Reforming the Banking System in
by
Sean Turnell
Economics
Department,
Abstract
A country's financial system plays a critical role in its economic development.
It is the vehicle through which the means of exchange are created, resources
are mobilised and allocated, risks are managed,
government spending is financed, foreign capital is accessed, and it is via
financial institutions that individuals can protect themselves against economic
fluctuations. Notwithstanding this essential role, Burma has not had a properly
functioning financial system for four decades. The present system, an unstable
mix of monolithic state-owned institutions and a cohort of new private banks of
dubious legitimacy, is a serious brake on Burma's economy. This paper examines
the role financial institutions can play in a country's development, explores
how Burma's current system falls far short of this ideal and broadly outlines
how it might be reformed. It argues the case for the standard remedies
professed by economists of liberalisation, stabilisation and privatisation but, critically, suggests that these must be
preceded by more fundamental reforms that create the legal, regulatory and
other infrastructure that are the prerequisites of a modern, and efficient,
financial system.
Paper presented to the 1st Collaborative International
Conference of the Burma Studies Group, Gothenburg, Sweden,
21-25 September 2002
JEL Classification: G38, G21, L51, O16.
Keywords: Burma; Banks; Regulation;
Supervision; Financial Liberalisation; Economic Development.
In June 2002 the Financial
Action Task Force on Money Laundering (FATF), an international body established
in 1989 by the G7, declared Burma to be one of 16 jurisdictions it deemed to be
'non-cooperative'.[2]
The same label was applied in 2001 and, indeed, in every year in which lists of
non-cooperating countries and territories have been issued by FATF. Being
so-listed is a serious matter since it obliges FATF member countries (which
include all the major financial centres in Europe,
the Americas and Asia) to adopt special measures against financial transactions
involving listed countries - on the not unreasonable grounds that such
transactions 'are more likely to be suspicious'. In the wake of the terrorist
attacks on the United States in September 2001, however, the issue of money
laundering has become an even more serious one. Identified as a source of
finance for terrorism, the existence of substantial money laundering activity
has become something of a 'red letter' issue in judging a country's standing as
a responsible global citizen.
The existence of substantial
money laundering is, unfortunately, only the most obvious of the problems
inherent in Burma's financial system. Whatever the indicator chosen - from the
value of the nation's currency to the ability of its banks to create credit - a
tale of a system that barely (legitimately) functions is almost the exclusive
narrative. Of course, this is consistent with the state of Burma's broader
macro-economy which, as the most authoritative account yet to emerge notes, can
only be regarded as 'a miserable failure' (Kyi et al, 1998)
Burma's financial system is,
and will remain in the absence of fundamental reform, a serious brake on its
economic development. As Seeger and Patton (2000,
p.11) observe, a country's financial system functions not unlike the 'brain' of
its economy, 'distributing capital to those enterprises likely to be profitable
and grow, and facilitating restructuring and modernisation'. Larry Summers, the
former Secretary of the US Treasury, prefers an automotive metaphor in his
observation that the financial system provides the 'wheels' for a nation's
economic development. Siegelbaum (1997, p.3) draws a
lesson from over a decade of observing transition economies with the simple
truth that 'experience does not teach us how to achieve growth in a market
economy without sound banks'.
The purpose of this paper is
to highlight some of the many problems in Burma's financial system and to
suggest ways in which essential reforms might proceed. The focus will be on the
banks since, as in many developing countries, financial institutions and
markets outside the banks are greatly underdeveloped. Though there is some
controversy over the issue, it is also likely that banks have distinct
advantages over other institutions in countries such as Burma where
complementary infrastructure is largely absent.[3]
The paper begins (Section II) by outlining, in
a broad-brush way, the contributions the financial sector of a country can and should contribute to its economic
development. In Section III the actual state of Burma's existing system will be
examined against this ideal. Section IV outlines some of the reforms that must
take place if Burma's financial system is to become a functioning one. It
examines specific 'technical' reforms, but concludes that none of these will
produce the desired outcomes in the absence of more fundamental reforms to the
nation's political-economy. These will include a transition to a more
democratic polity in which the rule of law is paramount, in which contracts are
honoured and enforced, macroeconomic stability is
pursued and appropriate financial and accounting regulations are in place - an
institutional framework, in short, of 'good governance'. Section V concludes
the paper.
Financial institutions play
a central role in a country's economic development. In the field of
'information economics' - the revolution pioneered by the likes of Nobel
laureates George Akerlof and Joseph Stiglitz - financial institutions resolve the problems that
emerge from the fact that there are information asymmetries between contracting
parties in credit markets.[4]
According to this literature, it is difficult for lenders individually to
identify the quality and performance of borrowers. Financial institutions,
however, have special skills and economies of scale in gathering this information.
As such, they are better able to identify promising investment opportunities.
Economy wide, financial institutions bring about an improved allocative efficiency of capital and improved economic
growth.[5]
For developing countries,
however, the role a well functioning financial system can play is more basic,
yet more fundamental:
·
Financial institutions, via their creation of
monetary assets, provide the means to replace costly and inefficient barter.
The most important of these 'monetary assets' is currency itself - usually the
creation (the liability) of a country's central bank.
·
Monetary assets - in essence 'money' - are highly
productive. Money solves the barter problem of a 'double coincidence of wants' and
so allows more transactions (economic activity) to take place.
·
Money allows for the division of labour - the source
of increasing returns and growth since Adam Smith.
·
Financial institutions allow the accumulation of
saving in a money, rather than physical, form. Without financial institutions,
investment would likely only take place in the sector that saved an equivalent
surplus.
·
Most importantly, financial institutions create
credit. This provides the means through which growth is financed. Credit permits
an economy to expand in response to developments in the 'real' economy
(technical progress), which could otherwise be stymied by barter or a purely
commodity currency system. With a properly functioning financial system, then,
savings do not have to occur to 'finance' investment.
·
Financial institutions solve the liquidity mis-match problem between savers (who generally want ready
access to their money) and borrowers (who, especially in the case of investors,
generally need a longer-term commitment of funds).
·
Financial institutions allow the pooling of risks.
As such, they reduce the risks to individuals of innovation.
·
Financial institutions allow the aggregation of
funds for investment - the latter (for most projects) being invariably larger
than the savings of a single individual.
·
The mobilisation of savings in financial
institutions allows individuals to 'inter-temporally' smooth consumption,
protecting them against economic fluctuations.
·
Financial institutions allow for specialisation -
creating knowledge and transferring risk to those best able to deal with it.
Such 'stylised facts' as to
the contribution of the financial sector to development are backed up by
history. As the World Bank (2002, p.75) notes, there is 'ample' evidence as to
the 'critical role' taken by banks in the industrialisation of England, the
world's first industrial country, and (even more so) in the countries that
followed it along this path.[6]
Perhaps more surprising, however, and certainly counter to much of the rhetoric
in the development discourse, is that financial 'deepening' (that is, the
extent of financial sector development) is 'associated with improvements in
income distribution'. According to the World Bank (2002, p.75), citing
empirical studies such as that of Dollar and Kraay
(2000), the 'evidence suggests that measures of financial development are
positively and significantly correlated with the share of income of the bottom
quintile of the income distribution'. Finally, according to the 2000 Nobel
Laureate in economics, Amartya Sen (1999):
The availability
and access to finance can be a crucial influence on the economic entitlements
that economic agents are practically able to secure. This applies all the way
from large enterprises (in which hundreds of thousands of people may work) to
tiny establishments that rely on microcredit
Phase 1: Allow domestic private banks and allow foreign banks to open
representative offices.
Phase 2: Allow selected domestic banks to form joint ventures with
foreign banks.
Phase 3: Allow foreign banks to begin operations in their own right.[8]
No timetable was
established for the program. By 1992, however, the first domestic private banks
had been established and the first foreign bank representative offices had
opened.
