TOPIC 6. FINANCE AND DEVELOPMENT PDF

DISCUSSION DOCUMENT IN ECONOMIC DEVELOPMENT (BAECODEX) TOPIC 6 FINANCE AND DEVELOPMENT Prepared by Azelle Charese A. Tayson, MBA, LPT Subject Professor TOPIC 6:FINANCE AND DEVELOPMENT Learning Objectives...

DISCUSSION DOCUMENT IN ECONOMIC DEVELOPMENT (BAECODEX) TOPIC 6 FINANCE AND DEVELOPMENT Prepared by Azelle Charese A. Tayson, MBA, LPT Subject Professor TOPIC 6:FINANCE AND DEVELOPMENT Learning Objectives By the end of this topic, learners will be able to: Understand the fundamental relationship between finance and economic growth. Recognize the key role of financial institutions in supporting economic development. Explain how functional financial systems contribute to economic growth and job creation. Define the diverse roles of finance in capital allocation, risk management, and wealth distribution. Describe the impact of microfinance and microsavings in empowering marginalized communities and promoting financial resilience. Discuss the importance of transparent financial governance in economic development. Introduction Economic development is a multifaceted process that aims to improve the living standards and quality of life for a society as a whole. It encompasses a wide range of factors, including infrastructure development, education, healthcare, and most notably, finance. In this discussion document, we will explore the key concepts of finance and development and how financial institutions, systems, and governance play important roles in the economic advancement of nations. Key Concepts Financial Institution Financial institutions are like the foundation of a country's money system. They help money move around, making it available for people who need to use it. These institutions come in many forms, including banks, insurance companies, and stock exchanges. Their main job is to take money from people who save it and lend it to those who want to borrow, making sure the money is used wisely. The strength and trustworthiness of these institutions are super important for economic growth and making people feel secure about their money. For example, in the United States, there are many different financial institutions that work together to keep the money system running smoothly. Big banks like JPMorgan Chase, Bank of America, and Wells Fargo offer various services for people and businesses, from everyday banking to more complex financial needs. Additionally, stock exchanges like the New York Stock Exchange and NASDAQ are some of the world's largest places where people buy and sell investments. These financial institutions, whether they're large or small, collaborate to provide necessary financial services, support investments, and help the economy grow. In the Philippines, financial institutions also play a key role in the country's economic development. The Philippines has a diverse financial landscape, including different types of banks, from the bigger ones to smaller rural banks. These institutions offer a variety of services, from basic savings accounts to more advanced financial products. The central bank, Bangko Sentral ng Pilipinas (BSP), is in charge of making sure the financial system is stable and reliable. Regulatory agencies, such as the Securities and Exchange Commission (SEC), watch over financial markets and securities to keep them fair and safe. This whole system helps money go into productive investments, supporting the country's economic growth and making sure the financial system stays strong in the Philippines. Financial Systems in Economic Development A functional financial system is like the lifeblood of economic development. It's all about how money flows efficiently, and it has several important parts, like financial markets, banks, and rules set by regulators. These parts work together to encourage people to invest, start businesses, and invent new things, all of which help the economy grow. For example, think about how China's financial system has changed in the last few decades. It went from a very controlled system to a more open and market-driven one. This shift helped China grow a lot. They built stock markets in places like Shanghai and Shenzhen, which made it easier for people to invest. Chinese banks and other financial institutions also played a big role in funding huge projects and new technologies. But financial systems aren't just for big countries like China. Even smaller places need strong financial systems. In Bangladesh, for instance, microfinance institutions like Grameen Bank have made a big difference. They give small loans to people who can't use regular banks. This helps them start small businesses, earn more money, and fight poverty. To make sure everything works properly, there are rules and regulators. They keep an eye on the financial system to make sure it's safe and honest. For instance, the European Central Bank makes sure that banks in the Eurozone follow the rules and don't take too many risks. In the end, the financial system is like the engine of economic growth. It helps money move where it's needed, encourages people to invest and create, and makes life better for everyone in a country. Role of Finance Finance plays a crucial role in a country's development by acting as the engine that drives economic growth, spurs innovation, and improves living standards. The following are some important roles of finance in the economy: 1. Capital Allocation. Finance plays a central role in the efficient allocation of capital, determining where funds should be invested for the highest returns or benefits. It aids in decision-making processes for governments, businesses, and individuals, enabling them to prioritize investments in critical areas such as infrastructure, technology, or education. This is vital for long-term economic development. For instance, a government may use finance to decide which infrastructure projects to fund. By allocating capital to projects that improve transportation, communication, or energy, they can stimulate economic growth and create jobs. 2. Risk Management. Another significant role of finance is risk management. It provides tools and strategies for identifying, evaluating, and mitigating risks associated with financial transactions and investments. Insurance is a prime example of how finance helps manage risk. It safeguards individuals and businesses against unforeseen events like accidents, natural disasters, or health issues. By providing risk protection, finance contributes to economic stability and ensures that unexpected challenges don't disrupt progress. 