Here I expand on it by providing a framework for cost-benefit analysis that goes beyond the widespread concerns of economic nationalists bordering on globaphobia.Foreign ownership through either direct (with managerial control) or portfolio (without managerial control) investment of the banking sector has resulted from financial globalization, enabled by deregulation, privatization and financial account convertibility across the world. Foreign direct investment (FDI) in banking can create several host-country benefits (see Committee on the Global Financial System, “Foreign Direct Investment in the Financial Sector of Emerging Market Economies,” Bank for International Settlements, Basel, Switzerland, March 2004, at http://www.bis.org/publ/cgfs22.pdf): (1) It raises financial sector efficiency by exposing local banks to global competition as well as generating demonstration and spillover effects. (2) It transfers new technologies and introduces product innovations, creating economies of scale through standardization of processes such as credit scoring. (3) It facilitates more stable financial capital imports to help close the investment-savings gap. (4) It places lending practices, motivated by risk-adjusted profitability, on a broader and more objective basis, leading to more productive economy-wide use of credit. (5) It enables greater financial stability by recapitalizing struggling local banks and providing balance of payments financing. (6) It reduces the sensitivity of the banking system to local business cycles and changing financial market conditions, thanks to the stronger capitalization and wider diversification of foreign-owned banks, coupled with access to their parents’ funding. (7) It reduces concentration in lending, enables faster recognition of losses and more timely resolution of problems in times of financial distress, thanks to risk-based credit evaluation. (8) It decreases the likelihood of domestic capital flight in local financial crises by providing an alternative secure location of deposits to host-country savers.
FDI in banking can also have host-country costs: (1) The loss of information and control by host-country financial supervisors and monetary authorities when key decision-making functions, especially in strategic planning and risk management, are transferred from local subsidiaries to their foreign parents. (2) The greater exposure of the host-country financial system to shocks from external economic, financial and strategic developments as sources of contagion. (3) The greater concentration of market power in the hands of fewer and larger banks after mergers and acquisitions.
Strengthening the host-country supervisory framework and regulatory system, sharing information and cooperating with source-country supervisors and regulators as well as diversifying among parent foreign banks from several different source-countries can help minimize if not totally eliminate these costs. The empirical evidence shows that on the whole FDI in banking has been beneficial to emerging market economi-es (see Linda Goldberg, “Financial-Sector Foreign Direct Investment and Host Countries: New and Old Lessons,” Federal Reserve Bank of New York Staff Reports, No. 183, April 2004, at http://www.newyorkfed.org/research/staff_reports/sr183.pdf).
Foreign-owned banks began to enter Turkey in the 1980s as a result of the economic liberalization that characterized the decade. In the 1990s, however, they lost interest in Turkey, which suffered from chronic economic instability and recurrent financial crises. This was the decade, Turkey’s lost decade, which saw -- especially in the decade’s second half -- the rapid entry of banks from developed countries into emerging market economies in both wholesale and retail banking, through cross-border mergers and acquisitions. Countries in eastern and central Europe became the major recipients of FDI in the banking sector as a result of privatization and preparation for EU membership. The weakness of the Turkish banking sector was fully revealed during the back-to-back economic crises in 2000 and 2001, when dozens of undercapitalized and mismanaged banks, which had become addicted to making fast and easy money from government lending, went under. After the initial economic recovery during 2002-2003, resulting in rapid disinflation coupled with high real GDP growth, foreign banks began reentering Turkey on a significant scale in 2004.
According to central bank data, foreign-owned equity as direct investment (with managerial control) in total Turkish banking sector assets rose rapidly from 4.3 percent in 2004 to 12.4 percent in 2005 and to 22.4 percent in 2006 (<http://www.tcmb.gov.tr-/yeni/-evds/yayin/finist/Fir_TamMetin4.pdf>). In 2006, which witnessed the either complete or partial foreign ownership of nine Turkish banks, foreign-owned equity as portfolio investment (without managerial control) in total Turkish banking sector assets according to the Central Registry Agency was 16.4 percent. So, in 2006, total foreign-owned equity, as either direct or portfolio investment, accounted for 38.8 percent of Turkish banking sector assets. If we focus on the direct investment component of foreign equity only, the 22.4 percent figure for Turkey in 2006 was below the comparable average figure of 26 percent for the European Union, with the individual EU-member figure ranging between 2.3 percent in Holland (before the takeover of the Dutch ABN AMRO Group by the British Barclays last April) to 99.2 percent in Estonia. Not surprisingly, given the comparative advantage of developed countries in banking and other financial services and the superior ownership advantages, such as global brand names, of their financial institutions, as well as the higher market growth potential in developing countries, we find greater foreign ownership of banks in developing countries than in developed countries.
Restricting foreign ownership in Turkish banking, as economic nationalists and other opponents of financial globalization advocate, would be difficult and costly. First, as an aspiring EU member Turkey would be at odds with the EU, which forbids members from restricting ownership of their banks from each other except for prudential reasons. Second, under the General Agreement on Trade in Services (GATS) of the World Trade Organization, Turkey cannot arbitrarily restrict foreign ownership in its banks by banks of other WTO members in violation of either its GATS commitments or the principles of transparency, most-favored-nation and national treatment. Third, even if Turkey were to go against both the EU and the WTO in restricting foreign ownership, it would face retaliation by countries in which Turkish banks either own or would like to own banks. Last but not least, restricting foreign ownership would deprive Turkey of the important benefits of FDI discussed earlier. Turkey cannot afford to retrogress to the illiberal, inward-looking economic regime of the pre-1980s that retarded its development for many decades.
