Annual World Bank Conference on Development in Latin America by Shahid Javed Burki, Guillermo E. Perry

By Shahid Javed Burki, Guillermo E. Perry

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Extra info for Annual World Bank Conference on Development in Latin America and the Caribbean, 1998: banks and capital markets : sound financial systems for the 21st century : proceedings of a conference held in San Salvador, El Salvador

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This group of countries includes most of those in East Asia, several in Latin America, and some in East Europe. The second category of countries are being increasingly marginalized. Most of the countries in sub-Saharan Africa, some in East Asia, and some also in Central Asia belong to this group. The third group falls in between these two categories and this is where modernization and backwardness co-exist. Much of South Asia, North Africa, and the Middle East belongs to this category. Why draw this distinction among the countries of the Third World?

They thus must turn to loans and bonds; if their cash flow is insufficient, they may go bankrupt, an outcome to which they are very averse. , the spot market value of their product when it is finished). New investment thus carries an additional cost, above the interest rate in the neoclassical model, which is the marginal cost of bankruptcy. Anything that affects this marginal cost of bankruptcy will affect investment. Several factors are important. One is the firm's equity position. The stronger the equity position, the lower the marginal cost of bankruptcy from additional investment.

Unfortunately, this framework makes little sense in approaching finance, which is concerned with the exchange of money today for the promise of repayment. Given the existence of uncertainty and the lack of complete futures markets, this intertemporal transaction entails risks, especially the risk of bankruptcy. Information about these risksboth about the type of borrower and the actions he or she undertakes after borrowing the moneyis essential. The fundamental theorems of welfare economics, which assert that every competitive equilibrium is Pareto efficient, provide no guidance with respect to the question of whether financial marketswhich are essentially concerned with the production, processing, dissemination, and utilization of informationare efficient (Greenwald and Stiglitz 1986).

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