FDI Versus Cross-Border Financial Services: The Globalisation of German Banks

Abstract

Abstract:The choice between foreign direct investment (FDI) and exports has been a recurrent theme in the literature on international trade, yet few studies have analysed this choice at the level of the individual firm. This paper uses a new dataset to study the FDIversus-exports decision for banks. We use data on the foreign direct investment stocks and the cross-border provision of financial services of German banks for the period 1997-2000 to describe the regional pattern of banks' international activities. We find that country-and bank-specific variables capturing size have a major impact on banks' foreign activities. The results are consistent with the hypothesis that the realisation of economies of scale and the provision of trade-related finance shape globalisation patterns. Greater cultural and geographical distance, by contrast, potentially limit the international expansion of banks. Our results also suggest that FDI and cross-border services are complements rather than substitutes. Keywords:international banking, gravity equations, foreign direct investment, cross-border financial services JEL-Classification: F0, F21 Non Technical SummaryThis paper provides a first comprehensive assessment of the globalisation of the German banking industry based on bank-level data. By combining data from different sources, we draw a fairly complete picture of the foreign direct investments and the cross-border provision of financial services of German banks. The data we use covers the second half of the 1990s, ie a period in which the globalisation of the German banking industry was fully under way. In addition, we disentangle the effects of bank-and country-level explanatory variables, of regulatory and cultural factors, and of factors capturing market size on the internationalisation of German banks. Moreover, having access to data on all German banks, we can separate factors that influence the decision of banks to go abroad from those affecting the actual volume of international business. With regard to the latter, we find that the determinants of entry and of the volume of activity are qualitatively the same.In terms of robustness, we obtain the most stable results for variables that account for size at the bank level and at the country level. More internationally oriented and larger banks also have the largest foreign investments abroad. Larger markets (in terms of GDP) and a large volume of bilateral trade between Germany and a host country promote FDI. Hence, the intention to realise economies of scale is an important motive behind the international expansion of German banks. Moreover, the impact of the variables capturing bank and market size is the same across the different forms of foreign activities that we consider, ie FDI and cross-border financial services. In particular, the impact of trade is positive throughout. The provision of trade-related financial services thus remains a major driving force behind the globalisation of German banks. Besides, more profitable banks are more active internationally, w...

German Bank Lending to Industrial and Non-industrial Countries: Driven by Fundamentals or Different Treatment

“…The index runs from 0 to 6, and a high index indicates greater supervisory power. Barth et al (2001) and Buch and Lipponer (2004) transparency Index of disclosure requirements in the banking industry. The index runs from 0 to 4 and a higher index indicates greater transparency.…”

“…In the first section, an augmented gravity model along the lines of Buch and Lipponer (2004), Rose and Spiegel (2004) and…”

“…Albeit most empirical studies such Portes and Rey (1999), Rose and Spiegel (2004) or Papaioannou (2005) find a negative impact of distance on capital flows or asset holdings, a positive effect of distance can be rationalised from a 9 portfolio point of view. While the former effect is explained by rising information costs in countries situated further away, the latter effect can be rationalised by deceasing business cycle correlations in more distant countries and thus an opportunity to diversify a bank's portfolio (see Buch, 1999 Market capitalisation: Finally, stock market capitalisation in percent of GDP is included to proxy for the size of countries' financial markets as in Buch and Lipponer (2004) and Portes and Rey (1999). It is, however, an empirical question whether market capitalisation exerts a positive or negative impact on German banks' foreign assets: A larger financial market implies more demand for loans as well as opportunities to invest and can thus be considered an additional proxy for market size.…”

“…Also related to the present study is a paper by Buch and Lipponer (2004) using a gravity model to analyse a) which German banks go abroad and b) whether banks enter new markets via subsidiaries (FDI) or via cross-border financial services. 18 They find that larger GDP and bilateral trade flows are positively linked to German banking activities abroad, while distance exerts a negative impact.…”

“…Their analysis is based on data from the Deutsche Bundesbank and hence only one creditor country, Germany, and its activities abroad is subject of the analysis in their as well as in this paper. 19 It should be noted that the data used in our paper, albeit also stemming from the Bundesbank, differs from Buch and Lipponer (2004) in two respects: Firstly, we use the stock of foreign claims, i.e. the volume of outstanding claims, rather than the volume of premiums and interest payments on these claims as dependent variable.…”