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Microcredit, microsavings…but what about micropayments?

Ignacio Mas's picture

Why is the term microfinance still used by so many as if it were synonymous with microcredit? Credit is only one form of finance. All the more thoughtful commentators on the Andhra Pradesh crisis agree that debt should not be the only financing option available to poor people.

In a recent blog post, my colleague Jake Kendall and I explained how the Financial Services for the Poor team at the Bill & Melinda Gates Foundation focuses on savings because it’s an option that everyone should have and because we felt donors have neglected it in the past.

But there is another service that has received even less attention from the microfinance community: payments. When is the last time you were at a microfinance conference and someone mentioned the payment needs of the poor with any degree of passion? And why do academic researchers devote so little attention to it?

What Explains Comovement in Stock Market Returns during the 2007–08 Crisis?

Maria Soledad Martinez Peria's picture

The 2007–08 financial crisis was one of historic dimensions—few would dispute that it was one of the broadest, deepest, and most complex crises since the Great Depression. Initially, however, the crisis seemed to be of rather limited scope, and many thought countries would be able to “decouple” from events in the United States. But after Lehman Brothers collapsed in September 2008, the crisis spread rapidly across institutions, markets, and borders. There were massive failures of financial institutions and a staggering collapse in asset values in developed and developing countries alike. Nonetheless, the reactions of stock markets varied widely around the globe, with some countries showing greater comovement with the US market than others (figure 1).

Together with Tatiana Didier, we empirically investigate the factors that determine comovement between stock market returns in the United States and those in 83 other countries in a recent paper. In particular, we evaluate the extent to which comovement with US stock market returns during this recent turbulent period was driven by real linkages, was driven by financial linkages, or was the consequence of “demonstration effects” (see Goldstein 1998 and Masson 1998), in which investors became aware of vulnerabilities present in the US context and reassessed the risks in other countries, reevaluating the value of their stockholdings.

Lending to Bank Insiders: Crony Capitalism or a Fast Track to Financial Development?

Bob Cull's picture

Bankers often extend credit to firms owned by their close business associates, members of their own families or clans, or businesses that they themselves own. On the one hand, this allows banks to overcome information asymmetries and creates mechanisms for bankers to monitor borrowers. But on the other hand, related lending makes it possible for insiders—bank directors—to expropriate value from outsiders, be they minority shareholders, depositors, or taxpayers (when there is under-funded deposit insurance). The evidence suggests that during an economic crisis insiders have strong incentives to loot the resources of the bank to rescue their other enterprises, thereby expropriating value from outsiders. In a crisis, loan repayment by unrelated parties worsens, and banks thus find it more difficult to reimburse depositors and continue operations. Consequently, insiders perform a bit of self-interested triage: they make loans to themselves, and then default on those loans in order to save their non-bank enterprises. Outsiders, of course, know that they may be expropriated, and therefore behave accordingly: they refrain from investing their wealth in banks, either as shareholders or depositors. The combination of tunneling by directors, the resulting instability of the banking system, and the reluctance of outsiders to entrust their wealth in banks results in a small banking system.

And yet, the economic histories of many developed countries (the United States, Germany, and Japan) indicate strongly that related lending had a positive effect on the development of banking systems. If related lending is pernicious, why then did it characterize the banking systems of advanced industrial countries during their periods of rapid growth? In fact, related lending is still widespread in those same countries.

The AAF Virtual Debates: Can state-owned banks play an important role in promoting financial stability and access?

Ryan Hahn's picture

Polling is Closed!

The AAF Virtual Debate poll has closed, and the final votes are in. In the final tally, there were 153 "yes" votes and 51 "no" votes in response to the question: "Can state-owned banks play an important role in promoting financial stability and access?" Additional comments on this debate are still welcome.

Thanks to everyone who voted or left a comment—we look forward to hosting more debates in the future. If there are particular questions you would like to see debated on the AAF blog, please suggest them in the comments section.

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Introducing the AAF Virtual Debate

From February 2-14, the All About Finance blog is hosting a virtual debate on state-owned banks. Asli has invited Professors Franklin Allen and Charles Calomiris to weigh in on the issue. Readers can make their voices heard in the comments section of this post and by voting in a poll here. The results of the poll are displayed below. 
 

The AAF Virtual Debate Blog Posts


 

The AAF Virtual Debate Reading List

For key articles and books on state-owned banks, please see the AAF Virtual Debate Reading List.
 

Vote in the AAF Virtual Debate Poll: "Can state-owned banks play an important role in promoting financial stability and access?"

Cast your vote now! Voting will be open until February 14 at 5PM EST. Please be patient, as it will require a few minutes for your vote to be added to the tally.

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The AAF Virtual Debates: Charles Calomiris's Response on State-Owned Banks

Charles Calomiris's picture

I have to admit, I am a bit puzzled by my friend Franklin Allen’s first entry in this debate. There simply is no evidence—none—in support of his statement that mixed systems of state and private banking tend to be a good idea. And his mention of China is doubly puzzling. China’s state-owned banks have been a disaster, fiscally, allocatively, and socially. They cost the Chinese people hundreds of billions of dollars in bailout costs a decade ago, and, according to most informed observers, may very well soon repeat a similar magnitude of losses. Allocatively, they are famously wasteful of resources, as they have been a political tool for propping up the unproductive state-owned sector, which explains their continuing huge losses (recognized and unrecognized). The internal corporate governance of these unwieldy institutions is a nightmare. The financing arrangements that have succeeded in attracting private capital are well understood to be a political deal between global banks and the Chinese government; global banks invest in the state-owned sector as part of the price they must pay for entry into the Chinese market. And these banks are the central nexus of corruption and influence peddling in Chinese society. China’s growth has occurred in spite of these banks’ distorted lending policies, not because of them.

