markets, then short term debt and finally long term debt (ranked excluding Japan) but
the international holdings of short term debt are much smaller than either of the other
two and are almost entirely accounted for by Hong Kong and Singapore. In terms of the
ownership of liabilities in the region, the order is reversed. The regional share is largest
in short term debt, next in long term debt and least in equities. The reason is that extra-
regional investors account for very large proportions of the inward portfolio investments
in equities.
Table 2
Ownership shares within the region
Small values of cross-border assets (or low shares to GDP) alone cannot necessarily
be taken to indicate low integration. The issue of benchmarks is crucial. By what
standard do we interpret these quantitative data? The gravity model is one
approach to determining whether intra-regional integration is lower than might be
expected (cf Lee, 2007, Eichengreen & Park, 2005). Taking several characteristics
of country pairs into account this approach considers whether bilateral financial
relations are lower or higher than might be expected given the range of factors that
generally explain bilateral cross-border holdings of assets (size of the two
economies, distance between the two, common language, common borders and
common colonial heritage). For portfolio holdings Lee finds that the extra effect of
being within the East Asian region is significant. Country pairs within East Asia hold
assets in each other that are 1.54 times larger than would be held by a random pair
of countries. Thus there is indeed evidence of a degree of integration greater than
“normal”. Furthermore, these data include Japan in the East Asian group and, as
already noted, this has the effect of depressing the average proportion of assets held
in the region. A similar exercise excluding Japan should give an even larger regional
integration factor. The number in these estimates remains much smaller than the
“Europe effect” which is on the order of 9 times the size for a random pair. The
behaviour of cross-border bank claims is rather different in very simple gravity
models (Eichengreen and Park, 2005) and suggests that the Asian regional effect is
even greater than the effect for Europe. Once bilateral trade flows are accounted for,
however, the Asian regional effects in both portfolio and bank claims become
negative. This means that larger bilateral trade flows have such a large positive
effect on financial flows that, once that effect is taken out, the additional effect of
being within the Asian region is negative – financial flows in both Asia and Europe
are lower than they would be between random pairs of countries with similar bilateral
trade flows. 3 The conclusion from these studies is that there is evidence of above
average financial integration amongst Asian economies, even though it is still less
than between European economies, but that it may be largely explained by the
degree of bilateral trade between countries in the region. Once trade is accounted
for there is less integration in the region than normal and this pattern is replicated
across most types of portfolio assets (equities, long-term debt and bank claims; short
term debt is not so affected). Interestingly similar patterns are found in Europe –
once trade is accounted for, the positive regional effect either becomes negative (in
bank claims), very small (short term debt) or at least much smaller than before trade
effects (equities and long term debt). These are important indicators of what drives
or impedes financial integration, to which we will return.
Another important aspect of the quantitative integration of the regions’ financial
markets is shown by measures of correlations between consumption, savings and
investments. The rationale is that integrated financial markets allow global
movements of savings and investment. This should mean that investors in one
country are not limited by access to only domestic savings4. Fully open capital
markets and fully integrated financial systems should imply no correlation between
domestic savings and investment for any individual country. Furthermore, the desire
to smooth consumption can be met by access to capital markets either at home or
abroad, so a related approach to measuring integration is to look for convergence of
consumption paths between countries. If countries are able to smooth the path of
their consumption this implies that they have access to capital markets and are able
to reduce or share the risks of consumption volatility. Under perfect risk sharing the
consumption growth rate of one country would equal that of the world consumption
growth.
There are relatively few careful attempts to analyse consumption risk sharing as an
indicator of the degree of integration for the Asian region and several are quite old.
Broadly the data suggest that there have always been quite high correlations
between domestic investment and savings, indicating low degrees of openness
before and after the crisis years (Montiel, 1994, Le, 2000, Isaksson, 2001).
Performance for individual countries across the region varied considerably. The
diagrams from the Poonpatpibul et al give a pretty clear picture of what all variations
of this analytical approach will find - a high degree of comovement of domestic
consumption with domestic production.
Figure 5
Source: Chaipat Poonpatpibul, Surach Tanboon and Pornnapa Leelapornchai, 2006, BOT . Notes: Figures in brackets refer to the growth rate between 1986 and 2004 of real consumption and real output respectively
In formal tests of whether individual countries in the Asian region share risks with
other regional economies or with the world (or not at all) Kim, Lee and Shin (2007)
show that the pattern of regional and global risk sharing for Asia and Europe are
quite different. Asian economies have a lower degree of risk sharing within the
region but a higher degree of risk sharing globally than Europe. Not all countries are
achieving risk sharing. Out of 10 Asian countries 4 had significant risk sharing with
the region (China, Hong Kong, South Korea and Taiwan) while four had significant
global risk sharing (Japan, Philippines, Singapore and Thailand). On average the
Asian economies have lower overall levels of risk sharing than Europe.
The authors propose a challenging explanation for these results. Under a capital
asset pricing model (CAPM) view of the world, investors should diversify their
portfolios to the greatest possible extent, choosing securities with low correlation with
each other and with the home portfolio. If this argument carries across to countries
(and it is much more complex to make this transition) then “countries with different
structures, subject to different economic shocks, with low business cycle correlation,
will find it more advantageous to develop closer financial links with one another. In
this regard, extensive portfolio diversification within East Asia may not be necessarily
an optimal strategy, considering the homogeneity of East Asian economies.” By
homogeneity, the authors mean close correlation of output growth rates within the
region. This argument seems to imply that “the welfare gains for regional financial
integration are lower in East Asia than in Europe” (Lee et al, 2007). This is not
necessarily a wide-spread view and other estimates have set the gains from
consumption risk sharing very high in Asia.
As noted earlier, both quantity and price measures may be seen as measuring either
integration or openness of financial systems and while the two concepts are often
used interchangeably they are not quite the same. The integration measures capture
the after-the-fact extent of financial trades and price movements and indirectly reflect
the openness of systems to cross-border flows. Direct measures of the barriers to
flows can be an important part of the picture. The distinction here is between de
facto measures of openness (or the degree of integration) and de jure measures (that
show whether policies restrict access to financial markets or limit capital account
transactions).
There are several different interpretations of just how open Asian financial markets
are, based on variations of the de jure measures. The measures most commonly
capture direct capital controls but a few indicate the extent of deeper liberalization in
financial sectors behind the border.
Most Asian economies had made quite modest commitments on financial services by
the end of the GATS round in 1997 (see Table in Appendix and Figures below).
Since the GATS requires only limited capital account opening and only in so far as
capital flows form an “essential part of the liberalized service” or are “related to the
supply of the service” (Kono and Schuknecht, 1998 and Parrenas, 2007). This
picture does not suggest that the financial sectors in Asia have been significantly
opened as a result of trade commitments5. Contreras and Yi (2004, cited by
Parrena) concluded that East Asian economies’ core banking, core insurance and
securities services are closed or partially closed to foreign competition while auxiliary
financial services, financial data processing and other insurance services are largely
open. These conclusions, drawn from study of the GATS commitments, do not sit
well alongside evidence of the actual involvement of foreign providers in financial
services and indicate how difficult it is to match policy statements with actual practice
and outcome.
Figure 6
Source: Parrenas, 2007, p 24
Figure 7
Source: Parrenas, 2007, p 24
Other indicators of behind-the-border liberalization give a picture of greater opening.
The most frequently cited are the measures of Kaminsky and Schmukler (2003) that
show gradual progress in liberalisation of the domestic financial systems and stock
markets but much slower opening in capital markets in seven East Asian economies
(Figure 8, from Park and Bae, 2002).
Figure 8
Source: Cited in Park and Bae, (2002). Notes: To measure the liberalization of the domestic financial system, Kaminsky and Schmukler analyze the regulations on deposit interest rates, lending interest rates, allocation of credit, and foreign currency deposits. As additional information, they also collect data on reserve requirements. To set the liberalization dates, they focus mainly on the first two variables, the price indicators. However, they complement that information with the regulations on the last three variables, those on quantities, to have a better picture of the degree of repression of the domestic financial sector. Finally, to track the liberalization of stock markets, they study the evolution of regulations on the acquisition of shares in the domestic stock market by foreigners, repatriation of capital, and repatriation of interest and dividends.
(Kaminsky and Schmukler, 2002, p 9)
Direct measures of capital account opening are also an important component of
understanding the pattern of Asia’s financial integration. These are likely to be a
necessary, but not sufficient, condition for greater integration. Without some such
measures it is difficult to assess the effect capital controls have on the degree of
integration and to consider whether they are part of a policy arsenal that could be
deployed to encourage further integration. The difficulty of capturing policy change
by measurable variables is well known. The choices for measurement of the extent
of capital account opening are fairly limited but there are a number of different
approaches. Essentially there are several variations on an index of “on-off”
restrictions based on the IMF’s Annual Report on Exchange Arrangements and
Exchange Restrictions and there are (fewer) measures based on the actual
accessibility of parts of the financial system.
The results of these studies do not give a consistent picture. Miniane (2004)
concludes that there has been minimal reduction in capital account restrictions in
Asia, with the exception of Korea, and that in many economies barriers rose after the
financial crisis. With more disaggregated data from the same underlying IMF source
Park and Bae (2002) conclude that there has been fairly steady reduction in capital
account barriers in most Asian economies with the exception of Malaysia which
famously imposed tighter controls in response to the crisis.
Using dummy variables, however disaggregated, gives no way to distinguish which of
the components drives the change in status of a particular country even though it is
likely that not all components matter equally. Chinn and Ito (2007) develop a variant
of the dummy variable measures of Miniane and others. They derive the principal
component of four variables that include both the conventional capital account
controls and also measures of the presence of multiple exchange rates, controls on
current account transactions and the need to surrender export proceeds. These are
expressed in terms of degrees of openness rather than whether restrictions exist,
and data are available for 181 countries back to 1983. This measure has the
advantage of incorporating a more extensive range of restrictions that would impact
on cross-border capital movements. From Figure 9 it is clear that “the pace – and
pattern – of financial opening exhibits wide regional variation. The Asian region has
had relatively high levels of financial openness since the 1970s, although the rate of
financial opening slowed down in the aftermath of the Asian crisis of 1997-98” (p7).
Figure 9
Source: Chinn and Ito, 2007, p 17
Figure 10, using the most recent version of the Chinn-Ito data, shows the position for
individual economies in East Asian up to 2006. Individual variation within the region
is noticeable, with some countries decreasing openness after the crisis.
