The following is the keynote speech at The Asian Banker Summit 2007 by Jaime Caruana, director of the Monetary and Capital Markets Department, for the International Monetary Fund.
Ladies and gentlemen, thank you very much for inviting me to speak at this year’s Asian Banker Summit. I am very pleased I could join you here in Jakarta. As you know, the International Monetary Fund has a keen interest in financial sector issues in the rapidly developing Asian region. Congratulations also for organizing such a comprehensive conference on risk management and governance.
The world is changing rapidly, and Asia is a key participant in these changes. From the financial markets perspective let me mention three important structural changes that are taking place: the growing integration and new role of emerging market countries in the global economy; the growing innovation, sophistication and complexity of financial markets and risk management; and the third is the increasingly important interaction between the financial sector and the real economy. This interaction that is not only stronger but also more complex and global. The result is more opportunities and also more challenges.
Against this backdrop, today, I will speak about the challenges and opportunities of banks in the context of the increasing financial integration in Asia.
If I had to summarize my presentation today, I would do it in two basic equations:
INTEGRATION + APPROPRIATE FRAMEWORK AND POLICIES =
=GROWTH + FINANCIAL STABILITY FOR THE ECONOMY
INTEGRATION + SOUND RISK MANAGEMENT =
= STRATEGIC OPPORTUNITIES FOR BANKS (COMPETITIVENES+PROFITABILITY+SOUNDNESS)
As you can see I mentioned “Integration” twice. Perhaps I should explain why I think integration is so important. In addition to theoretical arguments and empirical evidence, I come from Spain, a country that has benefited enormously from integration, in our case from European integration. The dynamics of the process created more opportunities than any could anticipate and the financial system became stronger and more profitable.
We thought that integration was the proper answer to rapid globalization. We embraced the idea that further integration was not the problem but the solution, and this idea was able to catalyze changes and reforms in the right direction. This is one of the reasons why I think that integration, properly managed, brings tangible benefits. Asia’s financial integration with the world is well advanced and important steps had been taken to deepen regional integration and economic cooperation.
Asia is a region featuring very dynamic economies, which have enjoyed high and stable growth rates recently. Growth in emerging and developing Asia has averaged approximately 9 percent over the last few years. Meanwhile, inflation has remained broadly in check. Asia’s growth performance has benefited from rapid productivity increases. These productivity increases in turn have benefited from high standards of education, so as to support skill- and innovation-based industries and move up the value-added chain. At the same time, large investments in physical infrastructure have taken place. Still, infrastructure bottlenecks remain a barrier to investment in a number of countries. The World Bank recently estimated that $2.5 trillion must be spent over the next decade to improve the region’s infrastructure. The financing of investment on this scale will present a challenge to the authorities and financial systems in the region. Thus, the continuation of strong growth performance will require substantial investment, including in infrastructure, which will need to be financed.
At the same time, the relatively high savings in the region present an opportunity to gain substantial benefits from further improvements in financial intermediation. Savings rates in developing Asia as well as in the newly industrialized countries in Asia stand at well over 30 percent of GDP on average over the last 10 years; significantly higher than the world average of slightly above 20 percent. This amounts to over $2 trillion in savings annually. Much of these savings flow to developed economies, often in the form of holdings of government paper of advanced economies. A significant part of these funds are subsequently recycled back into the region in the form capital inflows, sometimes more volatile. Boosting the level of regional financial intermediation would present an opportunity to improve both growth and stability.
While changes in macroeconomic policies are key in addressing this issue, improved intermediation of savings in the region by building stronger financial systems and increasing integration will play an important role as well. Large, open, and integrated financial systems generally bring a number of benefits, including greater competition and efficiency of financial institutions, product innovation, lower cost of capital, longer maturity of financing, greater diversification of risks, greater liquidity in traded securities, increased transparency, and more sophisticated risk management. More efficient financial intermediation leads to a better allocation of risks and resources, which in turn delivers higher average growth rates. In Europe, the European Central Bank estimates that the integration of the bond and equity markets alone has contributed over 1 percent of GDP, or approximately € 100 billion, over a ten year period. Overall, financial integration can help a country develop its financial sector, making resource allocation more efficient and the economy more resilient to shocks. At the same time, financial integration carries risks that must be anticipated and managed.
What is the current state of integration of financial systems in Asia? While trade openness, as measured by the ratio of goods and services trade to GDP, has increased in nearly all countries in Asia and, on average, is higher than in most other regions of the world, regional financial integration has been more sluggish. Although Asia’s financial integration with the world is well advanced by some measures, including net private capital flows, foreign participation in some markets, and stock market correlations, the picture is mixed if we use other measures. For example, total financial liabilities in Asia are typically lower than in other regions of the word. Asia’s foreign portfolio liabilities and assets are limited in terms of GDP and accrue mainly to the EU15 and North America, while for example the EU’s (in relative terms much larger) foreign liabilities and assets mainly originate in the EU itself. Moreover, intraregional financial integration, measured, for example, directly by cross-border cap
