Home and Host Country Determinants of International Bank Entry

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Introduction By watering down cross-border barriers, globalisation has led to the increased expansion of firms to foreign markets. Such expansion could benefit the firm in ways such as reducing its susceptibility to country specific macroeconomic shocks, allowing it to achieve economies of scale, and presenting new opportunities for value-enhancing growth. In the banking sector, an opinion attributed to banks’ expansion to foreign market is that of offering service to customers who have expanded to these foreign locations, to avoid losing them to home-country institutions (Aliber 1984). Since foreign banks are also noted to provide credit facilities to domestic customers in their host countries, the motivation behind a bank’s expansion to a foreign market may exceed the “follow-your-customer” explanation (Berger et al. 2003). This paper considers the home and host country factors that affect banks’ foreign-market entry, especially where the entry involves physical location in the host country – i.e. as a subsidiary or a branch. Cultural factors and Language Cultural distance determines success of foreign entities in host countries. Various aspects of culture (e.g. whether cultures are individualistic or not) differ from one country to another (Nardon & Steers 2009). Such cultural differences between nations are argued to affect organisational aspects such as management practices – e.g. whether to staff top positions in foreign subsidiaries with home country or host country nationals (Bird & Fang 2009). Although globalisation tools such as the Internet have weakened traditional nation-based cultural differences, political cultures remain entrenched within boundaries, making cultural distance a relevant consideration for foreign-market-entry decisions (Chevrier 2009). Banks, just like any other corporation, would thus favour expansion to areas that have cultural similarities with the home countries (Focarelli & Pozzolo 2005). For instance, Banco

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Santander’s (a Spanish bank) successful expansion into a leading global bank is attributed to a strategy that followed an incremental plan in a sequence informed by closeness of the host and home country cultures (Parada, Alemany & Planellas 2009). Secondly, culture may influence bank expansion via the language similarity or lack thereof (Focarelli & Pozzolo 2005). Sharing a common language betters communication and interaction of the people, hence could influence decision-making processes within the organisation. Regulatory framework The degree of regulations on foreign firms’ operations in a particular country is also a critical determinant of a bank’s choice of expansion location. A general observation is that foreign banks would favour expansion to host countries where restrictions on entry and bank activity are minimal (Clarke, Cull, Peria & Sanchez 2003; Lehner 2009). Developing the CAGE – Cultural, Administrative, Geographical, and Economic – distance framework to guide firms’ appraisal of international expansion opportunities, Ghemawat (2007) notes that having common aspects such as membership to a common regional trading block and a common currency lowers the administrative distance between two countries, thus increasing firms’ expansion to such trade partners (Ghemawat 2007). Direct effect of regulation on banks’ foreign entry may for instance apply where governments put restrictions on cross-border mergers and acquisition, to protect domestic firms from foreign competition or foreign ownership (Focarelli & Pozzolo 2005). For instance, relative low government barriers to entry of foreign banks in the transition nations of Eastern Europe, is recognised as the driving factor to the higher foreign bank density in such countries, when compared to developed nations of continental Europe (Berger 2007). A host country whose legal and institutional frameworks are similar to those of the home country of a foreign bank is also

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could also attract entry of such a bank (Hryckiewicz & Kowalewski 2010). Further, incentives offered to foreign investments (e.g. on taxation) may influence both the bank’s entry mode choice and extent of engagement in the market (Cerutti, Dell’Ariccia & Peria 2007; Petrou 2009). Economic and Geographical factors Home and host country economic aspects such as the size of the economy and extent of overseas trade also drive bank’s expansion to foreign market (Brealey & Kaplanis 1996). For instance, integration in economic variables such as the degree of bilateral trade between the host and home countries, may favour expansion to foreign markets (Focarelli & Pozzolo 2005).In this respect, Banco Stander’s expansion-strategy strength was noted to be in its expansion first to regions with greater economic proximity to the home country (Parada, et al. 2009). The CAGE distance framework supports such a strategy with a note that “rich countries [generally] engage in more cross-border economic activity...than do their poorer cousins” (Ghemawat 2007, p. 45). Economic factors however may have an opposite effect to that hypothesized under the CAGE framework. In times of expansion, banks could enter into more risky economies to increase their profitability, such entry-motivation decreasing with the advent of adverse economic environment (Hryckiewicz & Kowalewski 2010). When banks enter more risky economies during periods of expansion in global economy, they could acquire host country institutions at comparatively cheaper prices, thus increasing their profitability (Hryckiewicz & Kowalewski 2010). The economic risk attached to a country at a particular period, may thus affect the mode of entry chosen, where high risk discourages intensive foreign direct investment activities at times of contraction in global economy (Cerutti et al. 2007).

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Closely related to economic distance is geographic distance. Sometimes geographic distance is considered a subset of economic factors (e.g. Focarelli and Pozzolo 2009), but could imply further aspects such as differences in time zones and lack of a common boarder, rather than the physical distance per se (Ghemawat 2007). Hryckiewicz and Kowalewski (2010) demonstrate that geographic distance between the host and home countries determine foreign banks’ performance thus influence the choice of expansion location. Distance for instance may affect effectiveness of internal control procedures, with suggestions that it dissipates parent organization’s control over its subsidiaries (Berger & DeYoung 2006). Where retaining a high level of control in the headquarters is a critical business policy, geographic distance could have a pronounced effect on foreign entry decisions. Conclusion Although globalisation forces have weakened barriers to cross-border expansions, various host and home country factors still determine banks’ foreign entry decisions. This paper evaluates such home and host country factors driving banks’ entry to foreign markets. Important home and host country factors include cultural distance, regulatory framework, and economic environment of home and host countries. Lower cultural distance and low restrictions towards foreign entry for instance favours a bank’s foreign entry. Whereas economic endowment is suggested to motivate entry, banks’ could also be receptive to ideas of entering into weaker economies in times of booms in global economy to profit from lower acquisition prices. Geographic distance may further prove critical especially in cases where a bank’s policy is to engage in intensive control of its subsidiaries’ operations.

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Petrou, AP 2009, ‘Foreign market entry strategies in retail banking: Choosing an entry mode in a landscape of constraints’, Long Range Planning, vol. 42, no.5/6, pp. 614-632.

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