Financial Stability Board’s strong outreach in Global Financial resilience is expected

Korea will be the first emerging economy to host the Financial Stability Board meeting on the 20th of October, 2010. In its third plenary meeting in Basel, Switzerland, the board decided to have the fourth event in Seoul before the G20 summit. Since Korea is also the chair country of upcoming G20 forum, a Financial Services Commission official said that Korea will be able to take the lead in reforming the financial framework.

 The Financial Stability Board (FSB) was established in April 2009 as the successor to the Financial Stability Forum (FSF). The FSF was founded in 1999 by the G7 Finance Ministers and Central Bank Governors to promote stability in the international financial system. Yet, among the leaders of G20 countries, there had been a broad consensus on stronger institutional ground with an expanded membership. And this movement resulted in the creation of FSB, an extended form of FSF. In an attempt to strengthen its effectiveness, financial authorities from the G20 nations, international financial institutions and several global standard setting bodies joined the FSB as the new members. The FSB performs the initiative role to develop and implement strong regulatory, supervisory and other policies in pursuit of financial stability. 

 As a member of FSB, Korea, especially the Bank of Korea and Financial Services Commission came to have an even more crucial role. FSC is involved in FSB Steering Committee which provides operational guidance and sets the agenda in general. So FSC has been trying to boost regular meetings among the FSB leaders and to continue active discussions. One of them was the financial reform conference called “Envisioning a New Financial System: An Emerging Market Perspective” which Dong-Soo Chin, the chairman of FSC held on Sep.2 in Seoul. The conference called attention to the increasing impact of emerging markets to the world economy, paving the way for more balanced participation of emerging countries in the global finance sector.



(Sep.2th Korea-FSB Financial Reform Conference, taken from Herald Media)

In fact, a decade ago, Korea felt the tremendous pain due to 1997 Asian Financial Crisis. In the wake of 1997 crisis, Korea had no choice but to strongly restructure corporate and financial field, dealing with long-neglected structural problems hidden behind rapid growth. Passing a time of economic revitalization and renewal, Korea learned valuable lessons and now, it is positioned as one of the competitive global economies. This unique experience enables Korea to serve as a potential broker that can bridge the gap between the emerging and the advanced markets.

 Sharing Korea’s pre-experience and know-how, particularly on financial regulation reform, perspectives of emerging economies can be brought into the global reform process. Many experts admit that Asia will be the engine of future global economic growth. In order to make the emerging markets less vulnerable to external shocks, global financial safety net is strongly required and in this sense, international standards will help them free from poor financial infrastructure.

 Currently, a lot of critical financial agenda are on the FSB table. For instance, to enhance transparency among market participants, prudent oversight of capital, liquidity, leverage and risk management is necessary. Along with Basel III, which delineates the rate of bank capital buffer, Bank Levy is considered a possible measure to increase banks’ crisis management capability, although the feasibility of the proposal still remains to be seen. Furthermore, efforts to reduce systemic risk generated by interconnectedness among financial institutions worldwide led to global coordination to devise measures that cover broader range of financial markets and instruments. Systemically important financial institutions will be strictly monitored and the size of “shadow banking” such as hedge funds and off-balance sheet entities will be shrunk. New international controlling standards on hedge funds will emerge and Central Counter Parties will be installed for over-the-counter (OTC) derivatives. In addition, more standardized forms of OTC products will be used and regulation on credit rating agencies will be intensified. 

                                                                                               (Picture from the Korea Times)

The FSB will take up a vital role of making these regulatory reform recommendations to the G20 summit. Once a certain regulatory reform is approved and adopted through the Financial Stability Board and G20 forum, those international standards are to be implemented by each country. Throughout this highly critical process, Korea is anticipated to undertake a number of initiatives to assess each regulation across sectors, identify regulatory gaps and examine related issues, and reflect emerging Asian market perspective. Gearing up for the G20 summit, FSB activities are an important step in facilitating G20 reform agenda. Everyone hopes to see successful outcome from the impending FSB meeting in Seoul.

Lee, Ki Yeon (


Korean Bond Market: History and Recent Institutional Approaches to Development (2)

In the previous post, we laid out the major phases of the development of the Korean bond market. Here we would like to discuss about some measures that led to today’s success. In fact, a number of factors may explain the successful development of the Korean bond market. But most important of them all is the myriads of institutional approaches taken by the government.

