Financial Crises in Japan and Latin America
Por Edgardo Demaestri, Pietro Masci (10/03, En) Vea también Infraestructura y Mercados Financieros
 ISBN: 1931003475 IDB Bookstore | In the developed and developing world alike, financial crises impede economic growth and can even threaten a nation's stability. Yet despite the frequency of such crises, there is still no generally accepted set of policies and actions to prevent and respond to them. Financial Crises in Japan and Latin America examines episodes from the 1990s in different regions and countries with contrasting cultures and levels of development. The book looks at the key issues and lessons that policymakers must consider in designing an adequate framework for dealing with financial crises. These include structural problems and their causes, policy actions, the role of market discipline, and preemptive strategies. By comparing experiences and relating theory to empirical episodes, the book sheds light on how financial crises come about and how to best resolve them.
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Foreword Acknowledgments About the Authors
Introduction: Financial Crises in Emerging and Developed Economies
Part I Structural Problems and Causes
Chapter 1 Comparing Japanese and Latin American Banking Crises
Chapter 2 Crises in the Bolivian Financial System: Causes and Solutions
Part II Policy Actions
Chapter 3 Financial Sector Reform in Japan: Progress and Challenges
Chapter 4 Prudential Policy in Transition: Changes in the Japanese Financial Failure Resolution System
Chapter 5 Banking Crises in Latin America: Regulatory and Supervisory Issues
Part III Market Discipline
Chapter 6 Japanese Financial Deregulation and Market Discipline
Chapter 7 Do Depositors Punish Banks for Bad Behavior? Market Discipline,Deposit Insurance and Banking Crises
Chapter 8 Market Discipline and Stock Prices in Japan, Argentina, Chile and Mexico
Part IV Preemptive Strategies
Chapter 9 Preemptive Strategies for Assessing and Managing Financial System Risk in Japan: Implications for Latin America
Chapter 10 A Strategy to Prevent Future Crises: Safely Shrink the Banking Sector
Part V Conclusions
Chapter 11 Financial Crises: Lessons for Latin America and the Caribbean
Index
Foreword
Over the last two decades, the countries of Latin America and the Caribbean have suffered damaging financial crises that have obstructed the building of sound financial systems and created major obstacles to growth.
On June 11-12, 2001, the Inter-American Development Bank (IDB) and the Japan Center for International Finance (JCIF) organized a workshop entitled "Financial Crises: Japan's Experience and Implications for Latin America and the Caribbean." The event allowed for a review of experiences with financial crisis in a highly developed country, Japan, and in some Latin American countries, and also sought to draw out lessons for the region. Participants included distinguished representatives from academia, government, supervisory agencies and multilateral organizations, each sharing the results of their studies on and professional experience with financial crises, both in Japan and Latin America.
We believe that the workshop met its objective and that its findings will help improve the understanding of financial crises, contribute to developing policies to resolve and prevent them and, ultimately, develop healthy financial sectors.
Prompted by such crises, important reforms were introduced in Latin American financial markets, including changes to the legal and regulatory framework, patterns of ownership, and market infrastructure. Domestic and foreign private ownership is now encouraged, and regulation, supervision, and competition play complementary roles. However, despite these pivotal reforms, the region's financial markets are still falling behind and failing to provide the finance required by firms and individuals to help enhance Latin America's competitiveness and spur growth.
Without legislation that is effective and enforced, without solid institutions, and without a political vision coupled with strong leadership, the situation may deteriorate, undercutting market discipline and reducing the region's ability to operate effectively in an increasingly global economy.
The experiences of Japan and Latin America alike remind us of the fundamental lesson that financial market development is to a large extent a public good that needs to be further enhanced. In other words, it constitutes a value, an asset that belongs to the overall community; policymakers must therefore provide the vision, leadership, commitment and collective action to make financial markets function effectively and efficiently.
The Inter-American Development Bank Group, which includes the Bank as well as the Multilateral Investment Fund (MIF) and the Inter-American Investment Corporation (IIC), has promoted financial sector reform as well as banking supervision and domestic capital market development. In its dialogue with member countries, the Bank Group will continue to support reforms that encourage vibrant local financial markets as a stimulus to economic growth. It will also push ahead with the economic and financial integration of the region so as to increase the benefits that come from efficiency and to enable all to participate more fully in the global economy.