Figure 10
-2
-1
0
1
2
3
US
UK
AU
S
JP
N
PR
C
IND
HK
G
KO
R
SG
P
IDN
MY
S
PH
L
TH
A
VN
M
1986-1996 Average 1999-2005 Average
Source: Calculated from data available at http://www.ssc.wisc.edu/~mchinn/research.htmlNote: The apparent decline in openness for Australia is an artifact of the more detailed data that became available after 1996 when one component of the IMF data was provided at a more disaggregated level. This resulted in one
variable that previously had been classified as no restriction becoming a restriction. In contrast to the previous figure the data are not normalized to have minimum values of zero.
Edison and Warnock combine some elements of both de facto and de jure
characteristics by measuring the proportion of an economy’s stock market that is
available to foreign investors. Taking one minus the ratio of the investable part of the
stock market to the total market capitalisation they create an index which captures
not only the legal restrictions, but also the intensity of them. A higher index shows
that a higher proportion of the stock market is not accessible to foreign investment –
showing not merely the existence of restrictions but how pervasive they are. The
data for 10 Asian countries are shown below (Figure 11)
Figure 11 Edison-Warnock measure of restrictiveness of controls on stock markets
Source; H.J. Edison, F.E. Warnock, (2003)
These data show that restrictions in Asia were initially quite high and that, while they
declined over the 1990s, the timing extent and evolution varied in different
economies. The overall level of restriction remains quite high for most of the region.
The patterns are similar to those shown by other measures: Korea, Indonesia,
Thailand, Taiwan have become more open while Malaysia’s experiment with
restrictions shows very clearly. The Philippines shows very little change from its quite
high pre-crisis level of restriction. It is notable that India remains quite heavily
restricted. However it is hard to take away from these measures the conviction
expressed by Takagi and Hirose (2004, p 133) that there has been a reversal of the
pre-crisis trend to great financial integration, reflecting a change in attitude globally
towards a greater acceptance of moderate capital controls. In their view this attitude
shift explains why “the capital account regime, at least in some countries in East
Asia, is not as open today as it was before the crisis” p 133 .
Considering the mixed picture presented by different measures of de facto and de
jure integration or openness, the appeal of some composite measure covering
several different indices seems clear. Surprisingly, composite (multivariate)
indicators of financial integration are a relatively recent development and few studies
have applied this approach to Asia. Takagi and Hirose (2004) is an exception that
uses principal components analysis of five dimensions of financial integration:
exchange rate volatility, deviations from purchasing power parity, deviations from
uncovered interest parity, trade intensity, and short term nominal interest rate
correlation. They derive a single indicator of integration between pairs of countries
in the Asia region and then group countries by cluster analysis to show which are
more closely integrated and whether groups of closely integrated countries can be
identified. They conclude that there are two groups of closely integrated economies:
one group consists of Australia, New Zealand, Singapore and Taiwan while the
second group covers Malaysia, the Philippines and Thailand. These groups are,
however, significantly influenced by the heavy weight given to exchange rate volatility
in the principal components analysis and may not be very informative. Their
research was not designed to compare the degree of integration within the region
against any other, nor to show changes over time, although it could be adapted to
both purposes. More importantly, the choice of which underlying indicators of
integration to include is crucial and there would be many competing choices available
but the approach warrants further development.
What drives integration?
Although the extent of financial integration between the region and the rest of the
world, and within the region itself, may still be open to debate, and there is still some
variation in views about whether integration and openness have increased or
decreased since the crisis, a picture emerges of slow, and sometimes sporadic,
increase in financial integration. What can be said about the main drivers of the
process? In particular, do the remaining de jure barriers explain a low level of
financial integration or are other factors more important?
The literature here is extensive but mainly does not focus on this specific question,
but a few conclusions do emerge. Most research suggests that removing de jure
capital controls does not automatically result in increased integration although
removing the Edison Warnock type restrictions on access to domestic stock markets
by foreign investors does result in increased portfolio investment by foreigners.
Adding capital control variables to the gravity models does not suggest that financial
flows would be closer in the absence of the controls.
The major explanation of degrees of financial integration seems to be trade.
Countries with large trade flows will likely also have large capital flows relative to
GDP. There is debate about whether finance follows trade or the reverse but it does
seem that this is an important element of the difference between Asia and Europe. In
so far as trade integration has been a market-driven, bottom-up process in Asia, it is
probable that the same will be true of financial integration.
What is much less clear is how much is actually contributed by the policy and
financial structure variables that regularly turn up in lists of desirable reforms to
promote greater integration. Ghosh (2006) lists the impediments to greater cross-
border transactions as including withholding taxes, a lack of hedging instruments,
differences in market practices and infrastructure such as trading platforms and
conventions, procedures for clearance and settlement and custodian systems,
differences in rating standards, national legal and regulatory frameworks and
accounting and auditing practices. To this list others have added the
“underdevelopment of financial markets”, inadequate financial and legal structure,
low auditing and accounting standards, low transparency, weak corporate
governance (Lee, 2007). Parrenas (2007) surveys several papers and picks out
recommendations to improve transparency, legal systems, insolvency systems and
workout procedures, competition and free entry, risk pricing undistorted by subsidies
or interest rate controls, clearing and settlement systems, government bond markets
and benchmark yields and the promotion of securitization.
We have only limited consistent statistical evidence on which of these desiderata
actually affect the extent of financial integration. Lane and Milesi-Ferretti (2007) find
that financial depth and the size of stock markets have an effect but, tellingly,
corporate income tax rates and the introduction of insider trading laws have no effect.
Ostry et al (IMF, 2007) suggest that domestic policies towards the financial system
do have an effect. Capital controls, institutional quality, trade openness and the level
of economic development affect the overall extent of openness (measured by total
foreign liabilities as a share of GDP). The institutional quality index is an average of
indicators covering voice and accountability, political stability and absence of
violence, government effectiveness, regulatory quality, rule of law and control of
corruption. The measurement of all of these is contentious and they are much bigger
policy issues than simply improving financial systems, difficult as that may be. Much
of the policy advice and discussion that follows here, and in other papers, is based
on intuition and anecdotal evidence about what would improve financial systems,
rather than on hard evidence. There is a clear need for more research on these
issues.
Foreign influence in regional financial systems is growing
Despite the impression of a relatively slow-to-integrate region there has been a very
marked increase in the degree of foreign participation in the domestic systems of the
region and in some types of cross-border activity. As Park and Bae (2002) document
there has been a dramatic increase in foreign ownership of banks in most emerging
market economies during the second half of the 1990s. Foreign banks’ penetration
was traditionally low in East Asia because of barriers to entry but this has changed
since the 1997-98 crisis (Table 3 from their Table 14, reproduced below). Foreign
bank control over assets of local banks jumped from less than one percent in Korea
in 1994 to 4.3 percent in 1999. In Indonesia, it rose by more than ten times during
the same period. On average, the foreign control in Korea, Malaysia and Thailand
rose to 6 percent in 1999 from 1.6 percent five years earlier. Similarly, as a result of
the lending behaviour of BIS reporting banks, foreign banks’ credit as a share of
total bank credit more than doubled in Malaysia: it rose to more than 40 percent after
the 1997 crisis from an average of less than 20 percent over the 1990-96 period. In
the Philippines the share jumped to 35.5 percent in 2001 after a sustained decline
during the first half of the 1990s and in Thailand there has been a gradual increase in
foreign banks share. Foreign banks also made a substantial gain in terms of the
loan market share, which reached almost the 30 percent level in Malaysia. Only in
Taiwan and Korea, have foreign banks have not been able to increase their loan
market shares. Much of the increase in the market share of foreign banks in the
Southeast Asian countries has come from the large increase in their local currency
(see Park and Bae’s Figure 4).
Table 3
Source: Park and Bae, 2002
An important additional feature is that while foreign bank penetration in East Asia is
still lagging behind that in other emerging market economies, American and
European banks have established a near monopoly position in providing two major
services in the capital markets in East Asia: 1) underwriting in the primary market and
2) trading and consulting in the secondary market. It is hard to quantify the value of
financial services and data are sparse so only data related to investment banking are
presented to show the dominance of American and European financial institutions in
financial services in East Asia. Western financial institutions, in particular American
ones, have been by far the largest providers of financial services in global investment
banking. A Euromoney 1996 “poll of polls’ showed that of the top 20 investment
banks (based on a compilation of 70 Euromoney polls and league tables produced in
1995), almost all were either American or European. Six years later, this dominance
remained unchanged; only one Japanese investment bank made the list (see Table
4).
Table 4
Source: Park and Bae, 2002
Euromoney poll results in other areas also confirm the dominance of American and
European institutions in providing the entire range of financial services (see Table 12
in Park & Bae) . US-based financial institutions led in every category of services,
followed by British-based ones. No financial institution was based in Asia with the
exception of Japan, and even then, the Japanese institutions were ranked last. The
Euromoney poll in 2002 shows that American investment banks had increased their
dominance further; Japanese investment banks have been largely driven out of the
market for capital market services since 1995.
Table 5 and 6 classify the capital market instruments issued in the five Asian
countries during the 1991-2001 period by nationality of the lead managers or book
runners who sponsored the new issues. Out of US$ 31.96 billion that was financed
through capital markets for the 1998-2001 period by the six countries, 74 percent
was undertaken by American and European investment banks, and 6 percent by
Japanese institutions. The cumulative figures for the 1991-1997 period show almost
70 percent of the capital market financing was managed by western institutions,
compared to 30 percent by East Asian investment banks. Table 5 further shows a
very significant change in the structure of East Asia’s international financing. Before
the 1997 crisis the East Asian countries had relied heavily on syndicated loan
financing. In the early 1990s, the six East Asian countries secured more than 70
percent of their total international financing from banking institutions. The proportion
of loan financing declined gradually, and after the 1997 crisis, all of their foreign
financing has come from capital markets. In managing the
syndication loan financing, East Asian banks maintained a share of the market during
the 1991-2001 period, reflecting the bank dominance of the East Asian financing
systems.
Table 5
Source: Park and Bae, 2002
Park and Bae further use the evidence in Table 6 to show that American and
European lead managers accounted for more than 70 percent of all capital market
financing, while Japanese institutions represented only 9 percent over 1991-2001.
Table 7 lists the top 20 lead managers in the management of debt and equity
issues. As they point out, the total amount underwritten shows a similar pattern of
dominance by American and European institutions which represented 90 percent
while the East Asian institutions only accounted for 10 percent. They report that
according to Risk Magazine (November 1996), most first-tier derivative brokers and
dealers were either American or European institutions when evaluated on pricing
ability, market making reliability and liquidity, innovation and speed of transaction,
even before the 1997- 98 crisis. No Asian region financial institution was ranked in
the first tier as either active brokers or dealers of Asian derivatives.
