Chapter

5 Privatization: Opportunities for Financial Market Development

Editor(s):
Saíd El-Naggar
Published Date:
June 1989
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Author(s)
David Gill1

Introduction

“Privatization,” unlike most other popular concepts where there is usually more talk than action, has become a major activity in many countries, with well over $300 billion worth of shares of state enterprises already sold to private investors.

The idea is far from new. In fact, over the centuries, many countries have been swept by political and other forces encouraging private ownership—then “nationalization” (or public sector ownership)—and then privatization again.

The recent worldwide trend—although possibly having its origins in a shift toward more private enterprise-oriented government—seems to be based now on a growing consensus of conservatives and liberals alike that private sector management and competition in the marketplace make for greater economic efficiency and social well-being than does significant state control over, and ownership of, enterprises. That many socialist countries are also moving in varying degrees toward privatization of management or ownership speaks to this point.

Before going further, it is important to note that privatization, in the current usage of the term, relates mainly to the transfer of ownership from the state to the private sector. An important consideration, however, is whether privatization includes the transfer of control over the relevant business inputs and outputs and of operational management as well. This consideration is important because the main benefits of privatization relate to efficiency factors which can be achieved only if management is reasonably independent of state control. It follows that privatization of ownership alone can have little effect on enterprise efficiency and on economic growth in general. In fact, if the only change is one of nominal ownership, the only likely benefit is a marginal one-time increase in public revenues and a balancing reduction in private savings.

That said, the purpose of this paper is to outline the special interrelationships of efforts toward privatization and financial market—especially equity market—development. The objective is to demonstrate that without a strong and efficient domestic financial market, privatization of ownership—let alone of control and management—is difficult to accomplish, and the ultimate goals—enhancing economic efficiency and social well-being—are impractical targets. Thus, for those who appreciate the importance of developing financial markets, privatization programs present a major opportunity to institute the economic and financial “liberalization” measures and equity market reforms necessary to succeed in both efforts.

This paper will provide some country comparisons to trace how privatization programs have contributed to financial market efficiency and economic growth in selected countries. It will conclude with some comments on how these other experiences may be relevant to the further development of financial markets in Arab countries and why such development (especially of their equity markets) should lead to, or at least proceed in tandem with, privatization. The tables (provided by the International Finance Corporation) give an indication of how various countries compare with respect to the factors related to privatization and the development of equity markets that help make privatization successful.

Privatization and Financial Markets

History suggests that economic and social development can be accelerated by an efficient, competitive financial sector. This, in turn, requires a large and diversified universe of savers and financial intermediaries and a wide range of financial instruments and issuers to provide a “critical mass” of activity to warrant the necessary financial market infrastructure. Interestingly, the demand (the flow of household savings to buy financial instruments, especially equities) seems to rise to meet the supply in most countries—if the right policies and standards are in place. Thus, in many countries, privatization can be crucial in creating a financial market with the critical mass necessary for maximum efficiency.

Financial efficiency can mean many things. In this context, it refers to efficient mechanisms to mobilize and allocate savings. Efficient allocation through a competitive market ensures that different degrees of risk are appropriately rewarded and, thus, that capital will flow proportionately to the most efficient users at low intermediation costs.

In terms of the equity market, efficiency is often also measured in terms of “shareholder democracy,” that is, the extent to which small savers have the same opportunities as the more privileged minority to maximize their risk-related returns from savings—either directly in company shares or indirectly through participation in pension funds and mutual funds, etc. Financial efficiency can also be gauged by the degree to which it affords the small businessman with good ideas and management capability the same opportunity as major enterprises to raise funds through the financial market at costs that reflect the varying levels of reward, risk, and liquidity.

It follows that without an efficient equity market it is difficult to achieve ownership privatization in a socially acceptable way. In fact, in the absence of an efficient equity market, the only alternative to selling shares to already large domestic groups or to foreigners may be to give the shares to taxpayers or voters on a pro rata basis as some form of national stock dividend. These give-away options, along with highly subsidized purchase arrangements, however, are not likely to benefit in the short term either the financial markets or the privatized enterprises. Such gifts, or near gifts, of shares usually only enhance savings or expand habits of equity buying at the margin, as the shares are usually sold quickly at low valuations by those unused to share ownership to wealthier, more sophisticated investors. Nevertheless, as discussed later, some degree of fiscal incentive for share buyers, combined with educational programs for new investors and fair treatment of minority shareholders, can build serious saver interest in shares over the long term.

