market entry, privatisation and bank performance in transition steven fries, damien neven, paul...
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Market entry, privatisation and bank Market entry, privatisation and bank performance in transitionperformance in transition
Steven Fries, Damien Neven, Steven Fries, Damien Neven, Paul Seabright and Anita TaciPaul Seabright and Anita Taci
EIASM Workshop on Financial DevelopmentEIASM Workshop on Financial DevelopmentPrague, 26 May 2006Prague, 26 May 2006
IntroductionIntroduction
Many policies used to change socialist banking systems into market-oriented ones, including
– Restructuring and privatisation of state banks
– Entry of new private banks, including foreign
Gauge impact of reforms on banking development by examining revenue and costs
– Foreign banks are low marginal cost entrants
– Privatised banks attract greater demand
– Differences among private banks diminish over time
– State banks under perform on both demand and costs
Approach of the paperApproach of the paper
Develop unique model of monopolistic competition in bank lending and deposit taking to analyse revenues– Look for effects of market entry and ownership on
deposit and loan margins Use standard trans-log specification for costs
– Estimate marginal costs by ownership type Compare margins and marginal costs for mark-ups
– Indicates ability to attract demand for loans and deposits Allow parameters of revenues and costs to vary
over time
Existing literatureExisting literature
Banking market structures in transition economies (TEs)
– Gelos and Roldós (2002), Yildirim and Philippatos (2002a) and Drakos and Konstantinou (2003)
– Evidence of monopolistically competitive markets
– Increasing competition over time Cost / profit efficiency of banks in TEs
– Grigorian and Manole (2002), Yildirim and Philippatos (2002b), Bonin, Hasan and Wachtel (2005) and Fries and Taci (2005)
– Greater efficiency of foreign banks
Existing literature (cont’d)Existing literature (cont’d)
Determinants of bank net interest margins in TEs
– Drakos (2003)
– State-owned banks have relatively low margins
Theoretical models of imperfect competition and institutional development in TEs
– Hainz (2003a, 2003b)
– Studies show that the market power of banks decreases as the quality of institutions improves
The starting point: bank profit functionThe starting point: bank profit function
Accounting identity
LoanLoanmarginmargin
DepositDepositmarginmargin
Non-loan assetsNon-loan assetsmarginmargin
Operating costsOperating costs
Interbank rateInterbank rate
ii r riillLLii - r - rii
ddDDii + r + riinnNNii - R(L - R(Lii + N + Nii - E - Eii - D - Dii) - C(D) - C(Dii,N,Nii,L,Lii,W,Wii))
ii (r (riill - R)L - R)Lii + (R - r + (R - rii
dd)D)Dii + (r + (riinn - R)N - R)Nii + Re + Reii - C(D - C(Dii,N,Nii,L,Lii,W,Wii))
Equilibrium determination of loan and deposit margins in monopolistically competitive markets
The empirical specificationThe empirical specification
Revenue function is therefore
Margins are a function of number of competitors, market shares and bank ownership
REVREVijtijt = M = Mijtijtll((••)L)Liktikt + M + Mijtijt
dd((••)D)Diktikt + + ρρNNijtijt + + σσEEijtijt + + ijtijt
REVREVijtijt = M = Mijtijtl+dl+d((••)(L)(Liktikt + D + Diktikt) + ) + ρρNNijtijt + + σσEEijtijt + + εεijtijt
Combine loans and deposits into a single scale variable because of their co-linearity
Empirical specification (cont’d)Empirical specification (cont’d)
Trans-log specification for costs
Higher order terms omitted because they were insignificant in preliminary estimations
Allow estimated constants to vary by bank ownership and over time Identifies differences in average costs across
bank types
lnlnCCijtijt = = ααoo + + ΣΣsstt ββss lnlnQQs,ijts,ijt + + ΣΣmm
nn X Xmm lnlnWWm,ijtm,ijt
DatasetDataset
Bankscope database for accounting data– 477 banks in 15 transition economies
– Sample period covers 1995 – 2004
– Unbalanced panel, 115 banks for entire sample period
Unique coverage of bank ownership– Time varying measures of ownership based on
EBRD staff research
– Newly established, privatised and state-owned
– Domestic and foreign
Basic data on bank revenuesBasic data on bank revenues
Revenues to total assets in per cent
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
New domestic New foreign Privatiseddomestic
Privatisedforeign
State owned
1995-98 1999-2001 2002-04
Basic data on bank costsBasic data on bank costs
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
New domestic New foreign Privatiseddomestic
Privatisedforeign
State owned
1995-98 1999-2001 2002-04
Operating costs to total assets in per cent
Results – Revenue equation Results – Revenue equation (revenue adjusted for inflation)(revenue adjusted for inflation)
Explanatory variables
Interacted with loans plus deposits
Loans
Newly established, domestic
Newly established, foreign
Privatised, domestic
Privatised, foreign
Number of banks per million of population
Share of loan and deposit market
IAS dummy variable
0.0320***
Deposits
1995 - 1998 1999 - 2001
Non-Loan financial assets
Equity
0.0007
0.0194
0.0609***
2002 - 2004
-0.0350***
0.0475***
-0.0096
-0.0184***
0.0199***
0.0052**
-0.0005
0.0015***
-0.0101
0.0125
0.2408***
0.0095***
-0.0094***
0.0275***
0.0051**
-0.0012**
0.0289***
-0.0289***
0.0105***
0.0081***
0.0282***
0.0038***
0.0002
0.0063*
-0.0089**
0.0391***
0.2749***
0.0194***
0.2906***
Results – Cost equationResults – Cost equation
Ln (loans + deposits)
Ln (loans + deposits ^ 2
Ln (operating costs / total assets)
Ln (operating costs / total assets) ^ 2
Ln (non-loan financial assets)
Equity to total assets ratio
Newly established, domestic
Newly established, foreign
Privatised, domestic
Privatised, foreign
1995 - 1998 1999 - 2001 2002 - 2004
0.7995***
0.0021
0.3681***
0.1715***
0.0331
-0.0019
-0.2649***
-0.3767***
-0.2767***
-0.0209
0.6101***
0.0360***
1.3556***
0.2036***
0.1075***
-0.1170
-0.0833*
-0.0051
-0.0340
0.0263
0.6332***
0.0410**
0.9657***
0.0370*
0.0529***
0.3072**
-0.0298
0.0303
0.0083
-0.0377
Marginal costs and mark-upsMarginal costs and mark-ups
Foreign bank marginal costs below that of state bank
-2.5
-2.0
-1.5
-1.0
-0.5
0.0
0.5
1.0
New domestic New foreign Privatised, domestic Privatised, foreign
1995-98 1999-2001 2002-04
Marginal costs and mark-upsMarginal costs and mark-ups
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
New domestic New foreign Privatised, domestic Privatised
1995-98 1999-2001 2002-04
Mark-ups above state bank benchmark
Foreign banks are low marginal cost entrants Privatised banks attract greater demand
– Evidence that newly established banks attract more demand with a lag
New domestic banks had weaker performance than other private banks– While differences diminish over time, this casts doubts on
liberal entry policies for domestic banks State banks are the weakest performers throughout Policy implications
– Openness to foreign entry (costs) and privatisation of state banks to both domestic and foreign owners (demand)
ConclusionConclusion