Benefits and Costs on Integrated Financial Services Provision in Developing Countries

MANY COUNTRIES, ESPECIALLY DEVELOPING countries, have been reforming their financial systems over the past two decades. These reforms have involved the removal of barriers to entry, the reduction of portfolio restrictions and lowering of directed lending requirements, and the general removal of many product limits. An important part of the reform efforts has been the dismantling of regulatory barriers separating banking, insurance, and securities activities. Legal and regulatory boundaries between different financial intermediaries have been rapidly disappearing in many countries, as in the repeal in 1999 of the Glass-Steagall Act in the United States. Integrated financial services provision (IFSP) is becoming the norm around the world, with many countries today having no or very few restrictions on the ability of banks to offer securities, asset management, or insurance services in addition to commercial banking services.

Market forces have in part driven the reduction in barriers between financial services. An important market incentive for banks to widen their scope has been the disintermediation of bank assets and liabilities by capital market transactions. The disintermediation has pressured banks to expand their financial services to cater to a greater set of customer needs and preferences. Technological innovations have been another important driving force, as they have provided financial institutions with a greater ability to deliver multiple financial services and exploit economies of scope. Regulators have responded to these market forces with the removal of restrictions.

While in part a response to market forces, the issue of IFSP has not been without controversy. In the United States, for example, debates about universal banking go back at least to the 1930s. Experiences then showed, in the eyes of many, the weaknesses of a universal banking model. The separation of commercial and investment banking then adopted in the United States through the Glass-Steagall Act spread over time to many other countries, especially developing countries. IFSP has also been debated in emerging markets, partly in light of the financial crises they have experienced in the last decade. Some observers have attributed the crises partly to excessive deregulation, including allowing banks to enter into securities and insurance business.

This paper reviews the current knowledge on the issue of IFSP with special emphasis on developing countries. ¹ It defines IFSP as the situation in which a financial institution is able to provide all types of financial services (commercial and investment banking, securities markets, asset management, and insurance services) under one roof. Models of IFSP include universal banking, bancassurance, and other models, such as bank holding companies engaged in multiple types of financial services. To position the analysis, and since IFSP is, to a large degree, about the scope of permissible activities of a bank, the first section starts with a short review of why the powers of deposit-taking financial institutions (banks) are being regulated in the first place. The section also reviews recent global trends in financial services provision, especially those affecting changes in the demand for and supply of different types of financial services. The second section provides background on the degree to which the current regulatory framework allows IFSP in most developed countries and major emerging markets.

The third section reviews the analytical and empirical evidence on the costs and benefits of IFSP at the level of the financial sector, firms, consumers, and the overall economy. Aspects analyzed include the performance and efficiency of the financial sector itself, the access to and the costs of financial services for firms and households, and the possible reductions or increases in risks for the economy and the financial sector. It reviews available empirical studies on financial institutions, households, and individual countries as well as cross-country studies for developing and developed countries, both before the Glass-Steagall Act in the United States and following recent changes.

The fourth section analyzes the issues of IFSP...