The Role of Public Banks:The Role of Public Banks:Selected Policy and Reform IssuesSelected Policy and Reform Issues

Augusto de la Torre World Bank

Inter-American Development BankWashington, DC

XX Meeting of the Latin American NetworkXX Meeting of the Latin American Networkof Central Banks and Finance Ministriesof Central Banks and Finance Ministries

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AgendaAgenda

Public bank reform debate – let’s be realistic

The “Sisyphus syndrome”

The “enabling environment”

“Development agency” functions

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Public Bank Reform Debate – Reality TherapyPublic Bank Reform Debate – Reality Therapy

The problem: the access to financial services for under-served, large populations seems trapped in a low-level equilibrium

Diagnoses often wrong and “solutions” may do more damage than good, but politicians and policy makers will not cease to worry

The extreme policy solutionsAt one end: subsidized lending through public banksAt the other end: privatization or liquidation of public banks and restrict the government’s role solely to “improving the enabling environment”

The shortcomings of extreme solutionsSubsidized lending—“being there, done that, and did not work”Enabling environment only—a political non-starter (and possibly wrong on technical economic grounds)

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Public Bank Reform Debate – Reality Therapy (cont.)Public Bank Reform Debate – Reality Therapy (cont.)

Realistic Prop. 1: public banks or banking functions, as a means to pursue social/development policy objectives, are unlikely to disappear

Even in developed countries

Realistic Prop. 2: the role of public banks and type of reform needed depends on degree of fin’l development and int’l integration

Across countries: mechanical transplants can backfireFor the same country: what works in one epoch does not work in other

Realistic Prop. 3: durable reforms tend find an adequate solution (or mitigation) of the “Sisyphus Syndrome”

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Sisyphus Syndrome: Banking vs. Social Policy MandateSisyphus Syndrome: Banking vs. Social Policy Mandate

The Sisyphus syndromeSocial policy mandate => concentration on high risk/low return activities=> systematic losses and recurrent recapitalizations=> improvements in governance and supervision => re-orientation towards high return/low risk activities, in direct

competition with private banks => insufficient attention to social policy mandate => political pressures to implement social policy mandate

Privatization ignores social policy mandate

Neither governance/supervision improvements, nor shift towards second-tier banking eliminate completely the Sisyphus syndrome

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Public Policy – The Enabling EnvironmentPublic Policy – The Enabling Environment

Can’t go wrong in trying to improve enabling environment

Attack underlying causes of shallow systems and other symptoms (abuse of collateral, short-termism, dollarization, etc.)

Fiscal & monetary institutions to reduce macro volatility

Contractual institutions

Market-friendly regulatory and supervisory framework

Financial market infrastructureInformation on debtors

Accounting and disclosure standards

Corporate governance

Contractual environment (movable collateral; shareholder & creditor rights; corporate insolvency proceedings)

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Public Policy – Intermediate Options?Public Policy – Intermediate Options?

What to do with public sector banks?

Fully separate terms of the contradictionDevelopment bank without social policy mandate = private bankSocial policy mandate without a bank => vehicle?

Mixed solutionsIncrease emphasis on “development agency” – value functions to promote financial markets……with non-subsidized second-tier public sector banking…exiting first-tier in asset side (e.g., Pahnal) or liability side (e.g., Financiera Rural)… and phase out lending and other banking activities as financial markets develop

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Public Policy – Development Agency FunctionsPublic Policy – Development Agency Functions

A “development agency”(DA) is not a bank. What is it?Flexible vehicle for focused public policyOperates principally with budgeted fiscal transfersPriorities are determined and scrutinized by Congress within the budgetary processOwn evaluation criteria – e.g., benefits per unit of subsidy, subject to promotion of financial marketsMay or may not include risk takingCan be part of a second-tier development bank

Illustrative casesThe BANSEFI experiment—upgrading the cooperative sectorNAFIN—creation of market for working capital through receivablesFIRA—brokerage and bundling of hedges; structured finance operations; transactions cost subsidies