Global integration in the banking industry

Federal Reserve Bulletin, Nov, 2003 by Allen N. Berger, David C. Smith, Jennifer Judge

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In sum, the various sets of time-series data examined here suggest that little further integration has occurred in Europe since our sample was collected in 1996, although the BIS banks claims statistics suggest that banks have expanded somewhat across borders since 1999.

SUMMARY

The barriers to global integration in the banking industry have been significantly reduced over the past two decades. Among the contributing factors have been the lifting of regulatory restrictions on cross-border banking, technological advances that allow for better management of financial institutions across borders, and increases in nonfinancial activities that create demands for international banking services. Despite these reduced barriers, the integration of the banking industry in most developed countries has fallen far short of the expectations of many observers.

Some potentially powerful market forces based on the competitive advantages of domestic and foreign banks may help explain the lack of an advance in global banking. We argue that foreign banking organizations may be at significant competitive disadvantages in providing the price, quality, and mix of services that best suit bank customers, and that such disadvantages may limit the integration of the banking industry.

Our main findings, which are based on a 1996 cross-section of European affiliates of multinational corporations, suggest that almost two-thirds of these affiliates receive short-term banking services from a bank headquartered in the affiliate's host nation. This result is consistent with a strong host-based-expertise effect, in which host-nation banks have significant competitive advantages in understanding the culture, business practices, and regulatory conditions of the host nation. However, in the former Eastern-bloc nations, the data suggest that only about one-fourth of these same types of affiliates are served by host-nation banks. This finding is consistent with the possibility that host-nation banks in these nations are not equipped to provide the package of banking services that would give them an advantage over foreign institutions.

We also examine three sets of time-series data on the progress of integration in Europe from 1992 to 2002. The main purpose is to explore the possibility that our "snapshot" of banking as of 1996 might have predated significant advances in the integration of the European banking industry. We show data on the changes in (1) the proportions of the syndicated loan market that are underwritten by domestic banks, (2) the changes in the proportions of total bank claims that are held by domestic banks, and (3) the convergence of prices of consumer goods across Europe. These data suggest that, if anything, most of the effects of the reduced barriers had already occurred by 1996.

Overall, the findings suggest that domestic banks possess some competitive advantages that may significantly limit the global integration of the banking industry. In industrialized nations, domestically based institutions appear likely to retain significant market shares for some financial services that could potentially be provided by foreign institutions, even when the barriers to bank integration have declined dramatically. In contrast, foreign banks may obtain much higher shares in some less-industrialized nations because of competitive advantages over domestic institutions that are less well developed.