One important cause of the absence of regional players in these markets was the
financial crisis and the non-performing loan problems of Japanese banks which
curtailed their lending activities and caused them to withdraw from the region.
Table 6
Source: Park and Bae, 2002
Table 7
Source; Park and Bae, 2002
Table 8
Source: Park and Bae, 2002
A similar picture emerges from other indicators. Parrenas (2007) notes that
trends in foreign investment in East Asia’s financial services industries reflect the
growing openness of the region’s markets throughout the last decade, particularly
with respect to commercial presence. Figures 12 – 16 shows the growth of foreign
investment in financial services in a number of East Asian economies. Despite the
overall growth, there are some variations in the importance of foreign investment
(relative to domestic investment) in the restructuring of financial systems (Figure 13).
In about half of East Asian economies (Thailand, Hong Kong, China, Indonesia and
South Korea), foreign investment played a substantial role in the restructuring of
regional financial systems, exceeding 50% of total investment in Thailand, Hong
Kong and China. In the other half (Japan, Malaysia, Singapore, the Philippines and
Taiwan), financial restructuring was largely achieved through domestically-funded
mergers and acquisitions. Commercial banking has been the sector most
transformed by foreign investment (Figures 14-15) in part as a result of acquisitions
of non-performing loan portfolios). In a few economies, however, investment in other
financial services was significant. The insurance industry in China and Taiwan, and
the securities industry in Hong Kong, Malaysia and China are example. There is also
variety in the region in both the size and sector distribution of foreign investment, as
Figure 15 shows. These data indicate that, with the exception of Thailand, foreign
investment in East Asia’s financial services industry has come to play more
significant roles in the insurance and securities industries, as well as in other credit
institutions. Figure 16 confirms the points made by Park and Bae about the
dominance of foreign lead managers.
Figure 12
Source: Parrenas, 2007, p 26
Figure 13
Source: Parrnas, 2007, P 27
Figure 14
Source: Parrenas, 2007.
Figure 15
Source: Parrenas, 2007, p
Figure 16
Source: Parrenas, 2007,
These indicators of penetration by foreign financial service providers are important
not only for what they say about the extent to which financial integration is taking
place but also for the challenge they pose in terms of regulation and supervision, to
which we return below.
IV Major improvements since the financial crisis
Since most studies of the extent of regional financial integration lay some stress on
the limitations created by the development of domestic financial systems it is useful
to see what changes have taken place and how these systems are assessed against
international benchmarks.
There is a consensus emerging that the depth and coverage of financial markets, as
represented by aggregate data, has increased significantly over the last 10 years
(Ghosh/World Bank 2006; Ghill and Kharas/World Bank 2006) but less consensus
on what further quantitative developments are needed and on the extent to which
reforms have adequately improved the quality of financial, governance and regulatory
systems.
Starting with simple quantitative measures, Asian financial systems have grown and
deepened significantly since the crisis of 1997-98. World Bank data (Ghosh, 2006)
show that asset growth has been remarkable across the bank, equities and even
bond markets. By comparison with countries of similar income levels Asian markets
are of comparable or larger size (Table 9 and Figure 17) and on some measures
(e.g. equity market capitalisation in Hong Kong, Singapore and Malaysia ) surpass
those of developed countries.6
Table 9
Source: Gill and Kharas, 2006, p 174
Figure 17
Source, Ghosh 2006, p 4 and 27.
Note: The data for Thailand in this chart are not consistent with the data in the preceding
table which is also reproduced by Ghosh on the same page as the chart. Other country
data, excluding Thailand, do seem consistent.
It is frequently remarked that bond markets are still small in East Asia relative to
other types of finance and that the growth of bond markets has come mainly from
public bond issues (frequently to restructure ailing banking systems). The data,
however, suggest that the bond markets have been amongst the most rapidly
growing sectors of the financial systems in the region. Dhalla (2005) claims that
there are now three bond markets in East Asia (China, Korea and Malaysia) with
over US$100 billion and that the world’s two largest corporate bond markets relative
to GDP are in East Asia (Korea and Malaysia)
Beyond the bond and equity markets, It is not easy to get data on the size of markets
for the whole range of financial services that now exist in developed countries so it is
difficult to tell to what extent markets in Asia have expanded in sophistication and
range of services. One indicator is the size of assets of institutional investors in the
different segments of the market as shown in Table 4 which indicates that the
markets in the region are still fairly small.
TABLE 10
Ghosh, p 130
Assessments of the improvement in the quality and efficiency of the financial systems
in the region are varied. Quantitative measures indicate significant improvement in
the levels of bad debts and corporate indebtedness (see Figures 18 -19)
Figures 18
Source: Burton, Tseng and Kang, 2006.
Figure 19
Source: Burton, Tseng and Kang, 2006.
Efficiency indicators also suggest that the functions of financial markets have
improved. Efficiency of the banking sector has improved in terms of costs, NPLs,
return on assets and capital adequacy as indicated in Figures 20 - 21 (although data
limitations and cross-country differences in accounting practices require caution
here) .
Figure 20
Source: IMF, Global Financial Stability report, Sept 2005, cited in Ghosh, 2006, p 68
Figure 21
Source: Ghosh, 2006, p 66
In the securities markets there is also evidence of improvement in function as well as
scale. Liquidity, transactions costs and informational quality are all important to the
functioning of securities markets. A World Bank index of market quality shown in
Figure 22 uses two indices, one of market liquidity and one of the information quality
of the market. The informational quality index captures three measures from the
World Bank’s Doing Business Indicators i.e. disclosure, director liability and
shareholder suits. These three are taken to measure the strength of minority
shareholder protection. Combined with the liquidity measure these create a
composite index of market efficiency showing that most of the region’s markets are
well below average standards. Figure 22 shows some international comparisons.
Ultimately the information quality of the markets is demonstrated by lack of
synchronicity (i.e. the ability to distinguish individual movements of stocks within the
market). In explaining the outcomes on information quality Ghosh and Revilla find
that some institutional arrangements matter but many that might be expected to have
an effect do not appear important. Amongst their determinants disclosure rules are
very important but so are the availability of stock lending and short selling.
FIGURE 22 Stock market efficiency
A further important indicator of the functioning of financial systems is the
development of the insurance industry since it acts not only as an alternative savings
vehicle in many of these markets but also as a risk-sharing mechanism. The most
commonly used measures to assess the level of development of the sector are
insurance penetration (measured as the insurance premium as a percentage of
GDP) and density (measured as the premium per capita). As Ghosh notes, “There is
still substantial scope for further development, particularly in China, Indonesia, the
Philippines, and Thailand (Table 6.6). Distribution channels are an important factor
in increasing the coverage of insurance. In most insurance markets in the region,
distribution has been built on the agency sales-force model, often extending to large
numbers of sales forces (with varying degrees of productivity, reflecting the extent to
which agents work full- or part-time).” (p 139). The alternative model for extending
insurance is for banks to market insurance products. This model, known as
bancassurance, developing rapidly in Europe, is also appearing in Asia. 7
Table 11
Source: Ghosh, p 139
Despite these developments in the region over the 10 years since the crisis it is still
common to find assessments that vary on the details of how much more needs to be
done and how transparent, efficient and robust the region’s financial markets are
now. 8
Most assessments show modest improvements in corporate governance measures
(e.g. Cowen et al, 2006, p 20, based on Asian Corporate Governance Association
survey data) but several countries in the region are performing worse on measures of
the general governance climate or of corruption and law and order (Kramer, 2006
and Poonpatpibul, 2006 p 41). Bank governance appears still to be an area that
needs improvement in many of the region’s economies.
Data from the IMF Reports on Observance of Standards and Codes provide an
important addition to these qualitative data. Developing Asia (Bangladesh, India,
Indonesia, the Philippines, Sri Lanka and Thailand) exhibits lower compliance with
Basel Core Principles than the average for middle income countries. Most developing
Asian countries were non-compliant in principles regarding information sharing
between supervisors, ownership, prudential regulation and requirements, on-site and
off-site supervision, remedial measures, and cross-bordering banking. In addition, no
supervisor in the sample practiced consolidated supervision or incorporated country
risk control. On IAIS Principles (in insurance) the group outperformed peers. The
main weaknesses for insurance supervisors around the world lie in corporate
governance standards, internal controls and market conduct. In general, the
assessed Asian systems exhibit the same deficiencies as in other regions. In
applying IOSCO principles, securities regulators were not conducting proper market
surveillance and did not have adequate rules to detect and deter manipulation and
other unfair practices. In the implementation of standards of the committee on
Payment and Settlement Systesm (CPSS) developing Asia also lacks risk
management procedures, prompt final settlement, and arrangements for security,
reliability and governance ( Cowen et al, 2006, p 40). Figure ss gives a snapshot of
this information from Financial Sector Assessment Program (FSAPs) over the period
1999-2005.
Figure 23
Source: Cowen et al, 2006, p 39 Note: More detail is available in the same source on the specific components of each standard assessed.
One noticeable feature is that participation in both the FSAP and ROSC process is
low within the region. While there have certainly been criticisms of the procedures
and effectiveness of the IMF’s surveillance this is an obvious area for early decision
within regional fora. Either more countries in the region should take part in these
processes or regional alternatives should be created to provide similar monitoring.
Figure 24 and 25
Source: Cowen et al, 2006, p 43
Detailed survey data from Central Banks (shown in Table 12) also shows that
countries vary significantly in their compliance with best practice in detailed banking
supervision.
Table 12
Indonesia Malaysia Philippines Singapore Thailand Risk-based supervision x x x x x Consolidated supervision x x x x More effective organization, risk-focus x x x Risk focus in allocation of staff resources x x x x x Specialized staff and supervisory units x x x x x Risk-focused, targeted on-site examinations x x x x x Strengthened off-site micro and macro monitoring x x x x x Early Warming Systems (EWS) x x x x x Improved databases x x x x x New examination manuals x x x x Major training efforts x x x x x Accreditation of bank examiners x Accreditation of banks’ credit and risk managers x Incremental enforcement actions x X Prompt Corrective Action (PCA) framework x X n/a Encourage mergers and consolidation x x X x x Mandate all banks to be externally rated x Mandate all banks to be listed X Deregulate pricing and fees x X n/a x Consumer protection and education x X x Corporate governance x x X x x Require board committees x x X x x Encourage outsourcing x X Encourage institutional investors x X Remove expatriate restrictions x Remove restrictions on salaries and mobility x External auditor accreditation and rotation x X x x Coordination with other dom. supervisors x x X n/a x Coordination with for. Supervisors x x X x x
Source: Lindgren, Carl-Johan (May 2006), Banking Integration in the ASEAN- Region: An Overview’, ADB Manila Philippines. Table based on questionnaires and central bank websites and annual reports.
