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Market Friendly Roles for the Visible Hand?. Public Banks in Latin America: Myths and Realities IADB Conference February 25 , 2005 Augusto de la Torre Sergio Schmukler. Structure of Presentation. Development policy, financial policy, development banks Interventionist state

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market friendly roles for the visible hand

Market Friendly Roles for the Visible Hand?

Public Banks in Latin America:

Myths and Realities

IADB Conference

February 25, 2005

Augusto de la Torre

Sergio Schmukler


Structure of Presentation

  • Development policy, financial policy, development banks
    • Interventionist state
    • Laissez-faire state
    • Pro-market activist state
  • Development banks and pro-market activism
    • NAFIN – market for receivables-based finance
    • FIRA – structured finance
  • Questions for future research

1.a. Interventionist State

  • Development policy
    • Strategic or socially important sectors (SMEs, agriculture, low-income housing) are underdeveloped and will not take off by themselves
    • Protection (temporary) and investment by government is needed
  • Financial sector policy
    • Widespread market failures – markets will not finance take-off
    • Government should mobilize and allocate finance to these sectors
  • Public banks
    • A policy vehicle/instrument that is functional in this context
    • Although not necessary – selective allocation of credit also done via regulation of private banks
      • Administered interest rates, earmarked investments, quantitative ceilings

1.b. Laissez-Faire State

  • Development policy
    • Development is hampered by heavy-handed government intervention
    • Let markets breath and work (openness, privatization) and focus on strengthening “enabling” environment (rule of law, property rights)
  • Financial sector policy
    • State interventionism leads to financial repression
    • Liberalize financial markets and shift focus to prudential oversight
    • Improve contractual environment (creditor and minority shareholder rights, contract enforcement, accounting/disclosure, credit bureaus)
  • Public banks
    • They become de-contextualized
    • Privatize or liquidate public banks (at least move to 2nd tier)
    • Public banks in search of new identity

1.c. Pro-Market Activist State

  • Development policy
    • Links between reforms and development are elusive and studies of growth determinants give little policy guidance
    • Igniting growth and sustaining growth are different things
    • But problems (poverty, low growth, inequality) are pressing
    • Be heterodox, identify the binding constraint to mitigate second best
  • Financial sector policy
    • Degree of financial development disappointing despite reforms
      • Segmentation in access to finance particularly troublesome
    • The focus on “enabling” and “contractual” environment is insufficient
      • Deep implications of path dependent institutional change
    • Go back to basics, readjust expectations, and be creative
      • Explore market-friendly roles for the visible hand

1.c. Pro-Market Activism & Public Banks

  • New roles for existing public banks – “smart” interventions
    • Share risk (e.g., through partial guarantees)
    • Pool risk and group otherwise atomized borrowers
    • Facilitate achievement of economies of scale to lower costs
    • Encourage adoption of technological and financial innovation
    • Solve coordination failures, aligning incentives of stakeholders
  • Players
    • Non-financial private sector (e.g., large buyers, suppliers)
    • Private banks
    • Capital markets (domestic and international)
  • Type of activities
    • Selected interventions (focus is not on organization that intervenes)
    • Tailored to specific needs and institutional settings

2.a. Innovative Public Banking – NAFIN

The Problem

  • SMEs with limited or no access to working capital from banks
  • SMEs thus forced to grant credit (30-90 days) to their clients, many of which are big and reputable
  • Receivables not perceived as good collateral
    • Lack of reliable registry system for receivables
    • Ample room for double-pledging or forging of receivables
  • No effective way to “bridge” part of the problem by taking advantage of creditworthiness of issuers of receivables

2.a. Innovative Public Banking – NAFIN

The Solution

  • Leapfrogging: creation of internet-based market for the discounting of accounts receivable (SME working capital)
    • Around 300,000 SMEs plus most large buyers and open to all banks
  • Most transactions are “reverse factoring” – SMEs discount their post-delivery receivables
    • Banks take risk exposure to reputable buyers, without recourse
    • Protocol to deal with defective deliveries w/o unwinding transaction
  • System ensures integrity and transparency
    • Authenticity of receivables, standardization, custody, legality of electronic contract, property rights transfer, settlement, etc.
  • Incipient market for discounting of pre-delivery orders
    • Banks take risk exposure to SME – agency problems bigger
    • System allows SMEs to build reputation (record of reliable delivery)

2.b. Innovative Public Banking – FIRA

  • Innovating beyond traditional 2nd tier lending
  • Examples:
    • Interest rate swaps with international markets – result in long-term, fixed-rate, local currency loans to small producers
    • Structured finance involving Cargill, sugar mills, small sugar producers, and banks – results in inventory financing
    • Structured finance involving shrimp exporting firm, feed suppliers, shrimp producers, and institutional investors – results in stable, affordable working capital financing

3. Questions for Research

  • Is there a clear value added to pro-market activist interventions by the public sector?
    • Will the private sector do it by itself? If not, why?
  • If there is a role for visible hand interventions, what is it?
    • Lender (1st or 2nd tier)? Risk sharer? Coordinator?
  • How to ensure professionalism, transparency, and accountability in interventions, given complexity of schemes?
  • How to minimize unintended consequences of second-best?
    • Governments may be distracted away from the first-best solutions
    • Given path dependence, second best solutions may lead to traps that are difficult to exit
3 questions for research
3. Questions for Research
  • Can idiosyncratic experiences lead to more general policy guidelines?
    • What are the key features that make these interventions work?
    • Can they be replicated to other sectors and other countries?
  • To what extent can we separate the organization (e.g., development bank) from the instrument?
  • Even if experiences are replicable, should government create organizational capacities where they do not exist?