From this promising
start financial sector reform in Burma, like reform in every other aspect of
the nation’s political economy, has made very little headway. Though Phase 1 of
the program was more or less successfully implemented in terms of its limited
goals, phases 2 and 3 have yet to be embarked upon. Together with a great many
other limitations to the operation of foreign investors in Burma (examined
below), foreign banks remain restricted to a representative office role only
and many of these have subsequently closed. Four joint venture proposals along
the lines envisaged in the Phase 2 reforms have apparently been mooted, but
only one proceeded to the point that the Central Bank of Myanmar’s approval was
sought. This approval was not given (Pierce 1997, p.445).[9]
The Current Structure of Burma’s Banking Sector
In terms of branch
networks and access for the great majority of the
Burmese people (especially outside of
The four continuing
state-owned banks more or less continue their established roles, though the Myanma Foreign Trade Bank now shares its foreign exchange
monopoly with the MICB.[11]
The MEB continues to be by far the largest banking operation in
The hitherto
dominance of the state banks has been greatly eroded in recent years by the
entry (the first permitted in 1992) of
Of course, by world
standards,
The number of
foreign bank representative offices in
A Functioning Banking System in
What appears to have been rapid growth in
The evidence for
this can be found by examining the data that
·
Total deposits (demand, time,
savings, foreign currency and restricted deposits) in
Burma’s banks are not fulfilling the normal role of banks in creating credit,
but the country’s abnormally high cash-to-deposits ratio is also indicative
that; a) they are not trusted by the broad populace; and/or b) the returns on
savings that they offer (as noted below, far less than inflation) are not
sufficient to attract deposits. Either way, the ratio is indicative of a system
that is scarcely functioning.
Of course, to some extent the issue of
·
Instead of creating credit through
lending to the public,
·
Using what little information is provided by
some of
·
Notwithstanding that the
cash-to-deposits ratio remains low for all of the reasons above, the actual
level of deposits with
The Shadow of Money Laundering
One answer to the
question above lies in the frequently made accusation that
·
Makes criminal activity profitable. In so
doing, it empowers organised crime relative to legitimate enterprises.
·
Damages the integrity of markets. Interest
rates, exchange rates, the prices of financial assets and commodities generally
become distorted and volatile. They no longer provide meaningful 'signals'
regarding the efficient allocation of resources.
·
By its nature, it encourages corruption.
Criminal enterprises have the wherewithal to offer the kickbacks, bribes,
threats and the other attributes that are their stock-in-trade.
·
Discourages legitimate foreign investment.
Legitimate investors fear guilt from association. Of course, they also have to
confront the distortions and perversions above.
·
Can contaminate the operations of legitimate
financial institutions. Even if themselves legitimate, financial institutions
could suffer contagion from the increased risks (legal, regulatory, credit,
market volatility) from dealing in a corrupt system that allows money
launderers.
·
Will encourage and provide vehicles for tax
evasion - eroding trust in fiscal arrangements and damaging the macro-economy.
·
Siphons much-needed funds from the real
economy, and greatly impairs the likelihood of economic development.[18]
This paper opened with the suspicions noted by FATF, but they have not
been the only body to highlight the shadow that money laundering casts over
There
is reason to believe that money laundering in Burma and the return of narcotics
profits laundered elsewhere are significant factors in the overall Burmese economy….Burma
has an under-regulated banking system and ineffective laws to control money
laundering.
In April 2002 the
US Treasury outlined the following systemic problems in
·
·
Money laundering is not a criminal offense for crimes other than drug
trafficking in
·
The Burmese Central Bank has no anti-money laundering regulations for
financial institutions.
·
Banks licensed by
·
Banks licensed by
·
Of course, proving money laundering is difficult. Money laundering is illegal in most
jurisdictions and, since the terrorist attacks on the United States on
September 11, 2001, the question of stamping out money laundering has become a
high priority internationally. The penalties for states harbouring
or encouraging money laundering are also likely to be severe - but as much
through the loss of business than direct sanctions. The US treasury advises all
US banks and financial institutions, for example, to 'give enhanced scrutiny to
any transaction originating in or routed to or through Burma, or involving
entities organised or domiciled, or persons maintaining accounts, in Burma'.[20]
So, to the extent that Burma's banks are about money laundering, and the Burmese
regime in profiting from and protecting the drugs trade, they are not going to
be open about it. Nevertheless there are sufficient enough reports from enough
disparate sources, and over enough time, to lend credibility to the idea that
money laundering is rampant in Burma. Most of the private banks already
mentioned in this study are implicated in various degrees in the narcotics
trade (see Appendix Two). As Cho (2002, p.25) notes:
The proliferation
of private banks in Burma over the last decade has…facilitated money
laundering. In a country where at least half of all economic activity is
officially unacknowledged, it is widely believed that illegal transactions
account for a significant portion of the private banks' business'.
In response to the
international pressure on it, in May 2002 Burma's government promulgated the
'Law to Control Money and Property Obtained by Illegal Means' which, on paper,
meets many of the objections regarding money laundering noted by the US
Treasury above. Of course, this being Burma, passing a law and enforcing it are
two very different things as is, indeed, the intent of the law. Though the
effect of the law is yet to be seen, Ko Cho's
reminder (2002, p.25) that '[a]nti-corruption purges
in the past have typically been carried out to neutralise
potential threats to the ruling clique, rather than to clean up the way the
country does business', must always be borne in mind. In fact the implicit
'watering-down' of the Law, and the signalling that
it is not intended very seriously came in a series of press briefings issued by
the government in early June. These came in the wake of what appeared to be a
panic sell-off of the Kyat (for the first time breaching 1000 Kyat/$US1) by
individuals seemingly fearful that their transactions might invite scrutiny. As
again Ko Cho reported (2002, p.25), at these
briefings the government;
…have taken pains
to reassure Burma's leading financiers - some of them, like AWB Vice Chairman Aik Htun and MMB [Myanmar May
Flower Bank] Chairman Kyaw Win, with deep involvement in the narcotics business
- that they should not feel threatened by the new law.
Citing the
government's mouthpiece, The New Light of Myanmar, Ko Cho went on to write that the
business-people so briefed were assured that
'…the Law was
issued with the aim of protecting the public interests [international
pressure?] and not of causing public sufferings' (Ko Cho
2002, p.25). [21]
'e'-Banking?
Some of Burma's private
banks have recently been making much of an 'e-banking' revolution that they
claim is transforming the services they offer.[22]
These 'new' services (which are primarily promoted by two banks, Yoma Bank and
Asia Wealth Bank), allow 'online' inter-branch, even inter-bank, remittances
and other payment instruments. Both banks (and some of the others) also trumpet
the arrival of credit cards. Meanwhile, the Myanmar Mayflower Bank promotes its
13-machine ATM network, an innovation still exclusive to it, albeit confined to
Rangoon.
There is, of course, no
'e-banking revolution' taking place in Burma and what seems perhaps as
new-found strength and efficiency in banking is nothing but a mask for its
on-going weakness. The Yoma and Asia Wealth Banks exclaim that their systems
allow a customer to transfer funds to another branch in 'no more than 15
seconds' via 'satellite'.[23]
The latter is revealing. The reason payment instructions are sent via satellite
is not because of any technological edge, but simply because Burma's land-line
telecommunications are so poor, and power blackouts so frequent, that the
existing system cannot be relied upon. We should also be clear about what
transactions are on offer. They are, in fact, very modest. What is not on offer is anything like 'on-line
banking' for customers. True internet banking requires encryption techniques
far in excess of what the Burmese government would allow (which may even preclude access to Military
Intelligence). No, what is on offer is simply a method by which banks can stay
in touch with their branches and with each other. Lacking yet a rudimentary
inter-bank settlement system, and even adequate internal communications
infrastructure, the tale of e-banking is but a distraction.
Finally, A Word on Ownership
This paper has made the
distinction, as most commentaries do, between Burma's 'state-owned' and
'private' banks. It's a not unreasonable distinction usually, but in Burma
matters are never so simple. The issue here is simply that a sizeable number of
Burma's private banks (indeed precisely half) are owned or controlled by
members of the ruling military clique.[24]
Clearly they are not 'state banks' in the traditional sense, but nor are they
purely private in that they are not entirely independent of government. This
adds yet another layer of complexity when considering bank reform in Burma -
especially with regard to the issue of privatisation
(more of which below).
a) Fundamental Institutional
Reforms
Reforming Burma's banking
and financial system will require a host of initiatives, examined below,
specific to this sector. Before these
can proceed, however, greater institutional reform - often categorised
under the rubric of 'good governance' - will be a necessary prerequisite. Such
reform is required in the financial sector to re-establish confidence in
financial instruments (at the most basic level, the currency itself) and in
financial institutions.
