Guillermo Ortiz, head of Mexico’s central bank, is a regulator with a host of complaints about foreign banks. This is perhaps unsurprising since the three largest banks in Mexico are owned by foreign banks. Mr Ortiz’s sense of impotence, though, is unjustified, say other regulators – with one major caveat – while a top banker argues that his arguments are invalid.
As he detailed in a Viewpoint for The Banker (July 2006), Mr Ortiz says that the foreign bank takeover of local banks in emerging markets leads to:
- a loss of transparency and disclosure as the local banks are delisted from the stock market;
- important strategic and risk decisions being taken at headquarters rather than locally;
- a diversion of credit from local companies into the more profitable consumer sector; and
- higher charges.
Regulators disagree
Taking these arguments in turn, the one with which most regulators do not agree is the loss of disclosure. In a 2004 comprehensive review of foreign direct investment in the financial sector of emerging market economies, the Basel-based Bank for International Settlements (the organisation known as the central bankers’ bank) noted that “host country regulators have the capacity to impose information and disclosure requirements”. Most banks see good relations with their regulators as crucial to their business performance.
Mr Ortiz advocates a relisting of the local bank through a minority shareholding, which sounds a bit like a nationalisation because the foreign bank would be forced to sell shares.
Herbert Stepic, CEO and chairman of Raiffeisen International, an Austrian bank with 11.2 million retail customers throughout central and eastern Europe and Russia that has taken over a host of local banks, argues that, in any case, a small local listing would be more trouble than it is worth. “A listing only makes sense if it provides liquidity for the company. All these stock markets have inferior liquidity so you end up with lots of listings in different countries but no liquidity,” he says. “A listing is ultimately for the shareholders. If they can’t buy and sell or prices fluctuate enormously, it is counterproductive.”
Mr Ortiz’s point about important decisions being taken at headquarters, rather than locally has some merit, although it does not apply to all banks or all decisions.
“Some banks take decisions at their headquarters, but not every bank,” said Pridiyathorn Devakula, governor of the Bank of Thailand, in an interview in September. He is now minister of finance.
Mr Stepic argues that this only applies to larger issues such as risk, which is ultimately beneficial to the local country because foreign bankers do not venture into territories that would jeopardise the health of their domestic banks.
It is true that foreign banks pick and choose what areas they move into. For instance, BBVA Banco Continental in Peru has focused on lending to large companies, capital markets and retail banking for medium to high-income groups. This has been a profitable model for the Spanish bank – but in a country where only 25% of the population has a bank account and the government is intent on widening access to banks, BBVA Banco Continental is the sort of foreign bank Mr Ortiz is complaining about.
However, regulators can apply informal pressure. Mr Pridiyathorn said he used inducements rather than forcing banks to open or retain loss-making outlets outside the urban centres. Although he is talking about domestic banks, inducements are in the purvey of regulators for all banks.
Governor Akhtar Aziz Zeti, head of the Malaysian central bank, notes that domestic banking institutions with a large presence in non-urban areas have succeeded in achieving a sustainable performance. With this and other ‘carrots’, she told foreign banks (which have been clamouring to expand their presence) that from January 2006 they would be permitted to set up four new branches as long as two were semi-urban and one was non-urban.
Central bankers also have the power to use ‘sticks’ or, at least, to keep the foreign banks in their place. China is not alone in allowing foreign banks no more than a minority participation in local ones – India and Malaysia are among other countries taking the same approach.
Countries that have allowed foreign banks to buy 100% stakes generally have done so on the back of a crisis. “[Mr Ortiz] forgets the Mexican system was saved by them,” one former regulator says of the central banker’s complaints.
But, understandably, the situation can rankle, as Ms Zeti reveals when talking about Malaysia’s neighbours. “After the Asian crisis, the foreigners came in [and bought banks] at fire sale prices. That was bad,” she says in reference to other Asian countries. “We approached it differently and injected funds. We were not under an IMF programme.”
The countervailing argument to Mr Ortiz’s is also that local banks in emerging markets have often not had enough funds to finance local industry, while the scarce funds available are expensive.
Opening up markets
“We are the number one provider of funds for emerging Europe,” says Mr Stepic. “We are opening these markets up to international markets, syndicated loans, bonds and direct financing. Our total financing to FIGs [financial institution groups] and corporates is €5bn.”
He also points out that local banks had “no money or expertise” to finance small and medium-sized enterprises (SMEs) at the time when Raiffeisen entered the market. The bank now finances 800,000 SMEs in emerging Europe.
Arguably for Mr Ortiz, it is a small price to pay to have banks focusing on the high-margin consumer business if they are bringing funds into the country that go to other sectors as well. Financing for SMEs is far from advanced in most emerging markets. Bankers calculate that in Mexico only 10%-20% of them are being financed. Still, even less were being financed before the arrival of foreign banks. Meanwhile, pressure from Mr Ortiz has led the Association of Mexican Banks to devise an initiative aimed at spurring lending to agriculture, although political upheavals over the past year have delayed any action.
No help in a crisis
The caveat to the positive aspects of foreign banks, according to one former central bank supervisor, is that they are a liability in a crisis. They bring efficiency to a financial system but they do not bring stability, he says.
In Argentina, for instance, during the 2001-2 financial crisis, foreign banks were unhelpful in sorting out the mess. Scotiabank wanted the central bank to pay back all its depositors – something the latter could not afford to do – and was more concerned with the fall in its share price in Canada.
Citigroup, meanwhile, had made great play of its huge balance sheet, taking out advertisements in Argentine papers before the crisis to make the point that it was much more secure than any local bank. When it came to the crunch, however, those huge assets made no difference to its Argentine depositors because they were not used to bail out the local entity, says the former central banker.
Understandably, shareholders would not have countenanced this but, on the other hand, Citigroup used empty promises as part of its marketing.
Ms Zeti says that foreign banks participated in the speculation and outflow of funds leading up to the Asian crisis.
Staying the distance
There is another view of foreign banks’ role in a crisis. One former regulator points out that most of the foreign banks stayed in Argentina during its financial upheavals and “considering what was done to them, it is surprising”. Among other measures at the time, for example, the administration forced the unequal conversion of dollar loans and deposits into pesos.
The benefits that foreign banks provide to emerging markets are legion. They bring local and foreign funds into the economy, they increase competition in the banking sector and they improve governance and risk management in the sector overall.
That does not mean there are no disadvantages to their presence in emerging markets. However, there is no turning the clock back. The BIS report concluded: “Accordingly, public policy should be focused on maximising those benefits by continuing to encourage diversity and competition in financial systems.”
That, perhaps, is the best advice.
