financial system, but also intersectoral issues, such as meshing the roles of banks, development banks and the capital market. The sooner these changes occur, the sooner India will reap the benefits of a financial system appropriate to its development and to the changes that are taking place globally. At the same time, concern also exists that the pace and direction of change should minimize the risk of financial distress and macro-instability that has hit many countries (Caprio). This concern is particularly relevant in light of the recent East Asian crisis. This paper is organized as follows: the next section discusses the importance of incentives and legal, regulatory and supervisory issues in reform. The following section provides a brief history of India's shift from financial repression to financial liberalization. The last section, the bulk of the paper, lays out seven interrelated
challenges that India faces in its second wave of financial sector reforms:
2 1. reducing the fiscal deficit, to reduce the risk of macroeconomic instability and to increase the availability of finance to the private sector; 2. improving the legal, regulatory and supervisory frameworks, in order to improve banks' credit and risk management; 3. improving systems for dealing with weak banks; 4. developing capital markets further, 5. developing pensions and insurance to increase finance for long term investments, including infrastructure; 6. improving financial services to improve the welfare of customers and meet the challenge of globalization of financial services; and 7. managing links to external capital markets;
and possible approaches to meeting these challenges.
B. The importance of incentives and the legal, regulatory and supervisory framework.
Building a sound incentive framework, that encourages individuals and institutions to provide, gather and prudently use information to make sound decisions, with appropriate rewards for success and penalties for failure and malfeasance, is a key element in financial reform. Poor availability and use of information on users of funds is a major factor in bad credit and risk management, and responsible for many weak banks. Lack of information on borrowers reduces their incentives to service debt and leads to higher average borrowing costs, because lenders cannot distinguish between good and bad borrowers. Information problems have played an important role in many systemic

上一页下一页