Legal and Judicial Reform
At present Burma's financial
system, and its economy more generally, is hampered by the lack of the rule of
law. An obvious by-product of the lack of democracy in the country generally,
for the financial sector the absence of the rule of law has its most important
impact via a lack of defined property rights. Ill-defined property rights in
Burma have given rise, in turn, to well-reasoned fears of arbitrary property
seizure, to doubts about contract enforcement, to an inability to pledge
collateral and to doubts and confusion over the fiduciary and other
responsibilities of managers of financial institutions. As a result, Burma has
no tradition of contract-based credit and, with it, no vibrant private sector
able to access financial resources to identify and exploit economic
opportunities.
The importance of
well-designed property rights for economic development has been understood by
economists for many years, but the issue has come to further prominence of late
as a result of the research, and well-placed advocacy, of the Peruvian
economist, Hernando de Soto.[25]
De Soto and his team argue that the world's poor have accumulated essentially
all the assets they need for successful capitalist development. The problem
then is not a want of savings (real or financial), but an inability to convert
these into liquid capital that can be used for enterprise. What creates this
inability? According to de Soto it is a lack of property rights and,
specifically, the documentation of these rights that would allow them to be
transformed into the legal representation that, in the West, links property to
the real economy. As de Soto notes, it is not the physical attributes of
property that is the key to its role in development, but property as 'pure
concept' that can be used to unleash capital's 'potential energy':
Property
is not the house itself but an economic concept about the house, embodied in a legal representation that describes
not its physical qualities but rather economically and socially meaningful
qualities we humans have attributed to the house (such as the ability to use it
for a variety of purposes - for example, to generate funds for investment in a
business without having to sell the house - by providing security to lenders in
the form of liens, mortgages, easements or other covenants). In advanced
nations, this formal property representation functions as the means to secure
the interests of other parties and to create accountability by providing all
the information, references, rules, and enforcement mechanisms required to do
so (de Soto 2001).
From this, he argues,
industrial countries were given
…the
tools to produce surplus value over and above its physical assets. Whether
anyone intended it or not, the legal property system became the staircase that
took these nations from the universe of assets in their natural state to the
conceptual universe of capital where assets can be viewed in their full
productive potential (de Soto 2001).
Like many developing
countries, Burma's lack of functioning property rights condemns its assets to
the stasis of their 'natural state' rather than a more dynamic conception. Of
course, for Burma matters are rather worse than in most poor countries since,
under military rule, security of the person (much less property) is far from
assured.
The development of Burma's
financial system will require the most basic of legal/judicial reform but
others (some of which are examined below) must follow - commercial laws,
accounting standards, financial market laws, laws relating to shareholders' and
creditors' rights, bankruptcy laws and procedures, disclosure laws…and so on.
It is beyond the scope of this paper to detail the measures required to bring
about legal and judicial reform in Burma. Suffice to leave it at this stage,
perhaps, to comments made by the Asian Development Bank (ADB) in a recent
report on liberalising Cambodia's financial sector (but equally apposite to
Burma);
The
development of the legal infrastructure and improved public confidence will
reduce uncertainties regarding contract enforcement, which will facilitate
private sector development by revitalising commercial
activities and financial transactions. More important, reduced uncertainties of
contract enforcement will substantially reduce the transaction and operating
costs of the financial institutions and thus facilitate intermediation (Chun et.al, 2001, p.29).
Macroeconomic Stabilisation
A stable macro-economy requires a sound
financial system but, equally, a sound financial system requires a stable
macroeconomic environment. What is meant by a stable macro-economy? Whilst
there may be a differences at the margins, the fundamentals are more or less
clear to economists of all stripes:
·
A stable currency. This has two aspects;
a)
there must be sufficient trust in the currency
domestically to prevent currency or cash substitution. In order to achieve
this, hyper-inflation must be avoided at all costs as must, of course, policies
such as de-monetisation. Burma has traditionally
indulged in both of these.
b)
there must be a reasonable degree of stability
in a currency's value vis-à-vis other currencies. Burma's exchange rate has
been anything but stable and its duel nature - a grossly overvalued official
exchange rate and a market value for the Kyat over one hundred times below it -
has been the vehicle for corruption, chaos and mismanagement.
·
The government must restrain its own spending
such that it maintains, at minimum, a sustainable
budget deficit. Excessive budget deficits are inadvisable on many fronts; they raise
the possibility of excessive inflation if financed by monetary means ('printing
money'), create the suspicion of default on government debt and can lead to a
'crowding out' of the private sector's access to finance.
In
1995 the World Bank wrote (p.16) that '[t]he fiscal deficit is at the heart of
continued macroeconomic instability in Burma'. So it remains today.
Notwithstanding numerous promises of reform, Burma continues to run a very
large budget deficit which, depending on growth numbers chosen, measures at
least 5 percent of GDP. More damagingly, with taxes accounting for a mere 3% of
GDP and little trust amongst the public for government bonds, this is mostly
financed by expedient money creation. Burma's high inflation rate is but one of
the symptoms (EIU 2001).
·
The country must, at a minimum, have a
sustainable deficit on current account. Similarly, foreign debt levels (and
their servicing) must be sustainable. As matters presently stand, Burma is in
arrears on its foreign debt payments and has foreign reserves cover for a mere
two months of imports.
·
Policy should be 'outward orientated' - at least to the extent that, in the words
of the World Bank (1998, p.32) a 'reasonable environment for international
engagement' is allowed. Burma, of course, has been in self-imposed exile from
the international community for over a decade. It imports little, exports
(legally) even less and receives almost no foreign direct investment.
·
Consistent with these other objectives,
unemployment should be near enough as possible to that which would be regarded
as 'voluntary'.[26]
Precise information on unemployment in Burma is non-existent, but it is likely
to be substantial.
The particular evils of
currency instability for financial
institutions is graphically
highlighted by Siegelbaum (1997, p.2).
Depicting a scenario familiar from his experiences at the coalface of banking
reform in the former Soviet bloc, Sieglebaum's
account could have been written with Burma's present situation in mind:
Significant
rates of inflation…introduce volatility in the economy which is translated by
the enterprise sector into great uncertainty. In effect, those enterprises
which are the most agile in passing through to their customers the rapidly
increasing costs of doing business, or the luckiest in foreign exchange and
commodities speculation, become the most profitable. Unfortunately, these
qualities are difficult to judge for lenders with incomplete information about
potential borrowers, and they are not terribly relevant for making sensible
decisions about underlying creditworthiness. The result is that banks which
sought lending opportunities in the real sector were often forced to "roll
the dice" with their enterprise customers.
High
rates of inflation are also typically associated with negative yield curves,
which, in turn, promote investment in short-term, government paper, at the
expense of medium and long-term enterprise investments, desperately needed in
the transition economies.[27]
Similarly, the depreciation of the local currency, driven again by high
inflation, rewards speculation in more stable currencies.
While
inflation drives the real value and the quality of the typical bank's loan
portfolio down, it is also operating to shrink the real value of the bank's
capital base…The result is a greatly reduced capacity to absorb risk, just when
risk is at a maximum.
