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News Release

Financial Services Liberalized Little in Recent WTO Agreement, But Future Negotiations can Contribute $1.3 Trillion to World Economy

June 22, 1998

Contact:    Wendy Dobson    (416) 978-7792
    Pierre Jacquet    (011) 33-1-4061-6010
    Jeffrey J. Schott    (202) 328-9000

Washington, DC—The first comprehensive analysis of the Financial Services Agreement (FSA), signed at the World Trade Organization (WTO) last December, concludes that it usefully locked in prior reforms in a number of countries but achieved little new liberalization in this crucial sector. To realize the full extent of the potential benefits from full opening of the sector, the countries involved should substantially improve their offers before the FSA is implemented in March 1999 and in the next WTO negotiations beginning in 2000.

The new study, Financial Services Liberalization in the WTO by Wendy Dobson and Pierre Jacquet, provides a detailed analysis of the financial sectors and the impact of the new FSA in a number of key countries. It stresses in particular the status of financial sector reform in the crisis countries of East Asia (Japan, Indonesia, Malaysia, South Korea and Thailand) and suggests how properly sequenced liberalization can contribute to their recovery.

Dobson and Jacquet conclude that the FSA largely formalizes the status quo, enabling most of the key countries to bind their existing liberalization through an international agreement, and provides a mechanism for settling disputes. Very little additional reform was agreed in the key banking sector, however (although subsequent IMF programs have stimulated such reform in Indonesia, South Korea and Thailand). Neither industrial nor developing countries further opened their markets to any significant degree. The main exceptions were liberalization of the insurance and securities sectors in a few emerging market economies.

The authors also argue that, in addition, the FSA breaks important new ground by including financial services in the management of global interdependence. Moreover, the potential payoff from future liberalization is substantial. Financial market development is an important source of economic growth because of the contribution that financial systems make to capital accumulation and productivity enhancement. Such development depends on domestic deregulation and measures to strengthen financial systems, including opening to foreign competition. Market opening and foreign entry, which are the focus of the FSA, are particularly important because foreign institutions bring new skills and products, promote competition and efficiency, and diversify domestic financial systems.

Market access in financial services, however, is distinct from full capital account convertibility. Open and efficient financial systems, rather than fully free capital movements, are keys to economic growth. Dobson and Jacquet estimate that the present value of benefits of reform between now and 2010 to users-households, businesses and governments-from lower costs, higher quality services, and more choice and greater competition, could amount to as much as $1.3 trillion.

The authors note that these benefits are often seen to be offset by risks and costs such as possible financial crises, loss of domestic control of the financial sector as a "strategic" sector, and political backlash from those who lose from such reforms. They emphasize, however, that internationalization is not the problem but instead contributes to the solution because of the positive role that financial institutions can play. Good macroeconomic fundamentals and reform of the financial sector, including more effective supervision, are necessary preconditions to reduce the risks of internationalization as the recent Asian crisis makes clear. While the economic and political risks are real, the answer is not to halt the reform process but to emphasize the concomitant need to strengthen the financial system's ability to evaluate and manage risk.

Governments should thus strive to go beyond their current modest commitments in the FSA when it is implemented in 1999 and in the next major multilateral trade negotiations beginning in 2000. In order to break new ground and create the fresh impetus that is needed to advance financial services liberalization, the agenda of the latter could usefully address financial services in the context of the broader issues of competition policy and foreign direct investment, which are so integral to market access in all sectors. Whatever the context, future negotiations to improve the FSA should:

  • secure the right of financial services firms to establish themselves and operate freely in all participating countries;
  • provide national treatment for these firms once established;
  • free cross-border trade in financial services and movements in personnel; and
  • provide limited and transparent exemptions and MFN-compatible grandfathering of existing investments.

Further international cooperation of this type will be important to sustain the momentum of market opening that is now occurring through the implementation of international banking standards and advances in supervision, as now included in all major IMF programs. Cooperation will also be required among the multilateral institutions involved in finance and financial services trade; for example, IMF programs should in the future routinely include the financial sector and IMF-sponsored reforms should be bound in WTO commitments.