Annex IV. Case Studies: Regional Integration
- International Monetary Fund
- Published Date:
- December 2008
Market Integration in Europe
In Europe, cross-country market access is based on the “single passport” concept. Products and financial intermediaries authorized in one European Union (EU) country have free access to the other EU member countries, based on the authorization given by the home country. For that purpose the European Directives establish minimum common authorization requirements, as well as a certain minimum common approach toward the authorization process by all EU members. Supervision relies mainly on the home country, although under certain circumstances the host country can also exercise supervisory powers.
The Lamfalussy Committee in 2001 proposed a new structure to streamline the preparation of regulations and to foster supervisory convergence between national securities supervisors. This structure has three levels: (1) the Ecofin Council and European Parliament decide on the broad framework principles in Directives and Regulations, (2) regulatory committees (composed of high-level representatives from the ministries of finance) vote on the proposals of the European Commission for implementing technical measures, and (3) supervisory committees (composed of high-level representatives from the relevant supervisory authorities) advise the European Commission on promoting a consistent implementation of EU directives and convergence of supervisory practices.
These institutional and legal arrangements have provided the framework for private-company-led efforts that have deepened securities market integration. Euronext is a cross-border exchange that integrates trading and clearing operations on regulated and non-regulated markets for cash products and derivatives. It was formed in 2000 in response to the globalization of capital markets and, to create a pan-European exchange offering, its participants increased liquidity and lowered transaction costs. Euronext countries’ trading rules have been largely harmonized, under the responsibility of the exchange, but each local market remains subject to its domestic regulation (public law rules), under the supervision of the local authorities. The trading of most securities is done on a unified order-driven platform. Clearing involves a central counterparty—the LCH Clearnet Group—for all exchange-executed trades. In contrast, settlement is partially decentralized, and can be done on the books of several entities.
The Eurolist market operated by the Euronext group brought together the cash markets of France, Belgium, Portugal, and the Netherlands. Up until 2005, the markets used a com mon trading platform, but listing requirements were different. Since 2005, the four markets have shared the same listing requirements, thus facilitating the cross-listing of issuers. Clearance, settlement, and the depository are not fully centralized; rather, each market has its own arrangements. This example of business integration has forced the regulators to take additional steps to ensure proper coordination of their efforts through the signing of memorandums of understanding (MOUs) on the supervision of Euronext and Euroclear.
Notwithstanding all the progress already achieved, there are still concerns regarding the costs of cross-border transactions. On July 11, 2006, the Head of Internal Markets at the European Commission set out a voluntary code of conduct aimed at achieving interoperability between Europe’s many stock exchanges, clearing houses, and settlement firms, as well as a timetable for its implementation. Customers of Europe’s stock exchanges have been critical of the “vertical silo” model, in which a single owner-operator operates one country’s stocks and derivatives markets along with its post-trading services, which in the opinion of many is making trading in Europe more expensive than in the United States. The first phase will include measures aimed at achieving price transparency by the end of the year. Interoperability will come in the second phase; and it will require all stock exchanges, clearing houses, central counterparties, and central securities depositories to be able to send instructions to and from one another. This will allow any customer to choose its own provider of post-trading services. The third phase would encompass complete unbundling of all services and separate accounting for each service provided.
Integration of the Baltic Markets with Nordic Area Markets
The Baltic financial markets have achieved a significant but apparently slowing degree of integration with those of the Nordic area.66 Individually, each of the Baltic equity markets may be too small to be viable—at end-2005, the combined market capitalization of equity markets in the Nordic-Baltic countries was $1.2 trillion. Until the mid- and late 1990s, market integration of these countries was affected by restrictions on selected cross-border equity transactions and by limited foreign ownership of individual companies. After most barriers to cross-border equity transactions were removed in the context of EU integration, foreign ownership of listed companies rose sharply. For example, nonresident investors held 60 percent of market capitalization of the Talinn Stock Exchange in 2006.