In their landmark blueprint
for Burma's economy, Kyi et.al (1998) proposed a solution both to
Burma's chronic currency instability, as well as the dangers of inappropriate
policy settings, via the adoption of a currency board:
We favour the
conservative Currency Board approach, of the type Burma has had in the past - a
system which inflexibly links the issue of banknotes to foreign exchange
reserves. In response to strong negative external shocks, recourse could be had
to the IMF and the international capital market if necessary. Countries such as
Argentina and Estonia have had success with this approach and their experience
can be studied. Given the conditions likely to prevail in Burma for some
decades to come, a supposedly independent central bank or monetary authority
is, we feel, too liable to abuse by the state. Where there is no well-developed
private sector which offers alternative employment, government officials cannot
be expected to resist a government determined to print money to make the
accounts balance (Khin Maung Kyi, et al, 1998).[28]
As Kyi et.al acknowledge, a currency board arrangement brings with it certain
costs in the constraints it imposes on policy but, as they also declare, this
is a deliberate choice in order to impose policy discipline. This author is in
broad agreement with their approach, and has argued elsewhere (Turnell 1999) that a currency board might be the vehicle
through which to achieve the desirable macroeconomic environment outlined
above. It must be noted, however, that currency board arrangements bring extra
costs when considering the financial sector. For example, because they cannot
simply 'print money' without an increase in backing foreign reserves, currency
boards cannot provide 'lender of last resort' facilities or deposit insurance
schemes often offered (implicitly or explicitly) by central banks. Of course,
even this might not be the problem it appears. In his review of 'what works and
what doesn't' in financial sector reform, Siegelbaum
(1997, pp.5-6) argues that '[c]urency board
arrangements are generally helpful in a crisis', precisely because they limit
the government's ability to 'bail out distressed institutions'. Siegelbaum shares with many authors the view that deposit
insurance schemes are too expensive for most developing countries and, more
importantly, do greater damage through the creation of increased 'moral hazard'.
Better perhaps, simply to insure that banks operate prudently - an issue to
which this paper now turns.
b) Reforming Regulation
Traditionally, bank regulators in many
developing countries have used financial regulation chiefly as a means to pursue
specific development objectives. They have concentrated on regulations
affecting credit allocation, while paying little attention to prudential
aspects of monitoring. This has undermined the efficiency and stability of
financial systems, leaving them vulnerable to economic shocks. Following the
wave of financial crises that hit developing countries in the 1980s, there has
been a shift in regulatory policy. Today, the goal of modern financial
regulation is largely prudential regulation to promote an efficient, safe, and
stable financial system (World Bank 2001, p.79).
In 1988 the Basel Committee
on Banking Supervision, a committee coordinated via the Bank for International
Settlements (BIS), published what became known as the Basel Capital Accord. Designed
to be the international standard for the supervision of banks in industrial
countries, the Accord quickly set the accepted benchmark for all banks and
financial systems.[29]
At the heart of the Basel
Capital Accord is the idea that capital (the net worth of a bank and,
accordingly, wealth belonging to its owners) acts as a 'buffer' against
excessive risk taking and the losses that might result from it. In the words of
the World Bank (2002, p.80), '[o]ne way of ensuring
that owners retain prudent risk-taking incentives is to require them to have a
significant amount of their own money at risk'. Of course, should the worst
occur, the existence of capital can also allow a bank to continue to operate
until problems are resolved, and provides a degree of assurance that it will honour obligations to depositors and other creditors.
The Basel Capital Accord
established that banks should meet a capital-to-risk-weighted-assets ratio of 8
percent - a ratio calculated by dividing a bank's capital base by its risk-weighted
exposures. The Accord required that one half of this ratio (ie,
4% of capital) must take the form of 'Tier 1' capital (so-called core capital,
consisting of those capital elements that are the most permanent and
unrestricted commitment of funds by the owners). Risk weighting of assets was
specified, according to various categories, to reflect (largely) the relative
risk of the counter-party involved. The higher the risk, the higher the
risk-weight, and the more capital required to be set aside.
Adherence to the Basel
Accord came to be accompanied, in most well-managed systems of bank
supervision, with a host of other measures designed to ensure that individual
banks set aside sufficient capital according to the risk of their business.
These included measures of asset quality, bank liquidity, profitability,
exposure concentration (to individuals or sectors), adequacy of provisioning
policies and assessments of the quality of bank management and systems. In 1997
these, and more, were incorporated into another seminal document issued by the
Basel Committee, the Core Principles for
Effective Banking Supervision.
The Basel Core Principles
provide an ideal, if basic, blueprint for the regulation of banks and other
financial institutions. The most important principles include:
·
A pre-condition for effective supervision is
that supervisors enjoy operational independence from government and adequate
resources to conduct their activities. An appropriate legal framework for
supervision is a corollary of this, including granting supervisors sufficient
enforcement powers as well as protection from vexatious counter-claims from
'the supervised'.
·
Supervisors should be satisfied as to the
nature and structure of any institution wanting to call itself a 'bank'. This
should include minimum capital and other financial criteria, as well as 'fit
and proper persons' tests for directors and senior management.
·
Supervisors must set criteria in place to restrict
lending to 'connected' parties (individuals or corporate).
·
Supervisors should ensure that banks have adequate
systems in place such that they are not vehicles for criminal activity. This
should include rigorous 'know your customer' rules and anti-money laundering
ordinances.
·
Supervisors should receive adequate statistical and
other information from banks. They should also have in place a 'means of
independent evaluation of supervisory information either through on-site
examination or use of external auditors'.
·
Supervisors should ensure that banks publicly
disclose regular financial statements and other necessary information. This
should be consistent with generally accepted accounting principles as
representing a 'true and fair view of the financial condition of the bank' (BIS
1997, pp.4-7).
Additional Measures in Developing Countries
As noted, the Basel Core
Principles are meant to apply whatever the level of development of a national
financial system. Other issues, prominent in many developing and transition
economies, require probable minimum additions to this canon. Two of the most
important of these are measures to ensure adequate liquidity, and the vexed
issue of so-called 'connected lending'.
Liquidity
One of the most conspicuous features of a bank's
balance sheet is that there is generally a maturity mismatch between its assets
and liabilities. Put simply, banks borrow short and lend long and in order to
reassure its depositors, a bank needs to have adequate liquidity.
Before
Connected Lending
Connected lending is a
particularly acute problem in many developing countries. Capital is often both
scarce and highly concentrated and,
as a result, banks are typically owned by a narrow cohort of individuals,
families or business elites, all with strong links to the government. As shall
be examined below, this form of connected lending is endemic in
Banks
are often linked by common ownership to a variety of other commercial
enterprises to which they are likely to grant loans on the basis of
affiliation, whether or not the projects are financially sound, and then rescue
them at the expense of the bank. Instead of relying on independent banks, the
usual move for large industrial enterprises, farmers, and merchants has been to
set up their own banks as a more secure way to expand their businesses,
especially when credit is rationed as a result of negative real interest rate
policies. In such an environment, industrial and commercial companies linked
with banks enjoy the distinct advantage of having access to loans from their
affiliates (de Krivoy 2000, p.126).
This paper has made much of
the role of financial institutions in allocating capital in ways that it can be
most efficiently employed. Clearly, connected lending practices negate this
process. But the problems of connected lending are not confined to their
microeconomic consequences - there are implications for systemic stability too:
Connected
lending can also be the starting point for systemic risk, when closely held
banks account for high shares of total deposits in a weak regulatory
environment. If the banking system is highly dependent on the fate of a few
banks, which in turn depend on the decisions of a very small number of people
besieged by conflicts of interest, insider lending easily translates into
systemic banking crises (de Krivoy 2000, p.126).
As noted above, the Basel
Core Principles require that banks conduct their businesses on an 'arms-length'
basis from affiliates. Of course, this is easier said than done. Drawing on the
Under ordinances created
following the financial crises of 1997, the Bank of Thailand came up with the
following measures - some of which could be profitably studied by future bank
regulators in
-
limits the amount a bank can lend to a related
person or company to 50% of its shareholders equity, 25% of the recipient's
total liabilities or 5% of the bank's Tier 1 capital - whichever of these is
the lowest;
-
limits lending where cross-directorships exist.
This includes outright prohibition of lending to companies whose
directors-in-common with the bank have equity stakes exceeding 1% of the paid
up capital of each;
-
limits cross-directorships (in which one entity
is a bank) to three companies (Hawkins and Mihaljek
2001, p.150).