Some observers have wondered how it was possible for China to grow despite the lack of a deep private formal lending sector. The answer is simple: If a country’s basic economic development is constrained for centuries, then when economic liberalization finally occurs, the marginal product of capital is huge and high returns can be generated from almost any reasonably well-managed enterprise. If retained earnings can reliably earn high annual returns irrespective of how they are invested, growth will be rapid even without a banking system. But that initial bank-independent growth is not sustainable. The Chinese government’s recent financial policy initiatives show that it is well aware that China’s continuing growth is highly dependent on its ability to develop the legal, political, and institutional foundations that will support increasingly selective, private, arms-length lending for productive investments. That transformation of the Chinese banking system is a future prospect, not a current reality, and it is by no means a certainty (see, for example, Minxin Pei’s book, China’s Trapped Transition, or the contributions to my edited volume, China’s Financial Transition at the Crossroads).

The AAF Virtual Debates: Franklin Allen's Response on State-Owned Banks

Franklin Allen's picture

Charlie and Nachiket Mor raise very good points about the problems posed by public banks. India illustrates many of these difficulties—there is much too much political interference, regulations are designed to help state banks, and so forth. But India’s mix of banks is about four-fifths state-owned and only one-fifth privately owned. I’m suggesting precisely the inverse: about one-fifth of the banking sector would be state-owned and four-fifths would be privately owned. Reducing the share of state-owned banks to this minimal level should help alleviate many of the political economy issues. The state-owned commercial banks would need to compete with private banks in normal times as discussed in the blog and this should also act as a constraint on the problems.

The real advantage would come when there is a crisis. Rather than having central banks intervene in commercial credit markets where they have little expertise, the state-owned commercial bank can temporarily expand its role both in terms of assets and loans. This should considerably improve the functioning of the economy and overcome some of the credit crunch problems that Charlie has identified in his research and discusses in his post. The government should also find it easier to avoid bailouts and allow private banks to fail, which is an issue that recurs with every financial crisis. The most recent crisis is a clear case in point: at the moment large banks are not really privately owned. Large banks are privately owned until they get into trouble, at which point the state takes over ownership.

The AAF Virtual Debates: Charles Calomiris on State-Owned Banks

Charles Calomiris's picture

Editor's Note: The following post was submitted by Charles Calomiris, the Henry Kaufman Professor of Financial Institutions at Columbia University, as part of the AAF Virtual Debates. In this opening statement, Professor Calomiris gives a negative answer to the question: "Can state-owned banks play an important role in promoting financial stability and access?"

It is quite correct to say, as Asli’s introduction to this debate noted, that academic work strongly supports “a growing consensus that the track record of state-owned banks has been quite poor” and has been associated with “inefficiencies, increased risk of crises, and less inclusion and greater concentration of credit,” and support for “cronies.” Not only do studies of the performance of state-controlled banks confirm these findings over and over again, the presence of state-controlled banks is so clearly understood to be a poisonous influence on financial systems that measures of the presence of state banking are often used as control variables when evaluating the performance of private banks. These studies indicate powerfully the negative effects of state-controlled banks on the banking systems of the countries in which they operate. The winding down of state-controlled banks was rightly celebrated in many countries in the 1990s as creating new potential for economic growth and political reform.

Why are state banks such a disaster? There are three main reasons:

The AAF Virtual Debates: Franklin Allen on State-Owned Banks

Franklin Allen's picture

Editor's Note: The following post was submitted by Franklin Allen, the Nippon Life Professor of Finance and Economics at the Wharton School, as part of the AAF Virtual Debates. In this opening statement, Professor Allen gives an affirmative answer to the question: "Can state-owned banks play an important role in promoting financial stability and access?"

The prevailing view in the academic literature holds that private banks are much superior to state-owned or public banks. In many emerging-market countries public banks have been corrupt and inefficient. In contrast private banks have performed much better in terms of efficiently allocating resources over the long run.

However, the crisis has underlined the fact that public banks enjoy several advantages over private banks, and their merits may need to be reevaluated. At the height of the crisis in the fall of 2009, the three largest banks by market capitalization in the world were all state-owned:  the Industrial and Commercial Bank of China, China Construction Bank, and Bank of China. Although they are publicly listed, the Chinese government owns the majority of their shares. Their structure provides an interesting governance model. Perhaps more importantly, most large privately owned banks in Europe and the U.S. received government funds and guarantees during the crisis. Without this government intervention, many would have failed. The governments bore the downside risk but without full control, generating a significant moral hazard problem in these banks’ future operations.

Bank Lending to SMEs: How Much Does Type of Bank Ownership Matter?

Asli Demirgüç-Kunt's picture

Small and medium-size enterprises (SMEs) account for close to 60 percent of global manufacturing employment. So it is no surprise that financing for SMEs has been a subject of great interest to both policymakers and researchers. More important, a number of studies using firm-level survey data have shown that SMEs perceive access to finance and the cost of credit to be greater obstacles than large firms do—and that these factors really do constrain the growth of SMEs.

In recent years a debate has emerged about the nature of bank financing for SMEs: Are small domestic private banks more likely to finance SMEs because they are better suited to engage in “relationship lending,” which requires continual, personalized, direct contact with SMEs in the local community in which they operate? Or can large foreign banks with centralized organizational structures be as effective in lending to SMEs through arm’s-length approaches (such as asset-based lending, factoring, leasing, fixed-asset lending, and credit scoring)? And how well do state-owned banks—for which expanding access to finance is often among their top objectives—serve SMEs?

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