Since China joined the World Trade Organization (WTO), its banking industry faces fierce global competition. In order to achieve banking sustainability, the government has carried out a series of reforms to the domestic banking industry. The introduction of foreign strategic investment is one of the most significant measures for China’s banking reform in recent years. By selling part of the equity of China’s banks to foreign strategic investors, long-term and stable cooperation for the benefit and risk sharing between China’s banks and foreign strategic investors will be established. On the basis of this cooperation, high-quality capital, advanced technology and management skills could be introduced into China’s banks by foreign strategic investors, which may rapidly improve China’s banking productivity [1
]. Since continuously rising productivity will bring about sustainable development [4
], the policy of introducing foreign strategic investment would benefit China’s banks in terms of achieving sustainable development. In other words, the continuous increase in productivity can be used to validate the possibility of achieving sustainable development for China’s banks.
To further promote the sustainability and competitiveness of China's banking industry, in 2018, the China’s government announced the cancellation of restrictions on the foreign shareholding ratio in Chinese banks (in one China’s bank, the shareholding ratio of single foreign strategic investor cannot exceed 15%, and the total shareholding ratio of all foreign strategic investors cannot exceed 25%). Some scholars are doubtful about the rationality of this new policy, since they believe foreign strategic investment may have negative impact on the China’s banks.
On one hand, in the initial stage of the implementation of this new policy, the foreign shareholding ratio in China’s banks is unfettered, and related internal strategic guideline regarding optimal foreign shareholding ratio for individual bank is absent. Under this situation, China’s bank managers may introduce a large amount of foreign strategic investment, which would result in a significant increase of the foreign shareholding ratio. Consequently, foreign strategic investors may obtain financial control or exert huge influences on the strategies and operations of China’s banks, which would represent a potential threat to domestic financial security [5
], and weaken domestic financial stability and banking sustainability [6
]. Ultimately, there will be a deviation from the original aim of introducing foreign strategic investment. Therefore, under this new policy, making banking internal policies regarding the optimal foreign shareholding ratio is indispensable and urgent for China’s banks.
On the other hand, after the global financial crisis in 2008, foreign strategic investors had successively sold their shareholdings in the China’s banks, which exposed vulnerabilities regarding the policy of introducing foreign strategic investment. Some scholars believe that the main purpose of foreign strategic investors to invest in the China’s banks is arbitrage, and introducing foreign strategic investment would not bring substantial improvements to China’s banking industry [7
Wang & Liu (2010) [8
] have confirmed the viewpoint that foreign strategic investment may have a negative impact on the sustainable development of China’s banks. They used financial indicators including the rate of return on common stockholders’ equity, loan-to-deposit ratio, non-performing loan ratio and capital adequacy ratio, to evaluate bank productivity from three aspects of profitability, security and liquidity. By constructing a linear regression model, the impact of introducing foreign strategic investment on the productivity of China’s commercial banks was examined. The results showed that foreign strategic investment would have a negative impact on China’s banking industry in the short term. Li & Qiao (2010) [9
] used financial indicators including net profit, asset utilization etc., and studied on the productivity change in China’s banks through DuPont analysis. They also found that introducing foreign strategic investment is not conducive to the sustainable development of China's banking industry.
From both studies, it can be seen that bank productivity in China was depicted by financial indicators. However, financial indicators have the drawback of one-sidedness, and may be inaccurate due to the distortion of financial data, which ultimately leads to incorrect research results [10
]. In addition, there are various differences between banks, such as the risk tolerance of the bank’s board and risk profile. These differences will further affect the financial performance of banks. Consequently, financial indicators, especially net profit, are not fair criteria by which to judge the productivity of banks [11
]. Therefore, other scholars use more reliable and objective methods to measure bank productivity. For example, He et al. (2010) [2
], Liu and Zhang (2013) [3
] both used the stochastic frontier approach (SFA) to build the production frontier of China’s banks. The productivity of the China’s banks was evaluated by measuring the deviation between the production of certain banks and the production frontier. Based on this, the impact of foreign strategic investment on the productivity of China’s banks was analyzed. They found that after the introduction of foreign strategic investment, the productivity of China’s banks improved, and that the policy of introducing foreign strategic investment was beneficial to banking sustainability. Their conclusions are contrary to the results obtained in [8
Although the SFA can measure the productivity of China’s banks more accurately, this approach is still questioned because it needs to pre-set the specific form of the frontier function and cannot easily deal with multiple input vs. multiple output relation. The data envelopment analysis (DEA) [12
] can effectively overcome the above shortcomings of SFA. DEA is widely used to evaluate bank productivity [13
]. In the DEA model, there are two methods to measure productivity: radial and non-radial models. The radial model represented by the CCR model [12
] is the first DEA model. The non-radial model represented by the SBM model [17
] was proposed later. The existing research on evaluating the productivity of banks is also mainly based on the two models [18
Although the CCR and SBM models are favored by scholars, both have some limitations. First, the CCR model requires that all the inputs change in the same proportion, which is obviously contrary to the reality. By using the SBM model, the projected decision making units (DMU) may lose the original proportion of the input because of the slack variable [23
]. Secondly, both radial and non-radial models are static models, which cannot reflect the dynamic changes of productivity [24
]. However, scholars are more concerned with dynamic changes of productivity, because continuously rising productivity will bring about sustainable development [4
]. Although Qin and He (2013) [26
] measured the dynamic change of productivity of China’s banks through building the radial DEA-Malmquist index, they did not analyze the impact of introducing foreign strategic investment on the productivity change of China's banks.