At first glance the
regulation of banks in
In addition to the
basic Basel capital requirements the CBM imposes other regulations on banks -
some of which are in keeping with reasonable practice for a developing country,
some of which are obsolete remnants of the Stalinist era. On the positive side,
the CBM imposes minimum liquidity requirements - compelling banks to maintain a
liquidity ratio (liquid assets against liabilities) of 20 percent. Not content
with this, however, banks are also required to hold reserves against demand
deposits (10 percent) and time deposits (5 percent), the bulk of which to be
maintained as deposits with the central bank (75 percent) with the remainder in
cash. This latter regulation probably tips the balance in
Beyond these are
the positively surreal laws, deriving from ancient concerns regarding usury and
the domination of lending by certain ethnic groups in Burma, that restrict
lending by banks in other ways.[31]
Uppermost of these is the Money Lenders Act (1945, but still in place) that not
only seems to disallow compound interest, but prohibits total interest payments
from exceeding the amount of principal of a loan. It is difficult to imagine a
modern banking system functioning against such fundamental prohibitions.
The CBM also
continues to cap interest rates in
Joint Venture Regulations
As noted earlier,
As the current laws
stand (and those relevant to joint venture banks source authority from the
Foreign Investment Law and the Myanmar Citizens Investment Law (1994), as well
as the Financial Institutions Law), a joint venture bank must be capitalised at a minimum of 60 million Kyat. The joint
venture can only be established between a foreign bank that has a
representative office in
It’s hard to
imagine that given such an outcome, and if a joint-venture in normal banking
business is really what is on offer, that Burma’s banking sector could hope to
attract foreign capital.
Exchange Controls
In addition to
these very real and very large difficulties, however, are various exchange
controls that inhibit still further the development of an outward-looking
financial sector in
An especially egregious
restriction on foreigners in
Failure to Apply
Notwithstanding the
extraordinarily prescriptive nature of bank regulations in
·
As supervisor, the CBM does not enjoy operational independence from government.
·
Whilst the CBM requires a minimum
amount of capital to start up a bank, it does not (cannot, given the nature of
the political-economy of
·
Connected lending is rife in
·
The CBM does not, as noted, ensure
that
·
The CBM requires banks to furnish it
with regular statistical information, but there are no systems in place in
·
The inescapable conclusion from all of the above is that reform of
A corollary of this is the restructuring of the regulator – the central
bank. At this point, however, a further question is posited: Should bank
regulation and supervision be left to the CBM? Or should it, as has
increasingly been the case in a number of industrial countries, be placed with
a separate entity entrusted solely with this task? The argument for a separate
institution hinges on what is alleged to be the inherent conflict of interest
between the monetary responsibilities of the central bank (which might require,
for example, tightening credit to a degree detrimental to banks’ interests) and
its supervisory functions. Will the latter mean that a central bank will go
‘too easy’ regarding the former?
In advanced industrial countries this is probably an alive question. In
the view of this author, however, for a country such as Burma, what is more
relevant is the extent of human and other resources available to supervise
banks. These are likely to be extremely rare, and heavily concentrated (albeit
perhaps in a somewhat compromised form) in the CBM. Of course, the CBM should be radically restructured, and certainly senior management should be
replaced. Burma need not venture alone in this restructuring path though – for
this is one arena in which the multilateral financial institutions, as well as
the central banks and regulatory authorities of a host of countries, can
provide meaningful assistance. Indeed, they already do in a number of
transition economies, details of which have been liberally noted throughout
this paper. This support would and should be financial, creating the critical
'breathing space' that would allow for the restructuring of bad loans for
example, but above all it should be in the form of training. It might also be
the case that this is a logical avenue through which appropriately qualified
and experienced ex-patriots can play a role - post regime change.
c)
Financial
Liberalisation
What is known in the
development finance literature as 'financial repression' is a strong feature of
Burma's banking system.[38]
Financial repression arises from the fact that interest rate controls (as noted
above, applied in Burma on both lending and deposits) artificially creates a
shortage of funds for viable investment. This is because in high inflation
environments (such as Burma's), interest rate controls create real interest rates that are very low,
even negative. As such, the demand for these funds is likely to be high but,
conversely, the supply of these funds (deposits) will tend to be low. In the
absence of interest rate controls the interest rate itself would sort out this
mismatch between supply and demand by rising sufficiently to 'clear' the
market. With interest rate controls, however, such 'rationing' must be done via
other means.
Of course, such rationing
creates yet another breeding ground for corruption. It also creates a situation
in which banks are only likely to lend in large amounts to keep overhead costs
low. In such an environment small enterprises - the source of Burma's future
prosperity - will be left out in the cold. For this same reason lending to the
government becomes a relative attractive option. The latter is a not surprising
outcome perhaps, since interest rate controls are often imposed precisely for
the purpose of making government financing cheaper.
The solution to financial
repression, and the corruption that inevitably follows in its wake, is to 'liberalise' financial markets by removing interest rate
controls. In the heady environment of the transition period this can cause its
own problems but, with the appropriate institutions and regulations in place
(of the type advanced here), these can be, and have been elsewhere, managed
effectively.[39]
d) What to do with the Existing
Banks?
Privatising the
State-Owned Banks
Though there is great
controversy over many aspects of financial sector reform, one area in which
there is almost unanimity of opinion in the literature is on the problems
associated with government ownership of banks. Government ownership of banks
has typically led to an excessive politicisation of
decision making, distorted resource allocation, exacerbated problems of
corruption through connected lending, propped up inefficient (and otherwise
insolvent) state enterprises, retarded the development of financial
institutions and instruments, and enabled governments to pursue unsound
macroeconomic policies by providing a 'soft' budget constraint. A recent
empirical study by Barth, Caprio
and Levine (2000) found that government ownership of banks was associated with;
i)
a low level of lending to the private sector;
ii)
low indexes of competition in other industrial
sectors
iii)
high net interest margins
iv)
an increased probability of banking crises.
Other studies come to
similar conclusions, including a recent survey by the Asian Development Bank of
nine member countries caught up in the 1997 Asian 'financial crisis'. It found
that government-owned banks
funnelled credit to priority sectors
selected by the government, and sometimes had to lend to these sectors in
accordance with lending targets, usually under a regime of administered
interest rates. Attempts at "managed development" by the government
spawned resource misallocation, inefficiencies and unprofitability
in the sectors it effectively subsidised, and
worsened operational inefficiencies in banks (Gochoco-Bautista,
et al 2000, p.51).[40]
All of this is familiar
ground when examining (as per above) the performances of Burma's state-owned
banks. As the EIU notes (2001, p.30), these have often been called upon not
only to buy government bonds to finance the central government's expenditure,
but also to fund other state-owned enterprises (SOEs).
On the books of the MEB, for example, is a large tranche
of non-interest bearing bonds created in 1989 in place of accumulated SOE
debts. The other state-owned banks have been forced into similar deals.
The eventual privatisation
of Burma's state-owned banks must be an integral feature of its financial
sector reforms. This will not be a process, however, that will be free of
problems and pitfalls along the way and nor, this paper argues, should privatisation proceed with undue haste. It is an
unfortunate fact that banking crises have often followed programs of privatisation and liberalisation. Whilst this does not mean
that they should not proceed, a degree of caution (along the lines outlined
below) will be required if the worst is to be avoided.[41]
Problems and Issues over Privatisation
According to Demirgüc-Kunt and Detragiache
(1998 and 1999), bank privatisation and liberalisation
increases the risk of a banking crisis (in the immediate 'new environment
years) by around 300 to 500 percent. Whilst the magnitudes are arguable, their
findings are generally consistent with the empirical record since such issues
became relevant following the collapse of the Soviet bloc.
The factors behind these
persistent crises are many and varied, but they can essentially be divided into
two rough groupings that Hawkins and Turner (1999, p.39) label 'stock' and
'flow' problems. Stock problems are those that relate to past lending behaviour
of banks, lending which was often made for purely political purposes without
any expectation that it would be repaid. Siegelbaum
(1997, p.3), writing of experiences in the ex-Soviet bloc, estimated that
non-performing loans represented 'upwards of 50% of the portfolios of many
state banks'. Flow problems extend from the behaviour of banks post-privatisation and liberalisation when, newly freed from
past constraints but unskilled in the new environment, something of a 'lending
binge' is often the irresistible temptation.
