1The Global Bank Merger Wave: Implications for Developing Countries ∗∗ Gary A. Dymski Department of Economics University of California, Riverside Riverside CA 92521 USA [email protected] April 8, 2002 1. Introduction This paper reconsiders the causes and implications of the global bank merger wave, especially for developing economies. Most academic studies of this bank merger wave have focused on the U.S. Studies of cross-border mergers (Demirgüç-Kunt, Levine, and Min 1998, Group of Ten 2001) largely consider the developed economies, with just a few (Claessens and Jansen 2000; Clark, Cull, Peria, and Sanchez 2001) examining cross-border financial mergers in developing economies. All of these studies almost invariably rely on two maintained hypotheses: first, that a set of common “micro-economic” forces—economies of scale and scope, unleashed by deregulation and driven by technical change—underlies this global financial merger wave; second, the U.S. merger wave constitutes the global paradigm. The links between mergers, efficiency, and U.S. experience are demonstrated via the case of the large U.S. banks; for after undergoing continuous consolidations since 1981, these banks are more profitable than other regions’ large banks. Table 1 illustrates this point using profits per $1000 of assets as a benchmark. The fact that the largest U.S. banks have recently increased in size relative to the U.S. market, while the largest banks in other national areas are smaller relative to their national markets (Table 2), suggests that mergers elsewhere may lead to efficiency gains in other nations. These maintained hypotheses suggest that the largest and most efficient banks, especially those from the U.S., should be given full scope to engage in global mergers—that is, in consolidations involving cross-border acquisitions of banks (Agénor 2001). This will lead to a global homogenization of banking, dominated by efficient institutions. Berger, DeYoung, Genay, and Udell (2000) develop an argument of precisely this sort: they assert that only the largest and most efficient banks are able to enter and succeed in foreign markets over a sustained period; so global acquisitions (and entry more broadly) will enhance global banking efficiency. This has a powerful implication for developing economies. For a global bank merger wave dominated by large overseas banks should, by enhancing efficiency, create a sounder and less crisis-prone banking sector. So cross-border bank consolidation should provide some protection against another East Asian financial crisis.1 ∗ The author appreciates many insightful comments by Joao Ferraz, Nobuaki Hamaguchi, Jim Crotty, John Zysman, members of the economics faculty at Musashi University, Tokyo, and participants in the Rio Workshop on Mergers and Acquisitions. Any remaining errors are his responsibility. 1 Some studies have found empirical evidence that foreign banks’ entry may, however, reduce small businesses’ access to credit in developing economies (see Clark, Cull, Peria, and Sanchez 2002).2 This paper constructs an explanatory framework that challenges the maintained hypotheses that global mergers are efficiency-driven and that the U.S. case defines the paradigm for all other nations’ banking systems. The first maintained hypothesis is questionable because the empirical literature finds little evidence of links between mergers and financial firms’ performance, measured in terms of either profitability or operating efficiency (Berger, Demsetz, and Strahan (1999), Dymski (1999), and Rhoades (2000)). Efficiency effects are also weak in European bank mergers (OECD (2000)). Studies of cross-border mergers have reached the same conclusion; for example, Claessens, Demirgüç-Kunt, and Huizinga (1998) and Demirgüç-Kunt and Huizinga (1998) show that cross-border entry by multi-national banks has not increased profit rates in these markets. And the U.S. experience cannot be a global paradigm because U.S. banks’ very dominance in global financial markets does not leave similar niches available for other nations’ banks; instead, other nations’ banks inhabit a global financial terrain in which U.S. banks are dominant—an especially crucial consideration for banks in developing economies. The explanatory framework proposed here attributes bank mergers to macrostructural circumstances and banks’ strategic motives as goal-seeking firms. Macrostructure here refers to the key elements of banking firms’ environment the pace of macroeconomic growth, the size and distribution of domestic income, and the size and strength of domestic financial markets. This framework builds on ideas about mergers and acquisitions that have emerged in the fields of industrial organization and strategic behavior, some of which are summarized in the paper by Cantwell and Santangelo in this volume. These authors argue that mergers and acquisitions are triggered either by factors that enhance corporate competitiveness, or factors that respond to changes in the market and regulatory environment. Competitiveness-driven mergers entail efforts to enhance market power, to defend market position, to gain synergies and/or economies of scope, or to reduce transactions and information costs. Environmentally-driven mergers represent responses to regulatory shifts, efforts to gain access to new technologies, and attempts to overcome capital-market inefficiencies. Previous studies of bank mergers have ignored the fact that banks are firms, and as such must develop strategies in changing and uncertain environments. These studies implicitly assume that financial market equilibria dictate what financial-market optima are, and are driving toward homogeneous best practices. 2 The evidence for this view is slight. Economies of scale considerations justify, at best, mergers of moderate-size banks. Recurrent market meltdowns and loan-loss episodes suggest that best practices are elusive, if not time- and place-specific. The macrostructural environment has a controlling effect on what kinds of global (cross-border) bank mergers are feasible, and which are undertaken. Nations’ banks can implement cross-border purchases only if they have access to capital markets—and this access varies widely from nation to nation. Nations’ banks are targets for acquisition only insofar as they offer customer bases and/or assets that fit into the strategic orientations of acquiring