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Global Financial Development Report

Rethinking the

Role of the State in Finance

2013

Rethinking the Role of the State in Finance Global Financial Development Repo

rt

2013

Global Financial Development Report 2013 is the first in a new World Bank series. It provides a unique contribution to financial

sector policy debates, building on novel data, surveys, research, and wide-ranging country experience, with emphasis on

emerging-market and developing economies.

The global financial crisis has challenged conventional thinking on financial sector policies. Launched on the fourth

anniversary of the Lehman Brothers collapse—a turning point in the crisis—this volume re-examines a basic question: what is

the proper role of the state in financial development? To address the question, this report synthesizes new and existing evidence

on the state’s performance as financial sector regulator, overseer, promoter, and owner. It calls on state agencies to provide

strong regulation and supervision and ensure healthy competition in the sector, and to support financial infrastructure, such as

the quality and availability of credit information. It warns that direct interventions—such as lending by state-owned

banks, used in many countries to counteract the crisis—may end up being harmful.

The report also tracks financial systems in more than 200 economies before and during the global financial crisis. Accompany￾ing the publication is a website (http://www.worldbank.org/financialdevelopment) that contains extensive datasets, research

papers, and other background materials, as well as interactive features.

The report’s findings and policy recommendations are relevant for policy makers; staff of central banks, ministries of finance,

and financial regulation agencies; nongovernmental organizations and donors; academics and other researchers and analysts;

and members of the development community.

ISBN 978-0-8213-9503-5

SKU 19503

Rethinking the

Role of the State in Finance

Global Financial Development Report 2013

Rethinking the

Role of the State in Finance

Washington, D.C.

© 2012 International Bank for Reconstruction and Development / The World Bank

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Contents

global financial development R EPO R T 2013 v

Contents

Foreword. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xi

Preface. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xiii

Acknowledgments. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xv

Abbreviations and Glossary. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xix

Overview. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

1 Benchmarking Financial Systems around the World. . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

2 The State as Regulator and Supervisor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45

3 The Role of the State in Promoting Bank Competition . . . . . . . . . . . . . . . . . . . . . . . . . 81

4 Direct State Interventions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 101

5 The Role of the State in Financial Infrastructure. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 129

Statistical Appendix. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 161

References. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 175

global financial development R EPO R T 2013 v

vi contents GLOBAL financial DEVELOPMENT REPORT 2013

BOXES

O.1 Main Messages of This Report . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

O.2 Views from Some of the World Bank Clients. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5

O.3 Navigating This Report. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7