Similarities and differences of structure
Financial systems around the world differ in many respects and comparing them is
fraught with difficulty. Allen and Gale (2004) and Allen, Chui and Maddaloni, 2004, note
that comparisons should be made across many dimensions, recognising the many
functions of financial systems. Size of markets, measured by assets of particular
categories, is only one aspect. They also add the allocation of household and firms’
assets and liabilities by type, the size and number of institutions, the portfolio allocations
of institutional investors and aspects affecting the transmission of monetary policy, such
as the operation of mortgage markets and the formation of house prices. The practitioner
and policy community would add to this list disclosure systems, quality of regulation and
governance. Each of these comparisons is informative about different aspects of a
financial system and avoids the temptation to label systems simply as, for example,
“bank dominated” or “market oriented”. Quantitative measures and simple labels say
little about the efficiency and stability of financial systems which is, at the end of the day,
what we care about most.
Even on the simple quantitative dimensions, as noted above, while bond market
development has lagged by some measures, comparisons across a wider universe show
that variations in the size of bond markets are marked across developed markets as well
– the role and function of bonds appear to be a major source of difference in financial
markets across the globe. Corporate bond markets remain very small in the UK and
Japan as well as non-Japan Asia (see Allen, Chui and Maddaloni, 2004, figure 2). The
fact that bank assets still make up a relatively large share of many Asian countries
financial systems is also not unusual in global terms.
Ghosh notes
“Despite the progress made in diversifying financial markets, the banking sector remains
dominant, accounting for around 58 percent of the region’s total financial assets at the end of
2005 (down from 63 percent in 1997)” (p 27)
but also shows data that imply that Asian countries (with the exception of China) are
mostly not far from global averages in the ratio of bank assets to other assets when
adjusted for per capita income levels (see Figure 22)
Figure 26
Source: Ghosh, 2006
It is not only comparison of financial systems that is difficult. Since many different
models of financial systems persist around the globe, there is no consensus in the
research literature that one system is better than another. Some systems appear to suit
particular industrial structures and systems for innovation better than others, but there is
no strong tendency towards convergence in type of financial system even amongst
advanced, industrialized economies. Freixas et al (2004) note that while differences are
frequently characterized as bank- versus market-oriented “… this distinction dos not
stand up to close scrutiny” . While continental Europe has large banking markets and
relatively small stock markets, it also has large bond markets. Japan not only has a
large banking market but also large bond and equity markets. The US is one “market-
oriented” system with large bond and equity markets but small banking markets but there
are few like it. Freixas et al go on to note that “A more significant difference is the nature
of financial institutions in different countries. Non-bank financial institutions, such as
pension funds and insurance companies play an even greater role in the Netherlands
than they do in the UK but in the rest of continental Europe they are quite small. In the
US mutual funds are an important savings vehicle while in continental Europe equity
investments have frequently been channelled through banks so that equity markets and
the associated nbfis are relatively small”. They conclude “Overall, financial institutions
and markets have been organized on national lines and there has traditionally been little
cross-border flow in financial services”.
The key point is that there is still little evidence of convergence in financial market
structure or in the relative importance of different financial institutions towards any one
particular model. This is not to say that there is no adoption of some common practices.
Most countries have moved in the direction of global standards of disclosure and some
similarity in regulatory structures to protect investors. But there is an important
distinction between arguing for the advantages of adopting regulatory best practice and
confusing this with the need to move financial systems towards a standardized model.
The conclusion is that it is natural to expect a range of financial structures in the Asian
region to co-exist. Even with the greater adoption of standards of best practice in the
functioning of financial systems, the region will be home to a multitude of systems that
may be more or less “bank-centred”, with more or less active equity and bond markets.
The variation is evident in the data already presented. The shares of investment in
GDP and the contribution of investment to growth over the last 5 years has been erratic,
with falls much larger in Indonesia and Malaysia than in China and the faster growing
transition economies. Similarly, the development and change in financial markets is as
noticeable for the variance across the region as for the overall growth. Bank assets to
GDP ratios in 2005 ranged from 50% in Indonesia to 444% in Hong Kong; equity market
capitalization ranged from 18% in China to nearly 600% in Hong Kong while bond
markets ranged from close to 20% in Indonesia to 76% in Korea and 88% in Malaysia.
The range in the assets of institutional investors to GDP (pension funds, life insurance
funds and mutual funds ) was similarly wide. This variation may not only reflect
differences in levels of income and development but may also reflect the structural,
historical and local differences that were noted by Freixas et al across the globe. That
is, these differences may prove persistent, not merely transitory. If that is the case
policy attention should not be focused on trying to bring all economies in the region to
the same level but on ensuring that systems are transparent and open enough to ensure
that all savers, borrowers and investors have access to the services they need to smooth
their consumption through time, to maximize returns to their investment and to match the
risk of their portfolios to their risk appetites.
Regulation
As noted above, despite the overall pattern of lower than expected financial integration
and of significant barriers to entry, there is a considerable degree of foreign penetration
in the region’s markets. As Table 4 shows, there have also been significant numbers of
cross-border banking investments in recent years and, where these groups continue to
operate in multiple markets, they pose some new regulatory and supervisory challenges.
This is true in a number of other financial service areas where the role of financial
conglomerates is large.
TABLE 13
Source: Ghosh, 2006, Appendix 1, p 182
The challenge this poses is in the design of policies to adequately regulate the systems
and to ensure that they can interact and integrate smoothly. This requires a degree of
coordination and cooperation around the region that may grow exponentially if the
degree of financial integration increases.
V Regional cooperation
There already exist a number of regional fora in which financial issues are considered.
Table 14 indicates the membership of the major government level groups and some
elements of their structure. In addition there are several industry-initiated bodies that
exchange information and may have a role in helping develop best practice and self-
regulatory expertise.
Several recent studies (Poonpatibul et al, 2006; Yap 2007; Boao Forum Annual Report,
2007; ASEAN Secretariat and Australian Treasury (Hew et al), 2007) Dobson, 2004
and 2006) describe well the range and functions of the various regional groups that have
some involvement with financial issues. As Table 14 shows, most countries in the
region belong to several different groupings and many have work programs covering
related (or substantially the same) areas. At present it is probably fair to say that there
are enough groups tasked with collecting and sharing information between their
members (although as noted in the conclusions there are still some kinds of information
that could usefully be added) but, though several of them are also intended to carry out
surveillance and peer review, the surveillance element is still weaker than desirable.
Furthermore, there is clearly considerable overlap in the focus of several different
groups. This may have desirable elements since some groups include members that
bring valuable perspectives to the task but who are excluded from other groups. It does
mean, however, that there can be considerable duplication of effort. It is also
unnecessarily difficult to discover the different work programs and initiatives within each
group relating to the same area. The compilations from which Table 14 are drawn are
found in research papers or deep within annual reports. Yet this, at-a-glance description
of the work being done on financial integration and market building is necessary every
time a working group considers what remains to be done. In addition it would be useful
to have similar information organised by topic or market segment so that it would be
easy to discover under the heading say of “liquidity support” or “capital market rules
harmonisation” which groups were working on what elements. Such a database would
not be very difficult to compile and could be kept up-to-date by agreement across the
various organisations. It could usefully reside at the ADB ARIC website.
CENTRAL BANK COOPERATION FINANCE MINISTRY-LED COOPERATION
ACD EMEAP SEACEN SEANZA APEC ASEAN ASEAN+3 ASEMYear established 1991.2 1966.2 1956 1994.3 1967.8 1999.4 1997.9Members 28 11 16 20 21 10 13 39Indonesia,Malaysia, Philippines, Singapore, Thailand
X X X X X X X X
Brunei X X X X X XVietnam X X X X X XCambodia, Myanmar, Lao PDR
X X(all except Laos?)
X X X
Hong Kong, X X ? X XTaiwan X X X XKorea X X X X X X XChina, Japan X X X X X XAustralia, X X XNew Zealand X X XMongolia, Nepal, Sri Lanka
? X
Papua New Guinea ? X XBangladesh, Iran, Macau,
? X
India ? X X XFiji ? XCanada, Chile, Mexico, Russia, US
X
EU-25 X
TABLE 14 REGIONAL COOPERATION FORA
ACD EMEAP SEACEN SEANZA APEC ASEAN ASEAN+3 ASEM
StructureGovernors’ mtg 1x pa 1x pa biennialDeputies mtg 2x pa 1x pa 1x pa 1x pa 3x pa 1x paWorking level WGFM: 4x pa
WGBS, WGPS: 2x pa
On a need basis
On a need basis
One a need basis
Areas of WorkFinancial Market Development
X ABF 1 & 2(insert others)
X X AFMM ACBG (ACBF)
X AFMM+3 ABMI
X
Payment and Settlement
X BPA
Banking Supervision
X
Surveillance X X X X X ASCU X X- Economic Review X X X X- Policy Dialogue X X X X X XCapacity Building X X X X X X X- Training X X X X X XReseach X X X X X XLiquidity arrangements
X EMEAP Repo
X CMI
Initiatives (finance related)
Finance Ministers Process; Surveillance Process; ASEAN Swap
Finance Ministers Process; Economic Review and Policy
Arrangement;Roadmap for Financial and Monetary Integration; ACMF; Exchange Linkages Task Force;Asia 100 benchmark and index
Dialogue (ERPD); ASEAN+3 Research Group; CMI, ABMI
Source: Poonpatpibul et al, 2006; Yap, 2007; Baoa Forum Annual Report, 2007Notes: ACD = Asia Cooperation Dialogue; APEC=Association of Pacific Economic Cooperation; ASEAN=Association of Southeast Asian Nations; ASEM=Asia Europe Meeting; EMEAP=Executives’ Meeting of East Asia and Pacific Central Banks;SEACEN=South East Asia Central Banks; SEANZA= South East Asia, New Zealand, Australia. CMI = Chiang Mai Initiative; ABMI= Asian Bond Market Initiative; ABF = Asian Bond Fund; AFMM = ASEAN Finance Ministers’ Meeting; ACGM (ACBF) = ASEAN Central Bank Governors’ Meeting (ASEAN Central Bank Forum); ACMF = ASEAN Capital Market Forum;
The surprising element that emerges from a close look at these organisations and their
work programs is the range and extent of the apparent commitment to collaborative work
on financial integration issues. If these pronouncements could be taken as truly
reflecting a political commitment in the member economies to implementation of steps
toward financial integration there would be grounds for optimism about how quickly
things could change. The following description of the major regional cooperation
initiatives illustrates the point.9
Under the ASEAN Finance Ministers Meeting (AFMM) there is a formal ASEAN
Surveillance Process (ASP) which produces an annual report and is supported by the
ASEAN Finance and Central Bank Deputies’ Meeting, its working groups, the ASEAN
Surveillance Coordinating Unit and the ADB. While its focus is mainly macro-economic it
also is reports on financial stability issues. ASEAN also has an ASEAN Central Bank
Forum at Governor level and has established the ASEAN Insurance Training and
Research Institute and the ASEAN Insurance Regulators’ Forum. In a series of summits
since the Hanoi Action Plan 0f 1998 ASEAN has recognised the need for a Roadmap for
Integration and has worked towards defining a goal that is currently enshrined in Vision
2020 and includes the idea of an ASEAN Economic Community. As part of the process,
the AFMM adopted a Roadmap for the Integration of ASEAN in Finance covering four
areas: capital market development; capital account liberalisation, financial services
liberalisation and ASEAN currency cooperation.