Solving stock problems -
clearing up balance sheets and deciding what to do with problem loans - will be
a necessary prerequisite for privatising state-owned
banks. Asset impaired, generally overstaffed, inefficient and barely equipped
with the skills required by modern banking, they otherwise hardly represent
much of catch to any would-be buyer. Of course the situation will be made more
complex by the difficulties in the first instance of working out precisely what
condition bank portfolios are in. There is, for instance, the strong
probability (the near-certainty in the case of Burma) that past classification
of delinquent loans in state-owned banks will have been less than rigorous.
Clearing up the balance
sheets of state-owned banks will be necessary in order to privatise
them, but it will also be necessary if they are not to be the cause of systemic
instability thereafter. As the World Bank notes (2002, p.86), '[n]ew owners must start off with a viable entity'. As an
example of what happens when this is not done, it offers the experience of
Chile in the mid-1970s. Lacking the financial resources (and political will to
do otherwise) the Chilean government privatised the
(large) state-owned banking sector but left whatever problem loans existed on
the books. In 1982 Chile entered into a deep economic and financial crisis,
both a cause and a consequence of which was broad bank insolvency. Repairing
the situation required a great many more financial resources than that which
could have been used preventively at the outset of privatisation,
as well as a degree of supervisory 'elasticity' in allowing banks to trade
their way out.[42]
Of course, in the case of
Burma, 'stock' problems will probably not be limited to the state banks. As
noted above, Burma's 'private banks' too are greatly exposed to the State and
to State-owned enterprises, and their lending more generally is highly
connected to the regime.
Working out what to do with
problem loans has been a contentious issue in reforming countries. A consensus
seems to have emerged, however, in favour of the so-called 'good bank/bad bank'
approach. Under this, non-performing loans (NPLs) are
separated from their originating institutions (which become 'good' banks) prior
to privatisation. Meanwhile, the NPLs
are transferred to a new institution - the 'bad' bank (sometimes simply a
restructuring agency rather than strictly a bank) - which, funded by the state, attempts to
recover some value from the delinquent debtors. Creating the 'bad bank' will
clearly require fiscal commitment from the state, sometimes in large measure,
and this will have to be factored in to a reforming government's fiscal
program. Such costs will be lessened by what can be recovered and, on this, Siegelbaum (1997, p.3) is reasonably optimistic; 'our
current thinking is that bad loans should not be dealt with prematurely,
because a surprising number turn out to be collectable after all'.
Experiencing 'flow' problems
will also likely be an inevitable feature of the bank reform process. Capturing
the transformation nicely, Hawkins and Turner (1999, p.10) suggest banks move
from being 'credit rationers to credit marketers' -
the trouble being that the skills for each can hardly be more opposed.
Providing credit to a burgeoning and disparate private sector can be much more
profitable than merely being the passive buyer of government bonds - but it’s a
much more complex task too and, arguably, an activity involving considerably
greater risk. Of course, on top of the changing roles for the banks themselves
are changes in the broad economy that are just as great. Transition periods are
not tranquil. They are usually associated with price and currency instability,
civil and political disturbance, heightened expectations, supply chain and
infrastructure disruption, policy changes and, of course, the reforms
themselves that unsettle the pre-existing order. Banks must negotiate these
changes, but so too must their customers. In the end the fate of the banks is
inextricably linked to their customers, upon whose own reform (especially in
the case of state-owned enterprises) all must ultimately depend.
The upshot of the above is
that privatisation is neither a panacea for the inevitable
problems that arise with bank reform, and nor should it be conducted
prematurely. Drawing upon the experiences of nearly a decade of reform in the
former Soviet Union and Eastern Europe, Siegelbaum
(1997, p.3) concluded that the lesson was:
…don't be in a hurry to privatise.
Once the bank's customers have been privatised,
including both depositors and borrowers, and the financial state of the
institution becomes somewhat more transparent and stable, then privatisation becomes easier and fairer… (emphasis in
original).
Finally, this does not
imply, however, that the existing management of both the state-owned and
problem private banks should remain in place. As Siegelbaum
(1997, p.4) observes:
The
'Old Guard has too much at stake in the status
quo and is too well indoctrinated in the old ways of doing business to
change in the fundamental ways required to succeed in such a radically
different environment. This should be recognised
early and implemented ruthlessly…it is important for the government to send
strong signals to the bank, its management and its customers that it is
committed to change, that failure will not be tolerated, and that future
accommodations, whether in the form of cheap funding or loan forgiveness,
cannot be expected.
e) A Role for Foreign Banks
A potential obstacle in the
path to privatisation in Burma will be the lack of
buyers of state-owned banks who possess both high integrity and sufficient
financial resources. Those individuals and business groups that have prospered
in today's Burma, the most likely purchasers of state assets during the
transition to a more market-based economy, are not necessarily those who would
pass any 'fit and proper person' test that Burma should employ - and most
countries already do (consistent with Basel) -
when handing out bank licences. Of course, to
some extent the most obvious candidates for purchasing the state-owned banks
are the existing private banks. Given some of the evidence above, however, this
would be a most undesirable outcome.
The risks in this context
are very real. Seeger and Patton (2000, p.31),
writing of the experiences of bank privatisation in
Ukraine (where so-called 'oligarchs' largely assumed control of privatised banks), note that not only are the odds stacked
against honest players, but the effects of banks falling into the wrong hands
are long-lasting and damaging to the economy at large:
Care
must be taken in screening bidders, however, because an honest bidder may offer
less money for an enterprise than a dishonest one. This is because the honest
bidder has to do the hard work of restructuring the enterprise to make it
profitable, while the dishonest bidder has a competitive advantage in that he
can evade taxes, obtain favours from the Government, "cheat" when
fulfilling investment obligations, engage in price-fixing, enforce contracts
through force rather than the court system, not pay workers, and engage in
profit skimming and asset stripping.
A potential solution to this
problem - though one requiring greater investigation than space allows here -
would be to privatise the existing state banks via
'voucher privatisation'. In essence, this involves
the distribution of the share capital of
privatised enterprises amongst the general
populace, 'gifted' (and therefore funded) by the government. There are,
however, many problems with this method of privatisation
in relation to banks - not least in that it 'may leave effective control of the
bank in the hands of the existing management' (Hawkins and Turner 1999, p.82). Seeger and Patton (2000, p.11) concur with this, arguing
that, for bank privatisations, 'the initial share
allocation should be highly concentrated' since '[a] dispersed shareholding
pattern would require legal protections [of minority shareholders] and
enforcement mechanisms that take decades to develop'.
The most promising way to
deliver to Burma a functioning financial system in the short to medium term -
and bring great dynamic benefits besides - would be to open the economy to
foreign banks. As noted above, foreign banks have been traditionally excluded
from operating in Burma and the half-hearted efforts of the present regime to
'encourage' entry have been singularly unsuccessful. Though nationalistic
objections to the operation of foreign banks would likely persist amongst
certain quarters beyond a regime change, these can, and should, be met with the
very solid arguments that can be mounted in the favour of foreign bank entry:
·
Because of their 'outsider' status, foreign
banks are less likely to engage in 'connected lending'. In the specific case of
Burma, they are also unlikely to be involved with the present regime and,
accordingly, be free from the taint of its activities and practices.
·
Foreign banks bring with them possibly the most
potent competition entrenched players are likely to face. According to a recent
empirical study by Claessons, Demirgüc-Kunt
and Huizinga (2001), the existence of foreign banks
improve sector efficiency, being associated with lower overhead costs, lower
profitability and lower interest margins for entrenched banks. They maintain,
indeed, that the positive effects from foreign banks on competition is greater
in developing countries than it is for more developed financial centres - the former in which high overheads and interest
margins are more commonly a feature.
·
Foreign banks bring with them new skills and
technologies. Such of these that exist in Burma's present financial system,
designed for other ideologies and other times, are not likely to be compatible
with modern financial markets and practices.
·
Foreign banks have established access to
international capital markets - of
which, indeed, they are an integral part. Such access as may be provided in
this manner could be important for Burma - a country locked away from the rest
of the world for four decades and likely to remain a 'doubtful quantity' in
financial markets for a time even beyond the transition to a market-based
democracy.
