Abstract
M.A.
The objective of this thesis was to discuss capital account liberalization and banking
crises in emerging markets, against the backdrop of the Asian financial crisis in 1997.
This was discussed with an underlying objective of evaluating the soundness of the
South African banking system. The basis of this thesis was that a sound banking system
coupled with good macroeconomic policies would make South Africa less vulnerable to
global financial volatility.
On the East Asian financial crisis, we found that the main cause of this crisis was the
lack of prudent lending practices by most banking institutions. Lending practices were
largely shaped by institutionalized corruption. Bad lending practices originated from
connected lending as banks were owned and had strong links with big family
conglomerates. These conglomerates were highly leveraged with very low profit margins
and survived on cross-subsidization. As a result, they could not service their debts,
resulting in large bad debts and non-performing loans in the banking systems. These
non-performing loans and debt defaults had significant negative effects on banks'
profitability and business survival, as they eroded earnings and shot up credit exposure.
Furthermore, we also found that governments' political influence in the lending system
and weak macroeconomic management (large current account deficits, fixed exchange
rates and expansionary fiscal policies) contributed significantly to the East Asian
financial fragility.
Against this background, we recommend that emerging markets that want to liberalize
their capital accounts should ensure that sound banking systems are properly
entrenched. When financial systems are not strong, emerging countries would be
exposed to imprudent credit risk assessments by banking institutions, resulting in nonperforming
loans and collapse of those banking institutions.
Secondly, our view is that emerging markets should pursue and adhere to the core
banking principles of the Basel Committee on Banking Supervision. The objective of
these principles is to ensure that banks operate profitably and have good business
frameworks. The Basel Committee requires commercial banks to have solid and efficient
supervision departments, with strong intentions of evaluating credit risks associated with
loans and advances. Furthermore, central banks or any other custodians of banking
institutions should have capital adequacy requirements in order to protect depositors and
investors against any unforeseen liquidity pressures. From this thesis, we found that the South African banking system is sound. The low level
of non-performing loans in the domestic banking system is indicative of prudent credit
risk management. Even with prime interest rates at an all time high of 25% in late 1998,
most banks managed to escape large non-performing loans, especially from the
corporate sector. The brunt was mostly felt in the small business sector and household
debt category. The South African Reserve Bank's Supervision Department sets out
stringent guidelines with regard to the lending practices of banks. Banks are not allowed
to overexpose themselves to particular clients, as was the case in East Asia. This also
extends to deposits. Banks are not allowed to take deposits above 25% from a single
source. The objective is to guard against liquidity pressures that could occur when that
particular depositor withdraws the funding.