To facilitate financial services liberalisation the Hanoi Plan of Action called for intensified
negotiations under the ASEAN Framework Agreement on Services (AFAS) and several
rounds of negotiations have taken place. A Fourth Round of Negotiations under the new
positive list approach is expected to conclude by the end of 2007. To date the
commitments have been criticised as being somewhat less than WTO (Stephenson and
Nikomborirak, 2002) but it is never easy to assess the value of commitments alone,
since they often lag behind the actual state of regulation and implementation.
To support capital market development two approaches lie at the core of the Roadmap:
i) institutional capacity building in areas necessary for the development of capital
markets including the legal and regulatory framework, market infrastructure, and
international best practices: and ii) initiatives to foster greater cross-border collaboration
between capital markets in the region including the development of market linkages and
harmonisation of capital market standards. In the Vientiane Action Plan three areas of
financial cooperation were explicitly identified: a) strengthening surveillance
mechanisms, including setting up an early warning system b) enhancing domestic
financial systems particularly in the areas of legal and regulatory systems, risk
management and market infrastructure and adoption of international codes and
standards and c) developing and integrating financial markets, through the
establishment of a regional network for capital market research and training, cross
border collaboration to develop common conventions in debt and equity markets; and
progressive liberalisation of financial services and capital accounts. At the same time
the ASEAN Capital Market Forum (ACMF) was established to focus on the development
of regional capital markets and was intended to be a meeting place for capital market
regulators. Significantly, the ASEAN Finance Ministers set up the ASEAN Exchange
Linkages Task Force to explore methods of linking securities exchanges in the region.
Areas identified as high priority are: narrowing gaps in technology, platforms, market
practices, and strengthening investor protection through, among other measures,
harmonising disclosure standards. The Task Force also began to benchmark the
“ASEAN 100” top listed companies across the major exchanges and developed an
ASEAN Index, launched in London in 2005. The ACMF has agreed to cooperate on
harmonising standards that would facilitate integration such as disclosure standards,
distribution rules, accounting and auditing standards and cross-recognition of
qualifications of capital market professionals.
Since 1999 the ASEAN+3 process has been institutionalised and includes a Finance
Ministers’ Meeting (AFMM+3) with four major pillars: the Economic Review and Policy
Dialogue; the Chiang Mai Initiative; the Asian Bond Market Initiative and the ASEAN+3
Research Group. The ERPD is mainly concerned with surveillance on a macroeconomic
level and does not concern us here. The Chiang Mai initiative and the ABMI are by now
so well documented that there is little need to describe how they operate. There is no
doubt that both are significant contributions to the institutional structure helping to build
closer financial links in the region. The first (CMI) provides liquidity support via a system
of bilateral currency swap agreements, in addition to what is available through the IMF,
and is presently being extended by new bilateral agreements at a rapid rate. Discussion
is under way on multilateralising CMI and changing the arrangements requiring IMF
supported programs for large calls on the facility. In 2006 the AFMM+3 set up a Group
of Experts (GOE) and an Economic Technical Working Group (ETWG) to find ways to
further strengthen regional surveillance and to develop an Early Warning System. Both
of these take on added significance in the context of the bilateral swap system of CMI.
The ABMI grew out of the perceived need to diversify sources of finance in the “bank-
dominated” (though note the earlier discussion about how meaningful this label is) Asian
economies and to help provide the infrastructure that would encourage and enable local
bond markets to develop. Alongside the Asian Bond Funds of the EMEAP there has
certainly been development of bond markets, though at present they mainly trade
government rather than private paper, and are still dominated by US dollar-denominated
bonds. The structures that support the ABMI (working groups on new securitized debt
instruments, credit guarantee and investment mechanisms, foreign exchange
transactions and settlement systems and credit rating systems) together with the
ASEAN + 3 Research Group have generated several studies that clarify aspects of the
integration agenda. While there has been criticism of the effectiveness of the Working
Groups there is a consensus that the ABMI has helped to diversify financing in Asia.
The EMEAP Asian Bond Funds (1 & 2) provide the demand side of the market and help
to build expertise and experience in managing and investing in bond funds.
Groupings initiated by, and centred on, Central Banks have also played a role in regional
cooperation on the finance agenda and have a long history in the region. SEANZA was
established in 1956, initially to provide training and capacity building. SEANZA now also
includes the SEANZA Forum for Banking Supervisors which has extended participation
to some functional regulatory bodies such as the Korean Financial Supervisory Service
and the Australian Prudential Regulation Authority. The forum is mainly an information
exchange mechanism though SEANZA also carries out training. This appears to be the
only regional body in which financial supervisors and prudential agencies meet to focus
on supervisory issues (rather than on central bank issues) and, in view of the growing
risks in financial systems, it might be useful to consider a higher profile and expanded
responsibilities for this body (or some alternative, see Recommendations below). Since,
as pointed out by Corbett (2007), many economies in the region still maintain functionally
separated supervisory bodies outside the Central Banks, there is a risk that the heavy
Central Bank and Treasury/Finance Ministry focus of the existing regional cooperation
bodies could allow supervisory issues to fall through the cracks.
SEACEN is principally a training and research centre, with a dedicated headquarters and
training facility in Malaysia. It runs large numbers of training courses using both in-
house and external resources and is financially assisted by the Bank of Japan. Several
non-member Central Banks have observer status.
The most recent of the Central Bank groupings, EMEAP, was a Japanese initiative to
strengthen cooperative relationships between members. Its structure (Governors’
meetings, Deputies’ meetings and Working Groups) was established in 1996. There are
three working groups: WG/PSS on payment and settlement systems, WG/FM on central
bank services and developments of foreign exchange, money and bond markets and
WG/BS on banking supervision. As noted above, since some member countries have
taken banking supervision out of the Central Bank (and in some cases have separate
supervisors for different market segments) EMEAP now includes representatives from
the financial supervisory agencies of some countries although it is mainly comprised of
Central Bank representatives. As we noted above and develop further below, this still
leaves a potential gap in the opportunities for information sharing and surveillance-type
activities in some countries and in several non-banking areas that are increasingly
important to financial systems.
Aside from its activities in establishing the two ABFs, EMEAP also provides training and
capacity building programs through the Bank of Japan (the EMEAP secretariat) and has
recently signalled its intention to raise its profile in the region. This raises the question of
where such training should be carried out and how these activities relate to those of
SEACEN. One limitation is that the CMLV countries and India are not members of
EMEAP.10
APEC also has significant programs in the finance area. One of the core principles of
APEC is to develop policy with a strategic goal (among others) that promotes stable and
efficient financial markets and supports greater economic cooperation, integration and
openness. The most recent Finance Ministers’ Meeting enunciated several initiatives
with finance content, including a Voluntary Action Plan on Freer and More Stable Capital
Flows, an extension of the Finance and Development Program, a Financial Regulators’
Training Initiative, a cooperative program for financial institutions for SMEs, a capacity
building training course for non-life insurance regulators, a program on Reform of the
Financial Sector (to include an online repository of finance-related information and
experience for finance ministers, central bankers and financial regulatory agencies), a
public-private dialogue on Bond Market development and a capacity-building initiative to
offer technical assistance on capital market development. As with EMEAP, the CMLV
countries and India are not members of APEC.
The most recent cooperation initiatives in the region are the Asia Cooperation Dialogue
and the East Asian Summit. At present the ACD covers a wide group, going beyond the
East Asian and Pacific region to include South Asia, Central Asia and the Middle East. It
is a loosely-structured and informal group that operates through dialogue and projects.
The Ministerial Meetings are usually attended by Foreign Ministers but there is the
possibility of extending the interactions under the ACD to finance ministers, central
banks, security regulators and stock exchanges. Amongst the nine project areas
recommended for consideration by Ministers, financial cooperation is included. Thailand
is the prime mover for the financial cooperation project and has set up a Working Group
on Financial Cooperation. Asian bond market development is the main focus of the WG
and the purpose is to build support for the activities of other fora such as EMEAP, rather
than to duplicate efforts. The Dialogue group has focussed its main attention on energy
issues (since it includes the Middle East this is an obvious natural advantage) and has
deliberately linked its initiatives to those of other bodies in a collaborative fashion while
bringing in a wider membership. The EAS, at present, somewhat resembles the ACD in
that it is a dialogue process with a wider membership than most existing East Asian
groups but its agenda is not yet clear.
It is difficult to assess the prospects for any of these groups since, while their agendas,
initiatives and work programs look well-directed to the problems of the region there is a
salutary lesson in the fate of the Manila Framework Group. Formed in 1997, it was
described in 2002 as “seen by some observers as the pre-eminent forum for regional
surveillance and peer pressure” (Wang for PECC, 2002) though Wang went on to
caution that the MFG had not been very successful as a mechanism for regional
financial cooperation because it had not clearly specified its priorities, it had no peer
review process but was limited to discussion only, and had no clear focus on financial
issues. Its membership was also limited. Sure enough, by 2004 the MFG had been
wound up.
Private-sector cooperation initiatives
In addition to the government bodies outlined above, there are a number of private-
sector or semi-government/multilateral regulatory bodies in which regional financial
market actors meet.
