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Finland Banking and Finance
Under the regulatory structures that had developed
since the
mid-nineteenth century, banks had dominated the financial
scene,
leaving the stock market and insurance companies to play
secondary roles. Control over investment capital gave a
few large
banks great power. Distinct laws for each type of bank
contributed to the development of a fragmented banking
structure
in which separate types of institutions served different
purposes. Closely regulated by the central bank, the
operations
of which depended less on market mechanisms than on
capital
rationing, the traditional financial system served
Finland's
postwar reconstruction and industrialization well. This
same
system, however, appeared outdated in the dynamic
international
markets of the 1970s and the 1980s. As a consequence, a
process
of deregulation and internationalization was begun, which
led to
rapid changes in the financial sector. Observers expected
further
changes during the late 1980s and the early 1990s. In
mid-1988
the process of liberalization was still incomplete,
however, and
many institutions retained their customary roles, making
Finland's financial system a peculiar mixture of new and
old.
Founded in 1811, the Bank of Finland (BOF) first
provided the
services of a true central bank in the 1890s. Formally
independent, the BOF's management comprised bodies
responsible to
both the executive and the legislative branches of
government.
The governor and a board of directors, who were appointed
by the
president of Finland, controlled day-to-day operations. A
nine-
member supervisory council, named by and responsible to
the
Eduskunta, reviewed bank policy and made most fundamental
decisions, especially those regarding monetary policy. The
BOF
served as the lender of last resort, and it regulated the
currency and the financial markets. It also determined
monetary
policy and participated in the formulation of government
economic
strategies
(see Role of Government
, this ch.).
Although BOF policy originally had concentrated on
maintaining the value of the currency, during the Great
Depression of the 1930s the influence of Keynesian
theories began
to modify bank policies. After World War II, the BOF
developed
regulations designed to favor reconstruction and the
development
of manufacturing, and these remained in force almost
unchanged
throughout the 1960s. The regulations were part of a
comprehensive government scheme for financial markets that
included foreign-exchange restrictions, regulation of bank
lending rates, a quota system for bank borrowing from the
BOF,
and an interbank agreement on deposit rates. At the heart
of the
system were tax rules that made interest earnings on bank
deposits tax-free and interest charges paid by companies
on loans
fully deductible. These two measures combined to favor
bank
deposits and to facilitate debt financing for industry.
The BOF
used this panoply of regulations to hold borrowing rates
artificially low--generally at negative real rates--to
favor
investment. As money markets were not in operation, the
BOF
resorted to distributing specific quotas of credits to
commercial
banks. Strict limits on the foreign-exchange market
protected the
system from international competition.
Besides the central bank, the banking system included a
small
number of commercial banks based in Helsinki, many local
branches
of cooperative and savings banks, and a small number of
state-
owned banks. The commercial banks differed from the others
because they could borrow directly from the BOF, and they
controlled most corporate banking. The networks of savings
and
cooperative banks primarily served households, which
provided a
solid deposit base. The split between the two banking
networks
was not absolute, however, as the savings banks and the
cooperative banks had formed their own so-called central
banks,
which enjoyed commercial bank status.
Finland's commercial banks were the real leaders of the
financial industry, and they controlled most lending to
Finnish
corporations. Although about ten banks were considered to
be
commercial banks, only two--the Suomen Yhdyspankki (Union
Bank of
Finland--UBF) and the Kansallis-Osake-Pankki (KOP)--were
national
banks with extensive branch networks. The four
foreign-owned
banks active in Finland also operated as commercial banks.
The cooperative and savings banks served a wide range
of
regional and local customers, but usually exercised
relatively
little economic power. They tended to specialize in
providing
home and farm banking services in rural areas. The savings
banks
were nonprofit banks designed to promote saving, and they
served
small-scale trade and industry as well as households.
Although private banks formed the backbone of Finland's
financial structure, state-owned banks still accounted for
about
one-quarter of bank assets in the mid-1980s. The most
important
of these, the Postipankki, had about 40 branches of its
own and
made its services available at windows in more than 3,000
post
offices throughout the country. Other state banks included
the
Industrialization Fund of Finland, Finnish Export Credit
(partially owned by commercial banks and private
industry), and
the State Investment Fund and Regional Development Bank,
both of
which invested in underdeveloped regions and in industries
with
capital requirements that were too large for private
firms.
