Zeti Akhtar Aziz: Building institutions to support economic development
Special lecture by Dr Zeti Akhtar Aziz, Governor of the Central Bank of Malaysia (Bank Negara
Malaysia), at the SEACEN Conference on Central Bank Cooperation and Mandates "Building
Institutions to Support Economic Development", Sasana Kijang, Kuala Lumpur, 14 March
2016.
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Introduction
It is my great pleasure and honour to speak at this conference in honour of Dr. Puey
Ungphakorn on the subject of "Building Institutions to Support Economic Development". The
topic is highly relevant in the current environment which places greater demands on institutions
given the significant structural shifts that are taking place in the global landscape and the
changing character of the economic cycles that has brought with it a great many new
challenges that need to be managed.
Given that building institutions is about creating a positive environment for the economy to
function, one that will shape the incentive structure that will drive economic activity and
encourage the efficient use of resources, the new evolving environment would place a further
urgency for institutional building. There is thus a great motivation for building effective
institutions to serve this purpose. In particular, the urgency is for strong institutions that will
transcend the passage of time and will ensure the path towards sustainable economic growth
and development. Experience has shown us that institutions are pivotal to any economic
success. However, institutional building is in itself an arduous task. And building institutions
that are relevant for the future is even more challenging. But it is something that needs to be
done now if we are to prepare the ground for our future generations.
It is from the legendary Dr. Puey whom we can draw significant inspiration. Dr. Puey had long
recognised the importance of institutions to economic development and dedicated a major part
of his life to this endeavour. He was a true leader, whose contribution to his country's economic
progress extended beyond the Central Banking sphere to several other areas of public service,
to education, and to beyond the national borders of Thailand. We are now the beneficiaries of
Dr. Puey's efforts which laid the foundation for the greater Central Bank cooperation that we
see in the region today. Dr. Puey was a true visionary. He had consistently demonstrated his
vision, dedication and foresight and in the process, created highly regarded institutions not
only in Thailand but also for the region.
The subject of institutional building has generally referred to institutions that support the
functioning of markets. It is maintained that markets allow for the more efficient use of skills
and resources to engage in activities with higher productivity. As stated by Douglass North,
known for his work on institutional economics, institutions comprise a set of formal rules that
provides the framework for interaction and which shapes the incentives for the functioning of
the economy. These include the incentives for people to invest in more efficient technology, to
increase their skills and to organise efficient markets. Therefore, in strengthening the
effectiveness of institutions, it is about putting such institutions in an environment in which they
are able to rise to the demands for performance and discipline. This therefore places emphasis
on following a certain order, rules and regulations that would bring value to society.
While mature and developed economies have benefitted from effective institutions, the
changing global and national landscape that is becoming increasingly more interconnected
now demands for new institutional arrangements for the way in which engagements or
interface takes place. Equally important are the arrangements for the management of the new
emerging challenges. Experience has shown us that this can be highly challenging when it
involves changes in relationships when the structures of institutions have not changed. Such
institution building is particularly important for public policy decision making. This is particularly
relevant when coordination arrangements for inputs from the different parts of the public sector
become necessary. For the economies in the emerging world that are at a different phase of
development, the creation of strong and effective institutions is even more pressing. Not only
do existing institutions need to be strengthened but new institutions need to be built to facilitate
the effective functioning of the economy.
We have heard this morning in the tribute to Dr. Puey, his tremendous role in institution building
in Thailand and his role in the Asian region. There are numerous examples in his legacy, in
being resolute in pursuing his convictions and about his effective management of the interface
with the political process, given that politics is an important part of the ecosystem of institution
building. He achieved this without compromise, sustaining always the integrity of the
institutions he was associated with. Institutional building therefore needs to be viewed from the
broader perspective to include strengthening the institutional arrangements of how economies
and financial systems can more effectively function, adding value for greater economic
wellbeing. Just as we have seen that with the advances in technology, we need to change the
hardware and software. So is the case for institutional building to support economic
development. It will also involve changing the institutional "hardware" and the "software"
Increasingly, emerging economies are in transition towards greater market orientation in which
the market has become an important mechanism in generating economic growth. While market
mechanisms are generally successful in achieving greater productive efficiency, it does not
always result in greater allocative efficiency. As a consequence, disequilibrium conditions and
market failures may not only be detrimental to social welfare, but may also weigh on an
economy's growth and development prospects. Strong institutions that provide regulatory and
supervisory oversight are therefore necessary, in order to facilitate the effective functioning of
markets while having the institutional capability to manage disruptions.
The sustainability and continuity of effective policy management depends on the performance
of public institutions that have sound policies and governance processes that are formalised
in a clear, structured and well-defined framework. Equally important is the accountability. In
this aspect, the institutionalisation of policies and processes, which culminates in sound
governance serves to preserve good practices and imposes the necessary discipline for
objective policy making. The gaps in the market infrastructure in the emerging economies
however increase the vulnerability of our respective economies to external shocks. Such
shocks have increased in frequency and magnitude, with the risk of prolonged implications on
our economic growth. With its important role in the management of domestic macroeconomic
and financial stability, Central Banks in this changing environment also need to be
strengthened in order to enhance its effectiveness in facilitating conditions to support economic
development.
