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The political economy of financial repression in transition economies

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  • Denizer, Cevdet
  • Desai, Raj M.
  • Gueorguiev, Nikolay

Abstract

Financial systems in developing countries tend to be"restricted"or"repressed"through burdensome reserve requirements, interest-rate ceilings, foreign-exchange regulations, rules about the composition of bank balance sheets, or heavy taxation of the financial sector. Why are governments drawn to regulate financial markets to the point of financial repression? To address this question, the authors explore preliminary evidence from the post-Communist economies of Eastern Europe and the former Soviet Union, where financial regulations have rarely been examined systematically. They find that public-finance framework has limited ability to explain financial repression in the transition economies, given the peculiar financial lineage of the socialist state. The weak distinction between"public"and"private"spheres of finance in transition economies means that the deficit often conveys little information about the governments'real fiscal activities. It is more fruitful to examine how political institutions, by shaping the incentives politicians face, affect financial policy. Their findings suggest that post-Communist governments may adopt repressive financial controls - not to finance deficits more cheaply than would be the caseunder financial liberalization, but to maintain the authority and ensure the survival of those in power. In countries where pre-reform elites are plentiful in legislative bodies, where interparty competition is low, and where government parties are well-represented in parliaments, elites have been able to perpetuate a system of implicit subsidies by"softening up"the financial sector - especially commercial banks - to ensure the continued flow of cheap credit to specific borrowers. The main beneficiaries of these policies - large formerly state-owned industries with tight financial links to the largest commercial banks - are thus able to convert their well-established claims on public resources into preferential access to credit lines. In other words, financial repression in transition economies may simply serve to solidify main-bank, main-firm relations. These results would lend support to the claim of smaller, cash-starved Eastern European entrepreneurs that the commercial banks have"taken over the role of the old planning ministries."

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2030.

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Date of creation: 31 Dec 1998
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Handle: RePEc:wbk:wbrwps:2030

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Keywords: Banks&Banking Reform; Financial Intermediation; Payment Systems&Infrastructure; Environmental Economics&Policies; Economic Theory&Research; Environmental Economics&Policies; National Governance; Financial Intermediation; Banks&Banking Reform; Economic Theory&Research;

References

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  1. Brock, Philip L, 1989. "Reserve Requirements and the Inflation Tax," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 21(1), pages 106-21, February.
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Citations

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Cited by:
  1. Benjamin E. Diokno, 2010. "Philippine fiscal behavior in recent history," Philippine Review of Economics, University of the Philippines School of Economics and Philippine Economic Society, vol. 47(1), pages 39-87, June.
  2. Kalbe Abbas & Manzoor Hussain Malik, 2010. "Impact of Financial Liberalisation and Deregulation on Banking Sector in Pakistan," Finance Working Papers 23068, East Asian Bureau of Economic Research.
  3. Swamy, Vighneswara, 2011. "Does Government Intervention in Credit Deployment Cause Inclusive Growth? – An Evidence from Indian Banking," MPRA Paper 48100, University Library of Munich, Germany.
  4. Lücke, Matthias & Spinanger, Dean, 2004. "Liberalizing international trade in services: Challenges and opportunities for developing countries," Kiel Discussion Papers 412, Kiel Institute for the World Economy (IfW).

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