·
The capital that foreign banks are able to source
is likely to be cheaper than that which Burmese institutions could source on
their own. This is not only because of the reasons above, but also simply
because foreign banks are likely to come from countries which have higher
credit ratings than Burma - and therefore face lower risk premia.[43]
·
The existence of foreign banks eases some of
the pressure on domestic prudential regulators since it is highly likely such
banks will already be subject to the Basel framework, and other relevant
supervisory rules, imposed by their home regulator. A way of ensuring this
would be to require that foreign banks operating in Burma be constituted as
branches of the parent bank rather than as subsidiaries. Under the Basel Accord
banks are supervised on a consolidated basis and, as such, branches are treated
no differently than head office.[44]
·
In a similar vein, should it prove necessary,
it is likely that foreign bank operations would obtain financial and other
support from the parent institution. It should be emphasised that foreign banks
have their own reputation at stake in their foreign operations - and are not
likely to allow their 'brand' to be tarnished. This point, and its predecessor,
are supported by the empirical record of foreign banks in transition economies.
Caprio and Levine (2000), for example, found that
foreign bank participation is associated with greater system-wide loan
portfolio quality and greater systemic stability. Demirgüc-Kunt,
Levine and Min (1998), similarly found that the entry of foreign banks reduces
the probability of systemic crises.
·
A reasonable concern regarding the entry of
foreign banks is that Burma's financial sector could become dominated by the
institutions of a single country.
This could be a real concern in Burma which, to the extent that its economy is
open under the present regime, is rather dominated by a few countries outside
of the largely Western boycott.[45]
Accordingly, regulations should be in place to ensure a plurality of foreign
bank entrants by home country.
·
Should Burma opt for a currency-board based
exchange rate system, foreign banks would be a welcome source of foreign
reserves.[46]
In this scenario, banks from the 'anchor' currency country would be especially
valuable players.
It is only through a competitive financial system that
Burma's financial resources will be most efficiently allocated. It is through
competition that financial products and instruments are appropriately priced in
a market system, and it is through competition that incentives are created for financial
institutions to both diversify the services they offer, and to seek markets
outside their traditional milieu.
The creation of a home-grown
financial system in Burma, which should follow from the liberalising processes
discussed above, will take some time to emerge. In the meantime the best source
of competitive pressure is likely to come from foreign institutions. Their
entry should be welcomed.
f) A Role for Microfinance Institutions
A promising field in which
Microfinance
typically involves loans that are very small, seldom more than a few hundred US
dollars. Interest rates are usually high by developed world standards, but much
less than those levied by traditional money-lenders (who, in Burma, charge
around 12-20 percent per month depending
upon the borrower) and, for most viable projects, rather less than the returns
they generate (EIU 2001, p.32). Microfinance
institutions (MFIs) generally claim very low rates of
loan default, or even of interest payment arrears. In the case of the most
prominent MFI, the Grameen Bank of
Much is claimed for the
poverty reducing qualities of microfinance - so much,
indeed, that the UN has rightly cautioned that a 'certain sense of proportion
regarding microcredit would seem to be in order' (UN 1997,
p.4). Nevertheless, there is little doubt that microfinance
has enabled vast numbers of people in developing countries to enjoy higher and
more stable incomes than they would otherwise have achieved in the absence of
access to it. What does seem clear is that microfinance
only achieves its best results when it is accompanied by other measures that
enable the full expression of the latent entrepreneurial abilities amongst the
world's poor. Some of these measures - the rule of law, establishing property
rights and other 'fundamentals' of institution building, have been noted
already and apply across many issues.
Higher and more stable
incomes are driven by the production or investment uses that microfinance can be put to. It is, however, increasingly recognised that the poor desire secure savings vehicles as
much as access to credit. As a consequence, this aspect of the potential for MFIs has begun to receive more attention of late. Also
receiving more attention is the idea that microfinance
- to the extent that it is group based - can be a vehicle for social as well as
financial intermediation (Ledgerwood 1999, p.1). The
weekly meetings of borrowers that prevails under the Grameen
system, for example, provides a ready-made forum with which to disseminate
information on health, legal and political rights and other broader issues. It
has also been argued that the group approach can produce other spin-offs -
including the 'development of self-confidence, training in financial literacy
and management capabilities among members of a group' (Ledgerwood 1999,
p.1). All of this may be especially relevant for
A critical issue for MFIs, and their supporters, is that of sustainability. It
is still the case that a great many MFIs only
function because their capital is constantly replenished by donors of some
kind. Loan defaults (even at the low levels claimed), high per unit transaction
costs (by their nature, unavoidable for MFIs), and
what is often poor managerial structures and skills means that profits in the
sector are hard to come by. According to Ledgerwood
(1999, p.2), the question of sustainability is transforming the MFI sector as
attention has switched from a 'poverty lending approach' (emphasising
poverty and empowerment outcomes) to
a 'financial systems approach' (emphasising MFIs role in financial system building, and in providing to
finance to groups other than simply the most poor).[48]
This switch, she argues, is justified by the following beliefs:
·
Subsidised
credit undermines development [through resource misallocation].
·
Poor people can pay interest rates high enough
to cover transaction costs and the consequences of the imperfect information
markets in which lenders operate.
·
The goal of sustainability (cost recovery and
eventually profit) is the key not only to institutional permanence in lending,
but also to making the lending institution more focused and efficient.
·
Because loan sizes to poor people are so small,
MFIs must achieve sufficient scale if they are to
become sustainable.
·
Measurable enterprise growth, as well as
impacts on poverty, cannot be demonstrated easily or accurately: outreach and
repayment rates can be proxies for impact (Ledgerwood
1999, p.3).
Notwithstanding the
longer-term need for sustainability, in the immediate future (and certainly for
future schemes in countries such as
(a)
institutions must serve more than 3,000 very poor clients, of which at least 50
per cent must be women; (b) institutions must be operationally self-sufficient
and on the path to financial self-sufficiency; and (c) institutions must be on
the path to mobilising domestic commercial resources (UN 1997, p.7).
Perhaps the most important
ways in which multilateral institutions can support microfinance,
however, is via capacity and institution building. The World Bank, the ADB, the
Inter-American Development Bank (IADB), and a number of other institutions are
already moving in this direction. The use of training programs as a vehicle for
disseminating MFI best practice is a particular focus - representative of which
is the IADB's Microenterprise
Development Fund, the resources of which can be applied to;
(i) meet the cost of workshops, publications, and related
activities; (ii) provide technical assistance to local organisations for
development of microenterprise development projects;
(iii) finance activities that directly or indirectly support institutional
strengthening of local organisations involved in microenterprise
development; and (iv) finance applied research and information gathering and
dissemination, especially best practices, that will benefit local organisations
working on microenterprise development (ADB 2000,
p.51).[50]
The Burmese regime's
self-imposed exile from the international community has meant that
The transformation of
The foundations of a proper
functioning financial system are transparency, accountability and the effective
transmission of market signals.
Reforming Burma's financial
system, in particular the banks that make up its core, will require the
privatisation of its state banks, the legitimisation of its existing private
banks and the opening up of the sector to foreign competitors. Before these
measures can be undertaken, however, fundamental institutional reform will be
necessary.
APPENDIX ONE
Private Domestic Banks in
Asia Wealth
Bank
Asian Yangon
International Bank
C.B. Bank
Cooperative
Bank
Cooperative
Farmers Bank
Cooperative
Promoters Bank
First
Private Bank
Innwa Bank
Kanbawza Bank
Myanmar
Citizens Bank
Myanmar
Industrial Development Bank
Myanmar
Livestock Breeding & Fisheries Development Bank
Myanmar
Oriental Bank
Myanmar
Universal Bank
Myawaddy Bank
Sibin Tharyar Yay Bank
Tun
Foundation Bank
Yangon City
Bank
Yoma Bank
APPENDIX TWO
The Asia Wealth
Bank, which vies with Yoma Bank for the title of Burma's
largest, was founded by U Eike Htun,
a shadowy figure who emerged in the early 1990s from Kokang,
‘an area notorious for opium production’ (Maung Maung
Oo 2001a). Eike Htun also
heads a leading trading and property business called the Olympic Group that has
been very active in investing large sums in residential property and hotel
developments in
The Mynamar May Flower Bank, often listed as
the third biggest in
Kanbawza Bank has grown extremely rapidly in recent years. Established by U Aung Ko
Win in
Myawaddy Bank is owned by Union of Myanmar Economic Holdings (UMEH). UMEH,
Innwa Bank. Like Myawaddy Bank, is owned by UMEH.