Institutional Innovations for Government Bond Development

With respect to government bonds, particularly treasury bonds, the primary dealer system (June 1999), the delivery-versus-payment system (November 1999), the reopening system (May 2000), and the mandatory exchange trading system for benchmark issues (October 2002) are regarded as the most effective tools that advanced the market.

The primary dealer system, first introduced in 1999, was supplemented by a new policy which required primary dealers to trade 40 percent of their benchmark issues through the electronic trading system platform established in Korea, the Korea Exchange (KRX). Despite initial concerns that this attempt would polarize the market and divide the liquidity between the exchange and over-the-counter (OTC) markets, there is a study (D Park, C Rhee, S Shin, 2006) that reveals it actually reinforced the transparency and liquidity even for the OTC market. Yet, among the many benefits that came with this trading policy, providing a benchmark rate that every market participants could credibly follow should be considered the most important aspect of this system.

The delivery-versus-payment (DVP) system provided the necessary infrastructure to ensure that transactions were executed without posing principal risks to the participants. 

The reopening system was essentially designed to establish a benchmark yield curve and to enhance the liquidity on its profile of bonds along the maturity spectrum. After the system was introduced, it increased the depth of newly issued benchmark issues. A study also revealed that this measure contributed to increased on-the-run benchmark issues (K Kang, G Kim, C Rhee, 2004). All in all, these measures considerably lowered the bid-ask spread, which is considered the proxy for gauging market efficiency, from 0.2 percent in 2002 to 0.03 percent in 2008.

Furthermore, the introduction of KTB futures (September 1999), strips and 20-year treasury bonds (March 2006), and inflation-indexed bonds (March 2007) all widened the range of choices for investors and further deepened the depth of the market.

Institutional Innovations for the Secondary Market

In the first part of this article, we focused on the development of Korean treasury securities and the primary market; here, we would like to explain the recent institutional approaches to bolstering the secondary market. Traditionally, the secondary market, where over-the-counter market accounts for 80 percent of the transactions, is marked by a lack of transparency and high transaction fees. Accordingly, there was a growing demand to overhaul the system. In response, in March 2009, the Financial Services Commission (FSC) and other parties formed a coalition to lay a foundation to build a more efficient secondary market. A task force led by the FSC came up with a game plan: establishing an exclusive trading system for bond trading. Finally, in April 2010, the highly anticipated “FreeBond” system opened. It complements the hybrid brokerage model, which involves the usage of voice and online messenger brokerage, by combining it with a trading board that conveys information about the OTC market by relaying real-time quotes, transaction histories, new issuances, etc.

Remaining Issues

It is known that for an underdeveloped bond market, the government can promote market efficiency by playing an active role. Thus far, the various institutional approaches and fiscal expansion have undoubtedly backed up that assumption. Korea started from scratch, but it eventually worked its way up to one of the largest bond markets in Asia. Nevertheless, Korea still faces several outstanding issues that need to be resolved. While the government bond market grew exponentially, the size of the corporate bond market has remained practically the same for years. Companies should acknowledge the importance of bond financing and should actively seek it more, rather than relying on bank loans. Meanwhile, the government should create a conducive environment for bond investors to make corporate bonds more appealing to them. We hope that the recent infrastructure development, for example the “FreeBond” system, can have positive flow-on effects on the primary market by enhancing its market efficiency in the OTC market. Lastly, it is necessary to overhaul the money market practices prevailing in today’s market. These days, the call money market in Korea, an equivalent of the interbank lending market, mostly operates on the basis of unsecured lending. While its low interest rates and other features may be convenient to the borrower, it could lead to contagion risks if the counterparty defaults on its obligations. Several approaches are being discussed to curb the prevailing excess call money market development, and one of the plans that the government is actively seeking is nurturing the repo market. It is expected to solve the potential problems prevalent in today’s money market.

Despite the several persisting issues, Korea’s experience illustrated here serves as an example for countries where bond markets are not yet fully developed. It is also a call on those investors who are interested in the Korean market.

Donald Lee (