Governance and Risk in Emerging and Global Markets

Governance and Risk in Emerging and Global Markets

Centre for the Study of Emerging Markets Series Series Editor: Dr Sima Motamen-Samadian The Centre for the Study of Emerging Markets (CSEM) Series provides a forum for assessing various aspects of emerging markets. The series includes the latest theoretical and empirical studies from both academics and practitioners in relation to the economies and financial markets of emerging markets. These cover a wide range of subjects, including stock markets and their efficiency in emerging markets, forecasting models and their level of accuracy in emerging markets, dynamic models and their application in emerging markets, sovereign debt and its implications, exchange rate regimes and their merits, risk management in emerging markets, derivative markets and hedging decisions in emerging markets, and governance and risk in emerging markets. The series will be one of the main sources of reference on emerging markets, both within and outside those markets, for academics, national and international agencies, and financial institutions. Titles include: Sima Motamen-Samadian (editor) DYNAMIC MODELS AND THEIR APPLICATIONS IN EMERGING MARKETS CAPITAL FLOWS AND FOREIGN DIRECT INVESTMENTS IN EMERGING MARKETS RISK MANAGEMENT IN EMERGING MARKETS GOVERNANCE AND RISK IN EMERGING AND GLOBAL MARKETS Also by Sima Motamen-Samadian INTERNATIONAL DEBT AND CENTRAL BANKING IN THE 1980s (edited with Z. Res) EMERGING MARKETS Past and Present Experiences, and Future Prospects (edited with C. Garido) Centre for the Study of Emerging Markets Series Series Standing Order ISBN 978-1-4039-9521-6 You can receive future titles in this series as they are published by placing a standing order. Please contact your bookseller or, in case of difficulty, write to us at the address below with your name and address, the title of the series and one of the ISBNs quoted above. Customer Services Department, Macmillan Distribution Ltd, Houndmills, Basingstoke, Hampshire RG21 6XS, England

Governance and Risk in Emerging and Global Markets Edited by Sima Motamen-Samadian

* Selection and editorial matter Sima Motamen-Samadian 2005 Individual chapters contributors 2005 Softcover reprint of the original edition 2005 978-1-4039-9156-0 All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No paragraph of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, 90 Tottenham Court Road, London W1T 4LP. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The authors have asserted their rights to be identified as the authors of this work in accordance with the Copyright, Designs and Patents Act 1988. First published in 2005 by PALGRAVE MACMILLAN Houndmills, Basingstoke, Hampshire RG21 6XS and 175 Fifth Avenue, New York, N.Y. 10010 Companies and representatives throughout the world. PALGRAVE MACMILLAN is the global academic imprint of the Palgrave Macmillan division of St. Martin's Press, LLC and of Palgrave Macmillan Ltd. Macmillan is a registered trademark in the United States, United Kingdom and other countries. Palgrave is a registered trademark in the European Union and other countries. ISBN 978-1-349-54292-5 ISBN 978-0-230-59935-2 (ebook) DOI 10.1057/9780230599352 This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. A catalogue record for this book is available from the British Library. Library of Congress Cataloging-in-Publication Data Governance and risk in emerging and global markets I edited by Sima Motamen-Samadian. p. cm.-(centre for the Study of Emerging Markets series) Includes bibliographical references and index. 1. Investments- Developing countries. 2. Securities- Developing countries. 3. Credit- Developing countries. 4. Risk management Developing countries. 5. Developing countries- Economic policy. I. Motamen-Samadian, Sima. II. Series. HG5993.G68 2005 332.6'09172' 4-dc22 2005047133 10 9 8 7 6 5 4 3 2 14 13 12 11 10 09 08 07 06 05 Transferred to Digital Printing 2011

Contents List of Figures and Tables Preface Acknowledgements Notes on the Contributors vii ix xi xiii 1 Introduction 1 Sima Motamen-Samadian 2 Basel II: Principles of Avoiding Regulatory Failure 7 Joseph Tanega 3 Developing an Understanding of Credit-Risk Processes in Selected UK Sectors 41 Ann Puri and Harry Thapar 4 Risk Analysis and Sustainability of Alternative Crop Production Systems 59 Maqsood Hussain and Abdul Saboor 5 Country Risk and Governance: Strange Bedfellows? 69 Michel Henry Bouchet and Bertrand Groslambert 6 Market Deregulations, Volatility and Spillover Effects: Experiences from Emerging Stockmarkets 89 Due Khuong Nguyen 7 The Baghdad Stock Exchange: A Dismal First Decade... A Growth Path Ahead? 121 Kadom f.a. Shubber and TalalA. Kadhim 8 Risk Management and Securitization of Assets: The Case of Iraq 133 Ola Sholarin Index 149 v