My remaining remarks this afternoon will focus on institutional building and economic
development from the perspective of Central Banks in emerging economies. In particular, on
the role of Central Banks in supporting the development agenda and as an institution building
agent. In most emerging market economies, the mandate of the Central Bank is generally
broader beyond monetary and financial stability to include development of the financial system
to ensure effective and efficient functioning of the financial system, financial inclusion to
maintain balanced growth and more recently preserving the environment to secure
sustainability of our progress and development
Special role of Central Banks in emerging economies
Allow me to focus on the special role of Central Banks in emerging economies. Central Banks
in most emerging economies are frequently called upon to have a role in the development of
the financial system. A well-developed and robust financial system constitutes an essential
foundation for sustainable economic growth as it enhances the efficiency of financial
intermediation, contributing towards lower transaction costs and increased competitiveness.
Many Central Banks have drawn up masterplans and blueprints for this purpose.
The key building blocks are the strengthening of financial infrastructure, such as the payments
and settlement system, the development of money and bond markets and in the
implementation of financial reforms involving the deregulation and greater market orientation
and liberalisation resulting in greater integration with the global financial system. Central Banks
in many emerging economies are also tasked with promoting financial inclusion. Greater
financial inclusion is a key component for an economy towards achieving a more balanced
growth and thereby increasing the prospect for a more sustainable growth.
What are the factors that have allowed Central Banks in the emerging economies to perform
these roles? Honed by international benchmarks, best practices and the scrutiny of a global
audience, Central Banks are institutions that over the years, have built a strong reputation for
intellectual rigour, credibility and independence. Given this, Central Banks are often called
upon to be the institution that drives important and often challenging financial reforms in an
economy. Additionally, in most emerging economies, the largest concentration of talent resides
in the Central Bank, providing it with the resources and intellectual capacity to undertake
multifaceted developmental roles that extend beyond our core mandates. The fact that Central
Banks are often a highly-regarded public institution in a country also lends it to having greater
legitimacy in addressing challenging domestic issues. In managing this role effectively, three
elements are key: clarity of the outcomes to be achieved, a governance process which gives
clarity on the decision making process and accountability, and finally, ensuring the integrity
and the independence of the Central Bank is not undermined.
Another recent important element of Central Banking in the emerging economies that
contributes to the effectiveness of the Central Banks in policy making is the close collaboration
amongst Central Banks in the emerging economies - in particular in the Asian region. The
formation of formal regional platforms for collaborative initiative facilitates the sharing of
information, experience and knowledge which are crucial in driving the national, regional and
even international agenda. It also has involved cooperation in not only the areas of surveillance
and harmonisation of rules and regulations, but also the assessment of risks to the region and
the building of regional financial safety nets.
Finally, allow me to say something about the current environment. While Asia has not been
immune from the effects of the turbulence and upheavals taking place in the different parts of
the world, the region has been able to demonstrate time and again the ability to manage a swift
rebound. Factors that have contributed to this resilience is not so much what we have done in
response to the development but it is what we have done previously that prepared us to
manage these developments. We have been better able to absorb and intermediate the
financial turmoil and turbulence, while the series of financial reforms we have implemented
have also increased our flexibility and produced better price and exchange rate adjustments.
This has been reinforced by our sound macroeconomic fundamentals and the policy space we
have to manage the implications of these challenging developments.
Looking ahead, there is much to be done by all of us. I have always said that the business of
Central Banking is an unfinished business. There will always be new challenges on the horizon.
In Asia, while we have successfully prepared ourselves for the current environment, we now
need to prepare ourselves for the future. Among the future challenges that are likely to confront
Asia is the sustainability of our prevailing growth model given the consequences arising from
the erosion of our demographic advantage, the rising indebtedness, the rising cost of living
despite an apparent period of low inflation, the need to meet the massive infrastructure
requirements and the need to address the rising income disparities and the environmental
challenges. What then are the ways economic management can prepare us for the future?
This will involve policies and reforms that will reduce leverage, that will address the widening
income disparities, that will effectively manage infrastructure development and urbanisation,
that will accord environmental sustainability and finally that will accord importance to
governance, accountability and integrity in the implementation and execution of the many
endeavours to achieve a sustainable advancement. This implies an important role of
institutional building that will support the ability to address these challenges.
For most Central Banks in the emerging world, our mandate is broader. Most certainly we are
expected to have a role in contributing to addressing many of these challenges both directly
and indirectly. Some of these issues include financial inclusion, financing of infrastructure,
putting in place financial and social safety nets, and environmental sustainability. As much of
these efforts will involve interface with other parts of the public sector, it has been my
experience that the participation of the Central Bank in many of these agendas will require
careful boundary management and a signing off when it is completed so that it does not remain
permanently with the Central Bank. New institutional arrangements will need to be developed
to render effective coordination across the public sector. Of great importance in this process is
also to carefully safeguard the independence of the Central Bank.
Conclusion
As policy makers in emerging economies, we have the added responsibility of building
institutions for the country. Our quest is filled with challenges but we can learn much from each
other. Going forward, the transitions that are taking place in the global economy necessitate
continuous institutional building at the national, regional and international level. A regional
institution such as SEACEN has an important role in enhancing future talents, facilitating the
sharing of knowledge, ideas and insights on policy management in the region and from its
research on subjects important to the region.
In conclusion, allow me to express my deep gratitude and appreciation to my fellow governors
and to all my colleagues at the SEACEN member Central Banks and to SEACEN for all the
cooperation and support that has been extended to me and to Bank Negara Malaysia
throughout my career. For the friendship and for the collaboration, it has truly been enriching
and special for me. It has been a great privilege for me to be part of this Central Bank
community.