Abstract
In this paper, we examine the impact of trade openness on bank risk-taking behavior employing a panel dataset of 899 banks from the BRICS (i.e., Brazil, Russia, India, China, and South Africa) countries over the period 2000–2017. We find that higher trade openness lowers bank risk-taking. Our results are robust when we use alternative proxies of trade openness and bank risk-taking, estimate country-wise regressions, or use alternative estimation methods such as system Generalized Methods of Moments (GMM), fixed effects, pooled Ordinary Least Square (OLS), and Vector Error Correction Model (VECM) models. We also observe higher trade openness decreases bank risk-taking in both the short and long run. Moreover, banks in more open countries perform relatively better during the crisis period further signifying the diversification benefits of openness. Together, our findings imply the beneficial impact of trade openness for financial sector stability.
Highlights
The large part of world trade is dependent on the availability of reliable and efficient sources of financing
Three variables are employed as proxies of trade openness: Trade Exposed is measured as the export plus import divided by GDP, where exports, imports, and GDP are all measured in annual current US dollars
Since trade freedom measures the extent of freedom in international trade among the countries, which might assist in diversifying the banking activities, essentially, we expect a negative relationship with bank risk-taking
Summary
The large part of world trade is dependent on the availability of reliable and efficient sources of financing. A number of studies have examined the arguments of openness theory empirically (Baltagi et al 2009; Hauner et al 2013; Law 2009; Hossain et al 2020) and largely support that higher trade and financial openness of developing countries is positively correlated with financial development. Later studies have examined the impact of openness on financial development at the macro-level (Baltagi et al 2009; Hauner et al 2013; Law 2009) We contribute to this debate by examining the impact of trade openness on bank risk-taking behavior at the micro-level.
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