Latin Finance - May 2008 - 90

claudio loser Will the Next 20 Years be Better? by Claudio Loser** or many years the financial system in Latin America has remained small compared to other areas of the world. Limited availability of financial credit and great macroeconomic and financial instability imposed serious constraints to LatAm economic growth and contributed to high volatility in its performance. This was aggravated by frequent balance of payments crises, debt and banking defaults, as well as persistently high inflation. Furthermore, banking rules and regulations were lacking or applied capriciously, increasing the suspicions of potential local and foreign investors, who preferred to invest outside the financial system, or in safe heavens abroad. As these facts became increasingly recognized, many countries of the region took steps to reform and liberalize their financial systems, including reductions in government controls. Financial liberalization spurred credit growth during the early part of the 1990s, but bank lending slowed after a series of banking crises in the mid-1990s. In the process of reform there was a need to attain a balance between appropriate liberalization and adequate government regulation. Failure to accomplish a proper balance led to financial crises in many countries, including Argentina, Brazil, the Dominican Republic, Ecuador, Mexico, Uruguay and Venezuela. Subsequently, financial institution restructuring and regulatory reforms were introduced to help strengthen banking systems in a number of countries. Such reforms have generally been successful in increasing the quality of financial intermediation and in improving economic performance, particularly since the beginning of the decade. F LatAm financial systems are small and inward-looking, after a long and difficult period of boom and bust. The next 20 years represent a capital markets opportunity. GDP in Europe and 430% in North America. The ratio in emerging Asia is close to 300% of GDP, while in LatAm it is only around 150% of GDP. Stunted Capital Markets Growth In most LatAm countries, the private sector’s use of bond and equity markets to provide finance remains limited relative to its recourse to banks. Furthermore, and despite their prominence, banking systems are small and highly concentrated, intermediation margins are high, and the scale of bank lending is low relative to GDP. Depositto-GDP ratios are less than 50%, compared with ratios of 120% in East Asian emerging markets. Moreover, bank credit to the private sector represents only roughly a third of bank assets, with most of the remainder invested in government bonds. Lending is directed mainly at consumer credit, while investment tends to be financed from retained earnings or non-bank and foreign sources. The development of capital markets has been limited also by the size of institutional investors, mainly pension funds and insurance companies. Pension funds are the largest institutional investors and are strategically important as they invest with a long-term horizon, but remain small except in Chile. The LatAm stock markets are lagging behind other regions, with a capitalization to GDP about a third of that of Asia and the US. The number of listed companies is small and was shrinking until recently, when this trend was partly reversed as corporates in countries like Major challenge looms in next 20 years: Loser As investment and finance have become a global issue, capital markets have become increasingly integrated into a global system, with new large players arising in the Asia-Pacific region and the EU. A number of governments and institutions have sought an equivalent process in LatAm, but progress has been disappointing. As has been described in detail in papers by this author and by Miguel Kiguel*, LatAm financial systems have remained small and inward-looking. They are largely bank-based, with mostly small and illiquid security markets, except for public debt. One measure of the size of the domestic capital is the sum of bonds, equities and bank assets as a proportion of GDP. These assets are equivalent to 540% of 90 LATINFINANCE May 2008

Latin Finance - May 2008

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