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Financial Liberalisation In New Zealand The Impact on Savings and Investment Phillip Mellor The Theory The Financial Sector and Economic Development The McKinnon-Shaw Hypothesis The Complementarity Hypothesis Savings and Physical Capital are complementary to one another The Debt Intermediation View of Money Money is a form of debt to its issuer The Financial Sector and Economic Development The Role of the Financial Sector 1. 2. 3. 4. 5. To facilitate trading, hedging, diversifying and pooling of risk Allocating resources Monitoring managers and exerting corporate control Mobilizing savings Facilitate the exchange of goods and services Financial Development and Economic Growth Financial Intermediaries Create money and administer the payments mechanism Bringing together savers and investors Specialized knowledge and informational advantages Rationing via the interest rate Stock Markets Promote acquisition of information about firms Risk diversification Liquidity services Financial Development and Economic Growth Financial Repression Holding interest rates below equilibrium and directed credit The costs of financial repression Inefficient non-price rationing of credit Quasi-tax on growth Low savings The benefits of limited financial repression Forcing households to save via credit constraints Overcoming market failure in financial markets (e.g. externalities and information asymmetries) Financial Liberalisation as a means of Financial Development Measuring Financial Liberalisation Abiad and Mody’s (2005) index Consequences of Financial Liberalisation Fragility of the financial sector South Korea New Zealand? Sequencing of Financial Liberalisation Reform of the real economy Then reform of the financial sector The Case of New Zealand New Zealand’s Decade of Reform Economic and Political Motivations for Reform Theoretical Background Economic Stagnation and Decline The 1984 election and initial public support Principal-Agent Theory Public Choice Theory The Sequence of Reform Year Real GDP, 1995/96 Prices 20 04 20 02 20 00 19 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 80 19 78 19 76 19 74 19 72 19 70 19 68 19 66 19 64 19 62 19 60 GDP (NZ$m) Real Gross Domestic Product 140,000 120,000 100,000 80,000 60,000 40,000 20,000 0 Financial Liberalisation in NZ The Financial Sector pre-reform High degree of intervention and regulation Financial disintermediation Sequencing of Financial Liberalisation The Financial Sector post-reform Very open financial sector, virtually no specific regulations Investment Investment (% of Real GDP) 25.00 20.00 15.00 10.00 5.00 20 04 20 02 20 00 19 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 80 19 78 19 76 19 74 19 72 19 70 19 68 19 66 19 64 19 62 19 60 0.00 Year Private Investment Public Investment Total Investment Key Point: Public and Private Investment have diverged following liberalisation Savings 30.00 20.00 15.00 10.00 5.00 -5.00 Year Gross Domestic Savings (Claus and Scobie) Private Savings But there is a problem with how savings is measured 20 04 20 02 20 00 19 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 80 19 78 19 76 19 74 19 72 19 70 19 68 19 66 19 64 19 62 0.00 19 60 Savings (% of Nominal GDP) 25.00 M2 (RBNZ measure) Year Domestic Credit 20 04 20 02 20 00 19 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 80 19 78 19 76 19 74 19 72 19 70 19 68 19 66 19 64 19 62 19 60 M2 (% of Nominal GDP) Credit and the Money Supply 140.00 120.00 100.00 80.00 60.00 40.00 20.00 0.00 The Evidence Empirical Results for the Case of New Zealand Empirical Results Empirical results for New Zealand indicate that financial liberalisation has had a positive impact on investment but a negative impact on savings Estimated elasticities Financial Liberalisation-Investment = 0.112 Financial Liberalisation-Savings = -0.125 The estimated model also found some evidence that the Complementarity Hypothesis is relevant to the case of New Zealand Conclusions Financial liberalisation has increased the share of total investment to GDP Increased the efficiency of the financial sector Higher real interest rates more accurately reflect the scarcity of financial resources and increase the real return to investors Increased the ability of firms and individuals to invest by reducing credit constraints Financial liberalisation has decreased the share of gross domestic savings to GDP Lower credit constraints make it easier to borrow for consumption / investment rather than save. Transitional effects on savings behaviour as firms and individuals adjust to the new financial and economic structure. Questions?