Carlos Jarque, Manager
Introduction Financial Crises in Emerging and Developed Economies
The increased frequency of financial crises and the lack of a generally accepted set of policies and actions to prevent and resolve them have generated a great deal of discussion over the best ways to respond to and reduce such crises and the economic costs that they impose. Crises in Latin America in the early 1980s, Scandinavia in the early 1990s, Mexico in 1994-95, Asia in 1997, and Argentina in 2001, to name but a few, have caused substantial welfare losses and damaged the interests of large segments of the population.
There are a number of reasons why it is critical to find adequate ways to prevent and resolve financial crises, not least to reduce the high costs that accrue to the state and taxpayers. Financial crises generate economic distortions and add to the costs borne by economic agents. Furthermore, the frequency with which they occur is detrimental to stability and sustainable development.
Latin America's vulnerability to external shocks makes it especially prone to frequent financial crises. As in other parts of the developing world, the prevention and resolution of financial crises in Latin America has to be carried out under severe limitations on the availability of resources.
This has an impact on countries' ability to provide public services, since governments have to spend significant amounts of human and financial resources to resolve financial problems. In addition, as competition for scarce resources builds up, public policy has to contend with difficulties over resource allocation, which can make it harder to adopt adequate and opportune policies. In these circumstances, market pressures as well as those from lenders force emerging market countries to act quickly to resolve the problems.
This situation is different from that of a developed economy, which, when hit by a financial crisis, generally has more resources available and can be more flexible in how it deals with the problem over a longer period of time. The duration of crises, combined with the reactions of policymakers, financial experts, foreign and domestic creditors, the markets and public opinion in general, tend to differentiate the experiences of Japan from those of Latin America. While in Latin America the crises have had to be addressed almost immediately, in Japan it has been possible to muddle through in the quest for a longer-term political and financial solution. Emerging economies have fewer available policy options, and do not have the time to wait; they are often confronted by market and international pressure to react immediately, albeit under several constraints.
The aim of this book is to promote a discussion of the complex issues involved in financial crises and to explore different ways by which Latin American countries can deal with such crises in order to minimize the often unnecessarily high costs incurred. At the same time, the book revisits some of the fundamental issues related to financial sector development and reform.
The book provides a comparative review of the Japanese experience in dealing with its financial crisis as a means of facilitating a better understanding of the similarities and differences with the Latin American cases analyzed, and to identify some of the lessons learned and how they can be applied. For both Japan and Latin America, the chapters focus on financial crises during the 1990s. The various lessons that can be drawn from these experiences can help policymakers in making future decisions concerning financial market strategies and reforms.
Most previous publications on financial crises have analyzed why they took place and how to reduce their costs. This volume adds to that a comparative focus between different regions and countries with different cultures and levels of development. The book concentrates on policy analysis and assessment, and in that vein some of the more theoretical contributions are examined from a comparative viewpoint.
Indeed, the analytical framework for the prevention and resolution of financial crises is still incomplete. There have been many positive advances in theoretical analysis, but we are still far from identifying a framework applicable to most situations. This book does not pretend to propose such an ideal analytical framework; rather its aim is to focus on the key issues and lessons that policymakers have to consider in developing an adequate framework for dealing with financial crises.
The book is directed at all those interested in deepening their knowledge of financial crises. By relating theory to empirical episodes, it should shed more light on how such crises come about and how best to resolve them. It will be particularly useful to policymakers, regulators and supervisors in Latin America who are on the front line at moments of crisis and under pressure to make tough choices. They will benefit from some of the specific lessons derived from the analytical frameworks used, and they will be more likely to use those lessons to preempt future problems through regulatory and supervisory reform. In this sense, the book will contribute to developing new approaches to deal with old problems, and to identifying policies for the prevention and management of financial crises, particularly when developing or reforming legal and regulatory frameworks.
Bankers may also find this book useful as they seek to improve their practices. They may benefit from being able to compare their experiences, adopt new strategies, and deepen their understanding of the role banks play in financial systems and how they can lower the risk of becoming embroiled in situations that lead to financial crisis. The book should also provide added value for academics and researchers, particularly as they explore new areas of research. It may prove especially useful for those researchers who are looking for specific issues that are instructive in explaining the dynamics of financial crises in different economic circumstances. Interested parties from the public and private sectors may find the book helpful as they analyze the impact of introducing the new Basel capital accord.
The book does not pretend to generate a consensus on the issues raised, but rather to enrich the debate about financial crises and financial sector development.
