What Drives International Bank Flows? Politics, Institutions and Other Determinants
69 Pages Posted: 28 Apr 2005
Date Written: February 2005
This paper uses a large panel of bilateral bank flow data to assess how institutions and politics affect international capital - bank in particular - flows. The following key findings emerge: 1) The empirical "gravity" model is the benchmark in explaining the volume of international banking activities. 2) Conditioned on standard gravity factors (distance, GDP, population), well-functioning institutions are a key driving force for international bank flows. Specifically, foreign banks invest substantially more in countries with i) uncorrupt bureaucracies, ii) high-quality legal system, and iii) a non-government controlled banking system. 3) Beyond institutions, politics exert also a first-order impact. 4) The European Integration process has spurred cross-border banking activities between member states. These results are robust to various econometric methodologies, samples and the potential endogeneity of institutional characteristics. The strong institutions/politics-bank flows nexus has strong implications for asset trade and international macro theories, which have not modelled these relationships explicitly.
Keywords: banks, capital flows, institutions, law and finance, politics
JEL Classification: F34, F21, G21, K00
Suggested Citation: Suggested Citation