For securities markets there is the Asia-Pacific Regional Committee of IOSCO (and, as
noted above, the ASEAN Capital Market Forum). Most information sharing between
securities market regulators, however, is done on the basis of bilateral MOUs. Within
IOSCO 90 countries and regions signed more than 1000 MOUs for bilateral
cooperation11 and nine Asian economies have become, or have committed to become,
signatories to IOSCO’s Multilateral MOU, the first global information-sharing
arrangement among security regulators. The East Asian Stock Exchanges Conference
(EASEC) was founded in 1982 to facilitate the exchange of information among member
exchanges. In 1990, seventeen of the region’s stock exchanges (Australia, Shanghai,
Shenzhen, Hong Kong, India National, Mumbai, Jakarta, Surabaya, Tokyo, Osaka,
Korea, Kuala Lumpur, New Zealand, Philippine, Singapore, Taiwan and Thailand)
formed a grouping (EAOSEF) that changed its name in 2005 to the Asian Oceanian
Stock Exchanges Federation (AOSEF). Its activities include dialogue and research and
it has developed proposals on cross-border trading, market linkages, demutualization,
corporate governance, information management and harmonization and coordination of
listing, trading and clearing, and market surveillance. These proposals have apparently
been discussed within the organization but not necessarily advanced to government
policy levels and it is not clear how they can be implemented since they will depend on
voluntary adoption by member exchanges yet they would require coordinated
supervision and, in some cases, legislative support. Progress on the ASEAN initiative,
noted above, to commit to develop an inter-linked ASEAN securities market by 2010 will
be an indication of how these problems can be solved. 12
Despite these potential difficulties there has been some practical progress toward
linkages between some regional exchanges13. In addition to bilateral links, the TSE
announced an intention to cooperate with stock exchanges of 10 Asian cities in 2002 on
researching a system for the mutual free transactions of stock and bonds listed in the 11
stock exchanges and for promoting cross listings. It is not yet clear what progress has
been made14.
There are other forms of cooperation among independent organizations in the securities
industry, such as the Asian Securities Forum and the Asian Securities Analysts
Federation and financial institutions also play an active role. For example, five major
Asian Securities Houses from four Asian economies formed the first Pan-Asian online
stock exchange network, the Asian Stock Exchange Network, in April 2000.
In other market segments there is a similar growth of regional groupings. Depository
insurance corporations formed the Asian Regional Committee of the International
Association of Deposit Insurers. Credit rating agencies formed the Association of Credit
Rating Agencies in Asia (ACRAA) and there is a Forum for Asian Insolvency Reform.
The main purpose of these bodies is to promote dialogue, information exchange and
capacity building. The derivatives industry, still relatively underdeveloped in the region
and heavily concentrated in Singapore, established the Asian Pacific Association of
Derivatives (APAD), in 2004; an organization comprising academics, practitioners and
regulators to promote research and increase knowledge of the use of derivative
securities and markets.
The Financial Stability Forum, serviced by the BIS, also occasionally convenes regional
meetings bringing together regional central banks, finance ministries and capital market
regulators as part of its global program promoting information exchange.
Gaps in regional cooperation?
It emerges from the description above that, while there are several overlapping groups
exchanging information, they are many and varied. It is bound to be difficult to
coordinate across the groups and to share information emerging from one forum with
(differing) members of other groups. Moreover, the structure of the government level
groups seems based around a view of financial systems that does not reflect the realities
of the region. Consisting mainly of Central Banks or Finance Ministers or of deputies of
these groups, they may not be able to capture the complex nature of financial market
regulation in a changing world and across varying systems. Enhanced communication
across the groups and greater public-private sector dialogue would be useful.
Financial regulation within the region and around the world does not display a uniform
structure. With the growth of integrated financial service provision and the wave of
mergers creating large financial conglomerates, many countries have questioned
whether the supervisory arrangements of previous decades are still appropriate. The
pace of financial innovation has increased, financial conglomerates are not only complex
organizations to supervise but also change the way in which risk is transmitted within the
financial system. As a result both the risks in the system, and the regulatory objectives,
have become more complex. The response around the world has been to consider
whether regulators should also be consolidated into integrated bodies that deal with
many previously-separate financial sectors. This has implications for the role and
structure of regional cooperation for a.
There are many variations of the model of unified and integrated agencies (Llewellyn,
2006). Unified agencies cover not only prudential supervision but also “conduct-of-
business” supervision (i.e. consumer and investor protection issues such as disclosure,
fairness etc). There is a spectrum of agencies, with some covering more than one, but
not all, parts of the financial system (e.g. the Australian system where APRA supervises
banking and insurance but not the securities industry). The “twin peaks” model has two
bodies, one to carry out prudential supervision and the other to do “conduct-of-business”
supervision (again Australia is an example). Under this model there is always the
question of whether the Central Bank should become the prudential supervisor across
the whole financial system, though this may have the risk that safety nets become
extended to areas beyond those for which they were originally designed. The role of the
Central Bank is an important one, and particularly so in East Asia, where many countries
still rely on the Central Bank for supervision.
There is a very wide range of supervisory models around the world. Around a third of
countries have a single, integrated prudential supervisor (like the FSA of Britain), a
small proportion have supervisors that combine a couple of financial sectors and over
40% have specialist, multiple supervisors dealing with only one financial sector
(Llewellyn, 2006; Cihak and Podpiera, 2006) Thus, the majority of countries are still
supervising separately but the striking feature is how varied is the international
experience.
Table 14 Supervision Structures Around the WorldFully Integrated 39
Central Bank 9
Other 30
Partially Integrated 23
Banks and Insurance 9
Banks and Securities 5
Insurance and Securities 9
Separate 43
TOTAL 105
Source: Llewellyn, 2006
There is, however, an increasing trend to integrated financial supervision (Barth et al,
2006) thought interpretations of how to classify countries vary widely. The World Bank
survey of regulators suggests that 11 out of 32 countries in the Asia Pacific region have
a single supervisor for the financial sector. In addition, some countries have multiple
supervisors for one type of financial institution (typically banks).
Within East Asia the picture is equally varied. Table 15 gives details of East Asian
supervisory arrangements.
TABLE 15 SUPERVISION IN EAST ASIA
Integrated Banking & Securities
Banking and Insurance
Securities and Insurance
B, S, I separate
Central Bank supervises banks?
Singapore(1984) YesMalaysia (1988)
Y
Japan (1998)Koreae (1999) NTaiwane (2004) N
China e NHong Kong YIndonesiaa Y
Philippinesb YThailand c,e YLao d YCambodia YVietnam Y
Asutralia(1998)
N
India YNew Zealand
N
Notes: a) Designing and debating a single regulatorb) Two banking supervisorsc) Banking supervisor also covers asset management and other financial servicesd) Not clear where securities would be regulated as the market does not yet existe) Barth et al, 2006, classifies these as having multiple bank supervisors
Source: Corbett, 2007, updated
The division within the East Asian region is broadly along income lines, with the higher
income group mainly having moved, mostly quite recently, to the integrated supervision
model. There are few studies of why countries choose integrated supervision nor many
empirical studies of the impact of integrated supervisors. This partly explains why there
is no consensus view about what system works best. The present World Bank view is
that different countries may well need (or be able to get by with) different systems.
Importantly they also stress that the transition from multiple, specialist supervisors to
single, integrated supervisor is a complex process that can be costly and difficult
(Martinez and Rose, 2003)15.
What this means for discussions of East Asian regionalism is that information exchange
and coordination of views will be made more difficult by the fact that different types of
regulators, with different expertise and regulatory philosophy, are involved. Under the
current structure of regional cooperation bodies, some of these regulators are not
included in the dialogue mechanisms because of institutional definitions that do not
match the realities. Central Bank groups may not be able to adequately cover regional
prudential issues if the prudential regulators are not represented. With increasing
consolidation in the financial sector, banking prudential issues cannot be fully divorced
from risks in the securities industry but they cannot be fully addressed if the separate
securities regulators are not included in the dialogue and surveillance mechanisms. So
an obvious proposal to add to the regions’ arsenal in the financial sector is to create a
wide-ranging Financial Supervisory Forum that includes the full range of supervisors and
discusses the new supervisory challenges that arise from both the trend to financial
conglomeration that blurs boundaries between market segments and the trend to cross-
border activities that blurs the boundaries of national regulation.
Harmonisation and Mutual Recognition
Several of the private sector regional groups (and some of the government ones) make
mention of the desirability of harmonisation of standards. This is frequently cited as a
desirable step towards closer financial integration but it should not be assumed to be an
easy one. The aim of harmonisation of standards is to ease the difficulty of regulating
activities across different systems and regimes, to lift the burden of enforcing regulation
across jurisdictions and to increase the familiarity of systems so that investors,
consumers and service providers face lower information and transactions costs. There
are broadly three models for regulating cross-border financial services (see Corbett and
de Brouwer, 2005, for a more complete version of the following arguments). First,
countries can engage in full harmonisation, in which the participating countries adopt the
same set of rules. Second, governments or self-regulatory bodies can agree upon a
system of mutual recognition, which requires weak harmonisation as a basis, but leaves
more discretion to the individual economies. Finally, private insurance can be used in
lieu of formal legal systems, to create a system of self-regulation of financial services
that compensates for failures but doesn’t try to regulate them away.
Each of these models has benefits and difficulties in terms of both efficacy and the ability
to ensure the aims of consumer and investor protection and financial sector stability.
Harmonisation requires the development of laws or treaties that govern activity in each
of the members of a regional group. This approach is in many ways the most difficult of
the three regulatory models, as it requires implementation by all of the national
governments concerned and involves the acceptance of rules negotiated elsewhere and
the loss of a degree of sovereignty. There are different levels of rigour with which
harmonisation can be imposed. In minimal harmonisation regimes the states decide on
a minimum set of standards, leaving it up to individual countries to adopt more extensive
regulations if desired. Full harmonisation leaves less open to chance at the national
level, and imposes a higher set of standards. The challenge with harmonisation comes
from the difficulties of enacting appropriate rules that are accepted and enforced by all
participating countries. Negotiating legislative tools at the international level is a
complicated, time-consuming, and costly project, and not necessarily one that
governments are ready and willing to enter into. Rules have the advantage of providing
a predictable, and clearly understood, regulatory regime but harmonisation may also
remove the competitive market pressure of regulatory arbitrage that forces countries to
respond to ‘best practice’ developments elsewhere. And, at the end of the day, the rules
must be enforced at the domestic level to make harmonisation operate.