Market integration was initiated by Norex, the strategic alliance, originally agreed to between Nordic stock exchanges. The alliance encompasses harmonized membership requirements and trading rules and the removal of cross-country entry fees. The Saxess trading platform, which serves as a single point of entry for the Nordic markets, supports trading in a wide range of cash and derivatives instruments, different trading models, and both order-driven and price-driven market structures.
Integration has been facilitated by the purchase of all but one of the regional stock exchanges by the OMX Group of Sweden.67 Integration has been furthered by harmonization of share indices, a common “Nordic List” organized by market capitalization and industry, new corporate governance codes for issuers, and harmonized listing requirements among the OMX Nordic exchanges.
Regional market intermediaries and remote membership are also enhancing integration. In 2002, banking groups from Denmark, Sweden, Norway, and Finland agreed to offer clearing, settlement, and custody to international and domestic customers. Ten brokers account for about 42 percent of global equity turnover in the region, with six belonging to global investment banking groups.
In 2004, the three Baltic stock exchanges jointly established the Baltic Market by integrating trading and settlement systems. This is part of the larger OMX group of exchanges, and it offers ease of access to more than 80 percent of the exchange trading in the Nordic and Baltic countries. However, the Baltic Market and the Nordic Market adopted separate operation frameworks for the moment, because they are at different stages of development. The Baltic Market offers for the three exchanges the advantages of easy cross-membership, a common trading system, harmonized market practices and rules, efficient cross-border trading and settlement services, one market information source such as a common securities list, harmonized corporate information, a common index, and a common data website. A Baltic Fund Center, which was established in 2006, allows investors to more easily compare investment funds and fund-management companies. Further, the Baltic Market introduced an Alternative Securities Market targeting small and medium-sized companies (First North Baltic) in 2007.
Further integration of the Nordic and Baltic markets as one entity is envisaged. The plans call for investors to have full access to all trading both in the Nordic and Baltic exchanges. This would be made possible by full integration of membership applications, trading systems, practices and rules, and information sources.
Supervision is taking the form of arrangements among regulators rather than institutional consolidation. Several Nordic market regulators have concluded an MOU on cooperation in the supervision of the OMX group, and Nordic central banks have signed cross-border MOUs on the oversight of stock exchanges and payment and settlement systems. Further, MOUs are being signed covering cross-border central securities depositories (CSD) groups.
Trading is well integrated for the Nordic-Baltic exchanges, but integration has slowed for clearing and settlement. Clearing and settlement systems use different technologies and are tailored for domestic markets. Upgrading and integrating these systems will be costly. Further, banks are in many cases shareholders of the CSDs and members of the exchange, and also provide other services to investors. Because integration of post-trading infrastructures can alter the profitability of various services, these different products can create conflicts and make it in their interest to slow integration.
The Baltic markets seem to be evolving as an integrated entity unto themselves rather than as part of the Nordic Market. For example, the Baltic exchanges are not part of a CSD created in 2004 by the Nordic exchanges. The divergence of the Baltic exchanges may reflect their smaller economic sizes, different corporate structures, and less-developed country markets.68 The separate path suggests that the Baltics are not fully integrated with their more developed Nordic neighbors, and that it is likely to take time for the Baltics to benefit from the full-fledged regional integration enough to attract global investors’ interests.
The setting for market integration in Central America is mixed. On the plus side, financial groups own subsidiaries in almost every country in Central America, and the key shareholders of the most important financial groups are from the region. However, capital market integration is impeded by different currencies, restrictions on domestic institutional investors, the presence of as many as eight exchanges and custodians, the mutual structure of most exchanges, the presence of competing exchanges and custodians, and regulatory conflicts.