Myanmar Universal Bank has been implicated not only in the laundering of drugs money, but in
the financing of amphetamine factories in
Tun Foundation Bank. Owned and founded by Thein Tun, the former 'Mr Pepsi' (so-named because he was Pepsico's
business partner in
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[1] Special thanks to Alison Vicary, Marianne Gizycki, Eric Snider, Zaw Oo, and David Arnott for their assistance on many matters during the writing of this paper. Responsibility for its contents, however, resides solely with the author.
[2] The FATF report naming
[3] The issue over whether a country such as
[4] Akerlof and Stiglitz won the Nobel Prize for Economic Science in 2001. For more on the contribution of their 'revolution' to economics, see the citation on the Nobel website, <http://www.nobel.se/economics/laureates/2001/ecoadv.pdf>.
[5] Once regarded as irrelevant in promoting economic growth, and even endogenous to it, in recent years the economics literature has highlighted the role in which the development of financial institutions can play in the development of economies more broadly. For a taste of some of this literature, see Beck, Levine and Laoyza (2000), King and Levine (1993), Levine and Zervos (1998), Rajan and Zingales (1998) and Wurgler (2000).
[6] Landes (1998, p.264) maintains that
financial institutions played a much more significant role in the development
of the countries that followed
In
[7] Details of these laws, and the ‘official line’ on
[8] ibid.
[9] The aforementioned website of Burma’s embassy in
[10] The MSLE has 182 branches throughout
[11] Following a brief period, noted below, when some of the private banks were permitted to deal in foreign exchange.
[12] ibid.
[13] Data from AWB and Yoma Bank websites. These can be found at <http:www.e-commerce.com.mm/AWB> and <http://www.e-application.com.nn/yomabank> respectively.
[14] Xinhua's report is here cited from The Irrawaddy, vol.10, no.4, May 2002.
[15] For the purposes of further comparison, the cash-to-deposits ratios
for countries such as
[16] Asia Wealth Bank website, op.cit.
[17] State Department estimate cited from the account of the visit of
Professor Lynne Doti to
[18] There is, of course, much written on the evils of money laundering - but approachable introductions to the topic can be found at the websites of the Financial Crimes Enforcement Network of the US Treasury <http://www.ustreas.gov/fincen/index.html>, and at FATF's website, <http://www.fatf-gafi.org/>.
[19] United States Department of the Treasury, Financial Crimes
Enforcement Network, FinCEN Advisory, 'Transactions
Involving Burma (
[20] ibid.
[21] See also 'Myanmar Clarifies Money Laundering Law', Daily Star News,
[22] See, for example, the proclamations on the website for Yoma Bank, op.cit.
[23] Claim made on Yoma Bank website, op.cit.
[24] These 10 'semi-private, semi-government' banks are Myanmar Citizens Bank, Myawaddy Bank, Co-operative Bank, Yadanabon Bank, Yangon City Bank, Myanmar Livestock Breeding and Fisheries Development Bank, Myanmar Industrial Development Bank, Sibin Tharyar Yay Bank, Co-operative Farmers Bank, Co-operative Promoters Bank. This list is derived form World Bank (1999). I am grateful to Eric Snider for alerting me to this extremely important issue.
[25] Hernando
[26] That is, merely consisting of what economists label as 'structural' and 'frictional' unemployment.
[27] Such over-investment in government paper is, of course, precisely
what is observed (above) in the balance sheets of
[28] Contrary to the myth-making, Argentina's subsequent macroeconomic
instability was not caused by its (now defunct) currency board (like) system,
but the usual suspects of excessive (mostly regional) government spending, debt
accumulation, institutional failure and corruption. As such,
[29] The Basel Capital Accord was originally designed for
'internationally active banks' in the G-10 countries. For a critical assessment
of the use of the
[30] Details of the Central Bank of
[31] Under British colonial rule control of finance and other commercial
activities tended to be concentrated amongst various immigrant groups, but
especially Europeans and Indians. The latter were especially dominant in
small-scale lending. Following independence in 1948
[32] According to the IMF (2002),
[33]
[34] The remaining authorised six were Asia Wealth Bank, Myawaddy Bank, Kanbawza Bank, Myanmar Universal Bank, Innwa Bank and the Cooperative Farmers Bank (Maung Maung Oo, 2001b).
[35] As noted above, foreign exchange activities amongst the banks are now limited to the state-owned Myanma Foreign Trade Bank and Myanma Investment and Commercial Bank.
[36] Whether or not a joint venture bank could seek property collateral
or not would depend upon the relative share of its capital that was contributed
by the foreign and domestic partners. As the 1987 Law currently stands, a joint
venture that had foreign equity in excess of 49 percent of capital would not be
permitted to own land in
[38] For a comprehensive discussion of the relative merits of financial liberalisation, see Fry (1997) and Singh (1997).
[39] See, for example, the approach taken by
[40] Of course, in societies governed by laws, independence of institutions from government can be established by legislation. In the absence of this virtue, the World Bank is surely correct in its assessment (2002, p.87) that, 'privatisation may be the only way to ensure this [independence] effectively'.
[41] There is an argument that banking crises can do some good. According to Siegelbaum (1997, p.5), banking crises;
'…reveal systemic weaknesses, teach lessons about human failings and highlight the political nature of banking regulation and intervention. In addition, they provide a critical 'reality check' for politicians who have never seen their potential for harm. At least in the early stages of the transition, crises tend to die out quickly'.
Siegelbaum also defends banking crises on the basis that many developing and
transition economies have more banks than their market size can support -
crises accordingly 'weed them out'.
[42] For details of
[43] According to a survey conducted by the Economist Intelligence Unit,
and reported in The Economist (
[44] As Hawkins and Mihaljek (2001, p.30)
note, quite a few countries in
[45]
[46] Given that their own lending is based upon maintaining a certain level of reserves, foreign banks (especially as constituted as branches) operate not unlike 'mini-currency boards' themselves.
[47] Founded by the former World Bank economist, Muhammad Yunus, the Grameen family of
organisations is very much the 'poster child' of microfinance.
Though established in
[48] For more on these approach categories, now widely used in the microfinance literature, see Gulli (1998).
[49] A regional example of a large ($US273 million) and apparently
successful microfinance scheme supported by a
multilateral financial institution (the World Bank) is the Kecamatan
Development Program in
[50] The role for host governments in supporting microfinance are similar in that the most important set of policies they can adopt is those that establish the requisite institutional framework. According to Gulli (1998, pp.83-84):
Government's main role is to establish the overall conditions necessary for investment and growth of microfinance. By maintaining economic stability and competitive markets, fostering political plurality, developing the appropriate legal and regulatory framework, and promoting sensible oversight, government can help create an environment that facilitates the proliferation and strengthening of financial institutions that serve the microenterprise sector.
This framework is, of course, roughly
that required for the development of financial institutions broadly. As also
noted previously, it's also a framework greatly lacking in
[51] Details of this scheme can be found at the website of the Grameen Foundation of the
[52] 'PACT' stands for 'Private Agencies Collaborating Together', and is
something of an umbrella group for a number of US charities and NGOs. Details
of PACT's operations in
[53] Return cited from AWB website, op.cit.
[54] News report, The Irrawaddy, June 2000, vol,8, no.6.
[55] Cited from The Irrawaddy, February
1998,
[56] ibid.
[57] Kyee-Mohn U Thaung’s comments are reproduced at http://rebound88.tripod.com/gp/eco/eco.html.
[58] For these comments, see http://www.criminallawyers.ca/newslett/oct96/11copela.htm.