A country's financial system allocates capital across economic activities. Every financial system is an ecological system consisting of "bodies" and "institutional arrangements". The "bodies" include financial institutions such as banks, security firms and insurance companies and government organs such as the central bank and security regulatory agency. The "institutional arrangements" include whether a country chooses to have a flexible or fixed nominal exchange rate regime, whether it has a single financial regulatory body for all or most financial activities or a set of segmented and specialized regulatory bodies, whether it chooses to regulate cross-border capital flows and whether it decides to have an inflation-targeting framework to constrain the discretion of its central bank. While most countries have a similar set of "bodies", they can have quite different "institutional arrangements". Different institutional arrangements provide different incentives to encourage certain activities and discourage others. This can produce different implications for an economy's efficiency and stability.
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