discipline-relaxing policy stances makes a material difference. The needed evidence relates both to elements of the political and policy environment, which can act as a negative, discipline relaxing, force (for example by guaranteeing depositors or substituting state ownership for private) and the market and administrative institutional requirements (including legal and regulatory requirements).

In this section we show how these environmental aspects, relevant for the effectiveness of market discipline, can vary in practice from country to country, and show that although some aspects are correlated with GDP per capita, this is not the whole story.

# **_A. The environment – developing countries look different_**

Contrasts between developing and advanced economies in the ownership structure of banks and other financial service providers, in the degree to which wealth and information can be concentrated among a relatively small business elite and the typical lack of scale that result in high information acquisition costs by those outside this elite group can drastically affect the relative effectiveness of each type of market discipline outlined in the previous section. We can illustrate this point by looking at a handful of specific country cases.

Take ownership: the importance of foreign strategic ownership and of government ownership varies substantially even for countries at the same overall level of development and of financial sophistication and these overall ownership structure issues are arguably among the most decisive in determining whether or not market discipline – of whatever flavor – is likely to flourish.

Where banks are government-owned, the implicit depositor guarantee is strong, at least to the extent that the government itself is considered creditworthy.<sup>11</sup> Banks in developing countries that are branches or subsidiaries of banks based in advanced economies will typically be subject more to the market discipline of their home country. Even where ownership is based in developing countries, host country market discipline will typically take a backseat to market discipline in the home country.

The extent to which many developing country banking systems are dominated by government or foreign-controlled banks is not widely recognized. The World Bank Regulation and Supervision Survey asks for data on the market share of majority government-owned banks and of majority foreign-owned banks.<sup>12</sup> Analysis of the responses reveals that the median share, for developing countries, of these two categories taken together is 68.1 percent. Two in every five developing country banking systems have 85% or more in these two categories, and the lower quartile is over 94%. The remainder (31.9% for the median; 15% for two-fifths of countries and 6% for the lower quartile) represents an upper bound on the share of the banking system for which it is

> 11 And this will differ depending on the currency denomination of deposits.

> 12 Unless otherwise noted, data on banking, market and regulatory conditions in this and the following section is based on preliminary results from the second (2003) wave of the World Bank’s Regulation and Supervision Survey in which data for 133 jurisdictions has now been collected.

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