Origins of Financial Reforms in Developing Countries

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Origins of Financial Reforms in Developing Countries ORIGINS OF FINANCIAL REFORMS IN DEVELOPING COUNTRIES By Sawa Omori BS, Tottori University, 1986 MS, Tottori University, 1988 BA, International Christian University, 1998 MA, University of Pittsburgh, 2003 Submitted to the Graduate Faculty of Arts and Science in partial fulfillment of the requirements for the degree of Doctor of Philosophy in Political Science University of Pittsburgh 2007 UNIVERSITY OF PITTSBURGH FACULTY OF ARTS AND SCIENCES This dissertation was presented by Sawa Omori It was defended on August 28, 2007 and approved by Robert Walters, Professor Emeritus, Department of Political Science Anibal Pérez-Liñán, Associate Professor, Department of Political Science Siddharth Chandra, Associate Professor, Graduate School of Public and International Affairs Co-Dissertation Advisor: David Bearce, Associate Professor, Department of Political Science Co-Dissertation Advisor: Mark Hallerberg, Professor, Hertie School of Governance ii Copyright © by Sawa Omori 2007 iii ORIGINS OF FINANCIAL REFORMS IN DEVELOPING COUNTRIES Sawa Omori, PhD University of Pittsburgh, 2007 This dissertation aims to explore political determinants of the magnitude and the pace of six dimensions of financial reforms in developing countries. The magnitude of financial reforms refers to the degree a country engages in a larger scale of financial reforms at one time, while the pace of financial reforms refers to the degree to which a country speeds up financial reforms. I argue that the IMF conditionality programs play a role in facilitating a larger magnitude of financial reforms and in speeding up the pace of each of the six dimensions of financial reforms. However, these IMF effects are conditioned by the number of veto players; namely, as the number of veto players increases, these IMF effects tend to decrease. Further, I predict that the stronger the influence of the manufacturing sector in a country, the larger the magnitude of financial reforms and also the quicker the pace of financial reforms for most dimensions, with the dimension of the enhancement of banking supervision as an exception. Also, countries with a stronger influence of the banking sector tend to choose a smaller scale of financial reforms at one time and tend to delay financial reforms. These arguments were examined both quantitatively and qualitatively. Quantitatively, using the Financial Reform Database developed by the IMF, I examined thirty developing countries’ data from 1973 to 2002. Qualitatively, I employed case study analysis in three countries: Indonesia, Thailand, and Korea. Results demonstrated that the IMF’s impact on financial reforms is contingent upon the number of veto players in both the pace and magnitude of financial reforms as hypothesized. In addition, the effects of the manufacturing sector were confirmed in both quantitative and qualitative analyses, while the effects of the banking sector were confirmed in qualitative analysis. iv TABLE OF CONTENTS PREFACE ....................................................................................................................................... x 1.0 INTRODUCTION .................................................................................................................. 1 1.1. THE LACK OF EXISTING LITERATURE ON FINANCIAL REFORMS ................. 1 1.2. WHY ARE FINANCIAL REFORMS IMPORTANT? .................................................. 4 1.3. PLAN OF THE DISSERTATION.................................................................................. 9 2.0 THEORETICAL PERSPECTIVES OF FINANCIAL REFORMS ..................................... 13 2.1. INTRODUCTION ........................................................................................................ 13 2.2. SIX DIMENSIONS OF FINANCIAL REFORMS ...................................................... 14 2.2.1. Privatization of banks ........................................................................................... 15 2.2.2. Enhancement of banking supervision over the banking sector ............................. 16 2.2.3. Capital account liberalization ............................................................................... 18 2.2.4. Interest rate liberalization ..................................................................................... 18 2.2.5. Elimination of credit controls ............................................................................... 20 2.2.6. Elimination of entry barriers on banks .................................................................. 21 2.3. THEORETICAL PERSPECTIVES OF FINANCIAL REFORMS ............................. 22 2.3.1. The International Monetary Fund: an explanation at the international level ........ 22 2.3.1.1. Controversy about the effects of the International Monetary Fund .................. 22 2.3.1.2. Theoretical aspects of the International Monetary Fund .................................. 24 2.3.2. Veto players: an explanation at the national level ................................................ 30 2.3.2.1. The effect of veto players in the past literature ................................................. 30 2.3.2.2. The role of veto players in financial reforms: conditioning the IMF’s impact . 32 2.3.3. Interest group pressures: an explanation at the societal level ............................... 35 2.3.3.1. The manufacturing sector ................................................................................. 35 2.3.3.2. The banking sector ............................................................................................ 40 2.4. RECAPITULATION .................................................................................................... 44 3.0 DETERMINANTS OF FINANCIAL REFORMS: QUANTITATIVE ANALYSIS .......... 50 3.1. INTRODUCTION ........................................................................................................ 50 3.2. PAST RESEARCH AND HYPOTHESES ................................................................... 52 3.3. DATASET .................................................................................................................... 55 3.4. DEPENDENT VARIABLES........................................................................................ 56 3.4.1. Financial reform database ..................................................................................... 56 3.4.2. Overview of the magnitude of financial reforms .................................................. 58 3.4.3. Overview of the pace of financial reforms ........................................................... 60 3.5. INDEPENDENT VARIABLES ................................................................................... 63 3.5.1. International pressures: the IMF’s influence ........................................................ 63 3.5.2. Political institutions: veto players ......................................................................... 63 3.5.3. Societal factors: the manufacturing sector and the banking sector ....................... 65 3.6. CONTROL VARIABLES ............................................................................................ 67 3.6.1. Level of democracy ............................................................................................... 67 3.6.2. US aid.................................................................................................................... 69 v 3.6.3. Macroeconomic factors ......................................................................................... 70 3.6.4. Other factors.......................................................................................................... 72 3.7. METHODOLOGY ....................................................................................................... 73 3.8. RESULTS: MAGNITUDE OF FINANCIAL REFORMS ........................................... 76 3.8.1. Results ................................................................................................................... 76 3.8.2. Discussion ............................................................................................................. 83 3.9. RESULTS: PACE OF FINANCIAL REFORMS......................................................... 85 3.9.1. Summary of findings............................................................................................. 85 3.9.2. Privatization of banks ........................................................................................... 88 3.9.3. Banking supervision.............................................................................................. 92 3.9.4. Capital account liberalization ............................................................................... 97 3.9.5. Interest rate liberalization ................................................................................... 102 3.9.6. Elimination of credit controls ............................................................................. 106 3.9.7. Elimination of entry barriers ............................................................................... 111 3.9.8. Alternative measurement of veto players ........................................................... 114 3.10. DISCUSSION ............................................................................................................. 120 Appendix 3.A. Coding Rules of the Financial Reform Database ........................................... 126 Appendix 3.B. Correlations of Each of the Six Dimensions(Original Values) ................. 130 Appendix 3.C.
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