Having discussed selling government-owned enterprises and the ability of the domestic equity market to facilitate this function, other choices for privatization should not be forgotten. These include contracting-out management, leasing of companies, and financing the sale of shares of individual companies to their employees and management.

Country Comparisons

The following comments contrast some nonsocialist countries that have significant proportions of their economies dominated by public sector enterprises with those countries that are relatively more private sector oriented. These comparisons are not precise, and other important factors, such as the degree of maturity of the economy and its basic level of wealth, have just as important a bearing on economic growth as does the degree of privatization. In the same vein, many countries have taken steps to enhance their equity markets and promote shareholder democracy through favorable tax treatment of income from equities and other measures. They have done so for quite different reasons, and have succeeded, notwithstanding quite different degrees of privatization at the time. France and Sweden in the 1970s are examples of the latter, when both countries wished to strengthen corporate balance sheets and reduce debt of existing large companies as well as promote more entrepreneurial small companies by encouraging new equity issues.

Unfortunately, there are no statistics that isolate the impact of privatization from other factors affecting the size and efficiency of the equity markets and vice versa. It is also evident that efficient equity markets cannot alone produce the benefits desired of privatization.

Nevertheless, when one compares rates of growth of gross national product (GNP), levels of private enterprise importance, financial market efficiency, and degrees of shareholder democracy for these countries, an interesting pattern emerges. There is a correlations between countries with strong equity markets and countries that privatized either at the start of the process of industrialization or more recently. For example, the United States, Japan, Canada, and Hong Kong have proportionately larger private economies and more efficient, larger equity markets than countries with more public sector-dominated economies.

France, in the years following the nationalization of banks and other major companies, had a relatively small and inefficient equity market, despite the tax incentives mentioned earlier. The implementation of the first stage of the 1986 French re-privatization program had a profound impact on the structure of the financial markets. By October 1987, 28 out of 66 targeted banks and enterprises had already been privatized. Over six million individuals had acquired shares under the scheme and thus enlarged considerably both the size and the number of participants in the French equity market. And—last but not least—the Treasury applied some $10 billion of the $20 billion equivalent proceeds from the privatization sales toward the reduction of public sector debt.

The Federal Republic of Germany offers an interesting parallel with its efficient, mostly private sector-controlled banking system and its comparatively small and less efficient equity market. In this case, the market’;s weakness is at least partially the result of the fact that the commercial banks, although privately owned, in turn control a significant proportion of the equity of the nonfinancial enterprises. This draws attention to the fact that enterprises can be private without being open to the public through a formal equity market. In practice, in most countries with large and efficient equity markets, a good 75 percent of total enterprise assets are in “listed” companies with wide ownership.

Further, for the Federal Republic of Germany, one of the negative effects of its relatively narrow equity market has been that it has not served adequately the needs of small enterprises—a significant indicator of inefficiency. Until four or five years ago, it was difficult for new enterprises to obtain seed capital financing from other than family sources. As a consequence, new high-technology companies were financed more by foreign venture capital funds than by domestic institutional sources. It was the realization of the implications of this that led to the recent establishment of more efficient mechanisms to finance such businesses. They included, in addition to domestic venture capital funds, the creation of a special junior market for less seasoned enterprises with less rigid requirements and lower costs for listing than those of the principal market.

Thus, the size of the equity market is a good, if not perfect, proxy for the degree of private ownership, competitive efficiency, and shareholder democracy. In the more mature, successful economies, management of enterprises also tends to be in the private sector, and government intervention is limited mainly to consumer and investor protection and related functions. Such circumstances reflect the connections between shareholder democracy, efficient financial markets, and above-average rates of economic development, as well as the significance of privatization of ownership and control. Naturally, there are exceptions—but not many.