3. Resource Mobilization. Finance acts as the bridge between savers and borrowers, mobilizing resources for economic activities. Financial institutions, like banks and investment firms, facilitate this process. They gather deposits from savers and extend credit to borrowers. This resource mobilization is essential for economic growth, as it allows businesses to fund expansions, individuals to purchase homes or education, and governments to invest in public projects. For instance, a business might seek financing from a bank to expand its operations. This investment results in job creation and revenue generation, contributing to economic development. 4. Investment in Innovation and Productivity. Finance plays a important role in promoting innovation and productivity. It provides the capital needed for research and development, technological advancements, and the creation of new products and services. This investment drives economic growth by increasing efficiency, reducing costs, and fostering competitiveness. Venture capital and private equity funding are examples of how finance supports innovation. Startups and innovative companies rely on these sources of financing to bring new ideas and technologies to the market, contributing to economic development and job creation. 5. Wealth Distribution. Finance also influences wealth distribution within society. It determines who has access to credit and investment opportunities. Access to financial resources can either exacerbate inequality or promote inclusivity and social mobility. Microfinance institutions, for instance, provide access to small loans and financial services for low-income individuals and entrepreneurs, enabling them to start businesses and improve their livelihoods. This reduces income inequality and promotes economic development. 6. Economic Stability. The role of finance extends to maintaining economic stability. Financial systems and regulatory authorities monitor and control financial activities to prevent excessive risk-taking and fraud, which can lead to financial crises with severe economic repercussions. Central banks and regulatory bodies implement policies to ensure the solvency of financial institutions and adherence to established rules. This safeguards the public's trust in the financial system and contributes to economic stability. Microfinance and Micro savings Microfinance and micro savings are two financial concepts that address the financial needs of low-income individuals and small businesses. These tools have gained significant attention in the realm of economic development due to their potential to empower marginalized communities, alleviate poverty, and foster financial inclusion. 1. Microfinance. Microfinance refers to the provision of financial services, including small loans, savings accounts, insurance, and payment services, to individuals and businesses who typically lack access to traditional banking. It is a vital tool for improving financial inclusion, especially in regions where large segments of the population are unbanked or underbanked. One of the most iconic examples of microfinance is the Grameen Bank in Bangladesh, founded by Muhammad Yunus. Grameen Bank pioneered the concept of providing small loans, often referred to as microloans or microcredit, to impoverished individuals, particularly women, to start or expand small businesses. These loans are used for income-generating activities like farming, handicrafts, or small retail ventures. Microfinance has been instrumental in lifting many people out of poverty by providing them with the means to generate income and improve their overall quality of life. Microfinance institutions typically use a group lending model, where borrowers form small groups and are collectively responsible for the repayment of loans. This peer support mechanism not only helps in risk- sharing but also builds a sense of community and social capital. 2. Microsavings. Microsavings, on the other hand, focus on encouraging low- income individuals to save small amounts of money regularly. These savings accounts are designed to be accessible, affordable, and tailored to the specific needs of those with limited resources. Microsavings empower people to build financial resilience, safeguard against unexpected expenses, and plan for the future. In the Philippines, the "Pantawid Pamilyang Pilipino Program" (4Ps), which is a conditional cash transfer program, has incorporated microsavings as a core component. Beneficiaries are encouraged to open savings accounts, and they receive financial education to help them manage their money effectively. These microsavings accounts enable families to save a portion of their government subsidies, creating a financial cushion for emergencies and future needs. Microfinance and microsavings are crucial financial tools that target the underserved and low-income populations. Microfinance provides access to credit for income-generating activities, while microsavings promote financial resilience and savings habits. Both concepts contribute to poverty reduction and economic development by empowering individuals to improve their financial well-being and invest in their future. Finance and Governance The relationship between finance and governance is essential in shaping the economic and political landscape of a country. Governance, referring to the systems and structures through which a nation is managed, plays a crucial role in overseeing and regulating financial activities. Effective governance ensures transparency, accountability, and the prudent management of financial resources, which, in turn, influences a country's economic development. 