List of Figures and Tables Figures 2.1 Basel II in terms of financial and non-financial risks 9 2.2 Basel II implementation risk curve 15 2.3 Regulatory intensity 16 2.4 Critical risk management model 18 3.1 Schematic of the credit degradation process 45 3.2 Relative share price performance of Marconi 48 3.3 Marconi: Moody's KMV market net worth and EDF measures 49 3.4 Marconi: risks over time 50 3.5 Marconi: comparing market risks with the EDF measure 51 3.6 Telewest: evolution of market risks and the EDF measure 52 3.7 BT: evolution of market risks and the EDF measure 53 3.8 Matalan: market risks 54 3.9 Matalan: evolution of market risks and the EDF measure 55 3.10 Relative share price performance of Scottish and Southern 56 3.11 Scottish and Southern: evolution of market risk against the EDF measure 56 3A Asset volatility for several industries and asset sizes 57 5.1 Countries eligible to debt-relief programme (in black) and corruption levels as of end-2003 79 5.2 Countries with access to IMF lending and corruption levels as of end-2003 81 5.3 Corruption and secondary market discount 84 6.1 Conditional variance of sample stockmarkets 102 6.2 Monthly standard deviations before and after stockmarket liberalizations 103 6.3 Responses of sample markets to volatility shock in the United States 108 vii

viii List of Figures and Tables 6.4 Responses of sample markets to volatility shock in Japan 6.5 Responses of sample markets to volatility shock in Brazil 109 110 Tables 3.1 Marconi's credit-rating migration 4.1 Estimated wheat production function for conventional production system 4.2 Estimated wheat production function for zero-tillage production system 4.3 Simulation of mean wheat yield, standard deviation and coefficient of variation 5.1 List of country-risk analysts 5.2 Regression results between corruption, governance and external capital flows 6.1 Basic statistics for monthly stock returns 6.2 Estimation results of world market volatility 6.3 Conditional volatility of sample stockmarkets 6.4 Causal relationships of conditional volatility across stockmarkets 6.5 Impulse response function (IRFs) of sample stockmarket volatility series 6.6 Variance decompositions of sample stockmarket volatility series 6.7 Stockmarket liberalizations and conditional volatility 6.8 Comparison of volatility dependencies before and after financial liberalizations: March 1976-Sept. 1989 versus Oct. 1989-Jan. 2003 7.1 Prime indicators for four Middle Eastern stockmarkets (1999-2003) 7.2 Iraqi gross domestic product and per capital GDP, selected years 1980-2000 (constant 1980 prices) 49 64 64 66 76 83 93 98 100 104 107 112 115 116 125 126

Preface The eight studies presented in this volume are put together to provide a new insight into the issue of governance and risk management in emerging and global markets. The objective is to identify some of the factors that can affect governance, and some of the measures that public authorities and managers of companies might adopt to reduce risks of failure. The chapters provide a theoretical and empirical analysis of governance, regulatory failure, country risk analysis, and risk management in emerging and developed countries. The topics discussed are important and useful for all those who consider operating or investing in emerging and non-emerging markets. Chapter 1 is the introduction; Chapter 2 provides a critical discussion of the Basel II Capital Accord and the possibility of regulatory failure; Chapter 3 is based on some empirical studies on UK firms and presents a new technique of early-warning credit signal that can detect risks of default. Chapter 4 uses a risk analysis to identify the most appropriate production system in Pakistan's agricultural sector. Chapter 5 tries to establish whether official and private creditors take issues related to governance and corruption into consideration when they assess country risk. Chapter 6 examines the extent by which stockmarket liberalizations in emerging markets can transmit the volatility of those markets to other international markets such as the United States and Japan, while in Chapter 7 the authors focus on Iraq's stockmarket, and provide an assessment of its past performance and future prospects. Finally, Chapter 8 provides a discussion of the enormous costs of reconstruction of Iraq, and proposes securitization of the country's assets as a means to cover those substantial costs. SIMA MOTAMEN-SAMADIAN ix

Acknowledgements This volume is a collection of some of the papers presented at the International Conference on Emerging Markets and Global Risk Management in June 2004 in London. The conference was organized by the Centre for the Study of Emerging Markets (CSEM) at the Westminster Business School. In this respect my sincere thanks go to Hanna Scobie at the European Economic and Financial Centre who inspired and supported me in organizing the conference. My special thanks go to all the contributors for their timely delivery of the chapters and to my family and in particular my husband Vahab Samadian for his continuous support through the period when I was working on the book. SIMA MOTAMEN-SAMADIAN xi

Notes on the Contributors Michel H. Bouchet is Professor of Finance, Global Finance Chair, at the CERAM Sophia Antipolis, France. Bertrand Groslambert is Professor of Finance at the CERAM Sophia Antipolis, France. Maqsood Hussain is Assistant Professor in Economics at the Department of Agricultural Economics, University of Agriculture, Faisalabad, Pakistan. Talal Kadhim is a Senior Lecturer in Quantitative Methods at the Westminster Business School, University of Westminster, United Kingdom. Sima Motamen-Samadian is Director of the Centre for the Study of Emerging Markets and a Principal Lecturer in Economics at the Westminster Business School, University of Westminster, United Kingdom. Due Nguyen is a Researcher in Finance at the University of Grenoble II, France. Ann Purl is a Senior Lecturer in Quantitative Methods at the Westminster Business School, University of Westminster, United Kingdom. Abdul Saboor is Assistant Professor in Economics at the Department of Agricultural Economics, University of Agriculture, Faisalabad, Pakistan. Ola Sholarin is a Lecturer in Economics and Quantitative Methods at the Westminster Business School, University of Westminster, United Kingdom. Kadom Shubber is a Senior Lecturer in Finance at the Westminster Business School, University of Westminster, United Kingdom. joseph Tanega is a Senior Lecturer in Business Law at the Westminster Business School, University of Westminster, United Kingdom. Harry Thapar is a Senior Lecturer in Business Law at the Westminster Business School, University of Westminster, United Kingdom. xiii