The use of asset management companies in the resolution of banking crises - cross-country experience

Asset management companies have been used to address the overhang of bad debt in the financial system. There are two main types of asset management company: those set up to expedite corporate restructuring and those established for rapid disposal of assets. A review of seven asset management companies reveals a mixed record. In two of three cases, asset management companies for corporate restructuring did not achieve their narrow goal of expediting bank or corporate restructuring, suggesting that they are not good vehicles for expediting corporate restructuring. Only a Swedish asset management company successfully managed its portfolio, acting sometimes as lead agent in restructuring - and helped by the fact that the assets acquired had mostly to do with real estate, not manufacturing, which is harder to restructure, and represented a small fraction of the banking system's assets, which made it easier for the company to remain independent of political pressures and to sell assets back to the private sector. Asset management companies used to dispose of assets, rapidly fared somewhat better. Two of four agencies (in Spain and the United States) achieved their objectives, suggesting that asset management companies can be used effectively for narrowly defined purposes of resolving insolvent and inviable financial institutions, and selling off their assets. Achieving these objectives required an easily liquefiable asset - real estate - mostly professional management, political independence, adequate bankruptcy, and foreclosure laws, appropriate funding, skilled resources, good information and management systems, and transparent operations and processes. The other two agencies (in Mexico and the Philippines) were doomed from the start, as governments transferred to them politically motivated loans or fraudulent assets, which were difficult for a government agency susceptible to political pressure and lacking independence to resolve or sell off.Banks&Banking Reform,International Terrorism&Counterterrorism,Financial Crisis Management&Restructuring,Payment Systems&Infrastructure,Municipal Financial Management,Financial Crisis Management&Restructuring,International Terrorism&Counterterrorism,Municipal Financial Management,Financial Intermediation,Banks&Banking Reform

Controlling the fiscal costs of banking crises

In recent decades, a majority of countries have experienced a systemic banking crisis requiring a major-and expensive-overhaul of their banking system. Not only do banking crises hit the budget with outlays that must be absorbed by higher taxes (or spending cuts), but they are costly in terms of forgone economic output. Many different policy recommendations have been made for limiting the cost of crises, but there has been little systematic effort to see which recommendations work in practice. The authors try to quantify the extent to which fiscal outlays incurred in resolving banking distress can be attributed to crisis management measures of a particular kind adopted by the government in the early years of the crisis. They find evidence that certain crisis management strategies appear to add greatly to fiscal costs: unlimited deposit guarantees, open-ended liquidity support, repeated recapitalization, debtor bail-outs, and regulatory forbearance. Their findings clearly tilt the balance in favor of a strict rather than an accommodating approach to crisis resolution. At the very least, regulatory authorities who choose an accommodating or gradualist approach to an emerging crisis must be sure they have some other way to control risk-taking.Economic Theory&Research,Banks&Banking Reform,Financial Crisis Management&Restructuring,Payment Systems&Infrastructure,Financial Intermediation,Financial Crisis Management&Restructuring,Economic Theory&Research,National Governance,Financial Intermediation,Banks&Banking Reform

Why infrastructure financing facilities often fall short of their objectives

To encourage the private funding and provision of infrastructure services, governments have used specialized financing facilities to offer financial support to investors, often in the form of grants, soft loans, or guarantees. The authors present case studies of infrastructure financing facilities in various stages of development in Colombia, India, and Pakistan. They also present case studies of government-sponsored financing facilities (not of infrastructure) in Argentina, and Moldova. They find that these facilities have often fallen short of their objectives for two main reasons. First, the environment was not conducive to private participation in infrastructure because of poor sector policies, an unstable macroeconomic environment, and inadequate financial sector policies, among other reasons. Second, the facility was faulty in design - in terms of sectors targeted, pricing of instruments, and consistency of objectives, and instruments.Decentralization,Banks&Banking Reform,Payment Systems&Infrastructure,Public Sector Economics&Finance,Municipal Financial Management,Municipal Financial Management,Banks&Banking Reform,Housing Finance,Public Sector Economics&Finance,National Governance

