Helping Build Local Bond Markets

• Author: Ceyla Pazarbasioglu
• Position: IMF Monetary and Capital Markets Department
• Pages: 1-5

Page 1

In a world of large-scale capital flows, the development of a local bond market has become a priority for many emerging market countries. Well-functioning local bond markets make a vital contribution to the efficiency and stability of financial intermediation and to economic growth.

Many emerging market countries have liberalized their capital accounts, improved their macroeconomic environment, and made advances in financial innovation-steps that have increased capital inflows to these countries. The IMF and the World Bank are stepping up their active engagement in these countries to help them develop local bond markets.

At the same time, demographic changes, second-pillar pension reforms (a fully funded system of privately managed savings accounts), and changes in accounting and regulatory frameworks have led to a rapid growth of assets under management of institutional investors in both mature and emerging market countries.

In some emerging market countries, the increase in demand for investable domestic financial assets has outpaced Page 4 availability, leading to sharp increases in asset prices, rapid credit growth, and currency appreciation.

Deeper, well-functioning local capital markets can help countries cope better with volatile capital flows, provide institutional investors with instruments that satisfy their demand for fixed-income assets, and help contain financial instability associated with asset price bubbles. The substitution of domestic for external sources of finance also helps emerging markets protect themselves from being shut out of international capital markets.

Meeting the challenge

The challenge for many of these countries is to develop sound markets and instruments that will enable market participants to share and transfer risks to those most able and willing to bear them. The IMF and the World Bank have been helping countries pursue that goal, in line with a Group of Eight (G-8) action plan for developing local bond markets in emerging market economies and developing countries. The plan was issued last year at the G-8 meeting in Potsdam, Germany, followed by an implementation report issued after the IMF-World Bank Annual Meetings in October 2007.

Among the areas in which the two institutions' commitment has been evident are the Financial Sector Assessment Program (FSAP), technical assistance, and a joint work program.

The FSAP: A joint IMF-World Bank initiative introduced in...