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Financial Integration, Banking Competition Changes and Financial Stability: The Case of the MENA Region

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Financial Integration

Part of the book series: Financial and Monetary Policy Studies ((FMPS,volume 36))

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Abstract

Over the past few decades MENA countries have adopted major financial reforms in favour of more financial integration which has led to changes in financial systems in general and the banking system in particular, characterized by an increased privatization process, foreign bank penetration and changes in the banking competition intensity. These changes raise many questions for the financial stability preservation especially that several banks encountered many difficulties to adapt to this new context and various followed strategies did not save many banks from significant distress situations following a considerable rise of risks.

Thus, the principal aim of this paper is to study the impact of financial liberalization, banking market structure and quality of MENA institutions on the likelihood of suffering a systemic banking crisis and to seek the optimal structure of banking system able to preserve financial stability.

Hence, using aggregate balance sheet data from banks across 13 MENA countries from 1990 to 2009, the paper is specifically directed towards analyzing the changes in banking structures and their capacity to ensure banking stability.

After calculation of a global financial liberalization index for MENA countries, we test several hypotheses between liberalization, banking structure and banking stability in the region. Our estimations are based on a country-specific fixed-effects model.

Given the challenges that MENA countries face, the empirical results of this study should be timely and helpful for policymakers.

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Notes

  1. 1.

    Kaminsky and Reinhart (2000, 2002, 2005), Kaminsky et al. (2003), Drees and Pazar-basioglu (1998), Hausmann and Eichengreen (2005), Turner (1996), Lindgren et al. (2004), Rossi (2006), Hutchison and McDill (1999), and Demirguç-Kunt and Detragiache (1998, 2003, 2005).

  2. 2.

    For a survey see Elena Carletti, “Competition, Concentration and Stability in the Banking Sector,” Background paper, in OECD Competition Committee Roundtable 2010.

  3. 3.

    Algeria, Bahrain, Egypt, Morocco, Kuwait, Turkey, Tunisia, United Arab of Emirates, Jordan Lebanon, Saudi Arabia, Qatar and Oman.

  4. 4.

    Beck and Laeven (2008), Laeven and Levine (2008), Hesse and Čihák (2007), Gianni De Nicolò and Elena Loukoianova (2007), Asli Demirgüç-Kunt and Enrica Detragiache (2010), and Boyd et al. (2009).

  5. 5.

    See Beck (2008) for a survey of literature.

  6. 6.

    In reaction to theoretical and empirical contradictions of the structural models, nonstructural approaches were developed namely: the model of Panzer and Rose, the model of Bresnham and the model of Iwata.

  7. 7.

    the financial liberalization proxy – the deposit interest rate ceiling – is widely used in the literature but represents only one aspect of domestic liberalization.

  8. 8.

    The criteria employed to determine if the capital account, the domestic financial sector, and the stock market are entirely or partially liberalized, or repressed, are described in detail in Arafet Farroukh (2010, 2012) “Liberalisation financière et crise bancaire : la cas des pays emergents ATM”.

  9. 9.

    See, for instance, Demirgüç-Kunt and Detragiache (1998), Arteta and Eichengreen (2002), Glick and Hutchison (2001) and Mehrez and Kaufmann (1999).

  10. 10.

    The money and quasi money comprise the sum of currency outside banks, demand deposits other than those of the central government, and the time, savings, and foreign currency deposits of resident sectors other than the central government. This definition is frequently called M2; Total reserves comprise holdings of monetary gold, special drawing rights, reserves of IMF members held by the IMF, and holdings of foreign exchange under the control of monetary authorities. The gold component of these reserves is valued at year-end (December 31) London prices.

  11. 11.

    The results of Hausman test are reported in Table 10.2.

  12. 12.

    Considering that the institutional indicators are highly correlated with each other, we introduce them separately.

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Author information

Authors and Affiliations

  1. University of Carthage FSEG, Nabeul, Tunisia

    Arafet Farroukh

  2. L.I.E.I. University el Manar FSEG, Tunis, Tunisia

    Arafet Farroukh

Authors
  1. Arafet Farroukh
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Corresponding author

Correspondence to Arafet Farroukh .

Editor information

Editors and Affiliations

  1. Netherlands Institute for Advanced Study, Wassenaar, Zuid-Holland, Netherlands

    Marga Peeters

  2. Faculty of Commerce and Economics, Birzeit University, Birzeit, Palestine

    Nidal Sabri

  3. School of Business, Lebanese American University, Byblos, Lebanon

    Wassim Shahin

Appendices

Appendix 1: Criteria of Financial Liberalization

Criteria for full liberalization: 1

Capital account

Domestic financial sector

Stock market

Criteria for partial liberalization: 2

Strong restrictions criteria: 3

Capital account

Domestic financial sector

Stock market

External financing: The banks and the companies can resort freely to the external financing

Debtor and credit interest rates: There is no control on interest rates (ceilings, floors)

Acquisitions of capital by the foreign investors: The foreign investors can hold domestic stockholders’ equity without restrictions

Foreign exchange rate and other restrictions: No foreign exchange rate imposed for the transactions of the account running or the capital account. No restriction on the outflows of capital

Other indicators: elimination of the framing of appropriations (also subsidies). The deposits of currencies are allowed

Repatriation of capital, dividends and interests the capital, dividends, and the interest can be repatriated freely within 2 year starting from the initial investment

External financing: The banks and the companies can resort freely to the external financing

Debtor and credit interest rates: There is no control on interest rates (ceilings, floors)

Acquisitions of capital by the foreign investors: The foreign investors can hold domestic stockholders’ equity without restrictions