Alternative frameworks for providing financial services

Drawing on country experience, the authors analyze alternative frameworks for providing financial services. Scope of permissible activities: The integrated banking model (commercial banking fully integrated with other financial services, including investment banking) benefits both financial institutions and consumers. Potential costs, such as extending the safety net to non-deposit financial services, can be mitigated with safeguards and firewalls, which require regulatory enforcement and monitoring. Internationally, countries are moving toward the integrated model. The wider scope of services appears to improve financial stability and mitigate the risk of a banking crisis. Degree of competitiveness and contestability (openness to competition): Competitiveness need not only require many financial institutions; a concentrated system can be competitive if contestable. Allowing the liberal entry of foreign banks lowers the franchise value of (domestic) institutions, but the evidence suggests that on balance foreign entry provides important benefits. Systems should not be over-competitive, however. They should allow enough franchise value that future profits give institutions an incentive to behave prudently. Design of safety net: the design of the safety net is important in the tradeoff between ensuring the safety and soundness of financial institutions and allocating resources efficiently. A well-functioning safety net minimizes regulatory forbearance and gives banks incentives to act prudently. Owners of financial institutions behave more prudently if they have much at risk, in the form of capital, future expected profits, or their own jobs. The wrong safety net, especially the wrong deposit insurance, entails great moral hazard. Large deposit holders are more likely to provide market discipline if they are not covered by deposit insurance (explicit or implicit), if disclosure is extensive, and if the accounting framework is adequate. Supervision: Best international practice suggests that supervision of the financial conglomerate should probably be consolidated in one agency. Supervisors should have incentives both to monitor and to take appropriate action. Supervisory salaries should be sufficient, relative to those in the private sector, to attract and retain competent and motivated staff.Payment Systems&Infrastructure,Banks&Banking Reform,Environmental Economics&Policies,Financial Intermediation,Labor Policies,Banks&Banking Reform,Financial Intermediation,Environmental Economics&Policies,Knowledge Economy,Education for the Knowledge Economy

Decentralized credtor-led corporate restructuring - cross-country experience

Countries that have experienced banking crises have adopted oneof two distinct approaches toward the resolution of non-performing assets-a centralized or a decentralized solution. A centralized approach entails setting up a government agency-an asset management company-with the full responsibility for acquiring, restructuring, and selling of the assets. A decentralized approach relies on banks and other creditors to manage and resolve non-performing assets. The authors study banking crises where governments adopted a decentralized, creditor-led workout strategy following systemic crises. They use a case study approach and analyze seven banking crises in which governments mainly relied on banks to resolve non-performing assets. The study suggests that out of the seven cases, only Chile, Norway, and Poland successfully restructured their corporate sectors with companies attaining viable financial structures. The analysis underscores that as in the case of a centralized strategy the prerequisites for a successful decentralized restructuring strategy are manifold. The successful countries significantly improved the banking system's capital position, enabling banks to write down loan losses; banks as well as corporations had adequate incentives to engage in corporate restructuring; and ownership links between banks and corporations were limited or severed during crises.Financial Intermediation,Financial Crisis Management&Restructuring,Payment Systems&Infrastructure,Banks&Banking Reform,International Terrorism&Counterterrorism,Banks&Banking Reform,Financial Crisis Management&Restructuring,Financial Intermediation,International Terrorism&Counterterrorism,Banking Law

Bank insolvencies : cross-country experience

Few areas of the world have escaped significant losses from episodes of bank insolvency. Bank insolvency is more costly in the developing world, where losses represent a greater share of income. The authors present data on bank insolvency episodes since the late 1970s. This new database can be used in conjunction with readily available data. Information and insights are presented in seven tables on: a) major bank insolvencies episodes and systemic banking crises; b) main characteristics of banking crises; c) trade terms in crisis countries; d) trade concentration prior to crises; e) restructuring characteristics; f) financial analysis of crisis countries; and g) restructuring outcome in crisis countries. In a companion paper the authors discuss possible preventatives and the tradeoff between safety and soundness versus efficiency. Meanwhile, this initial database suggests further avenues for research. There is a dearth of widely available indicators on bank performance. More attention should be focused on developing indicators that might predict bank insolvency for individual banks and systems as a whole. The authors devise criteria for assessing how governments deal with insolvency and find that countries handle it well.Financial Crisis Management&Restructuring,Banks&Banking Reform,Payment Systems&Infrastructure,Financial Intermediation,Decentralization,Banks&Banking Reform,Financial Crisis Management&Restructuring,Financial Intermediation,Banking Law,Municipal Financial Management

