firmly in place has been confirmed through an abundance of historical evidence.
A Desirable Direction of Reforming Korea's Financial Supervisory Organization
The right direction of reforming the supervisory system is, of course, to heighten the stability of the financial system and to facilitate the growth of the financial industry. In order to understand what kind of reform complies with this direction, we may well look into the financial history to see how the financial supervisory system came into existence. Among many kinds of the financial businesses, the banking business appeared first in time. It began with the goldsmith's safe-keeping business of gold and developed through its loaning a part of gold so received to others. However, as the frequency that banks unable tot recover the loans fell into bankruptcy increased, distrust by the customers of banks grew deeper.
In a way to overcome such distrust of customers, banks expanded the functions of the clearing house that they already established and utilized for other purposes. In other words, member banks of a clearing house authorized it to issue its own liabilities for a distressed bank to make use of them as collateral when borrowing needed funds (role of a bankers' bank), and to supply additional amounts of its liabilities when the amount of its liabilities owned by the troubled bank is insufficient (role of a lender of last resort), and to supervise member banks to make the above-mentioned functions to be effectively performed.
A central bank was born when the monopoly power of issuing currency was added to those functions thus bestowed to the clearing house to resolve the credit crisis of banks. Lessons derived from this historic episode are, firstly, that the bank supervisory organization was not created to control the banking industry but to prevent the credit decline of banks to their customers and at the same time to foster sound growth of the banking business. Secondly, as shown above, the bank supervisory function and the central banking function were originally given to one institution like a clearing house. This means that when the central banking function and the bank supervisory function were conferred to the same institution they would become much more effective.
The central banking function was first separated from the bank supervisory function in West Germany after the World War II. Germany having suffered severely from hyperinflation at the end of World War II, discussions surrounding establishment of a central bank in West Germany at the time were naturally focused on how to give independence to it. And the rumor had it that the then prime minister Adenauer who did not like the overly bloated central bank insisted on having the two functions separated. In any event, West Germany had established a central bank deprived of the bank supervisory function for the first time in history. So conceived as the central bank of West Germany, Bundesbank had performed the monetary policy so well as to realize the most stable economy in the world, and many people believed that such a stable atmosphere was the foundation of making possible for the miracle of the German economy to come to pass.
Due to this uniquely German experience, separating the bank supervisory function from the central banking function is deemed to be essential for an independent central bank to perform the monetary policy more efficiently. For this reason, when Great Britain was to give independence to the Bank of England, its central bank, it separated the supervisory function from the Bank of England. And this way of thinking seems to play a greater role in designing the financial supervisory organization for the entire European Union, too.
However, when various financial supervisory organizations were to be integrated in Great Britain at the time, other factors also affected the integrating process. There were several independent and separate self-regulatory organizations, one for each of the fragmented financial fields. At the time, the integration of fragmented financial markets deemed to be inevitable, and integrating these self-regulatory organizations was thought to be the catalyst for integration. And the informations were not considered to be exchanged smoothly among these separate and independent self-regulatory institutions so that merely integrating them would reduce the systemic risk of the financial markets substantially. However, Paul Volker who once served as the chairman of Federal Reserve Board had doubted the wisdom that the exchange of informations would be made more smoothly within the integrated supervisory organization than among the separated ones. Perhaps it might be the influence of Volker's opinion that the issue of integrating the financial supervisory organizations for the entire European Union under one roof has yet to be concluded.
But the establishment of an integrated financial supervisory organization in Korea was influenced more from the idea of Japan than that from Great Britain. Though liberalized from Japanese Rule, Korea inherited the Japanese style financial system in whole and the way in which they utilized financial institutions, including banks in the center, as fund procurement routes for economic development. Under such circumstances, it was more than natural that the influential power of the Ministry of Finance in Japan and that of the Ministry of Finance in Korea became second to none.
Strangely enough, however, being in almost the same situations, Japan pursued in the direction of establishing the integrated supervisory organization to reduce the vast power of the Ministry of Finance, while Korea pursued in the direction of establishing the similar organization to take away the supervisory function from The Bank of Korea, the central bank. Therefore, in Korea, the Japanese style bureaucratic supervisory system was consolidated in the direction of strengthening the power of the Ministry of Finance (and Economy). But to minimize the resistance against the process of integration from the personnel of the existing supervisory institutions, they had to take over them as they were. For this reason, the final outcome of reorganization took a dualistic form, though maybe transitory, consisting of the Financial Supervisory Service as a private institution and the Financial Supervisory Commission as an agency of the government.