From a historical perspective, and considering countries that have gone through cycles of privatization—nationalization—privatization, the United Kingdom offers the most interesting example. Until World War I, the United Kingdom exemplified the best that a private sector-dominated economy and efficient financial market could then provide, even if shareholder democracy was not then a factor. The decline in its domestic financial market, starting in the 1940s, was associated with the nationalization of industry during that period. However, the revitalization of the U.K. financial market has been truly impressive—starting in the early 1970s with the burst of new activities in the Euromoney, Eurobond, and domestic venture capital markets, and then with the “Big Bang” in 1986 in the securities market.

In the past four years, privatization of such companies as British Telecom, British Gas, British Petroleum, and many others has revitalized the U.K. equity market to the point where in many respects it is now more efficient than the U.S. equity market. The size of many recent U.K. equity issues has been larger in both absolute and relative terms than U.S. new issues, and the costs of intermediation in the primary equity market have been lower than in the United States. An added benefit was the significant participation of small savers in the equity market as a result of the preference given to employees and to buyers of small lots of shares in the newly privatized companies. This has caused the number of shareholders in the United Kingdom almost to quadruple since 1981, notwithstanding subsequent “attrition” as many of them took quick profits by selling to institutional investors. Not only has this contributed a lot to equity market efficiency but it has also had important political ramifications because shareholder democracy has gained in importance as many more voters developed a personal interest in encouraging enterprise efficiency than was previously the case. That the U.K. equity market suffered less than many others—including the German market—from the events of October 1987 attests to this.

Now, in part as a consequence of privatization, the U.K. financial market has regained its position as one of the world’;s top three, along with New York and Tokyo, although the U.K. economy has lagged more than its principal European competitors. Nevertheless, without the earlier revitalization of the financial market infrastructure brought about by policies encouraging the growth of the Euromoney and Eurobond markets in London, it would have been impossible to effect the massive domestic and foreign distributions of privatized company shares in the 1980s.

The impact of a rejuvenated financial market in London, helped further by deregulation and privatization, has already provided a substantial boost to U.K. foreign exchange income from services and in foreign investment in the financial sector. It is doubtful whether this could have occurred if the United Kingdom had not also eliminated foreign exchange controls and instituted broader policies to reduce controls over economic inputs and outputs, which paved the way for privatization. Just as the opening of national enterprises to competitive forces was a necessary precursor of successful privatization, so was the reduction of government control of the financial market a necessary precondition for the success of the U.K.-based Euromoney and Eurobond markets and the resurgence of its equity market.

This draws attention to the importance of the “internationalization” of the U.K. financial market. By allowing foreign financial institutions to compete for domestic U.K. business and to use London as a base for their international financial operations, the United Kingdom also set the stage for the international distribution of shares in the newly privatized enterprises. As a consequence, London could become the center of the growing “Euro-equity” market, or the global stock market, although U.K. stocks represent less than 10 percent of the $7.5 trillion global equity market and the London market is only about 20 percent of the size of the Tokyo market.

Comparisons between the newly industrialized nonsocialist economies are also interesting. With the exception of Hong Kong and Singapore, most of the other newly industrialized economies have a large proportion of public sector-owned and managed enterprises. Further, they all have high levels of government control of inputs and outputs, including, for many, varying degrees of direct credit regimes and interest rate controls. In terms of relative size and efficiency, most of these countries have less developed financial markets than have Hong Kong and Singapore, which have long histories of strong private enterprise economies. Most of the other developing countries demonstrate that a correlation appears to exist between relatively high degrees of state control, small and inefficient financial markets, and less than optimal economic performance.

The Republic of Korea provides a different example. First, it has a relatively large and efficient equity market which is also benefiting from recent first steps toward internationalization. Second, while the government contribution to fixed capital investment is quite high, many Korean state-controlled but partially privately owned enterprises are, by and large, fairly profitable. This is in part due to the subjection of these enterprises to competitive pressures—they are forced to be efficient because they compete for many inputs at market prices and must compete for customers in world markets. Equally important, the Government is not reluctant to punish inefficiency through dissolution of enterprises. In short, it uses many of the allocative mechanisms applied elsewhere by the financial markets to promote industrial efficiency.