The book is divided into five main sections. In Part One, Makoto Utsumi provides an initial comparative overview of crises in Japan and Latin America and explains the reasons why the Japanese banking system became so fragile. Part One goes on to deal with structural problems and the causes of financial crises. Jacques Trigo Loubière compares two recent financial crises in Bolivia. His chapter is of direct relevance for other Latin American countries, and also serves to illustrate how important it is to learn the lessons that each crisis yields.
Part Two focuses on policy actions that governments, policymakers and regulators have adopted in Japan and Latin America. The initial chapter by Yoshio Okubo assesses the Japanese crisis, stressing three elements of reform: re-establishing stability, increasing efficiency, and introducing structural reforms. Takafumi Sato reviews the shift in direction of Japanese prudential policy. In particular, he considers the significance of the new deposit insurance system and its potential impact on market discipline. Also in Part Two, Ruth de Krivoy reviews the policy responses in Latin American countries, highlighting the impressive progress made in moving toward risk-based regulation, improved supervision and reinforced market discipline.
Part Three deals explicitly with market discipline issues. Mitsuhiro Fukao provides another perspective on the Japanese banking system and its problems, using option price theory to evaluate risk in the net asset position of individual banks. María Soledad Martínez Peria and Sergio Schmukler assess the relationship between market discipline, depositors and deposit insurance. Edgardo Demaestri, Pietro Masci, Maria Pia Ianariello and José Chicoma review the role of market discipline in connection with investors' behavior and stock prices during financial crises in selected Latin American countries and Japan.
Part Four deals with preemptive strategies. The initial chapter by Theodore Barnhill, Panagiotis Papapanagiotou and Marcos Rietti Souto estimates the number of bad loans in the Japanese financial system, and advances a method for crisis alert. In the next chapter, Adam S. Posen provides a provocative argument for reducing the risk of bank crises by reducing the number of banks.
Finally, in Part Five, Roberto Zahler presents some final thoughts on the lessons to be learned from the Latin American and Japanese experiences with financial crises. Zahler notes that one of the greatest challenges facing most Latin American countries is how to reduce macroeconomic instability, which correlates strongly with external vulnerability, inappropriate risk evaluation by the financial sector and, consequently, banking system fragility. The preservation of the macroeconomic stability of a country is a sine qua non for the proper functioning of its financial system. Generally, Latin American countries are highly exposed to macroeconomic fluctuations because they are more vulnerable to foreign and domestic shocks than developed nations like Japan. Zahler concludes that to reduce such shocks, it is important to reduce the intensity and amplitude of the economic cycle (for example, by discouraging credit booms, assets bubbles and the like).
To reduce the probability of financial crises, Latin American countries need to design consistent macroeconomic policies in such a way as to achieve internal equilibrium in a stable, sustainable and credible way. This involves exercising pre-emptive actions and adequate coordination of fiscal, monetary, exchange rate and wage policies to minimize the appearance of exaggerated cycles of boom and bust. This is also true of a developed economy like Japan, even though the diversification of a mature economy and the credibility attained on the macroeconomic front make it easier to find domestic adjustment methods. Zahler correctly maintains that fiscal policy in Latin America is closely related to the soundness of domestic financial systems. Financial systems cannot work properly in an environment where the government crowds out the private sector. Fiscal institutions have to work efficiently and be capable of ensuring the sustainable fiscal position that is so central to financial stability in Latin America. A disciplined fiscal policy, which goes beyond just achieving structural budget equilibrium, reduces vulnerability to external shocks. The contingent cost of problems in the financial services industry needs to be explicitly recognized to ensure that banks and other financial institutions do not think that their domestic (and even some of their foreign) liabilities enjoy an implicit government guarantee. Fiscal discipline is also a requisite in a developed economy, but a stable macroeconomic environment coupled with a high level of savings in a mature economy like Japan grants governments additional alternatives to deal with financial crises.
This book covers other macroeconomic issues such as capital account liberalization and the controversies surrounding exchange rate policy. It also touches on the roles of international financial institutions such as the Inter-American Development Bank, the International Monetary Fund and the World Bank. Although important, those topics are not at the core of this book, since they are considered extensively in the economic literature. The focus here is more on the aspects of supervision and regulation; financial sector reform; market discipline; and crisis symptom recognition, prevention and preemption. In particular, the book deals both with the technical and the political aspects of supervision and market discipline.
