Banking on Democracy:
The Political Economy of Private Bank Flows in Emerging
Countries
Javier Santiso
Chief Economist & Deputy Director
OECD Development Centre
ABCDE World Bank Conference 2007
Bled, Slovenia  May 2007

Wall Street and the City are starting to take a fresh look at emerging
markets. During the 1990s, financial and economic variables dominated
their analysis. Over the 2000s, political and ethical variables are
increasingly growing in relevance.

In 2004 Rexiter Capital Management, a UK based asset maneger, launched
the world’s first “sustainability” investment strategy exclusively focused
on emerging markets.

Previously, Calpers - a major US pension fund with nearly USD 170 billion
of assets under, which started to invest in emerging markets by the
beginning of the 2000s – also started to consider non-financial criteria
such as political stability, transparency and labour rights.
2
2

Bankers also started to increasingly take into account other variables to
assess their investment decisions around the world.

In 2003, a leading group of top global bankers launched the Equator
Principles, an initiative led by 10 of the world’s largest banks to address
the social and environmental impact of the projects that they finance.

Political issues such as human rights seem to be now on their radar
screens. But what about democracy ? What about political regimes? Are
they taken into account by banks when they decide to invest or not in a
country? Put in another way, do banks have political preferences?
3
3
1
Banks in Emerging Countries: Stylized Facts
2
Banks and Political Regimes
3
Banks and Policy Stability.
4
Banking on Demorcacy: Politics Matters

Institutional and political environment influence international capital
transactions.

Institutional quality is the most important variable explainging Lucas’
Paradox (Alfaro et al., 2003 and 2005).

FDI in particular is sensitive to politics. Countries with weaker democratic
rights tend to attract less US FDI capital (Rodrik, 1996). FDI private
investors significantly increased their investments in the three years
following the shift to democratic rule (Pei and Lyon, 2003).

Investments made by multinationals are higher in democratic countries in
terms of FDI per capita (Harms and Ursprung, 2002, Busse, 2003).
5
5
Politics Matters

Regarding banks, politics and institutions are also key determinants of
international banking activities (Papaioannou, 2004): a fall of five
percent in the political risk of the recipient country is accompanied by
a two percent rise in the volume of bilateral bank lending.

The claims of US, Spanish and Italian banks tend to be sensitive to
transaction costs (i.e. informational costs) but also to the role of
government intervention in the financial sector as well as country risk,
which includes not only economic and financial variables but also
political factors (García-Herrero and Martínez-Peria, 2004).

All in all, banks tend to invest in countries with high-quality
institutions and allocate credit to countries that are not characterised
by corruption, and which have efficient legal systems.
6
6
Two synchronized trends

Over the past decade, foreign bank claims took off as part of the
process of greater financial integration and the opening up of
emerging countries to capital flows

Among emerging countries, Latin America and Eastern Europe
experienced the biggest increase, rising by more than 110% and
165% respectively.