Nevertheless, most Korean wholly state-owned and controlled enterprises remain unprofitable, although in recent years many have been, or are being, reorganized, and some privatized. In sum, policies to strengthen the domestic equity market and more recent steps to internationalize the equity market and privatize companies have coincided with a significant increase in the size of the equity market—from about 10 percent of GDP in 1985 to about 30 percent now—and continuing very strong economic growth.

Equity Markets and Privatization in Arab Countries

With few exceptions, the Arab countries have not been seen as active participants in the worldwide trend toward giving increased importance to securities markets or to the privatization of enterprises as ways of helping speed economic growth and social well-being. There are many good reasons for this in specific countries, but new approaches to both concepts are emerging.

Only 5 of the 20 Arab countries have established formal equity markets in which corporate securities may be traded (Egypt, Jordan, Kuwait, Morocco, and Tunisia). In 4 others (Bahrain, Oman, Saudi Arabia, and the United Arab Emirates), the existing informal markets are being (or at least are expected to be) transformed into more formal markets. These 9 countries between them have about 51 percent of the population and 56 percent of the GDP of the Arab countries.

The existing formal markets vary greatly in size as well as in depth and they share no particular pattern. There is insufficient information on the informal markets to make even such a general comment. Jordan’;s Amman financial market appears to be the only large market relative to GDP in the Arab world, despite its low level of per capita GDP compared with many of the others. In fact, in relative GDP terms, Jordan’;s equity market is much larger than that of the Federal Republic of Germany or of France.

However, although much additional research and analysis is necessary before a data base comparable with that of other developing markets can be assembled, sufficient empirical evidence now exists beyond the case of Jordan to indicate that these formal and informal securities markets have expanded over time and that their potential for further development has much improved. Nevertheless, as experience both in Arab countries and elsewhere shows, although market size may be an important ingredient, it is not the only one needed to achieve the desired efficiencies. The development of fair new-issuance and secondary-market trading practices and investor protection mechanisms, as well as a strong institutional infrastructure, is critical.

The experience of the securities market in Kuwait may illustrate how expansion in the size of the market and volume of activity can temporarily outpace evolution in the areas of regulatory adequacy and institutional infrastructure, leading to undue speculative price volatility and, subsequently, prolonged periods of investor hesitation. In general, however, the development of domestic markets in many of the Arab countries has now reached a stage that offers an excellent opportunity and a strong motivation to accelerate the development of the qualitative aspects necessary for steady growth.

The increased volume of transactions represents a driving force toward the technological upgrading of market infrastructure, starting with the stock exchanges themselves. Declining and fluctuating prices worldwide since October 19, 1987, have prompted investors to become more discriminating, thus encouraging increased reliance on timely disclosure of accurate corporate information, improved analytical capabilities of market intermediaries, higher levels of transparency in trading practices, and more efficient clearing and settlement arrangements in the market system.

Certainly, there is much that still can and should be done to strengthen further the financial markets in general and the equity markets of Arab countries in particular. But conditions in the existing markets in the area today are more promising for, and conducive to, the launching of privatization programs than they were five or more years ago when public sector enterprises were not yet affected by constraints caused by the budget deficits of the recent past. Properly implemented, such programs in those countries that are interested can benefit from the progress achieved thus far while at the same time contributing significantly to further development and expansion of the equity markets themselves. This should be interpreted as a great opportunity for both development of securities markets and privatization programs as has happened in the countries already discussed. In the meantime, public sector ownership and even control of both financial institutions and the nonfinancial enterprise sector is in many cases still growing.

In several countries, the emergence and rapid growth of a public sector or “state” enterprise sector were the consequence of deliberate policy decisions, which were not always motivated primarily by the pursuit of economic objectives: nationalization of foreign-controlled business activities has been responsible for producing a fair number of state enterprises; national security considerations have been invoked in other cases; and protection of labor in bankrupted private business has been a third, but significant, cause for nationalization. To a large extent, however, public sector enterprises result from governmental initiative or mandates for economic and social development.

Public enterprises have grown into a significant if not dominating element in the economy of many of the Arab countries. In the late seventies, public enterprises in Egypt were reported to account for 48 percent of aggregate gross fixed capital formation—almost twice the then prevailing average of 27 percent for a wide sample of other developing countries. In Algeria, the public enterprise sector expanded its share of economic activity from less than 6 percent in 1965 to over 60 percent in more recent years.