Foreign exchange rate and other restrictions: No foreign exchange rate imposed for the transactions of the account running or the capital account. No restriction on the outflows of capital

Other indicators: elimination of the framing of appropriations (also subsidies). The deposits of currencies are allowed

Repatriation of capital, dividends and interests the capital, dividends, and the interest can be repatriated freely within 2 year starting from the initial investment

External financing: The banks and the companies can resort freely to the external financing

Debtor and credit interest rates: There is no control on interest rates (ceilings, floors)

Acquisitions of capital by the foreign investors: The foreign investors can hold domestic stockholders’ equity without restrictions

Foreign exchange rate and other restrictions: No foreign exchange rate imposed for the transactions of the account running or the capital account. No restriction on the outflows of capital

Other indicators: elimination of the framing of appropriations (also subsidies). The deposits of currencies are allowed

Repatriation of capital, dividends and interests the capital, dividends, and the interest can be repatriated freely within 2 year starting from the initial investment

Appendix 2: Review of the Empirical Literature

Authors

Samples

Proxy of fragility

Model

Results

H1: Financial openness and banking fragility

Démergu-Kunt et détragiache (1998)

Panel of countries (1980–1995)

Banking crises (dummy variable)

Logit

The liberalization of interest rate weakens the banking system

Démergu-Kunt et détragiache (2000)

Panel of countries (1980–1997)

Banking crises

Logit

Positive correlation between financial liberalization and banking crises

Farroukh and Alaya (2010)

32 emergent countries (1980–2008)

Banking crises

Logit

Financial liberalization

Ilan Noy (2004)

  

panel-probit

If liberalization is accompanied by insufficient prudential supervision of the banking sector, it will result in excessive risk taking by financial intermediaries and a subsequent crisis

H2: Structures of banking market and stability

Allen et Gale (2004)

    

Beck et al. (2006a, b)

69 pays (1980–1997)

  

Empirical obviousness that the concentration is a pledge of stability

(Uhde and Heimeshoff 2009)

25 European countries (1997–1995)

Z-score

Panel

Concentration has a negative effect on the European banks solidity

De Nicolo et al. (2004)

100 pays (1993–2000)

 

Logit

Positive relation between banking fragility and systemic risk

Benjanin Miranda et al. (2007)

Brazilian banks (2000–2005)

NPL

Panel

The empirical results indicate that banking concentration has a statistically significant impact on NPL, suggesting that more concentrated banking system may improve financial stability

Appendix 3: Notes on Variables and Data Sources

Variable

Description

Data sources

H-Statistic

Variable that captures the competitiveness of the banking industry whereby H ≤ 0 indicates monopoly equilibrium; 0 < H <1 indicates monopolistic competition and H = 1 indicates perfect competition

Claessens and Laeven (2004) and Turk-Ariss (2009)

C3

Proportion of total assets held by the three largest institutions in a country, averaged over the period 1988–2003

Bankscope

Lerner index

Describes a firm’s market power. The index ranges from a high of 1 to a low of 0, with higher numbers implying greater market power.

Authors’ calculations

Arafet (2011)

IGLF

Financial liberalization index

Authors’ calculations

LC

Capital account liberalization

Authors’ calculations

LI

Domestic financial liberalization

Authors’ calculations

BLASS

Ratio of bank liquid reserves to bank assets

World Bank Development Indicators

DCPS

Domestic credit provided by the banking sector (% of GDP) includes all credit to various sectors on a gross basis

World Bank Development Indicators

IRS

Interest rate spread

World Bank Development Indicators

GDP

Rate of growth of the gross domestic product

World Bank Development Indicators

M2R

Ratio of M2 to gross foreign reserves

World Bank Development Indicators

INF

Rate of change of the GDP deflator

World Bank Development Indicators

RI

Nominal interest rate minus the rate of inflation

World Bank Development Indicators

NBT

Change in the net barter terms of trade

World Bank Development Indicators

3.1 Correlation Matrix

 

C3

HSTAT

LEM

IGLF

BLASS

M2R

RI

NBT

GDPRG

INF

DCB

ROA

ROE

C3

1

            

HSTAT

−0.36

1

           

LEM

0.33

−0.09

1

          

IGLF

0.36

−0.003

0.003

1

         

BLASS

0.16

0.16

0.03

−0.34

1

        

M2R

−0.04

−0.04

−0.05

−0.04

−0.41

1

       

RI

−0.15

−0.15

−0.29

0.14

0.01

−0.14

1

      

NBT

0.06

0.06

0.36

−0.12

0.44

−0.18

−0.08

1

     

GDPRG

0.07

0.07

0.21

0.03

−0.07

−0.07

−0.01

0.20

1

    

INF

0.10

0.10

0.14

0.09

0.009

0.07

0.08

0.05

0.09

1

   

DCB

0.08

−0.25

−0.60

−0.07

0.12

0.06

0.08

−0.21

0.17

−0.28

1

  

ROA

−0.02

−0.04

0.31

−0.34

0.01

−0.01

−0.12

0.35

0.009

0.21

−0.23

1

 

ROE

−0.04

−0.02

0.18

−0.18

0.03

−0.07

−0.18

0.27

0.01

0.34

−0.23

0.45

1

  1. The correlation matrices analysis shows that the coefficients of correlation are low for selected variables which prove the non existence of multicollinearity problem

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Farroukh, A. (2013). Financial Integration, Banking Competition Changes and Financial Stability: The Case of the MENA Region. In: Peeters, M., Sabri, N., Shahin, W. (eds) Financial Integration. Financial and Monetary Policy Studies, vol 36. Springer, Berlin, Heidelberg. https://doi.org/10.1007/978-3-642-35697-1_10

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