1. Transparency and Accountability. Transparent financial governance is essential for a nation's economic development. It involves openness and clarity in how public funds are managed and allocated. When citizens and investors have access to clear and reliable financial information, it fosters trust in the government's ability to manage public finances. This trust, in turn, attracts investment and encourages economic growth. For example, countries like Norway and Singapore have consistently high scores on global transparency indices. These countries are known for their robust financial governance, and this transparency has contributed to their economic development. Investors and businesses feel confident in the stability and honesty of their financial systems. 2. Efficient Resource Allocation. Good financial governance ensures that financial resources are allocated efficiently and in a manner that benefits the nation's development. When resources are used wisely, it leads to better infrastructure, education, healthcare, and other public services. This efficient allocation is crucial for creating an environment conducive to economic growth. In the context of finance and governance in the Philippines, responsible budgeting and allocation are vital for the country's development. The government's ability to allocate resources effectively to critical sectors, such as education, healthcare, and infrastructure, influences the well-being and economic prospects of its citizens. 3. Anti-Corruption Measures. Corruption is a major obstacle to economic development. Strong financial governance involves putting in place anti- corruption measures to prevent embezzlement, bribery, and other corrupt practices. A transparent and accountable financial system makes it more difficult for corruption to thrive, helping to ensure that public resources are directed toward development rather than being siphoned off. For instance, countries like New Zealand and Denmark are known for their low levels of corruption. Their strong financial governance and strict anti-corruption measures have contributed to a favorable environment for investment and economic development. 4. Legal and Regulatory Frameworks. The legal and regulatory frameworks set by governments are critical for financial governance. These frameworks provide the rules and guidelines for financial institutions, businesses, and individuals. Effective laws and regulations promote financial stability, protect consumers, and create an environment in which businesses can thrive and investments can flow. For example, the United States has a complex regulatory framework overseen by agencies like the Securities and Exchange Commission (SEC) and the Federal Reserve. These institutions play a important role in overseeing financial markets, ensuring transparency, and maintaining the integrity of the financial system, contributing to the country's economic development. In summary, finance and governance are intricately connected. Good financial governance, characterized by transparency, efficient resource allocation, anti-corruption measures, and strong legal frameworks, plays a fundamental role in shaping a nation's economic development. It fosters trust, attracts investment, and ensures that resources are directed toward activities that drive growth and improve the quality of life for citizens. Effective governance, when combined with sound financial practices, is the cornerstone upon which sustainable economic development is built. Summary Finance is the engine of economic growth, enabling investments in critical sectors and driving transformation, as seen in South Korea's rapid progress. Financial institutions, such as banks, insurance companies, and stock exchanges, are the pillars of a nation's financial system, ensuring funds flow efficiently. This holds true for the diverse financial landscape of the Philippines. Functional financial systems encourage investment, job creation, and technological advancements, benefiting economies regardless of their size, such as China's economic growth. Finance plays versatile roles in capital allocation, risk management, resource mobilization, innovation, wealth distribution, and economic stability. It is a cornerstone for infrastructure and job creation, as seen in the United States. Microfinance empowers marginalized communities through small loans, while microsavings promote financial resilience. Both concepts contribute to poverty reduction, transcending borders. Transparent and accountable financial governance fosters economic development, efficient resource allocation, anti-corruption measures, and robust legal frameworks. These principles apply globally, exemplified by countries like the United States, Norway, and Denmark. These key concepts represent universal principles that apply broadly, highlighting the important roles of finance, financial systems, and governance in economic development worldwide. References Levine, R. (2019). Finance and Economic Growth: The Role of the World Bank. The World Bank Research Observer, 34(1), 1-19. Demirgüç-Kunt, A., & Klapper, L. (2018). Financial Inclusion and Inclusive Growth: A Review of Recent Empirical Evidence. The World Bank Research Observer, 33(2), 135-167. Morduch, J., & Haley, B. (2019). Analysis: Why doesn’t microfinance work? The New York Times. https://www.nytimes.com/2019/12/18/opinion/microfinance-loans.html Hasan, I., Jackowicz, K., Kowalewski, O., & Kozłowski, Ł. (2020). Access to finance and the growth of small firms. Small Business Economics, 54(1), 93- 112. World Bank. (2019). World Development Report 2019: The Changing Nature of Work. World Bank Publications.