Asian finance and the role of bankruptcy: a model of the transition costs of financial liberalization |
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Institution: | 1. Southern Cross University, Australia;2. Sabaragamuwa University of Sri Lanka, Sri Lanka;1. Raymond J. Harbert College of Business, Auburn University, 405 W. Magnolia Ave, Auburn, AL 36849, United States;2. Hankamer School of Business, Baylor University, One Bear Place #98013, Waco, TX 76798-8013, United States;3. The University of Tennessee Chattanooga, 615 McCallie Ave, Chattanooga, TN 37403, United States |
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Abstract: | The degree to which bankruptcy is permitted to play a role in the allocation of capital is a key distinction of the state-directed financial regime of Japan, South Korea, and many other Asian economies. Focusing on the development and characteristics of the Japanese main-bank system and comparing it to the Anglo-American approach, this paper discusses the two approaches to finance and argues that a major problem with the bank-finance model used in many Asian countries is its minimization of bankruptcy risks. A three-sector development model is described and simulated to compare the outcomes of the two approaches separately and then to evaluate the transition costs of switching from a state-directed to a market-directed financial regime. The simulation results suggest that the market approach results in a higher long-run growth path because it eliminates inefficient firms through bankruptcy. The results also suggest that switching from a state-directed to a market-directed model can be very costly to the economy. These transition costs can be lowered by a phased-in liberalization but are increased by delay. We then discuss the policy implications. |
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