Foreign bank ownership and business regulations

1. Foreign bank ownership and business regulations Manthos D. Delis Surrey Business School Georgios P. Kouretas Athens University of Economics and Business Chris Tsoumas University of Piraeus Centre for Financial Risk Analysis-EM Lyon Business School, Thursday 27 March 2014

2. Agenda • Goal and Motivation • Literature review • Data • Empirical methodology • Results • Conclusions

3. Goal and motivation • Motivation • Entry of foreign banks into local banking markets, a worldwide phenomenon during the last decades that has attracted much attention in the literature. • The depth of this entry has potentially important implications for financial and macroeconomic stability in host countries. • But, what about institutions? • Goal • To examine empirically the impact of foreign bank presence on host countries institutions, specifically business regulations • Question of increased importance due to its: • Importance for long-run growth • Permanent nature • Issue not addressed so far in the literature

4. Literature Review • Lehner and Schnitzer (2008, JCE) study the impact that foreign bank entry has on local banks in two ways: (a) spillover effects for local banks and (b) increasing competition in the local banking market. Findings: An increase in competition has positive welfare effects. Spillovers are less likely to have positive welfare effects the stronger bank competition is. • Clarke, Cull and Peria (2006, JCE) use survey data of firms operating in 35 developing and transition economies. They find that all firms of

5. Literature Review • any size report that they face lower financing obstacles in countries with higher levels of foreign bank presence. • Giannetti and Ongena (2012) argue that capital inflows and entry of foreign banks can contribute to the development of a country’s financial system (investment and financial expertise). They find that firms have the same access to credit and ability to invest whether they borrow from a foreign bank or not. Foreign banks benefit all firms indirectly since they increase credit access.

6. Literature Review • Sytse, Rejie and Rezaul (SMJ, 2006) they provide evidence that it is important to disaggregate foreign ownership into foreign institutional and foreign corporate shareholders. The main finding show that the impact of institutional investors on firm performance is not-clear.

7. Data • Large (unbalanced) panel dataset • 8 large databases employed • Annual data • 114 countries (both advanced and emerging) • 1995-2011 period • 5 distinct dependent variables • Large array of control variables

8. Data

9. Dependent variables’ characteristics • Heritage’s business freedom: • Sample period: 1995-2011 • Range: 10 to 100 • Fraser’s variables: • Sample period: 1995 and 2000-2011 • Range: 0 to 10 • Higher values indicate more efficient regulations

10. Data (cont’d)

11. Data (cont’d)

12. Explanatory variables’ characteristics • Sample period dictated by foreign bank presence availability (1995-2009) • Foreign bank assets to total bank assets not used because of much shorter time period availability (2004-2009) • No collinearities detected

13. Empirical Methodology • Three estimation techniques • Pooled OLS • Busreg: measure of business regulations in country i at time t • Lagged dependent included to account for possible persistence • FB: foreign bank presence (n takes the values 1 or 2) • Xj: array of variables that may affect business regulations • Legal origin and religion dummies included • εt: time dummies • Two models: • Main model: Xj includes main macroeconomic variables • Enhanced model: Xj adds institutional and political characteristics • Yet, pooled OLS may not be appropriate when both business regulations and foreign bank presence are driven by some other underlying economic, political and social forces.

14. Empirical Methodology • Panel GMM (Arellano – Bover / Blundel – Bond) To account for: • Endogeneity issues (i.e., reverse causation from business regulations to foreign bank presence) • Countries’ fixed effects • Ideal method for large N - small T, as in our case • Xj’s instrumented with their lagged values (i.e., L2; L3) • FB instrumented with: • Fraser’s Foreign ownership/investment restrictions index Sub-component of the Freedom to trade internationally index, based on the following two Global Competitiveness Report questions: “How prevalent is foreign ownership of companies in your country?”; and “How restrictive are regulations in your country relating to international capital flows?” • Two models (main, enhanced), as in pooled OLS

15. Empirical Methodology • Treatment effects model (two stage IV model) • First stage: • FBxit is a dummy with 1 for foreign bank presence and 0 otherwise • Four distinct dummies employed: • FB10: 1 if foreign bank presence >=10% • FB20: 1 if foreign bank presence >=20% • FB30: 1 if foreign bank presence >=30% • FB40: 1 if foreign bank presence >=40% • zit is the instrument used in the panel GMM case • Second stage: • It models the response of the countries’ business regulations to foreign bank presence (i.e., the “treatment”) relative to the countries with non-foreign bank presence, which serve as the control group • n takes values 1, 2 and 3 • Busregit-1 accounts for the possible differences in the trend of the dependent variable between the treated and control groups before the treatment • System estimation

16. Main model – Heritage’s business freedom Legal origin and religion dummies not reported for pooled OLS

17. Enhanced model – Heritage’s business freedom Legal origin and religion dummies not reported for pooled OLS

18. Treatment effects model – Heritage’s business freedom Legal origin and religion dummies not reported

19. Main model – Fraser’s variables

20. Main model – Fraser’s variables (cont’d)

21. Treatment effects model – Fraser’s Freedom to trade internationally

22. Main model – Fraser’s Business regulations Treatment effects model – Fraser’s Business regulations

23. Conclusions • Foreign bank presence does affect business regulations, measured by • Business freedom (difficulty of starting, operating, and closing a business) • Business regulations (administrative requirements for running a business, bureaucracy costs, procedures for starting a business, bribes and favoritism, licensing restrictions and cost of tax compliance) • Freedom to trade internationally • Evidence for impact 2 and 3 years ahead • Impact for foreign bank presence larger than 30% • Larger than 20% for freedom to trade internationally

24. Thank you for your attention!