1.1 Selecting the Representative Variables for Individual Characteristics. . . . . . . . . . . . . 24

1.2 To Aggregate or Not. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29

1.3 China Case Study: Large Banks and the Need to Diversify to Markets. . . . . . . . . . . 38

1.4 Romania Case Study: Rapid Growth Enabled by Foreign Funding. . . . . . . . . . . . . . 40

2.1 Distorted Incentives: Subprime Crisis and Cross-Border Supervision. . . . . . . . . . . . 50

2.2 What Is in the World Bank’s Bank Regulation and Supervision Survey?. . . . . . . . . . 56

2.3 Reforming Credit Rating Agencies. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60

2.4 Institutional Structures for Regulation and Supervision. . . . . . . . . . . . . . . . . . . . . . . 64

2.5 Impact of the Basel III Implementation in Developing Economies. . . . . . . . . . . . . . . 67

2.6 Accounting Standards (Viewpoint by Nicolas Véron). . . . . . . . . . . . . . . . . . . . . . . . 73

2.7 Incentive Audits (Viewpoint by Martin Čihák, Asli Demirgüç-Kunt, and

R. Barry Johnston). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 75

2.8 Regulatory Discipline and Market Discipline: Opposites or Complements?. . . . . . . 77

3.1 Two Views on the Link between Competition and Stability. . . . . . . . . . . . . . . . . . . 82

3.2 Decomposing Bank Spreads to Make Inferences about Bank Competition. . . . . . . . 84

3.3 Measuring Banking Sector Concentration and Competition. . . . . . . . . . . . . . . . . . . 85

3.4 Analyzing Bank Competition Using Disaggregated Business Line Data:

Evidence from Brazil. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 86

3.5 Banking Competition in the Middle East and North Africa. . . . . . . . . . . . . . . . . . . 90

3.6 An Econometric Analysis of Drivers of Bank Competition. . . . . . . . . . . . . . . . . . . . 95

3.7 Consumer Protection and Competition in South Africa. . . . . . . . . . . . . . . . . . . . . . .97

4.1 Intervention Using State-Owned Banks in Brazil. . . . . . . . . . . . . . . . . . . . . . . . . . . 106

4.2 The Recent Global Crisis and Government Bank Lending in Mexico. . . . . . . . . . . 108

4.3 State Commercial Banks in Action during the Crisis: The Case of Poland. . . . . . . . 109

4.4 Bank Ownership and Credit Growth during the 2008–09 Crisis:

Evidence from Eastern Europe and Latin America. . . . . . . . . . . . . . . . . . . . . . . . . 110

GLOBAL financial DEVELOPMENT REPORT 2013 contents vii

4.5 Macroeconomic Evidence on the Impact of Government Banks on Credit and

Output Cycles. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 113

4.6 Two Views on the Role of State-Owned Banks. . . . . . . . . . . . . . . . . . . . . . . . . . . . 116

4.7 Development Banks: What Do We Know? What Do We Need to Know?. . . . . . . . 120

5.1 Argentina: Using Credit Registry Information for Prudential Supervision. . . . . . . . 138

5.2 Egypt: Removing Regulatory Barriers to the Development of a Private

Credit Bureau. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 140

5.3 Monopoly Rents, Bank Concentration, and Private Credit Reporting. . . . . . . . . . . 141

5.4 Mexico: State Interventions to Prevent Market Fragmentation and Closed

User Groups. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 143

5.5 Morocco: Public Support for the Development of a Private Credit Bureau. . . . . . . 145

5.6 Reforming Large-Value Payment Systems to Mitigate Systemic Risk. . . . . . . . . . . . 151

5.7 Italy: Reviving Interbank Money Markets through Collateralized Transactions. . . 156

FIGURES

O.1 Benchmarking Financial Development, 2008–10. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6

O.2 Selected Features That Distinguish Crisis-Hit Countries. . . . . . . . . . . . . . . . . . . . . . . 9

O.3 Market Power and Systemic Risk. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10

O.4 Change in Bank Lending Associated with a 1% Increase in GDP Per Capita. . . . . . 12

O.5 Credit Reporting vs. Banking System Concentration. . . . . . . . . . . . . . . . . . . . . . . . . 14

1.1 Financial Depth and Income Inequality. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20

1.2 Socioeconomic Development, Financial Development, and Enabling

Environment. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21

1.3 Correlations between Characteristics in Same Category (example). . . . . . . . . . . . . . 25

1.4 Correlations among Financial System Characteristics. . . . . . . . . . . . . . . . . . . . . . . . 31

1.5 Financial System Characteristics, by Income Group, 2010. . . . . . . . . . . . . . . . . . . . 34

1.6 The Uneven Nature of Financial Systems (Illustration). . . . . . . . . . . . . . . . . . . . . . . 35

1.7 Financial Systems: 2008–10 versus 2000–07 (Financial Institutions). . . . . . . . . . . . . 36

1.8 Financial Systems: 2008–10 versus 2000–07 (Financial Markets). . . . . . . . . . . . . . . 37

B1.3.1 The Chinese Financial Sector. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38

B1.4.1 Romania’s Financial Sector. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40

viii contents GLOBAL financial DEVELOPMENT REPORT 2013

2.1 Introduction of Bank Governance Frameworks. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62

2.2 New Insolvency Frameworks. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62

2.3 Introduction of Deposit Protection Schemes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63

2.4 Financial Stability Reporting and Stress Test Publication, 1995–2011. . . . . . . . . . . .65

2.5 Push to Implement New Basel Rules. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65

2.6 Impact of the Move to Basel II. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66

2.7 Quality of Capital. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66

2.8 Capital Adequacy Ratios: Minimum and Actual. . . . . . . . . . . . . . . . . . . . . . . . . . . . 66

B2.5.1 EMDEs: The Impact of Basel III Capital and Liquidity Requirements. . . . . . . . . . . . 67