In both areas democratization has been particularly intensive.
7
7
Some stylized facts: The 90’s recovery
Foreign Claims
600000
(m illions $)
500000
400000
300000
200000
100000
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Q4 1993
Q4 1991
Q4 1989
Q4 1987
Q4 1985
Q4 1983
0
Africa & Middle East
Asia & Pacific
Em erging Europe
Latin Am erica/Caribbean
Source: Javier Rodríguez and Javier Santiso, OECD Development Centre, Working Paper 2007
8
8
Some stylized facts: Where?
Foreign Claims
50
(% of total of em erging m arkets)
45
40
35
% 30
25
20
15
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Q4 1993
Q4 1991
Q4 1989
Q4 1987
Q4 1985
Q4 1983
10
Africa & Middle East
Asia & Pacific
Em erging Europe
Latin Am erica/Caribbean
Source: Javier Rodríguez and Javier Santiso, OECD Development Centre, Working Paper 2007
9
9
Some stylized facts: A Latin American
perspective
18
16
14
Foreign Claims on Latin America & Caribbean
(% of total of em erging m arkets)
12
10
%
8
6
Argentina
Brazil
Chile
Mexico
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Q4 1993
Q4 1991
Q4 1989
Q4 1987
Q4 1985
Q4 1983
4
2
0
Venezuela
Source: Javier Rodríguez and Javier Santiso, OECD Development Centre, Working Paper 2007
10
10
Some stylized facts: Who?
Main countries origin of Foreign Claims
towards
World
Germany
U.K.
Switzerland
France
Netherlands
Japan
% of total*
Europe**
Germany
Italy
Belgium
France
Netherlands
Austria
% of total*
16,4
10,79
10,25
8,95
7,92
7,41
28,15
11,54
9,93
8,7
6,25
6,25
Emerging Countries % of total*
U.S.A.
15,58
Germany
14,44
U.K.
10,52
Spain
9,99
France
9,08
Netherlands
6,36
Africa & Middle East
France
U.K.
Germany
U.S.A.
Switzerland
Japan
Asia & Pacific
U.S.A.
U.K.
Japan
Germany
France
Netherlands
Spain
U.S.A.
U.K.
Germany
Netherlands
Canada
* % of the total emerging countries receive
% of total*
23,74
17,33
14,92
7,24
5,28
3,78
% of total* Latin America & Caribbean % of total*
21,34
15,69
10,39
10,22
8,38
7,66
34,27
22,26
7,96
6,35
6,35
5,48
** European emerging countries
Source: Javier Rodríguez and Javier Santiso, OECD Development Centre, Working Paper 2007
11
11
The political economy of bank lending: The
French Touch
French Foreign Claims to countries that are non-recipients of US finance in 2004 and 2005
(% of the total emerging countries receive)
France Foreign Claims (% of the total emerging countries receive)
Sao Tome and Principe
100
Mali
75,5
Somalia
100
Togo
66,5
Wallis/Futuna
100
Mauritania
54,5
New Caledonia
99,1
Benin
54,5
French Polynesia
97,0
Rwanda
52,7
Djibouti
94,3
Mozambique
46,3
Guinea
92,7
Lesotho
41,9
Burkina Faso
91,0
Laos
34,8
Comoros Islands
90,0
St.Vincent
34,7
Burundi
89,1
Cambodia
33,3
Congo
87,3
Cuba
28,0
Madagascar
83,1
Source: Authors based on BIS data
(% of the total emerging countries receive)
Source: Javier Rodríguez and Javier Santiso, OECD Development Centre, Working Paper 2007
12
12
1
Banks in Emerging Countries: Stylized Facts
2
Banks and Political Regimes
3
Banks and Policy Stability.
13
Do bankers love democracy? A Latin
American Perspective
2000
1998
1996
Consolidation of Democracy
Brazil
150000
11
130000
9
110000
7
Foreign Claims
Consolidation of Democracy
14
14
2000
1
1998
50000
1996
3
1994
70000
1990
5
1988
90000
1986
2000
1998
1996
Consolidation of Democracy
1994
2000
1998
1996
1994
11
10,5
10
9,5
9
8,5
8
7,5
7
1994
1992
1990
1988
1984
1986
Foreign Claims
Foreign Claims
Consolidation of Democracy
Argentina
100000
90000
80000
70000
60000
50000
40000
30000
20000
50000
1984
Foreign Claims
1992
1990
1988
1986
1984
0
70000
1992
2
90000
1992
4
110000
1990
6
11
10
9
8
7
6
5
4
3
2
130000
1988
8
Mexico
150000
1986
10
1984
Chile
55000
50000
45000
40000
35000
30000
25000
20000
15000
10000
