By Yohannes Fentahun
Last week the Ethiopian Council of Ministers approved a draft banking business proclamation which will allow foreign banks to operate in the Ethiopia’s market. The draft proclamation which will shortly passed to the 547-seat federal assembly, the Parliament, for further review, comments and final ratification also includes the draft proclamation of National Bank of Ethiopia (NBE).
The points included in the draft proclamation on banking business are opening up the banking industry for foreign investment; foreign banks can invest in the banking businesses through opening foreign bank subsidiary, branch or invest in share of existing domestic banks; representatives of foreign banks will be under the regulatory umbrella of National Bank; a range of prompt corrective actions to be taken on problem banks by the National Bank; regulatory sandbox framework for introducing new and innovative financial services; resolution authority to the national bank of Ethiopia to deal with likely to fail or failed bank to minimize the cost to consumers and changes to the composition of Commercial Banks’ Board of Directors.
The entry of foreign banks into a country's banking market has been a significant topic of discussion among policymakers and economists. The liberalization of the banking industry can bring numerous benefits, including enhanced competition, improved financial services, and increased foreign direct investment (FDI). However, it also presents challenges such as regulatory complexities, potential destabilization of the local banking sector, and the risk of financial contagion.
One of the primary benefits of allowing foreign banks into a country's market is the enhancement of competition. Foreign banks often bring advanced technologies, innovative financial products, and efficient banking practices that can lead to a more competitive and dynamic banking environment. For example, the entry of foreign banks in India has been associated with the modernization of the banking sector and improved customer services due to competitive pressures.
India's banking sector liberalization in the 1990s is a notable example of the benefits of allowing foreign banks to operate. The entry of foreign banks such as HSBC and Citibank led to enhanced service quality and the introduction of new financial products, which benefited consumers and businesses alike.
Foreign banks can facilitate access to international capital, which is particularly beneficial for developing economies. These banks often have extensive international networks, enabling them to provide substantial financing for large projects and contribute to economic growth. In Nigeria, the presence of foreign banks has been linked to increased capital inflows and enhanced financial stability.
The presence of foreign banks in Nigeria has helped stabilize the financial system by bringing in international capital and enhancing banking practices. This has contributed to the overall growth and resilience of the Nigerian banking sector.
Foreign banks can serve as conduits for the transfer of banking technology and expertise. This transfer can lead to the development of more sophisticated banking products and services in the host country. For instance, the technological advancements introduced by foreign banks in China have contributed to the modernization of the local banking sector and the development of online banking services.
The entry of foreign banks in China has been instrumental in introducing modern banking technologies and practices. Banks like Standard Chartered and HSBC have played a crucial role in developing China's online and mobile banking infrastructure.
The entry of foreign banks poses significant regulatory and supervisory challenges. Host countries need to ensure that foreign banks comply with local regulations while maintaining international standards. This dual compliance can be complex and resource-intensive. The case of the Asian financial crisis highlights how regulatory gaps and inadequate supervision of foreign banks can contribute to financial instability.
Foreign banks on the other hand can act as channels for the transmission of financial crises from one country to another. During the 2008 global financial crisis, many countries with a high presence of foreign banks experienced severe economic downturns due to the interconnectedness of their banking systems with those in crisis-hit countries.
The competitive pressure from foreign banks can sometimes negatively impact local banks, particularly smaller institutions that may struggle to compete with the larger, more resourceful foreign entities. In Mexico, the entry of foreign banks led to significant market share losses for local banks, affecting their profitability and sustainability.
The entry of foreign banks into a domestic banking market presents both significant opportunities and substantial challenges. While foreign banks can enhance competition, provide access to international capital, and facilitate the transfer of knowledge and technology, they also pose regulatory challenges, risks of financial contagion, and potential negative impacts on local banks. Policymakers must carefully weigh these factors and implement robust regulatory frameworks to maximize the benefits while mitigating the risks associated with foreign bank operations.//