3.1 Five Bank Concentration Ratio (CR5): Developed and Developing Economies. . . . . 86

3.2 Five Bank Concentration Ratio (CR5): Developing Regions, Median Values,

1996–2010. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 87

3.3 Regulatory Indicators of Market Contestability. . . . . . . . . . . . . . . . . . . . . . . . . . . . 88

3.4 Bank Competition: Developed vs. Developing Economies. . . . . . . . . . . . . . . . . . . . . 89

3.5 Bank Competition across Developing Regions, 1996–2007. . . . . . . . . . . . . . . . . . . 89

3.6 Bank Competition: Developed vs. Developing Economies. . . . . . . . . . . . . . . . . . . . . 91

3.7 Bank Competition across Developing Regions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 92

4.1 Trends in Government Ownership of Banks. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 103

4.2 Government Ownership across Developing Regions, 1970–2009. . . . . . . . . . . . . . 104

B4.1.1 Ownership and Credit in Brazil. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 106

B4.1.2 BNDES: Sources of Funding. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 107

B4.1.3 Distribution of BNDES Disbursements by Size. . . . . . . . . . . . . . . . . . . . . . . . . . . . 107

B4.2.1 Gross Loan Portfolio Growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 108

B4.2.2 Partial Credit Guarantees. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 108

B4.3.1 PKO BP’s Loan Share, 2008–11. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 109

B4.3.2 Nonperforming Loans for PKO BP, 2008–11. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 109

B4.4.1 Growth of Gross Loans and Bank Ownership in Latin America and

Eastern Europe, 2004–2009. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 111

B4.5.1 Evolution of Real GDP and Credit around Recoveries in Economic Activity. . . . . 114

B4.5.2 Evolution of Real GDP and Credit around Recoveries in Economic Activity. . . . . 115

GLOBAL financial DEVELOPMENT REPORT 2013 contents ix

5.1 The Development of Credit Reporting Institutions, 1980–2012. . . . . . . . . . . . . . . 134

5.2 Prevalence of Credit Reporting by Income Group. . . . . . . . . . . . . . . . . . . . . . . . . . 135

5.3 The Reach of Credit Reporting: Who Contributes Information?. . . . . . . . . . . . . . . 135

5.4 The Depth of Credit Reporting: What Information Is Collected?. . . . . . . . . . . . . . 136

5.5 GDP Turnover of Large-Value Payment Systems by Region, 2009. . . . . . . . . . . . . 149

5.6 The Adoption of Real-Time Gross Settlement Systems over Time, 1990–2010. . . . 150

5.7 Sources of Intraday Liquidity for Participants of

Real-Time Gross Settlement Systems. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 153

5.8 Interbank Money Market Rates in the United States

and United Kingdom. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 154

5.9 Interbank Money Market Rates in Emerging Markets. . . . . . . . . . . . . . . . . . . . . . 155

B5.7.1 Interbank Rates in the Italian Collateralized Money Market (MIC) and Other

Segments of the Euro Money Market. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 156

B5.7.2 Outstanding Volumes and Average Maturity Trend on the MIC. . . . . . . . . . . . . . . 157

MAPS

B2.2.1 Coverage of the 2011 Bank Regulation and Supervision Survey. . . . . . . . . . . . . . . . 56

5.1 Credit Information Systems around the World. . . . . . . . . . . . . . . . . . . . . . . . . . . . 133

A.1 Depth—Financial Institutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 167

A.2 Access—Financial Institutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 168

A.3 Efficiency—Financial Institutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 169

A.4 Stability—Financial Institutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 170

A.5 Depth—Financial Markets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 171

A.6 Access—Financial Markets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 172

A.7 Efficiency—Financial Markets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 173

A.8 Stability—Financial Markets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 174

TABLES

1.1 Stylized 4x2 Matrix of Financial System Characteristics (with examples of

candidate variables in each category). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23

1.2 Financial System Characteristics: Summary. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33

x contents GLOBAL financial DEVELOPMENT REPORT 2013

2.1 Examples of Weak Supervisory Capacity Identified in the FSAP. . . . . . . . . . . . . . . . 52

2.2 Differences between Crisis and Noncrisis Countries. . . . . . . . . . . . . . . . . . . . . . . . . 57

2.3 Summary of the Basel III Framework. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59

2.4 Summary of Selected Proposals for Regulatory Reform. . . . . . . . . . . . . . . . . . . . . . .69

B3.5.1 Competition in MENA and across Regions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 90