Steps toward regional integration have been mainly with respect to the regulators and stock exchanges of Costa Rica, El Salvador, and Panama. In 2003, El Salvador and Panama signed an MOU committing to a fast-track registration of primary issues and mutual funds, Panama granted El Salvador the status of recognized jurisdiction, and El Salvador and Costa Rica signed another MOU agreeing to streamline the registration process, but the impact of this cooperation has been limited. The stock exchanges of Costa Rica, El Salvador, and Panama signed an MOU in September of 2006 for the development of a common trading platform, but progress in implementation has been slow. Further, the exchanges agreed to seek the technical support from OMX.
The slow pace of integration reflects perceived differences in regulation and the challenge of passing new legislation in support of harmonization. There is a perception that the quality of supervision is uneven across countries, and countries that believe they have higher standards of regulation and supervision are not willing to compromise those standards. Other efforts to achieve broader harmonization in Central America have yet to bear fruit because the differences in the regulatory requirements are perceived as significant, and therefore efforts to harmonize them would require legislative amendments, for which it would be difficult to gain political support.
Policy measures are available to help set the stage for integration. Indeed, market participants seem to be positioning themselves through partnerships with regional counterparts to take advantage of regionaliza-tion. A decisive signal by the authorities to harmonize varying regulations could provide an effective signal to align issuers, investors, and intermediaries toward such a goal. Equity market integration could piggyback off of the already fairly liquid government securities markets by government efforts to foster listing and trading in a shared or linked marketplace.
Other Examples of Smaller Economy Regional Equity Market Integration
The first steps toward equity market integration are under way in several groups of smaller economies, in addition to the Baltics and Central America. The stock exchanges of Kenya, Uganda, and Tanzania offer a cross-listing service that enables firms to list their shares on all three exchanges simultaneously. Jamaica has also facilitated trading and transferring shares with Trinidad and Tobago and Barbados through a network of CSDs. These are examples of regional integration among countries at a similar stage of market development, rather than a merger of smaller markets with a larger neighbor. In Maghreb countries, measures fostering information and technology sharing, cross-listing, and cross-border investment would boost equity markets and ultimately lead to broad financial integration.
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248. Labor Market Performance in Transition: The Experience of Central and Eastern European Countries, by Jerald Schiff, Philippe Egoumé-Bossogo, Miho Ihara, Tetsuya Konuki, and Kornélia Krajnyák. 2006.
247. Rebuilding Fiscal Institutions in Post-Conflict Countries, by Sanjeev Gupta, Shamsuddin Tareq, Benedict Clements, Alex Segura-Ubiergo, Rina Bhattacharya, and Todd Mattina. 2005.
246. Experience with Large Fiscal Adjustments, by George C. Tsibouris, Mark A. Horton, Mark J. Flanagan, and Wojciech S. Maliszewski. 2005.
245. Budget System Reform in Emerging Economies: The Challenges and the Reform Agenda, by Jack Diamond. 2005.
244. Monetary Policy Implementation at Different Stages of Market Development, by a staff team led by Bernard J. Laurens. 2005.
243. Central America: Global Integration and Regional Cooperation, edited by Markus Rodlauer and Alfred Schipke. 2005.
242. Turkey at the Crossroads: From Crisis Resolution to EU Accession, by a staff team led by Reza Moghadam. 2005.
241. The Design of IMF-Supported Programs, by Atish Ghosh, Charis Christofides, Jun Kim, Laura Papi, Uma Ramakrishnan, Alun Thomas, and Juan Zalduendo. 2005.
240. Debt-Related Vulnerabilities and Financial Crises: An Application of the Balance Sheet Approach to Emerging Market Countries, by Christoph Rosenberg, Ioannis Halikias, Brett House, Christian Keller, Jens Nystedt, Alexander Pitt, and Brad Setser. 2005.
239. GEM: A New International Macroeconomic Model, by Tamim Bayoumi, with assistance from Douglas Laxton, Hamid Faruqee, Benjamin Hunt, Philippe Karam, Jaewoo Lee, Alessandro Rebucci, and Ivan Tchakarov. 2004.