Mutual recognition is similar to harmonisation in that it relies on the state for its
enforcement. While harmonisation requires participating countries to adopt laws
containing the same standards and regulations, mutual recognition only requires states
to recognise minimum standards for market participants, allowing regulators to assume
that financial services firms in other countries have met certain quality and other
requirements. It is based on the notion of home country control. In other words, the
firm’s home country is responsible for regulating its activities, and must abide by certain
minimum standards set by the countries as a group. Other countries must then
recognise the validity of the home country’s approach.16
The main benefit of the mutual recognition model is its relative informality, at least
compared with full harmonisation schemes. The best existing example of a mutual
recognition system in financial services is the European Union, where the model has
been applied directly to the problem of cross-border business-to-consumer financial
services.17 The European Union has adopted a number of Directives in the financial
services area based on the notion of mutual recognition. These Directives state that
authorisation in one Member State to provide banking or investment financial services,
serves as authorisation to provide those same services in any other Member State,
subject to compliance with the provisions of those Directives (the “Banking Passport”
notion). Services covered by this regime include investment services, (securities
brokerage and underwriting), and dealing in over-the-counter financial derivatives.18 In
1987, a directive provided that if the listing particulars of an issuer of equities or mutual
funds were approved by authorities in one Member State, that they must be recognised
in other Member States without additional scrutiny. This directive was a first step
towards reciprocal recognition of financial services rules in the European Union.19
The Investment Services Directive (the “ISD”) was a further step in this direction. The
ISD applied generally to any firms in the business of providing investment services,
including brokerage, dealing, market making, portfolio management, securities
underwriting, and individual investment advice.20 (Other Directives also provide mutual
recognition for financial services within the European Union.) The EU experience with
the ISD shows the problems these systems can encounter, and that, eventually, deeper
harmonisation may be necessary. Any legislation that refers to developing technologies
suffers from the risk that it will be obsolete by the time it is effective. Ultimately
technological and other developments caused the ISD to be outdated very rapidly:
“The ISD, pivotal to the integration of the investment services market, was nevertheless designed in
1992 for an era when the underlying securities and money markets were heavily fragmented by ex-
change risk and where national exchanges were the uncontested point of liquidity for local securi-
ties. Now national exchanges are facing increased competition in their core business from alternative
trading systems and globalisation. Markets are pressing for European-level consolidation of clearing
and settlement and retail investors are increasingly seeking to trade securities directly for their own
account.” 21
The Financial Services Policy Group of the Commission has proposed that revision of
the ISD should focus on cross-border provision of investment services, taking account of
competition with traditional exchanges from electronic trading alternatives, and the
difficulties presented by the consolidation of clearing and settlement procedures.22
On a more general level, mutual recognition schemes are open to the danger that
consumers will only be able to rely upon the lightest of regulatory regimes, and that the
nature of consumer protection will thus fall to the lowest common denominator.23
The answer to the problems of mutual recognition is not necessarily full harmonisation,
but may in fact be less harmonisation. An alternative is not strictly “regulation” at all, but
rather a reliance on private contracting between firms, or self-regulation. This may
involve third parties providing alternative dispute resolution mechanisms (e.g. mediation
that does not go through courts or rely on regulators for enforcement). By obtaining
insurance for individual transactions, banks and brokerage companies may be able to
create a transnational market for financial services that does not rely on recourse to
regulatory remedies in the event of problems. Financial services firms would be
responsible for obtaining private insurance for their services, such that the participating
governments would allow these firms to do business on a cross-border basis. However
the mechanism for creating a standard accepted by the governments is unclear, and
may run into the same problems met by full harmonisation and mutual recognition
approaches. The message is that glib recommendations that harmonisation or mutual
recognition is needed within the region underestimate the difficulties. While it may be
desirable to begin a process to achieve these aims, integration can and will proceed
before they are fully realised.
VI Conclusions and policy recommendations
We have argued that integration is hard to measure in quantitative terms and, while
regional integration still looks low by conventional measures the pattern is varied across
countries and markets. At the same time there are many elements of growing
interdependence in the financial sector and there are multi-faceted attempts at closer
regional cooperation.
If progress is slow this reflects the fact that development priorities differ across the
region (because of differences in income levels and other development gaps). It also
reflects the fact that some economies and some groups within economies remain
somewhat ambivalent about the goals of financial integration.
In this situation, it is unrealistic to discuss progress in terms of integration of the type
defined by the European Central Bank 24, which considers the market for a given set of
financial instruments or services is fully integrated when all potential market participants
in such a market i) are subject to a single set of rules when they decide to deal with
those financial instruments or services – common rules
ii) have equal access to this set of financial instruments or services– common access
and
iii) are treated equally when they operate in the market - common treatment.
In the present situation in the Asian region it is more realistic to consider more limited
objectives, such that i) capital can move freely within an economic area ii) issuers are
free to raise capital anywhere within the economic area and iii) investors can invest
anywhere within the economic area. Further, we might wish to establish that financial
service providers can operate in any market in the region without barriers to entry based
on nationality. Even these goals will take a considerable time to establish and therefore
one should be measuring success in terms of movement in the direction of open and
integrated markets rather than attainment of specific objectives.
Specific recommendations are regularly being made in research papers and reports but
there are some that seem either more achievable or more fundamental than others and
therefore recommend themselves as high priority next steps.
Recommendations:
1 Training programs are currently being provided under a number of initiatives but there
does not seem to be a rigorous, disinterested assessment of their quality. A review of
training and capacity building programs across the range of regional fora could suggest
ways of raising quality and reducing duplication. (Corbett and de Brouwer, 2005)
2 Surveillance processes are frequently identified as weak because they lack
mechanisms to make policy recommendations and to carry out tougher assessments of
national policies. There are now several surveillance mechanisms and processes and a
review of the effectiveness of these would help to identify whether one regional forum is
better placed than others to carry out surveillance or whether outside/independent
bodies are best suited to the task.
3 There is a need for a regional forum to bring all financial regulators and supervisors
together, recognising that different structures in different countries mean that currently
not all the relevant regulators meet in the existing fora. It may be that one of the
existing supervisors’ fora can be expanded to carry out this function but there is strong
evidence that the widest country grouping possibly would be the best basis on which to
build this structure. ( ASEAN Secretariat, 2007, Cowen et al, 2006, Wang 2002). There
is also a need for more consistent interaction and exchange of views between the public
and private sectors (Corbett and de Brouwer, 2005)
4 Building on the initiatives to link stock exchanges in the region together there may be
merit in considering building an equity market equivalent to the ABMI (Yap, 2007
suggests an Asian Investment Corporation)
5 While there is a general sense that there is still considerable room for improvement in
the level of domestic financial sector reform the data are patchy and inconsistent.
Dobson (2004 and 2006) notes the need for timely and complete information on financial
reforms - both domestic and regional. She points out “there is still no region-wide,
publicly available evaluation of domestic reforms against best practice benchmarks and
in terms of remaining gaps in implementation that need to be addressed. What do we
know about the competitiveness of the region’s banking sectors? What do we know
about governments progress in regulatory and supervisory reforms?...” (2004, p 6). In
part this arises because the participation in the FSAP and ROSC processes is low. If
there is resistance to taking part in IMF processes then building something similar into a
strengthened regional surveillance mechanism could provide needed benchmarks.
(Cowen et al make a similar point in calling for “efforts to harmonize rules and practices
across the region and with global standards and best practices. In this regard, FSAPs
and ROSCs could be useful instruments to benchmark Asian countries against best
practices and identify priorities for reform.” )
6 As noted in the section on regional organizations, it would be useful to have
information on work programs organised by topic or market segment so that it would be
easy to discover under the heading say of “liquidity support” or “capital market rules
harmonisation” which groups were working on what elements. Such a database would
not be very difficult to compile and could be kept up-to-date by agreement across the
various organisations. It could usefully reside at the ADB ARIC website.
7 Cowen et al (2006, p32) add the need for
“• Work to establish regional infrastructures such as clearing and payment systems,
credit
rating agencies, and benchmarks to complement ongoing initiatives such as the
ASEAN Financial Roadmap and work in EMEAP
and importantly
• Coordination in crisis management. As institutions become active in a number of
jurisdictions, crisis management becomes more complicated. Without touching on more
intensive, and politically sensitive issues such as solvency support, much could still be
done at the technical level to coordinate crisis management and contingency plans. This
could involve protocols to share information and resolve practical issues such as public
communication, and payments and settlements.”
8 Since these days an important element of financial liberalisation is incorporated in
trade agreements in services, more attention needs to be paid to developing best
practice in services agreements and to addressing the potential problems of the bilateral
approach to negotiating them.
Conclusion
The evidence is that the East Asian economies, despite progress in domestic market
liberalization and, to a lesser degree, capital account opening, have achieved only a
modest degree of regional financial integration to date. The extent of their engagement
with global financial markets has grown considerably, though by some measures, is still
low relative to the size of their GDP. Several initiatives have developed over the last 10
years geared towards increasing regional financial cooperation. The effect of these
developments and of the proposals we have included here, may not be the result that is
currently hoped. Nevertheless, such domestic and regional efforts will be worthwhile.
The nature of regional financial integration is complex. Patterns vary across different
regional groupings and there is no unified theory of optimal financial areas that would
parallel optimal currency areas. Furthermore, the evidence on the extent to which fully-
open financial markets benefit economies is somewhat harder to read than the same
evidence on trade openness so there is an important public education task to do. The
consensus is that more open and liberal financial systems will ultimately lead to more
developed, and deeper, systems and will help achieve efficiency, growth and, probably,
stability. The transition to reach those targets is difficult – both sequencing and scale
matter. Progress must be careful, and to some degree measured (if not slow), yet half
measures are probably worse than no measures. Once openness is achieved there is
no theoretical, or empirical, reason to predict that the direction of integration with
external financial systems will favour near neighbours or regional groups. To some
extent geography matters, and the East Asian region does not have the geography that
promotes regional integration. History also matters, and entry into a world in which
dominant financial centres and institutions already exist in Europe and North America will
skew interactions towards those centres. Trade relations matter and, while regional
trade has been important in Asia, the importance of wider, global trading relations is
greater here than in some other regions. Relative to the degree of regional trade, Asia
has probably achieved quite a significant level of financial integration, but it is unlikely to
match some other, more intensely internally-traded groupings such as Europe.
Does this mean that there is no point to regional efforts to enhance financial
performance among member economies. No, it does not. There is little doubt that
having strong, deep, well-regulated financial markets will improve growth, risk sharing
and welfare in the region. Whether those markets, once established, interact more with
global financial centres and institutions or more with regional ones will be ultimately a
market decision. But the transition to stronger financial systems requires domestic policy
actions that can be boosted by regional encouragement and support. As Kaminsky and
Schmukler note “The evidence suggests that institutional reforms do not predate liberalization.