B3.6.1 Cross-Country Determinants of Banking Competition. . . . . . . . . . . . . . . . . . . . . . . 96

B4.4.1 Determinants of the Growth of Total Gross Loans. . . . . . . . . . . . . . . . . . . . . . . . . 110

B4.5.1 Credit Cycles and Government Ownership of Banks. . . . . . . . . . . . . . . . . . . . . . . . 113

5.1 Credit Reporting, Coverage by Region. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 134

B5.3.1 Bank Concentration and Credit Reporting. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 141

A.1 Countries and Their Financial System Characteristics, Averages, 2008–2010. . . . . 161

The Global Financial Development

Report comes at a time when the

worldwide financial crisis has starkly

highlighted the importance of financial sys￾tems and their role in supporting economic

development, ensuring stability, and reducing

poverty.

Finance matters, both when it functions

well and when it functions poorly. Sup￾ported by robust policies and systems, finance

works quietly in the background, contribut￾ing to economic growth and poverty reduc￾tion. However, impaired by poor sector

policies, unsound markets, and imprudent

institutions, finance can lay the foundation

for financial crises, destabilizing economies,

hindering economic growth, and jeopardizing

hard-won development gains among the most

vulnerable.

Fostering sustainable financial develop￾ment and improving the performance of

financial systems depends on numerous insti￾tutional factors and stakeholders. The policy

maker, the regulator, the banker, and the

financial consumer must all play their part.

The World Bank Group has been actively

engaged in financial sector work for some

time, aiming to help various parts of the insti￾tutional mosaic—including regulation and

supervision, corporate governance, and finan￾cial infrastructure—ensure that the financial

sector contributes meaningfully to strong and

inclusive growth. This report seeks to advance

the global financial sector policy debate,

highlighting the important perspective of

emerging markets and developing economies.

It contains a rich array of new financial sector

data that are also publicly available as part of

our Open Data Agenda.

Sharpening the focus on the central role of

finance in socioeconomic development and

understanding how financial systems can be

strengthened are crucial if we are to realize

our goal of boosting prosperity and eradi￾cating poverty. The Global Financial Devel￾opment Report is an important step in this

process.

Jim Yong Kim

President

The World Bank Group

Foreword

global financial development R EPO R T 2013 xi

global financial development R EPO R T 2013 xiii

The goal of this inaugural Global Finan￾cial Development Report is to contrib￾ute to the evolving debate on the role

of the state in the financial sector, highlighted

from the perspective of development. The

report is aimed at a broad range of stakehold￾ers, including governments, international

financial institutions, nongovernmental orga￾nizations, think tanks, academics, private sec￾tor participants, donors, and the wider devel￾opment community. The report offers policy

advice based on research and lessons from

operational work.

This marriage of research and operational

work was possible thanks to the engagement

of a diverse set of experts inside and outside

the World Bank Group. The report reflects

inputs from Bank staff in a broad range of

units and collaboration with leading research￾ers on finance and development. Reflecting

the close links between financial develop￾ment and stability, counterparts at the Inter￾national Monetary Fund have also provided

valuable contributions.

The report benchmarks financial institu￾tions and markets around the world, rec￾ognizing the diversity of modern financial

systems. In its analysis of the state’s role in

finance, the report seeks to avoid simplistic,

ideological views, instead aiming to develop

a more nuanced approach to financial sec￾tor policy based on a synthesis of new data,

research, and operational experiences.

The report emphasizes that the state has a

crucial role in the financial sector—it needs to

provide strong prudential supervision, ensure

healthy competition, and enhance financial

infrastructure. Regarding more direct inter￾ventions, such as state ownership of banks,

the report presents new evidence that state

involvement can help in mitigating adverse

effects of a crisis. However, the report cau￾tions that over longer periods, direct state

involvement can have important negative

effects on the financial sector and the econ￾omy. Therefore, as crisis conditions recede,

the evidence suggests that it is advisable for

governments to shift from direct to indirect

interventions.

Because the financial system is dynamic

and conditions are constantly changing, regu￾lar updates are essential. Hence, this report

should be seen as part of an ongoing project

aimed at supporting systematic evaluation,

improving data, and fostering broader part￾nerships. Future reports might address finan￾cial inclusion, the development of local cur￾rency capital markets, the financial sector’s

Preface