In Kuwait, the substantial government participation in domestic corporate equity originally resulted from an active support of economic development policies and considerations relating to productive deployment of oil revenues. However, it then became more predominant as a result of two government interventions: first, in the Kuwait Stock Exchange following the 1976 crisis; and then after the collapse of the Souk Al-Manakh in 1982. At the end of this second market support intervention, the state held 48 percent of all listed equity and controlled almost half of all listed companies.

Likewise, the pursuit of economic development policies and their social implications throughout the late seventies and early eighties has led to a significant public sector stake in corporate equity in Saudi Arabia and several other Arab countries. On the other hand, in Oman, privatization is now being perceived as a mechanism to redeploy the financial resources of the Treasury and reduce future budgetary expenditures by mobilizing instead private sector savings to take over seasoned enterprises and provide for additional investments therein.

Privatization could ease the existing budgetary constraints of several countries and would at the same time enhance private sector resource allocation in the form of risk capital rather than interest-bearing deposits, all to further efficient productive investment and employment creation as well as Islamic principles.

Perhaps the greatest obstacles to setting this interaction in motion and harvesting the benefits of greater competitiveness and efficiency for the economy as a whole are cultural and social. One underlying issue here may be the implications of shifting the current emphasis from the protection of enterprises to the protection of investors and particularly outside minority shareholders. The concept of and concern for enterprise protection is deeply rooted in many societies. It is particularly strong in public sector enterprises. Generally, three kinds of de facto protection are relevant in this connection: protection of majority rather than minority shareholders; protection from competition; and protection against liquidation. These lead to the following considerations.

First, as long as outside investors and, as such, potential minority shareholders, feel that the majority owners—usually families in private sector companies but also the government itself in public sector-controlled enterprises—are not subject to obligations arising from compliance with “outside investor protection” provisions of law, very few individual investors will accept (in addition to the normal business risk) the added risk of being minority shareholders.

Second, many government-owned enterprises function in oligopolistic environments and are sheltered from the pressures on input and output prices exercised by a competitive marketplace. Therefore, if a state enterprise is to be privatized, its estimated performance under market conditions constitutes an extremely important and overruling criterion for assessing the likely price at which its securities might be successfully offered to the public.

Third, protection from bankruptcy—to preserve employment—ranks very high in the establishment of state enterprises or the nationalization of existing private companies. Thus, liquidation of these firms in the interest of promoting a new spirit of economic efficiency is likely to continue to be a particularly difficult measure to be taken in the face of the political implications.

Another important consideration in developing equity markets positively is the strengthening of nonbank financial institutions that traditionally play a major role in savings mobilization and their allocation through the securities markets. Contractual savings institutions (such as pension funds and insurance companies and mutual funds and unit trusts) have historically not been as significant in savings mobilization and capital allocation in Arab countries as in many Western countries. As a group, institutional investors account for up to 40 percent of total savings in the United Kingdom and in Canada, and even some 15 percent in such countries as Korea, Chile, or India. Thus, there is significant room for growth in this area of securities market development in the Arab countries. More important, the existence of a strong institutional investor base with its predominantly long-term investment objectives is just as essential for the successful execution of privatization policies as is the existence of individual savers in the market.

Tables 13 and Chart 1 give some details on the statistical points to which reference has been made.

Table 1.The Contribution of Public Enterprises if Selected Nonsocialist Countries
Country1Period(A)

Output: Percentage Share of GDP
(B)

Investment: Percentage Share of GFCF
(C)

Efficiency of Production: Deficits/GDP
(D)

Productivity of Public Sector Investment (A/B)
Memorandum Item:

Economic Growth Rates—Average Annual Percent GDP, 1973–84
Korea, Rep. of1978–8022.8(-5.2)7.2
1974–776.425.1(-5.2)25.5
Mexico19787.429.4(-3.7)25.25.1
Brazil198022.8(-17)4.4
Chile1970–8013.012.9(0.4)100.82.7
Taiwan Province of
China1978–8013.532.4(-5.5)41.7
India197810.333.7(-6.2)30.64.1
Developing Countries (Average)1973–778.627.0(-3.9)31.9
United States19784.4(-0.6)2.3
Sweden1978–8015.31.4
Australia1978–799.419.249.02.4
Germany, Fed. Rep. of1978–7910.210.894.42.0
Japan1978–8111.24.3
France19826.512.5(-1.8)52.02.3
United Kingdom198211.217.1(-0.8)65.51.0
Portugal21973–8033.2(-8.1)46.15.5
Italy19787.516.445.72.1
Industrial Countries (Average)1973–779.611.1(-1.6)86.52.4
Sources: Beter Short, “The Role of Public Enterprises: An International Statistical Comparison,” in Public Enterprise in Mixed Economies: Some Macroeconomic Aspects (Washington: International Monetary Fund, 1984); World Development Indicators (World Bank, 1986).NOTES: Column A: Represents the contribution to gross domestic product (GDP) made by public enterprises; Column B: Represents the portion of gross fixed capital formation (GFCF) required to generate Column A; Column C: Represents the overall deficits of public enterprises, expressed as a percent of GDP; Column D: Represents the relative efficiency of public enterprises in using the capital allocated to them; it represents the ratio of GDP produced for each 1 percent of national GFCF allocated to public enterprises. Period averages are weighted averages of GDP and GFCF, expressed in U.S. dollars.

The countries are listed in descending order of 1984 per capita GNP, expressed in U.S. dollars, within the major development categories.

Column D for Portugal represents the ratio for 1976, when share of output data were available.

Sources: Beter Short, “The Role of Public Enterprises: An International Statistical Comparison,” in Public Enterprise in Mixed Economies: Some Macroeconomic Aspects (Washington: International Monetary Fund, 1984); World Development Indicators (World Bank, 1986).NOTES: Column A: Represents the contribution to gross domestic product (GDP) made by public enterprises; Column B: Represents the portion of gross fixed capital formation (GFCF) required to generate Column A; Column C: Represents the overall deficits of public enterprises, expressed as a percent of GDP; Column D: Represents the relative efficiency of public enterprises in using the capital allocated to them; it represents the ratio of GDP produced for each 1 percent of national GFCF allocated to public enterprises. Period averages are weighted averages of GDP and GFCF, expressed in U.S. dollars.

The countries are listed in descending order of 1984 per capita GNP, expressed in U.S. dollars, within the major development categories.

Column D for Portugal represents the ratio for 1976, when share of output data were available.

Table 2.Shareholder Democracy—Individual Enterprise Shareholders in Selected Countries, 1986
CountryEstimated Shareholders (thousands)As Percent of Total Population
Chile5004.2
Jordan1002.9
Brazil3,3002.4
Korea, Rep. of7551.8
India8,0001.1
Portugal700.7
Venezuela750.4
Mexico2000.3
Nigeria2000.2
Argentina500.2
United States47,00019.6
Japan22,00018.3
United Kingdom8,50015.2
Canada3,20012.8
France7,00012.6
Sources: Shareholder surveys by national stock exchanges, national securities commissions, and IFC staff estimates.NOTE:These estimates refer to direct ownership of shares of business enterprises and exclude participants in mutual funds and other vehicles for indirect ownership of shares. If the latter were included, the percentages would increase by as much as 6.7 percentage points, for a total of 26.3 percent for the United States. Other countries for which data were available were Canada (1.9 percent), France (2.7 percent), and India (0.2 percent).
Sources: Shareholder surveys by national stock exchanges, national securities commissions, and IFC staff estimates.NOTE:These estimates refer to direct ownership of shares of business enterprises and exclude participants in mutual funds and other vehicles for indirect ownership of shares. If the latter were included, the percentages would increase by as much as 6.7 percentage points, for a total of 26.3 percent for the United States. Other countries for which data were available were Canada (1.9 percent), France (2.7 percent), and India (0.2 percent).
Table 3.Distribution of Financial Savings, 19851
Central BanksCommercial BanksSavings Banks and ThriftsSpecialized Lending InstitutionsProvident and Pension FundsInsurance CompaniesMutual Funds, Trusts, and Investment BanksMemorandum Items
Total system assets (as percent of GNF)Long-term debt securities and equities2Equities
(percent of system assets)
A. Developed Markets3
United States3301712191362076628
Canada2351232513112084324
Sweden6311027131212315415
Japan336291318103004320
Germany, Fed. Rep. of62137201332244213
Australia7272021111411585027
France7531312176218196
United Kingdom237161202052115132
Singapore 4124266162173993214
B. Emerging Markets
Venezuela2243827112592
Taiwan Province of China21512423202119
Korea, Rep. of1054516411230114
Argentina35471125125114
Portugal21472812125541
Malaysia104551816342324824
Brazil353111152152103017
Jordan19592112213024
Chile2063211511154014
Turkey34564519432
Thailand19597151121204
Nigeria2857213983245
Philippines354041633120163
Pakistan24621112190124
India135578791743112
Sources: Annual reports and periodic bulletins of central banks, national credit councils, centrals statistical offices, supervisory agencies industrial associations, and IFC staff estimates.NOTE: The often unique roles some Financial institutions play and differences in national statistical reporting have required some judgment on allocating liabilities. ?he percentages shown here should therefore be viewed only as indicators of approximate degrees of relative size.