Do bankers love democracy? A Latin
American Perspective
Peru
18000
16000
14000
12000
10000
8000
6000
4000
2000
6,3
5,8
Uruguay
8000
12
7000
11
6000
5,3
5000
10
4,8
4000
9
2000
1998
1996
1994
1992
1988
1990
Consolidation of Democracy
Guatemala
2500
10
2
0
0
Foreign Claims
Consolidation of Democracy
15
15
2000
500
1998
4
1996
1000
1994
6
1992
1500
1990
8
1988
2000
1986
2000
0
1998
0
1996
2
Consolidation of Democracy
1986
7
1984
2000
1998
1996
1994
200
1994
4
1992
400
1990
6
1988
600
1986
1000
10
8
1984
3,8
8
Foreign Claims
800
Foreign Claims
2000
Consolidation of Democracy
Nicaragua
1000
4,3
1984
Foreign Claims
1992
1990
1988
1986
1984
3000
Executive assaults and foreign banks in
Latin America
Executive Assaults
Country
Argentina
Bolivia
Brazil
Chile
Colombia
Ecuador
Paraguay
Mexico
Peru
Uruguay
Venezuela
Period Analyzed
% of country-year
with at least one assault
1983-2002
(20 years)
1982-2002
(21 years)
1985-2002
(18 years)
1990-2002
(13 years)
1979-2002
(25 years)
1979-2002
(25 years)
1989-2002
(14 years)
1979-2002
(25 years)
1980-2002
(25 years)
1985-2002
(18 years)
1979-2002
(25 years)
30%
Foreign Bank Presence
(% of total banks assets)
1990
2005 Increase
10
61
51
38%
6
49
43
0%
19
62
43
88%
8
34
26
n.a.
0
90
90
87%
4
61
57
1
59
58
19%
58%
28%
11%
42%
16
16
Blind to political colors
Foreign Claims on Argentina
100000
90000
Foreign Claims on Brazil
160000
(m illions $)
(m illions $)
140000
80000
120000
70000
Collor
Menem
60000
100000
De la Rua
50000
40000
Franco
Cardoso 2
80000
Menem 2
60000
30000
Lula
Cardoso
Chile
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Q4 1993
Q4 1991
Mexico
17
17
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Fox
Q4 1993
Q4 1991
Q4 1989
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Q4 1993
Q4 1991
Q4 1989
Q4 1987
Q4 1985
Q4 1983
15000
10000
Q4 1987
Lagos
30000
25000
20000
Salinas
Zedillo
Q4 1985
Frei
(m illions $)
Q4 1983
(m illions $)
Alw yn
Foreign Claims on Mexico
240000
220000
200000
180000
160000
140000
120000
100000
80000
60000
40000
Foreign Claims on Chile
45000
40000
35000
Q4 1989
Brazil
Argentina
55000
50000
Q4 1987
Q4 1985
Q4 2003
Q4 2002
Q4 2001
Q4 2000
Q4 1999
Q4 1997
Q4 1995
Q4 1993
Q4 1991
Q4 1989
Q4 1987
Q4 1985
Q4 1983
20000
Q4 1983
40000
Bankers and Cabinet Turnover
Argentina
Bolivia
Brazil
Chile
Colombia
Ecuador
Mexico
Paraguay
Peru
Uruguay
Venezuela
Presidency
Including months
Menem
Jul-89/Apr-95
Menem 2
May-95/Nov-99
De la Rua
Dec-99/Dec-01
Zamora
1989/1993
de Lozada
1993/1997
Banzer
1997/2001
Collor
Jan-90/92
Franco
92/Dec-94
Cardoso
Jan-95/Dec-98
Cardoso 2
Jan-99/Dec-02
Alwyn
Dec-89/Dec-93
Frei
Jan-94/Dec-99
Lagos
Jan-00/,,,
Gaviria
Jun-90/May-94
Samper
Jun-94/May-98
Pastrana
Jun-98/May-00
Borja
Aug-88/Jul-92
Duran
Aug-92/Jul-96
Bucaram
Aug-96/Jan-97
Alarcon
Feb-97/Jul-98
Mahuad
Aug-98/Jan-00
Noboa
Feb-00/Dec-02
Zedillo
Jan-88/Dec-1993
Salinas
Jan-94/Dec-00
Fox
Jan-01/Act
Rodrigues
1954/1993
Wasmosy
1993/Mar-98
Cubas Grau
Apr-98/Mar-99
González Macchi Apr-99/Aug-03
Fujimori
Apr-90/Mar-95
Fujimori 2
Apr-95/Mar-00
Paniagua
Apr-00/Jul-01
Lacalle
Apr-90/Mar-95
Sanguinetti 2
Apr-95/Mar-00
Battle
Apr-00/Act
Perez
Jan-89/May-93
Velazquez
Jun-93/Jul-94
Caldera
Aug-94/Dec-98
Chavez
Jan-99/Jun-00
Chavez 2
Aug-00/Act
Source: based on BIS and Martínez-Gallardo (2004)
Foreign Claims
% of total Latam
14,73
18,35
17,34
0,12
0,16
0,42
29,52
28,83
31,39
25,87
6,36
8,63
9,03
3,47
4,60
4,17
1,87
1,25
1,07
0,98
0,75
0,34
27,27
23,60
38,21
0,33
0,40
0,34
0,30
1,41
2,88
2,97
1,52
1,58
1,09
9,66
8,53
4,66
4,55
3,94
Ministers
Estability (% total)
53,45
34,48
31,03
32,50
32,50
42,50
21,88
42,71
31,25
20,83
37,29
55,93
23,73
35,78
45,87
29,36
18,10
28,45
12,07
16,38
18,97
15,52
41,98
41,98
