Chapter 9: Developing Regional Financial Markets – the Case of East Asia
Michael Pomerleano 9.1 INTRODUCTION In the late 1990s, the Asian crisis was a stark reminder of what happens when banking systems are weak. While the crisis had numerous causes, a major one was short-term capital flows, which contributed to currency and duration mismatches on the balance sheet of the banking and corporate sectors. Clearly the bank-centric financial systems in Indonesia, Korea and Thailand paid a very high price: Indonesia’s crisis in 1997–98 was one of the costliest in the world, and more than 50 per cent of gross domestic product (GDP) was spent to bail out the banking sector, and the collapse of the financial sector severely restricted growth. As is well known, the crisis was associated with major macroeconomic disruptions, including sharp increases in interest rates, large currency depreciations, output collapses and lasting declines in the supply of credit. As a result of this experience, the policy community accords far greater importance to sound financial integration in economic development. According to a recent study from the International Monetary Fund (IMF 2007), financial globalization has increased dramatically over the past three decades, bringing numerous theoretical benefits. This trend has been particularly pronounced in advanced economies and more moderate in developing countries. The empirical benefits are evident in countries with well-developed domestic financial systems. However, the process of integration is nuanced, depending heavily on the existence of a strong financial sector and sound prudential policies. In light of the Asian crisis, it is not surprising to find that countries with...
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