In: Root » Legal and finance » Market and Finances
Small size of the overall financial system Two basic indicators of financial development are the total volume of financial assets to reflect market size and financial assets per capita to reflect financial depth. Bythese two measures, manyemerging financial systems are quite small and shallow: theylack economies of scale and scope. Other things being equal, larger financial systems and larger banks are more efficient and more profitable than small ones for three basic reasons. A larger financial system will have lower fixed cost relative to its assets. It will have greater overall liquidityand its larger individual banks will also have less internal need for liquidity. Third, the system will be able to use its capital more efficientlythrough better pooling of risks without increasing the probabilityof insolvencyand instability. For an individual bank and other types of financial intermediaries, a larger scale and a stronger reputation also enhance each other. While economies of scale result from doing more of the same activity, economies of scope result from carrying out different but related activities. Financial innovation is more likelyto arise in larger markets where the necessaryinstruments, tools and know-how are alreadyavailable or can be more easilydeveloped. The smaller a financial system, the more incomplete its range of financial instruments and services is likelyto be for risk management and for funding. Global comparative data on financial systems from the International MonetaryFund's (IMF) International Financial Statistics, together with the demographic and economic structure of their economyfrom the World Bank's Development Indicators are available for the year 2000.8 This database covers 183 countries and shows that manyfinancial systems are in fact extremely small: that year, 63 countries had an aggregate financial sector size (measured by money supply M2) of less than US $1 billion, that is, no larger than a single small bank in an industrial country. These small systems are dispersed around the world. Yet in aggregate these small economies represent a population over 200 million, which is a total larger than either Indonesia, Brazil, Bangladesh or Russia. Ahigher threshold of US $10 billion would be the magnitude of the balance sheet of a medium-size bank in an industrial country.We find that 115 countries still fell under this second cut-off point. These countries accounted for a population of almost 820 million in 2000. These financial systems include all of Sub-Saharan Africa except Nigeria and South Africa, some large transition economies such as Ukraine and Vietnam, a number of Latin American countries and in particular all the countries of Central America, as well as the three Baltic States in Europe.
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