Government bonds in domestic and foreign currency: the role of macroeconomic and institutional factors

The development of government bond markets and, in particular, their currency composition have recently received much interest, partly because of their relation with financial crises. The authors study the determinants of the size and currency composition of government bond markets for a panel of industrial and developing countries. They find that countries with larger economies, greater domestic investor bases, and more flexible exchange rate regimes have larger domestic currency bond markets, while smaller economies rely more on foreign currency bonds. Better institutional frameworks and macroeconomic fundamentals enhance both domestic currency bond markets and increase countries'ability to issue foreign currency bonds, while they raise the share of foreign exchange bonds.Economic Theory&Research,International Terrorism&Counterterrorism,Environmental Economics&Policies,Payment Systems&Infrastructure,Banks&Banking Reform,Economic Theory&Research,Macroeconomic Management,Banks&Banking Reform,Environmental Economics&Policies,Public Sector Economics&Finance

Financial liberalization and the capital account : Thailand, 1988-97

The authors examine Thailand's macro-economy and micro-economy for the period 1988-97 to assess the extent to which the country's mix of macroeconomic and financial sector policies contributed to its economic crisis in 1997. They conclude that the crisis was fundamentally one of private sector debt, rooted in private behavior that affected the magnitude and composition of investment and how it was financed. Unlike the Latin American debt crisis, the Thai crisis was not caused by excessive sovereign borrowing. Financial sector weakness--including inadequate regulation and supervision, implicit deposit insurance, concentrated ownership structures, and poor accounting and disclosure--combined with liberalization of the financial sector and capital accounts, increased vulnerability by creating incentives for risk-taking by financial institutions. Many macroeconomic fundamentals were strong, but the combination of tight monetary policy and an inflexible exchange rate created strong incentives for residents to expose themselves to excessive foreign exchange and liquidity risks. Weak corporate governance, including close corporate links to the banking sector, encouraged risky investments and over-diversification in the corporate sector.Payment Systems&Infrastructure,Financial Intermediation,Banks&Banking Reform,International Terrorism&Counterterrorism,Economic Theory&Research,Banks&Banking Reform,Financial Intermediation,Economic Theory&Research,International Terrorism&Counterterrorism,Financial Economics

Financial Restructuring in Banking and Corporate Sector Crises: What Policies to Pursue?

We review the literature on resolving bank and corporate sector crises to identify government policies that affect the depth of a crisis and the ease and sustainability of recovery, and to analyze their fiscal cost. A consistent framework - including sufficient resources for loss-absorption and private agents facing the right framework of sticks and carrots - is the, although often missing key to successful bank and corporate restructuring. Sustainability of restructuring calls for deeper structural reforms, which often requires dealing with political economy factors up-front. Using data for 687 corporations from eight crisis countries, we find empirically that a package of specific resolution measures can help accelerate the recovery from a crisis. These policies, however, come with significant fiscal costs.

Financial crises, financial dependence, and industry growth

The authors investigate the link between financial crises and industry growth. They analyze data from 19 industrial and developing countries that have experienced financial crises during the past 30 years to investigate how financial crises affect sectors dependent on external sources of finance. Specifically, the authors examine whether the impact of a financial crisis on externally dependent sectors varies with the depth of the financial system. They find that sectors highly dependent on external finance tend to experience a greater contraction of value added during a crisis in deeper financial systems than in countries with shallower financial systems. They hypothesize that the deepening of the financial system allows sectors dependent on external finance to obtain relatively more external funding in normal periods, so a crisis in such countries would have a disproportionately negative effect on externally dependent sectors. In contrast, since externally dependent firms tend to obtain relatively less external financing in shallower financial systems (and hence have relatively lower growth rates in such countries during normal times), a crisis in such countries has less of a disproportionately negative effect on the growth of externally dependent sectors.Economic Conditions and Volatility,Payment Systems&Infrastructure,Banks&Banking Reform,Economic Theory&Research,International Terrorism&Counterterrorism,Economic Theory&Research,Governance Indicators,Banks&Banking Reform,Achieving Shared Growth,Economic Conditions and Volatility