All figures represent percentages of total gross liabilities of the financial system.

Long-term debt securities include government, agency, and corporate securities with original maturities of one year or more, valued at par. Equities represent the market value of listed shares.

Listed in descending order of per capita GNP.

Mutual funds and investment banks include local and foreign merchant and investment banks’; regional activities in Singapore.

Sources: Annual reports and periodic bulletins of central banks, national credit councils, centrals statistical offices, supervisory agencies industrial associations, and IFC staff estimates.NOTE: The often unique roles some Financial institutions play and differences in national statistical reporting have required some judgment on allocating liabilities. ?he percentages shown here should therefore be viewed only as indicators of approximate degrees of relative size.

All figures represent percentages of total gross liabilities of the financial system.

Long-term debt securities include government, agency, and corporate securities with original maturities of one year or more, valued at par. Equities represent the market value of listed shares.

Listed in descending order of per capita GNP.

Mutual funds and investment banks include local and foreign merchant and investment banks’; regional activities in Singapore.

Chart 1.Market Size1 Relative to GDP and Income

Market Symbol

ArgentinaAR
AustraliaAU
BrazilBR
CanadaCA
ChileCH
ColombiaCO
FranceFR
Germany, Fed. Rep. ofc
GreeceGC
IndiaIN
IndonesiaI
JapanJ
JordanJO
Korea, Rep. ofK
KuwaitKU
MalaysiaMA
MexicoMX
MoroccoMO
NigeriaN
PakistanP
PhilippinesPH
PortugalPO
Saudi ArabiaSA
SingaporeSI
SwedenSW
Taiwan Province of ChinaTW
ThailandTH
TunisiaT
TurkeyTU
United KingdomUK
United StatesUS
VenezuelaV
ZimbabweZ

Source: IFC Emerging Markets Data Base.

1At year-end 1987 market value.

Conclusions

Steps to ensure greater transparency of companies’; accounts, the establishment and enforcement of investor protection legislation, the modernization of market infrastructure, and the fostering of fairer market practices are critical conditions for ensuring investor commitment to buying equities and thus to expanding the efficient equity markets needed to make successful privatization programs possible. However, privatization should not mean only transfer of ownership. Rather, and to maximize the potential benefits for the economy as a whole, privatization of management control and responsibility should be considered an essential ingredient of such programs.

Facing the harsh realities of genuine market conditions may be painful and may at times call for unpopular adjustments. However, experience has shown that societies willing to accept some level of temporary sacrifice as part of the price for long-term prosperity have also been rewarded with long-term social harmonization and political stability. These may be important policy goals in individual Arab countries. They certainly are likely to be indispensable preconditions for successful implementation of their regional integration policy objectives.

In sum, development of financial markets, and particularly equity markets, can contribute to increased rates of economic growth and social well-being. Equity market development is also essential if privatization programs are to be successful. Together, both activities can be mutually supportive in meeting the ultimate economic and social objectives.

1The views expressed in this paper are those of the author and do not necessarily represent the opinions of the International Finance Corporation or Batterymarch Financial Management. The information presented herein has been obtained from sources believed to be reliable but is not guaranteed as to completeness or accuracy.

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