FOUR REQUIREMENTS FOR A ROBUST FINANCIAL SYSTEM:

I am deeply honoured to represent the United Nations today in this historical Great Hall of the People. I am especially encouraged that you accord the United Nations a special role in this important conference on financial sector development in China.

The major imperatives of the United Nations and its Member States in the economic and social area are to roll back poverty and enhance the opportunities for economic development in developing countries. Our governments take this commitment out of human solidarity, but also out of hard-headed political concerns. No one is secure in any country of the world as long as large numbers of people in any part of it suffer the outrage and humiliation of extreme poverty.

In this regard, what China has accomplished over the past two decades is impressive. Measured by the very rough international poverty indicator of living on less than one dollar a day, China has halved the number of people in poverty between 1990 and 2000. The fact that China has made such great strides against poverty is an important piece of evidence for the rest of the world of what can be done.

Distinguished participants

From its beginnings, the United Nations has been concerned about and supported policy analysis, intergovernmental debate and technical cooperation on economic development and on financial sector development in particular. Our focus of attention in recent years relates to the problems posed to the international economy by the asymmetries in financial development between developed and developing countries, the risks generated in this context by the excessive volatility of private capital flows to developing countries, and to the need to develop inclusive financial systems that reach the smallest firms and the poorest households. In all of these areas, we are keenly aware of the need for pragmatism in policy and the dangers in relying heavily on extreme policy formulations, whether they pertain to privatization of financial institutions or macroeconomic and exchange-rate policies.

The positive role the United Nations can play in development and financial policy was well illustrated at our summit conference in Monterrey, Mexico on Financing for Development in March 2002. The United Nations was there asked to play a more central role as a global forum for discussion and forging political commitment to policies and norms that enhance financial development in developing countries, along with the international environment and institutions that facilitate it.

Today, governments, international institutions, private business interests and civil society advocates can come together under the banner of the UN Financing for Development process to test the coherence of policies in these different areas and consider how to cooperate better in their respective efforts to accelerate development and eradicate global poverty.

This is part of the broader imperative to strengthen global economic governance through all our multilateral institutions, which means to make them more effective in two senses: first, to ensure the best ideas are brought forward and considered; and second, to ensure that the relevant stakeholders — in particular, the developing countries — are full partners in building consensus and reaching decisions.

In this regard, I should note that the General Assembly is committed to take account in New York in the autumn of 2005 of what has been achieved in meeting the development goals contained in the Millennium Declaration. Next year we will also take stock of what we have achieved since Monterrey regarding financing for development, as well as in the ten years since the World Social Summit in Copenhagen and the World Conference on Women, which took place in this city.

Distinguished participants

As a former finance minister and student of macroeconomic and financial policy, I would like to share some of my own personal reflections on financial development.

First, the highest priority for any developing market economy is to develop a robust domestic financial sector that can intermediate appropriate financial resource flows in domestic currency from savers to investing enterprises. There is no unique model for this, nor is there a unique way to combine the roles of private and official banks and other financial institutions. Actually, in an economy as large and diverse as China, it may mean somewhat different financial system configurations in different parts of the country.

I see a role, in particular, for efficiently managed public institutions to provide financial resources in combination with ancillary business services to micro and small enterprises, to low and middle-income segments of the population, and to those economic activities where there are significant externalities, such as innovative activities and those with large environmental benefits. However, I cannot emphasize enough that the sound management of public sector financial institutions, the strong regulation of these as well as of private financial institutions, the strong oversight of the overall financial system and prudent macroeconomic policies are sine qua non for effective financial sector development.

Furthermore, I see a specific role for financial sector oversight and regulations in helping to avoid the extremes in business cycles that lead to financial crises. Most of the risks of financial crises are incurred during periods of strong economic expansion. Later, during the slowdown, the risks materialize and generate high costs, leading in many cases to financial meltdowns. The essence of good prudential regulation in this environment should be to prevent excessive risk-taking during periods of macroeconomic euphoria.

However, traditional prudential regulation of the financial sector does not fully take into account the macroeconomic context. The close connection between macroeconomic cycles and risk-taking by financial institutions should be at the centre of prudential regulation, and should thus lead to innovations in this area that create more appropriate regulatory instruments for developing countries. 

Second, China has effectively used restrictions on external capital flows to dampen the kinds of volatility that countries with more open capital accounts have had to cope with in recent decades. I believe it continues to be important for developing countries to use some types of capital controls to limit the ability of external funds seeking short-term gains to flood into a country and then rush out with their earnings in hand. This type of volatility can put tremendous strain on monetary policy managers and make even more difficult their fundamental job of maintaining sound policy in a stable domestic economic environment. We also know full well that long-term foreign investors will not be discouraged by capital controls on short-term movements. Indeed, they may benefit from the macroeconomic stability that it generates.

Third, good corporate governance is essential to a market economy where firms are owned by shareholders who are not the managers. However, effective corporate governance systems are difficult to design and there is no simple universal model for how to structure them.

In recent years, corporate executives in several industrial countries were able to make a mockery of these regulations. Some practices of financial professionals in corporations and in the financial industry were unethical when not actually violating the law. In many cases, corporate boards did not protect the interests of the shareholders against the self-dealing of the managers. There has been a widespread challenge to continued confidence in corporate management and its oversight by corporate boards, let alone by government regulators. There is also a rising concern in some quarters over excessive access of corporate leaders to public policy makers, fed by too much corporate money in political campaigns. This too is part of the proper nexus of concern regarding corporate governance.

The most important lesson of the recent experience in industrial countries is that good rules do not guarantee good practices. You need corporate boards that actively defend the interests of the shareholders. You need external auditors that are effectively independent and avoid conflicts of interest, as in their consulting businesses. You need a culture of business ethics to permeate the firm. But you also need an external regulatory and legal system that aggressively pursues abuses and an independent press that will shine light on scandals when they find them.

Fourth, the regulatory standards for corporate governance, for banking systems, for insurance and pension funds, for stock markets and so on need to be appropriate for the economies they mean to regulate. Most global standards are developed in bodies either restricted to developed countries or in which developing country participants are hard pressed to participate to the degree necessary to actively influence the development of standards. The consequences are that developing countries need to assess the appropriateness of the standards for their own situation before adopting them. In addition, sometimes the standards adopted by such bodies for developed countries can have unintended undesirable effects on developing countries, as has been the concern regarding the proposed new banking regulation standards from the Basle Committee.

The standards-setting bodies have heard this complaint and have sought to reach out to developing countries in order to gather opinions and proposals. The Basel Committee has been active in this regard as has the overarching Financial Stability Forum. However, this is not the same as inviting developing countries to enter the discussions themselves.

The Governor of the People’s Bank of China said something in a forum here in Beijing in 2000 that I have extensively quoted and I would do so again right now:  “The monopoly by a handful of developed countries on the rule-making in the international financial field must be changed!”.

Distinguished participants

Please let me return now to my role as representative of the United Nations. As individuals, we hold views such as I have just outlined. However, we in the Secretariat are not called upon to preach particular policy reforms. We are asked — as by the Monterrey Consensus adopted by the International Conference on Financing for Development — to facilitate discussions, share national experiences and invite different stakeholders to contribute their various perspectives on any particular policy measure. This, in our imperfect world, seems to me a pretty good strategy for improving policy making for development.