Most of the time, government reforms are implemented within a few years after the partial
opening of financial markets. As the quality of institutions improves, financial cycles become less
pronounced. Perhaps due to lack of correct incentives, countries do not tend to improve their
financial systems before liberalization, disregarding the typical policy prescriptions. Harmonisation
with global standards and implementation of best practice will be more easily achieved with
regional cooperation and information sharing.” (p 37)
APPENDIX
1 In a series of papers, Mayer, Corbett and Jenkinson and others have challenged the idea that the US and UK corporate sector are heavily dependent on capital markets for financing new investment. Their data show that internal sources of finance account for the largest share of financing sources. See Corbett et al 2004. The point in the text does not account for the possible role of intra-corporate sector lending and borrowing needs. Aggregate data may mask variation between lending and borrowing firms. 2 For example, a country with 1% of the world’s wealth in a world of perfectly open capital markets would hold 99% of it’s assets abroad. 3 There is evidence that this “finance follows trade” effect occurs in other countries too (Lane & Milesi-Ferreti, Rose and Spiegel 2002 cited in E&P, and Portes and Rey, 2005). 4 The famous result of Feldstein and Horioka showing high degrees of correlation has been challenged but is largely replicated for many countries and time periods. 5 “ Within Southeast Asia, the Association of Southeast Asian Nations (ASEAN) establishedthe framework agreement on services in 1995 (amended in 2003), which incorporated byreference the GATS Annex on Financial Services. The ASEAN Finance Ministers have thusfar concluded a third round of negotiations on liberalization of financial services under thisframework, and the fourth round, which started in April 2005 is scheduled to be concluded in2007.” Parrenas, 2007, p 3 6 Note the data issue remarked under the chart and table below – it is not clear where these data have been sourced and why they are not fully consisten
7 A recent conference described the situation: “Bancassurance in Asia has been a relatively recent phenomenon, drawing increasing attention as a rapidly growing distribution channel for insurance only since 2002. Notwithstanding its short history, bancassurance penetration in the region has increased tangibly to capture market shares in excess of 20% of life premium in the more developed bancassurance markets within Asia”. (6th Annual Bancassurance Asia conference (http://www.marcusevans.com/events/CFEventinfo.asp?EventID=11113).
8 The World Bank 2006 study is fairly complimentary though still listing a number of policies that are needed to move further. The IMF is less so. Kramer (2006 Finance and Development, Vol 43, no 2) notes that “ the perceived ranking of the governance environment is weaker than it was before the crisis. Along six different dimensions—voice and accountability, political stability, government effectiveness, regulatory quality, the rule of law, and control of corruption—emerging Asia ranked lower in 2004 than in 1996 (see Chart 3).”9 The information about the organisation and activities of the regional cooperation fora is taken from ASEAN Scoping Study produced in conjunction with the Australian Treasury which is, in turn, based on information from the websites of the ASEAN Secretariat, the ADB’s ARIC , the SEACEN website, the EMEAP website and the ACD website (www.acddialogue.com )10 Most of the information of the preceding paragraphs came from the sources noted in footnote 9. 11 China’s CSRC had signed 37 MOUs with 34 economies by June 2007, including 9 within the region.Hong Kong’s SFC had concluded 44 formal cooperative arrangements with 33 overseas regulators by June 2007, including 10 within the region. 12 The experience from the ABMI illustrated the variety of difficulties that needed to be overcome when operating across a number of different jurisdictions even though that initiative had high-level support from member economies’ governments, finance ministers and central banks.
13 These include an SGX-TSE strategic alliance in October 2001; an ASX-SGX co-trading linkage in December 2001; TSE and KRX signed “Memorandum of Intent” of cross-border securities trading in August 2005; TSE and KRX signed a Memorandum of Understanding (MOU) on the "Market Alliance Project" on July 7, 2006 and TSE spent about $304 million to buy a 4.99 per cent stake in the SGX in June 2007. 14 Though there are a growing number of examples of cross listing. Eighty-one Chinese companies were listed in eight main overseas markets, raising 20.4 billion US dollars in 2005. The figures were 86 and 44 billion US dollars in 2006. 340 mainland-based companies have been listed in Hong Kong and105 mainland-based companies have been listed in SGX by August 2006. However, according to IMF Asia-Pacific Regional Outlook (September 2005), while some stock markets in the region have attracted a large international presence, this is mainly not from within Asia.15 These paragraphs are drawn from Corbett, 200716 Robert J. Coleman, “Financial Services and Consumer Policy: The Regulatory Challenge” for European Banking & Financial Law Journal (2001. 17 The European Union first moved towards a mutual recognition approach in 1979 in the case of Rewe-Zentral AG v. Bundesmonopolverwaltung für Branntwein (commonly referred to as “Cassis de Dijon”), in which the European Court of Justice established a principle based on the freedom of goods between Member States, that if goods could legally be marketed in a Member State, then they also could be exported into and sold in another Member State, unless restricted by a specific provision in the EC Treaty or a requirement justified in the general good. This holding mean that Member States should respect the adequacy of other Member States’ laws with respect to the marketing of products. Andrea M. Corcoran and Terry L. Hart, “The Regulation of Cross-Border Financial Services in the EU Internal Market: A Primer for Third Countries” (2001), 15.18 Andrea M. Corcoran and Terry L. Hart, “The Regulation of Cross-Border Financial Services in the EU Internal Market: A Primer for Third Countries” (2001), 17 (citing the Consolidated Banking Directive).19 Karen M. Smith, “The Need for Centralised Securities Regulation in the European Union” (2000) 24 Boston Coll Int’l & Comp L Rev 205, 209; Council Directive 87/345/EEC of 22 June 1987 amending Directive 80/390/EEC coordinating the requirements for the drawing-up, scrutiny and distribution of the listing particulars to be published for the admission of securities to official stock exchange listing. 20 Council Directive 93/22/EEC of 10 May 1993 on investment services in the securities field.21 European Commission, “Financial Services Policy Group reviews Action Plan and discusses investment services reform and E-commerce” (15 May 2000). 22 European Commission, “Financial Services Policy Group reviews Action Plan and discusses investment services reform and E-commerce” (15 May 2000).23 Robert J. Coleman, “Financial Services and Consumer Policy: The Regulatory Challenge” for European Banking & Financial Law Journal (2001). 24 ECB uses this definition to design a set of quantitative indicators of financial integration and monitor the progress of integration in its 2007 annual report on “Financial Integration in Europe”
Source: Julius Caesar Parreñas, 2007, “Financial Liberalization and Integration in East Asia: Challenges, Prospects and Cooperation Opportunities” ABA Journal, Vol. XXII, No. 2, pp ?
Bibliography
Allen F, M Chui and A Maddaloni, 2004, Financial systems in Europe, the USA and Asia, Oxford Review of Economic Policy, Vol 20m no 4, pp 490 - 508
Allen F, and D Gale, 2000, Comparing Financial Systems, Cambridge: MIT Press.
ASEAN Secretariat Scoping Study,
Baele et al, 2004
Boao Forum Annual Report, 2007,
Burton, D, W Tseng, and K Kang, “Asia's Winds of Change”, Finance and Development, June 2006, Volume 43, Number 2
Cavoli T, et al, 2006
Cihak, M and R Podpiera, 2006, “Is one Watchdog better than three? International Experience with Integrated Financial Sector Supervision”, IMF Working Paper, WP/06/57
Claessens, S. “Benefits and Costs of Integrated Financal Services Provision in Developing Countries”, in Brookings-Wharton Papers on Financial Services: 2003, pp 85-139
Chaipat Poonpatpibul, Surach Tanboon and Pornnapa Leelapornchai, 2006, “ The Role of Financial Integration in East Asia in Promoting Regional Growth and Stability”, Bank of Thailand, mimeo
Chai and Rhee, 2005
Chinn and Ito, 2007-09-18Contreras and Yi, 2004
Corbett J, J Edwards, T Jenkinson, C Mayer, O Sussman, 2004, “A Response to Hackethal and Schmidt (2003) ‘Financing Patterns: Measurment Concepts and Empirical Results’ ”, SSRN
Corbett, J and de Brouwer, 2005,
Corbett, J, 2007, Financial Institutions and Structures for Growth in East Asia, mimeo, ANU
D Cowan, R Salgado, H Shah, L Teo and A Zanello, 2006, “Financial Integration in Asia: Recent Developments and Next Steps”, IMF WP/06/196.
Dalla, I, 2005, “Deepening Capital Markets in East Asia” Background Paper, East Asian Finance Study, World Bank, mimeo.
Dobson, W 2004
Dobson, W 2005
Edison and Warnock,
Eichengreen and Park (2005), “Why has there been less financial integration in Asia than in Europe”, in …… (ed)….
H.J. Edison, F.E. Warnock, Journal of Empirical Finance ,10 (2003) 81–103
Freixas et al,
Gill and Kharas, 2006, An East Asian Renaissance: Ideas for Economic Growth, World Bank.
Ghosh, S., 2006, East Asian Finance: The Road to Robust Markets, World Bank
IMF, 2001, International Capital Markets Report,
IMF, 2004, Financial Sector Regulation: Issues and Gaps – Background Paper.
Isaksson, 2001
Kaminsky and Schmukler, 2003
Kim Soyoung, JW Lee and K Shin, 2006, “Regional and Global Financial Integration in East Asia” , paper presented at Worshop on Global Imbalances and Asian Financial Markets, UC Berkeley, mimeo.
Kono and Schuknecht,
Kramer. C, Finance and Development, June 2006, Volume 43, Number 2
Laeven, L., 2005, “Banking Sector Performance in East Asian Countries: The Effects of Competition, Diversification, and Ownership”, mimeo, World Bank
Laeven, L and R Levine, 2006, “Is there a diversification discount in financial conglomerates?”, forthcoming ? Journal of Financial Economics,
Lane and Milesi-Ferreti, 2003
Le N, 2000
Lee and McKibben, 2006
Lee, J W, 2007-09-18Lindgren, Carl-Johan (May 2006), Banking Integration in the ASEAN- Region: An Overview’, ADB Manila Philippines.
Llewelyn, 2006
Martinez and Rose, 2003, “International Survey of Integrated Financial Sector Supervision”, World Bank Research Paper 3096.
Miniane, 2004
Montiel, 1994
Ngiam, 2002 Chaipat Poonpatpibul Surach Tanboon Pornnapa Leelapornchai, 2006, The Role of Financial Integration in East Asia in Promoting Regional Growth and Stability, BOT Symposium
Obstfeld and Rogoff, 200?
Ostry et al, 2007, World Bank
Park and Bae, 2002,
Parrenas, 2007-09-18Siregar, R.Y., and James, W.E., 2006. 'Designing an Integrated Finanical Supervision Agency: Selected Lessons and Challenges for Indonesia', ASEAN Economic Bulletin, 23,1, p 98 – 113
Stephenson, S and Nikomborirak, 2002, ‘Regional liberalisation in services’, in Stephenson, Findlay and Yi, Services Trade Liberalisation and Facilitation, ANU: Asia Pacific Press, p 89 – 124.
Takagi and Hirose, 2004
Wang, 2002 for PECC