This background history of establishing the financial supervisory organization is very different from the original purpose of providing the financial supervisory function to the financial industry. When Great Britain established the integrated financial supervisory organization, it organized the supervisory organization as a genuinely private one, in order to conform with the original purpose of providing it, and made it the supreme purpose of the financial supervision to provide benefits to the businesses and consumers as the customers of the financial institutions. Therefore, in Great Britain, the supervisory organization has never intervened in the affairs of the business companies, unlike Korea's supervisory organization. As a financial supervisory institution, it has only observed whether banks would make right assessment of the corporate governance of business companies.
Such policy direction of the financial supervisory organization should be right for supporting the development of the financial industry that provides benefits to the business corporations and consumers. But the present attitudes of Korea's financial supervisory organization is not to provide benefits to the customers of financial institutions but to tighten control on them, resulting in the debacles such as that of the card industry. These days, the Ministry of Finance and Economy, the Financial Supervisory Service and the Financial Supervisory Commission are busy tossing the responsibilities to each other for imposing the debacle-inducing restrictions at the wrong moment. In retrospect, if the supervisory organization did not suddenly change the course and impose restrictions on the card industry, the card industry might have led a revolution in our financial industry. The LG Credit Card crisis clearly has shown that the stricter the restrictions are, the greater is the likelihood of a financial crisis.
What type of impacts this bureaucratic financial supervisory system has brought about in our financial industry was shown clearly in the comparison of the international competitiveness reported by IMD, sometime ago. Among the 60 countries included in the report, Korea has taken the 40th place. There is nothing to be surprised about. Despite the undeniable truth that our banks could not be effectively privatized without the inflow of funds from the business conglomerates into the financial industry, The MOF's blocking of them is a concealed attempt to perpetuate the virtual state ownership structure of our banks. And it is proven empirically that the financial industry and the financial markets could not develop under such circumstances. Barth (Auburn University) and others made it clear that as the state ownership of banks gets deeper, the regulatory restrictions get stronger and weaken further the competitive strength of the financial industry, through a quantitative analysis using the data from the 109 countries.
And, if more stringent regulations were implemented under the present situation where the financial institutions are unable to decide even their business fees, it is clear that our financial industry would be unable to make any further progress, and therefore, the efficient restructuring of the business industry which is urgently needed at this stage of development would be also very difficult to expect. The government has been trying to attract 50 largest worldwide financial institutions into Korea. If its aim is to make Korea as a financial hub of northeast Asia, it is clearly an ill-considered idea. In light of the experiences of Frankfurt and Tokyo that tried in vain to become the hubs of regional financial markets comparable to London, the success would not be forthcoming unless there is a revolutionary liberalization in both the financial and industrial fields at the same time. But such a liberalization would be almost impossible, under the situation that the job of reforming the financial supervisory organization in the right direction could not be made.
The financial supervisory organization is said to be unable to catch up with the development of the financial market, even if it is a purely private organization. Therefore, where the Japanese style bureaucracy and the leftist interventionism tend to prevail, with the dinosaur-sized supervisory organization in place, making the financial supervisory organization a purely private organization would not be sufficient for expediting for the financial industry to grow and develop efficiently.
The best way to guarantee the growth and development of the financial industry as far as possible is to stimulate financial innovations and intensify the competition through them. For this purpose, it is better to have the financial supervisory organization divided rather than integrated. And the indirect supervision like capital regulations would make it even better. Also, in the financial sectors that are in the early stage of development like the card business, it is said to be better to have the benign neglect policy on them. And the supervisory function is said to be more effective with less regulations. In building up such an atmosphere, it would be a great help if the authorities given to the financial supervisory commission shall be turned over to the Monetary Board of the Bank of Korea, in order to maximize the advantages resulting from the integration of the central bank function and the supervisory function, and to secure the political neutrality of the financial supervisory function.
Kim Han-eung (Joint Representative, Free Citizen's Alliance of Korea, email@example.com)