Finland's commercial banks traditionally were allowed
to hold
as much as 20 percent of the total assets of Finnish
corporations, and the leading banks had substantial
holdings in
the largest corporations. A 1987 law reduced the cap on
bank
ownership of corporate assets, but the banks' real power
derived
from their control over capital supplies. During the long
postwar
period of negative real interest rates, banks controlled
the
supply of capital--much of which was imported from abroad
by the
BOF. The two largest banks, KOP and UBF, built up rival
spheres
of influence that extended to many of Finland's largest
industrial firms.
The crises and the restructuring of the late 1970s and
the
early 1980s provided the leading banks with further
opportunities
to strengthen their hold on Finnish industry. Starting in
the
late 1970s, KOP and UBF arranged many mergers among the
wood-
processing companies; by the mid-1980s, they had turned
their
attention to rationalization in the metal-processing
industry.
Several banks also engaged in takeover battles through the
Helsinki Stock Exchange.
In the 1970s, several developments combined to reshape
the
operations of the postwar financial system. First, many
corporations began to search for investment opportunities
that
offered both liquidity and higher rates of return than
those
offered for bank deposits. Second, as Finland shifted from
importing capital to investing abroad, the old
restrictions on
foreign-exchange transactions became burdensome. Finally,
a
number of major Finnish corporations, having large shares
of the
domestic market, sought to expand abroad. Some, intent on
foreign
acquisitions, wanted to sell stocks on world exchanges in
order
to build assets sufficient for world-scale operations.
By the late 1970s, in response to the increasing
internationalization of corporate life, the BOF management
became
convinced of the need to liberalize the regulatory system.
The
bank relaxed controls on borrowing abroad, and it allowed
the
establishment of an interbank money market; at the same
time, the
banks began to compete on interest rates for large
deposits.
These two developments caused Finnish interest rates in
the
corporate market to float up toward world levels, while
the rates
for most small depositors remained controlled. In 1982 the
BOF
allowed foreign-owned banks to open branches in Finland.
In 1984
the BOF permitted Finnish banks to establish branches
abroad,
abolished bank-specific credit allocation, and began to
levy
identical reserve requirements on all banks. In 1987
legislation
on bank deposits eliminated their traditional tax-free
status.
And in early 1988, the government proposed new banking
laws that
would put all major banks on the same legal footing.
The BOF had thus been willing to deregulate corporate
banking
partially, but important aspects of the regulatory system
remained unchanged. The BOF continued to watch closely
both
foreign long-term borrowing and investments abroad by
Finnish
corporations. Retail banking continued much as before:
small
deposits placed at the regulated rates were tax-free, and
the
banks maintained their interest-rate cartel. The Finns had
become
accustomed to low and stable interest rates; proposals
regarding
interest were politically sensitive and might influence
incomes
agreements. Most observers thus expected that the BOF,
ever
cautious, would not rush toward further deregulation.
One effect of the liberalization of financial
regulations and
the internationalization of Finnish commercial life was
the
revival of the Helsinki Stock Exchange. Turning away from
debt
financing, more and more corporations issued stocks and
bonds in
the 1980s. Starting in 1982, the stock exchange attracted
foreign
investors, who accounted for about one-third of turnover
in 1985.
Younger, more prosperous Finns showed increased interest
in
stocks. As a result, although the market suffered a major
slump
in the second half of 1984, by late 1986 the stock index
had
increased tenfold compared with its 1980 level.
Incorporated in 1984, and almost immediately shaken by
allegations of insider trading, the stock exchange in 1985
issued
new regulations that were intended to increase the
openness of
its operations, thereby increasing its attractiveness for
small
investors. In 1987 the government reduced restrictions on
foreign
investors and passed a law allowing banks and insurance
companies
to set up mutual funds. In the fall of 1987, options
exchanges
opened, offering new instruments to stock traders. Also
likely to
enliven the market was legislation of the same year that
eliminated the tax-free status of bank deposits. As
Finnish
equities continued to offer better rates of return than
those on
many markets, stock brokers had good reason to be
optimistic.
Insurance companies, once marginal actors in capital
markets,
became Finland's largest institutional investors, after
the
establishment of compulsory insurance schemes in the early
1960s.
After that time, insurance grew faster than the economy as
a
whole, and it contributed some 5 percent of GNP in the
mid-1980s.
As the result of restructuring in the early 1980s, there
were
about fifty insurance companies, associated in five large
groups.
The insurance companies placed about two-fifths of their
investments in industry and an additional fifth in
commerce.
Other investments included other insurance firms and real
estate.
Data as of December 1988
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