Empirical Studies of Bank Privatization: Some Lessons *

1. Empirical Studies of Bank Privatization: Some Lessons* George Clarke, Robert Cull, and Mary Shirley * Clarke and Cull are senior economists in the Development Economics Research Group at the World Bank. Shirley is the president of the Ronald Coase Institute. We would like to thank Gerard Caprio and participants at the Bank Privatization Conference held at the World Bank in November 2003 for comments on earlier drafts. The findings, interpretations, and conclusions expressed in this paper are entirely those of the authors and do not necessarily represent the views of the World Bank, its Executive or the countries they represent.

2. Three Themes • Motivation for this research. • Main findings. • Policy conclusions.

3. State banks more important in poorer countries

4. Substantial Regional Variation

5. Variation in Bank Privatization…

6. Variation in Privatization

7. Theoretical promises: • Private banks might take bigger risks, creating more crises (Caprio & Honohan 2001) • Private banks might restrict access to credit for some firms because of: • Imperfect information • Incomplete contracts (Greenwald, Stiglitz 1986) • More generally, private bank ownership might result in highly concentrated markets, resulting in high interest rates and less credit (Caprio & Honohan 2001)

8. State banks reduce financial sector development and growth • State banks are associated with: • Less financial development • Slower growth • Lower productivity • And effects are larger in countries with: • lower income • weaker protection of property rights Barth, Caprio, Levine 2001;La Porta, Lopez-de-Silanes and Shleifer 2002.

9. State banks do not improve stability • Same risk of systemic banking crisis (Barth, Caprio, Levine 2001) • Or perhaps even increased risk! (Beck, Demirguc-Kunt and Levine 2003; Caprio and Martinez Peria 2002) • And instability (La Porta, Lopez-de-Silanes and Shleifer 2002) • Because of credit misallocation, state banks may be a bigger threat to stability than private banks

10. State banks do not improve access to credit (even for SMEs) • State banks in Argentina and Chile lend less to SMEs than other banks (Clarke et al. forthcoming) • No significant link between state ownership and access to credit in 3000 firms in 30+ countries (Clarke et al. 2001)

11. State banks do not improve access to credit (continued) • State bank loan growth was slower after Tequila crisis and less responsive to market signals in Argentina, Mexico (Goldberg, Kinney, Dages 2000)

12. Need for research to answer three questions: • Why do countries privatize state-owned banks? • What has been the effect of privatization on bank and sector performance? • What determines whether the outcome is good or bad?

13. Argentina, Brazil, Bulgaria, Croatia, Czech Republic, Egypt, Hungary, Mexico, Nigeria, Pakistan, Poland, Romania 12 Case Studies

14. Govt. Ownership in Case Study Countries Full sample: +/- 110 countries (Barth, Caprio & Levine, 1999, 2003)

15. Privatization in Case Study Countries Full sample: +/- 110 countries (Barth, Caprio & Levine, 1999, 2003)

16. Croatia Egypt Hungary India Jamaica Kenya Morocco The Philippines Poland (Otchere, 2003) Nine Country Study of SIPs

17. Why do countries privatize? Non OECD countries are more likely to privatize when: • Performance of banking sector is poor, • Government is fiscally conservative, and • Government is more accountable to the electorate Boehmer, Nash, and Netter 2003

18. Privatization in Argentina: Was more likely when: • Bank performance was poor • After Tequila crisis Was less likely when: • Local banking sector dominated by state banks • Banks were overstaffed • Unemployment was high • Public employees were strong Clarke and Cull 2002

19. Countries privatize when: • Political benefits of privatization • End to fiscal burden • Room/revenues for other spending; • Outweigh political costs – • Layoffs • Less directed credit • Less lending

20. Privatization may have hidden political costs and benefits • Biggest benefit hidden: the fiscal savings from not having to recapitalize • More prudent lending usually means slower growth in credit • Change in composition of lending will make some interest groups unhappy

21. Effects of Residual State Ownership on Performance

22. Privatization in Mexico driven by politics: • Dominance of PRI • Survival of PRI under threat from political competitors– Salinas electoral margin smallest in PRI history • Need social spending to regain PRI support • But fiscal crisis • Sold banks to raise funds

23. Effects of Privatization Methods on Performance Red – Direct sale strategic I Green – Share offering

24. Australia • Suggests performance gains from share issue privatizations depend on: • Institutional environment • Stock market development

25. SIP less successful than direct sales • SIP disperses shares widely to minority investors who may have: • Poor information • Little or no protection of property rights • Limited motivation to monitor managers

26. Effects of Foreign Ownership on Performance Red – Direct sale strategic I Dark Green – Share offering Rose – Direct, no foreignersLime – Shares, no foreigners

27. Competitive Environment • Privatization pro-competitive in Australia & nine countries in study by Otchere (2003) • Regulatory environment limited improvements in Nigeria to profitability, focus on FOREX & govt. bonds

28. Governments privatize when state banks are costly • Outside support which reduces fiscal pressures of banks will delay needed reforms • Risk that governments will sell to maximize revenues & raise risk of crises (Mexico) • Outside advice should not encourage such sales by pressuring to reduce fiscal deficit by any means

29. Best performance when: • Government sells control & minimizes its share • Government sells directly to strategic investors except in strong institutional environments such as Australia’s • Few restrictions on bidders, including foreign investors

30. What to do about prudential lending? • With poor protection of property rights well governed banks will not lend • Directed credit, subsidies, guarantees, and state owned banks have not been the solution to insecure property rights • Improve property rights & increase information on borrowers

31. Performance and regulatory environment • Performance better when regulatory environment is stronger • Compare efficiency improvements in Argentina versus Nigeria • But performance still improved in weak regulatory environments

32. In Conclusion Done properly, privatization improves bank and banking system performance