In what follows, we discuss a few approaches that may contribute to a better understanding of critical issues related to financial crisis. A distinctive feature of the Japanese financial crisis relates to the availability of time. Japanese policymakers have dealt with financial crisis over an extended period of time, while in Latin America the interventions and policy changes have been sharp, speedy and at times dramatic. This consideration runs parallel to that of Gavin and Hausmann (1998), who note that global financial markets are less tolerant of the crises of emerging countries and, as a result, Latin American countries operate in a "less forgiving context." Also, the Japanese financial crisis came after a long period of growth, while in Latin America crises occurred on the heels of earlier ones and volatile economic growth. Another distinctive feature of the crises in Latin America was the linking of crisis management with previous similar experiences and the lessons that these brought to policy and decision-making.
The buying of time in the case of the Japanese experience is in line with Japan's higher level of development and economic wealth compared to the countries of Latin America. The difference between these cases is also evident in the use of fiscal stimulus (to revive the economies and address the situation of bad bank loans) that is almost absent as a tool for the Latin American countries. However, the Japanese experience shows that the use of the fiscal leverage (i.e., Japan's budget deficit jumped significantly during the 1990s) did not prove to be effective.
In a context of financial and economic crises that affect so many parties and stakeholders, the political dimension plays a crucial role. In this respect, the so-called "prospect theory" (see Weiland, 1996) may prove to be an interesting device to understand the political behavior of the various intervening parties in countries with different levels of development. The theory tells us that people make decisions not on the basis of absolute levels of utility, but in terms of relative gains and losses. When faced with the possibility of gains, people tend to select less risky solutions, while in the domain of losses, and particularly when big losses have already been incurred, people may opt for more daring solutions that would bring success and may erase past losses. At the political level, the audacious resolution is favored when decisions are taken by outsiders or newcomers uncompromised with the previous choices that resulted in disasters. Weiland (2002) has applied this theory to various emerging countries, and he confirms his theory in the cases of Argentina, Brazil, Peru and Venezuela during the 1980s and 1990s. It would be interesting to apply the methodology to Japan to see if it contributes to the explanation and different evolution of its financial crisis in relation to the Latin American crises. On a very preliminary basis, we would like to introduce the topic to see if it could lead to a better understanding of the crises. In Japan, two conditions for a daring course of action were not present. Losses from financial crises were not so relevant due to the country's level of development, and there was no significant change in government. In fact, there was no new bold political leadership in Japan to challenge the decisions of an incumbent. Rather, there was a continuation of the existing system, although with some changes. On the other hand, as Weiland (2002) argues, in some Latin American countries, the losses from the financial crises were huge (for instance, through hyperinflation) and new leadership was emerging in several countries, including Argentina, Bolivia and Brazil. This may help to explain why several Latin American governments enacted measures that some economists and politicians considered correct, but which traditional politicians regarded as almost suicidal.
The previous line of reasoning also goes well with the public policy approach of Kingdon (1997), which states that a public policy decision is undertaken when there is a convergence of three elements: the existence of a problem (e.g., the impact of the financial and economic crises); a certain degree of agreement among experts that the policies proposed are the most effective and viable (e.g., closing and restructuring a bank and strengthening supervision in the context of international support); and, most importantly, the political will (e.g., politicians see an opportunity to enact legislation or measures that solve the problem, satisfy many constituencies and shareholders, and yield political benefits). It seems that these three elements converged in the Latin American countries, but not in Japan, where there was no political will to deal with issues such as the savings in the postal system and the implications of the links between banks and industry groups.
Japan was able to take a long-term approach because its resources and the country's political reality permitted it, avoiding uncontrollable impacts on the social fabric. As a result, it was able to deal with the crisis over a longer period of time; thus, policymakers were able to launch some far-reaching reforms. One of these was the establishment of a new consolidated supervisory agency, the Financial Supervisory Authority, which helped reduce the concentration of power in ministerial hands. The various crises in Latin America also led to reforms, including strengthened supervision and the adoption of prudential rules, but those reforms were not as radical as the institutional reform in Japan. The integration and/or the consolidation of financial supervision would have probably been more meaningful for improving the efficacy and the efficiency of financial regulation in achieving its main objectives.
The prospect theory and the Kingdon approach seem adequate to explain why and how policy reforms like those in the financial sector were introduced. However, the two models do not offer a clarification of the conditions necessary for the reforms to take hold and to function well so that future crises can be prevented or rendered less severe. This consideration leads to the critical issue of policy design to secure institutional consolidation so that institutions take root and become the essential ingredient for sustainable growth.
