In guest article in The Economist, health Justin Lin, chief economist at the World Bank recommends that developing countries take a different approach to banking than the developed countries. Instead of focusing on building out advanced stockmarkets and encouraging large diversified global banks, developing nations should instead focus on encouraging small, local banks which focus on providing financial services to small businesses and households.
He sites the success of countries moving from low-income and middle income which focused on more simple banking systems and only gradually liberalized their capital markets as their GDP per person grew. He also sites how attempts in sub-Saharan Africa to create stockmarkets have largely not got much traction.
He suggests that local, smaller banks focus on serving industries for which the country has comparative advantage … that is, something they do well compared to other countries … which has been the strategy successfully employed by South Korea, China, Malaysia and others.
He also calls on the need to create credit and collateral registries along with reasonable legal systems for dealing with the inevitable failures. For instance, banks will be much more willing to lend to a manufacturing business if they know the collateral pledged is that already pledged to someone else. Also, when banks or businesses fail, there needs to be a timely process for liquidating in order to enable capital to flow to the successful businesses in the economy.
He identifies microfinance banks and other non-banking financial companies as being critical to developing countries financial systems inferring that these institutions should get more support from governments to expand their operations.