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Working Paper

Readjustment of the Business Boundaries of Financial Intermediaries in Korea

페이스북
커버이미지
  • 저자 남상우(南相祐)
  • 발행일 1988/12/01
  • 시리즈 번호 8822
원문보기
요약 The experience of the Federal Republic of Germany and the
United States before and after the Glass-Steagall Act of 1933
indicate that universal banking can provide considerable benefits
while posing few problems for the economy. Universal banking
is likely to result in more financial stability as banks undertake
diversified activities and are less vulnerable to government
intervention in credit allocation, the latter with potentially
disastrous consequences. Due to economies of scope and more
efficient monitoring of borrowing firms by banks, universal
banking enhances the efficiency of intermediation and tends to
support economic development more effectively.

Furthermore, frequent charges that universal banking leads
to concentration of power, reduced competition and conflict of
interest abuses are found to be unsupported. Rather, a
specialized banking system seems more conducive to the
development of coalitions for political power and conflict of
interest abuses. The experiences of the advanced countries thus
clearly indicate that universal banking could be Korea's long-run
goal.

However, the realities of the Korean financial market make
it difficult to ignore some of the concerns associated with
universal banking. In particular, the institutions and practices
which exist in the advanced economies to minimize the
possibility of conflict of interest abuses are not yet firmly
established in the Korean market. If complete and reliable
information is to be available to all potential market participants
in Korea, properly functioning corporate disclosure procedures,
external auditing of banks and the services of credit rating
agencies should be further developed.

Also needed is effective regulation of unfair securities
transactions such as insider trading and price manipulation.
Given the current underdeveloped state of Korean financial and
capital markets, the underwriting of corporate securities could be
risky for commercial banks. The commercial banks could tie
their various services to the disadvantage of specialized
investment banking institutions. The entry of investment banking
institutions into commercial banking would also face strong
objections due to the large number of nonperforming loans which
have been incurred by commercial banks, largely in the course
of implementing the government directed-credit programs.

These considerations suggest that the movement toward
universal banking should be gradual, with the short-term
priorities being the establishment of the institutions and
procedures mentioned above and the restructuring of investment
banking institutions. The latter should be allowed to realize
economies of scope within investment banking by broadening
been undermined by the recent entry of commercial banks and
securities companies into the money market business, may be
allowed to convert to, or merge with, other investment banking
institutions. This would not only avoid arbitrary government
intervention but would also tend to equalize any economic rents
enjoyed by these institutions and maximize customer welfare.

Short- and Long-term securities businesses are generally
better provided under one roof. Thus, in the medium run, the
restructured investment banking institutions should be allowed to
provide more comprehensive investment banking services. Some
IFCs may be encouraged to play a pivotal role in the money
market, serving as brokers or dealers in the call market and a
new RP market for financial intermediaries. The business basis
of investment trust companies has also been undermined, as
other institutions have introduced similar services. This situation
will become more serious if SCs are allowed to undertake
investment trust in corporate and others bonds. However, since
arguments for prohibition SCs from providing this service are
not very convincing, it might be advisable for ITCs to establish
SCs and investment consulting firms as subsidiaries.

Concerning the entry into financial services by commercial
interests, few problems are expected as long as entry is free.
With entry barriers, however, the results are likely to be a
concentration of economic power and undue influence over the
political process accompanied by conflict of interest abuses. In
Korea, where large business groups enjoy substantial market
power in many of their business areas, there has been much
concern over the ownership of commercial banks by these
groups. This concern has led to tight ownership restrictions on
nationwide commercial banks, even though nonbank
intermediaries are free from such restrictions.

In the future, the be eased in view of the declining
dominance of banks in the Korea financial market, the
anticipated diminution of commercial bank uniqueness, and
reduced subsidy elements in commercial loans. It is therefore
suggested that a maximum permissible ownership share by a
business group might be introduced for nonbank intermediaries
as well. The ownership restrictions might be made selective,
imposing them only when nonbank intermediaries provide certain
services with a potential for conflict of interest abuses. There is
no convincing rationale for strictly restricting the ownership of
banks with no interests in nonfinancial firms.

The expansion of business boundaries coupled with reduced
government protection may, or course, result on some failures of
inefficient intermediaries. Therefore, to minimize financial
instability in the process of market restructuring, institutional
safeguards should be strengthened. The current implicit deposit
guarantee of the Government should be replaced by a more
efficient and equitable scheme to avoid bank runs. Though
operationally imprecise, some type of variable-rate premium or a
risk-related capital requirement may be feasible.

In the absence of deposit insurance with premiums fully
reflecting bank riskiness, prudential regulation would serve to
protect depositors and limit damage caused by poor management.
This is also essential for the development of a healthy capital
market. Regulation, however, is of limited value without efficient
mechanisms to deal with failing financial intermediaries. The
reorganization of troubled intermediaries can be best handled by
a deposit insurance agency, and should be undertaken shortly
before the market value of the intermediaries capital declines to
zero in order to avoid losses to the insurance agency and
uninsured depositors.
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