Does Foreign Bank Entry Affect Domestic Enterprise Innovation?

Abstract

ABSTRACTHow does financial opening-up impact the real economy? The answer is important to China, the largest economy in transition experiencing a critical period of further reform of the financial system. We capture the influence of financial reform through foreign bank entry in this paper. Starting with a description of the process of foreign bank entry in China, we sum up two paths through which foreign bank entry affects China’s domestic enterprise innovation: the direct effect and the spillover effect. Then, using the data of public listed companies in China from 2001 to 2014, we investigate the effects of foreign bank entry on domestic enterprise innovation by exploiting the staggered multiple exogenous shocks and using a difference-in-difference approach. The results show that foreign bank entry contributes significantly to domestic enterprise innovation, and they are robust when considering the potential concerns of omitted variables and reverse causality. Further study illustrates that the nurturing role derives not only from the direct effect (although it is very limited), but also from the spillover effect of foreign bank entry by enhancing competition among domestic banks. The findings suggest that it is necessary to mitigate the barriers to foreign banks and expand the banking sector in China.