The building of an adequate regulatory and supervisory framework, alongside the promotion of market discipline and the introduction of transparency and greater competition, should remain at the top of most countries' agendas. This needs to be holistic, introduced step-by-step, and correlated with the longer-term objective of developing a balanced and mature financial market in which both financial intermediation and securities markets play important roles. In this sense, a developed and articulated financial system should contribute to anticipating financial crises, evaluating them, and taking the appropriate corrective measures on a timely basis. Furthermore, financial system reforms should engage bank regulators and supervisors, but also bank management so that it is aware of the risks of financial crises and the implications of reform.
Lack of transparency and information was a feature of both the Latin American and Japanese experiences, restricting access to finance for many sectors. This made it harder to assess the viability of loans and the repayment capacity of debtors, which otherwise relies much more heavily on guarantees than on financial analysis of potential projects and borrowers. Additionally, the securities market was not providing signals that would yield market discipline; as a result, markets were unable to play a significant role in the crises, despite the fact that some of the chapters in this book suggest that some form of initial market discipline was taking shape in Japan and some Latin American countries. This leads to the consideration that substantial attention has to be devoted to market discipline and efficiency because they can act as antidotes to the crises, lower the cost, and help to diversify the financing opportunities for business and individuals during the period of crisis resolution. The goal should be to enhance transparency and disclosure and undertake actions for domestic capital market development so that market discipline can flourish and complement supervision. To that end, a financial sector strategy should involve developing appropriate institutions, updating and enforcing financial regulations, improving standards of corporate governance, and developing local capital markets.
The experience of Japan, like that of Latin America, confirms that there are several requirements to improve the functioning of institutions including: (i) a strong and independent supervisory authority with legal protection for its officials; (ii) a professional and independent judicial system; (iii) market players that detect mispricing in the market place; (iv) existence of a culture of trust that backs legislation, rules and regulations; and (v) enforcement of the rules by regulatory agencies as part of self-regulation and, more importantly, as a public function. In a word, this can be characterized as "stateness," i.e., "the extent to which states can design policies and elicit the necessary consensus to ensure implementation" (Corrales, 2003, p. 76). Adherence by the prudential regulation authorities to the Basel Core Principles should be considerably stricter and more actively enforced. For instance, in the case of Japan and Latin America, strong supervision would have detected and reacted more promptly to currency and maturity mismatches. Entry and exit rules have to be strengthened, and limits set for the maximum mismatch in terms of maturities and currencies. Prompt corrective action rules with triggers should be adopted, as well as off-site alarm signals to prevent banking crises.
Improved corporate governance and risk management practices need to be encouraged through laws and regulations that clearly define accountability, for instance through the introduction of better accounting and auditing, the enforcement of directors' responsibilities, protection for minority shareholders, definition of property rights, and enforcement.
Ideally, depositors, creditors, research analysts and shareholders who enforce market discipline (who were not fully present in the Latin American and Japanese crises) would provide incentives for banks to improve their risk assessment. In parallel, regulators would improve the disclosure and transparency of the information they provide and, as a result, promote the correct incentives for bank monitoring. Market discipline can solve some of the problems of conflicting objectives in the resolution of financial crises, helping to respond in an orderly manner and in such a way as to avoid future crises, reduce the cost to the taxpayer, protect foreign investors, prevent contagion, and encourage structural reform. These are some of the trade-offs that policymakers have to make. Perhaps one of the relevant lessons from the Japanese experience is that these objectives cannot be pursued in a political vacuum and that politics will always play an important role. However, crises should provide opportunities for policymakers to develop long-term strategies for detecting the risks of financial crises and promoting financial sector development.
particularly challenging aspect of financial strategies has to do with the creation of models that help detect crises at an early stage and provide timely signals for corrective action. This raises a number of important questions. One is whether it is feasible to model the behavior of the economy and of financial risk, particularly if information is not openly available. Current work seems to show that this is the case, both in a developed as well as in a relatively underdeveloped country. A second point is how reliable such models are, what responses they would prompt, and by whom. Do such models contradict the functions of the supervision and market discipline? If so, should they be left to market participants rather than the public authorities? A clear pattern of responses to these questions has yet to emerge. However, some countries may have in their public sector institutions the resources and technical capabilities to develop predictive models. The political dimension of such models, especially the relationship with supervision and market discipline and the willingness of policymakers to use them, is not yet fully apparent.
The various issues raised in this book constitute essential elements to create an appropriate and efficient environment for financial sector development.
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Ultima actualización: 08/05/07