22,22
26,98
36,51
17,46
23,81
44,90
51,02
13,27
53,70
38,89
25,93
36,92
13,08
33,85
18,46
10,77
Ministers
Average duration in months
46
28
22
27
33
39
29
44
30
20
22
41
16
42
59
32
23
38
14
19
25
18
40
37
19
20
26
11
16
57
61
14
36
23
15
60
19
47
38
22
18
18
1
Banks in Emerging Countries: Stylized Facts
2
Banks and Political Regimes.
3
Banks and Policy Stability.
19
Bankers and Economic Policy Stability in
Latin America
Mexico
275000
Brazil
7 150000
6,5
225000
6,5
6
130000
5,5
6
4
EFW Index
Chile
55000
50000
45000
40000
35000
30000
25000
20000
15000
10000
8
7,5
7
6,5
6
Foreign Claims
2002
2001
2000
1995
1990
5,5
1985
2002
2001
EFW Index
2002
1985
Foreign Claims
7,5
7
6,5
6
5,5
5
4,5
4
3,5
3
2000
1990
1985
1995
Foreign Claims
3
EFW Index
Argentina
100000
90000
80000
70000
60000
50000
40000
30000
20000
3,5
50000
2002
2001
2000
4
1995
25000
1990
4,5 70000
1985
75000
Foreign Claims
4,5
90000
2001
5
2000
125000
5
1995
5,5
110000
1990
175000
EFW Index
20
20
Bankers and Economic Policy Stability in
Latin America
8000
6000
Foreign Claims
15000
4,5
10000
4
Foreign Claims
EFW Index
Peru
18000
16000
14000
12000
10000
8000
6000
4000
2000
0
5
2002
2001
2000
1995
1990
1985
4000
5,5
20000
8
7
2002
10000
6
2001
12000
6,5
25000
2000
14000
1995
16000
Venezuela
30000
1985
5,7
5,6
5,5
5,4
5,3
5,2
5,1
5
4,9
1990
Colombia
18000
EFW Index
Bolivia
2000
7
6,5
6
5,5
5
4,5
4
3,5
3
1500
6
5
4
1000
500
3
Foreign Claims
EFW Index
Foreign Claims
2002
2001
2000
1995
1990
0
1985
2002
2001
2000
1995
1990
1985
2
EFW Index
21
21
The Search for Economic Policy Stability in
Emerging Markets
5,1
4,9
10000
4,7
Foreign Claims
2002
2001
2000
1995
1990
4,5
1985
0
4,5
4
Foreign Claims
EFW Index
China
70500
5
6
60500
5,5
50500
40500
5
30500
20500
2002
20000
5,5
2001
5,3
2000
5,5
30000
6,5
6
1995
5,7
40000
India
45500
40500
35500
30500
25500
20500
15500
10500
5500
500
1990
5,9
1985
Turkey
50000
EFW Index
Russia
60000
6
50000
5
40000
4
30000
3
20000
2
10000
1
0
0
Foreign Claims
EFW Index
Foreign Claims
2002
2001
2000
1995
2002
2001
2000
1995
1990
4
1985
500
1990
10500
1985
4,5
EFW Index
22
22
Correlations of Foreign Claims with:
Economic Policy Stability Index, Consolidation of Democracy
Index and Democracy Score.
Correlations
Ukraine
India
Venezuela
Greece
Russia
Polonia
Czech Rep
Hungary
Slovenia
Brazil
Romania
Peru
Paraguay
Portugal
China
Tunisia
Argentina
Morocco
Slovakia
Uruguay
Turkey
Spain
Colombia
Chile
Guatemala
Mexico
Bolivia
Bulgaria
Nicaragua
Algeria
Foreign Claims vs EFW
1985-2002
0,98
0,97
0,93
0,92
0,92
0,89
0,87
0,86
0,85
0,85
0,84
0,84
0,84
0,79
0,79
0,77
0,76
0,76
0,76
0,74
0,71
0,70
0,70
0,64
0,58
0,58
0,55
-0,76
-0,77
-0,96
Foreign Claims vs CoD
1984-2000
0,83
----0,51
0,90
0,48
0,71
0,54
0,67
0,46
0,40
0,24
--0,57
---0,30
0,77
0,88
0,64
0,72
0,86
0,08
--0,57
0,90
0,70
0,49
-0,28
0,13
-0,47
Foreign Claims vs DS
1984-2002
0,77
--0,32
0,30
0,74
0,42
0,60
0,39
0,56
0,20
0,49
0,12
-------0,44
0,14
--0,75
0,36
0,16
---0,75
0,48
0,85
0,79
0,04
-0,19
-0,19
-0,53
Source: BIS, The Fraser Institute, Schmitter and Schneider (2004), and Polity IV
23
23
Based on :

Javier Rodríguez and Javier Santiso, “Banking on Democracy: The Political
Economy of International Private Bank Lending in Emerging Countries”,
OECD Development Centre, Working Paper, 259, March 2007.

Javier Rodríguez and Javier Santiso, “Banking on Development: Private
Banks and Aid Donors in Developing Countries”, OECD Development
Centre, Working Paper, 261,May 2007.
www.oedc.org/dev
24
24
Banking on Democracy:
The Political Economy of Private Bank Flows in Emerging
Countries
Javier Santiso
Chief Economist & Deputy Director
OECD Development Centre
ABCDE World Bank Conference 2007
Bled, Slovenia  May 2007