238. Stabilization and Reforms in Latin America: A Macroeconomic Perspective on the Experience Since the Early 1990s, by Anoop Singh, Agnès Belaisch, Charles Collyns, Paula De Masi, Reva Krieger, Guy Meredith, and Robert Rennhack. 2005.
237. Sovereign Debt Structure for Crisis Prevention, by Eduardo Borensztein, Marcos Chamon, Olivier Jeanne, Paolo Mauro, and Jeromin Zettelmeyer. 2004.
236. Lessons from the Crisis in Argentina, by Christina Daseking, Atish R. Ghosh, Alun Thomas, and Timothy Lane. 2004.
235. A New Look at Exchange Rate Volatility and Trade Flows, by Peter B. Clark, Natalia Tamirisa, and Shang-Jin Wei, with Azim Sadikov and Li Zeng. 2004.
234. Adopting the Euro in Central Europe: Challenges of the Next Step in European Integration, by Susan M. Scha-dler, Paulo F. Drummond, Louis Kuijs, Zuzana Murgasova, and Rachel N. van Elkan. 2004.
233. Germany’s Three-Pillar Banking System: Cross-Country Perspectives in Europe, by Allan Brunner, Jörg Decressin, Daniel Hardy, and Beata Kudela. 2004.
232. China’s Growth and Integration into the World Economy: Prospects and Challenges, edited by Eswar Prasad. 2004.
231. Chile: Policies and Institutions Underpinning Stability and Growth, by Eliot Kalter, Steven Phillips, Marco A. Espinosa-Vega, Rodolfo Luzio, Mauricio Villafuerte, and Manmohan Singh. 2004.
230. Financial Stability in Dollarized Countries, by Anne-Marie Gulde, David Hoelscher, Alain Ize, David Marston, and Gianni De Nicolò. 2004.
229. Evolution and Performance of Exchange Rate Regimes, by Kenneth S. Rogoff, Aasim M. Husain, Ashoka Mody, Robin Brooks, and Nienke Oomes. 2004.
228. Capital Markets and Financial Intermediation in The Baltics, by Alfred Schipke, Christian Beddies, Susan M. George, and Niamh Sheridan. 2004.
227. U.S. Fiscal Policies and Priorities for Long-Run Sustainability, edited by Martin Mühleisen and Christopher Towe. 2004.
226. Hong Kong SAR: Meeting the Challenges of Integration with the Mainland, edited by Eswar Prasad, with contributions from Jorge Chan-Lau, Dora Iakova, William Lee, Hong Liang, Ida Liu, Papa N’Diaye, and Tao Wang. 2004.
225. Rules-Based Fiscal Policy in France, Germany, Italy, and Spain, by Teresa Dában, Enrica Detragiache, Gabriel di Bella, Gian Maria Milesi-Ferretti, and Steven Symansky. 2003.
224. Managing Systemic Banking Crises, by a staff team led by David S. Hoelscher and Marc Quintyn. 2003.
223. Monetary Union Among Member Countries of the Gulf Cooperation Council, by a staff team led by Ugo Fasano. 2003.
222. Informal Funds Transfer Systems: An Analysis of the Informal Hawala System, by Mohammed El Qorchi, Samuel Munzele Maimbo, and John F. Wilson. 2003.
221. Deflation: Determinants, Risks, and Policy Options, by Manmohan S. Kumar. 2003.
220. Effects of Financial Globalization on Developing Countries: Some Empirical Evidence, by Eswar S. Prasad, Kenneth Rogoff, Shang-Jin Wei, and Ayhan Kose. 2003.
219. Economic Policy in a Highly Dollarized Economy: The Case of Cambodia, by Mario de Zamaroczy and Sopanha Sa. 2003.
Note: For information on the titles and availability of Occasional Papers not listed, please consult the IMF’s Publications Catalog or contact IMF Publication Services.