In addition, some scholars and experts paid attention to the impact of foreign strategic investment on China’s banks. However, they rarely focused on the question of how foreign strategic investment affects the productivity China’s banks. Therefore, existing studies may neither provide bank managers with enough assistance and evidence to formulate reasonable internal policies and management decisions about introducing foreign strategic investment, nor help China’s banks to achieve sustainability.
In this paper, the Epsilon-based-measure (EBM) [23
], which combines the advantages of non-radial and radial models, was employed. Based on this, a new index to measure the productivity change of China’s banks, i.e. the EBM-Malmquist-Luenberger index (EML), is built. EML can more accurately measure the productivity change of China’s banks since it is able to overcome the drawbacks of the existing methods used frequently, such as financial indicators, SFA and DEA. EML may also be utilized in other research fields concerning dynamic efficiency measurement, such as environmental science. Through using EML, the relation between foreign strategic investment and the productivity change of China’s banks is obtained in this study. Because continuous increases in productivity will bring sustainable development [4
], this relation lays a sound foundation for verifying the effectiveness of foreign strategic investment, i.e. whether introducing foreign strategic investment will help domestic banks to achieve sustainability or not. On the basis of the relation studied above, the optimal foreign shareholding ratio in China’s banks was further revealed. For China’s banks, the determination of the optimal foreign shareholding ratio contributes to avoiding financial risk and instability caused by excessive increase in foreign shareholding ratio, and providing empirical evidence to bank managers in making decisions regarding introducing foreign strategic investment. In this paper, the productivity change of China’s banks, which is measured by EML, is decomposed into three parts: pure technical efficiency change (PTEC), scale efficiency change (SEC) and technology change (TC). Based on this decomposition, the transmission mechanism, i.e. the ways in which foreign strategic investment affects the productivity of China’s banks, was unveiled. The discovery of the transmission mechanism could serve as a reference for the sustainable development of China's banking industry. It would also fill the research gap, since few previous works have studied this issue.
The remainder of this paper is organized as follows. Section 2
outlines the empirical models, the methodology and a description of the data including data sources and definitions of variables. Section 3
reports and analyzes the empirical results of models. The final section presents the conclusions, limitations and future perspectives.
4. Conclusions, Limitations and Future Perspectives
To achieve China’s banking sustainability, in 2018, China’s government announced the cancellation of the restrictions on foreign shareholding ratios in domestic banks. This new policy has been questioned by some Chinese scholars. This is because introducing foreign strategic investment may not be beneficial to the productivity of China’s banks, and may not achieve banking sustainability. In addition, unlimited increases of foreign strategic investment of China’s banks may undermine the stability and security of national financial system. Therefore, the effectiveness of introducing foreign strategic investment needs to be examined. Internal policies of domestic banks concerning the introduction of foreign strategic investment are needed. For these aims, this paper builds a new index to measure productivity changes of China’s banks, i.e. the EBM-Malmquist-Luenberger index (EML). EML would overcome the shortcomings of the most frequently-used methods such as financial indicators, SFA and DEA, and it may also be used in other research areas regarding dynamic efficiency measurement, such as environmental science. Based on EML, with system GMM and dynamic panel data, the relationship between foreign strategic investment and productivity change of China’s banks is examined. On the basis of the relation and EML, this paper further verifies the effectiveness of foreign strategic investment, and reveals the optimal foreign shareholding ratio, as well as the ways in which foreign strategic investment affects the productivity of China’s banks, i.e. the transmission mechanism between them. Specifically, the findings of this study are as follows:
(1) The productivity of China’s banks is constantly increasing; the growth rate is 4.27% per year in average. An inverse N-shaped relation between foreign shareholding ratio and productivity growth of China’s banks is supported. There are two inflection points in this relationship: 5.11% and 20.16%. This implies that when the foreign shareholding ratio in China’s banks increases to within this range, the foreign strategic investment contributes to maintaining continuous growth in the productivity of China’s banks. This result proves the effectiveness of introducing foreign strategic investment. It also provides domestic bank managers with empirical evidence, which contributes to formulating internal policy regarding the introduction of foreign strategic investment in China’s banks.
(2) The productivity growth of China’s banks is minimum when the foreign shareholding ratio is 5.11%, and maximum when foreign shareholding ratio is 20.16%. Therefore, the optimal foreign shareholding ratio is 20.16%. This result reveals that if domestic bank managers limit the foreign shareholding ratio to around 20.16%, China’s banks would achieve the fastest growth and realize sustainability. This result can also provide empirical evidence for formulating internal policy regarding introducing foreign strategic investment in China’s banks.
(3) Based on EML, the transmission mechanism between foreign strategic investment and productivity change of China’s banks is revealed. It fills the research gap since, to the best of our knowledge, very few existing works have studied this issue. In this study, the productivity change of China’s banks can be decomposed into three components: purely technical efficiency change (PTEC), scale efficiency change (SEC) and technology change (TC), which are the driving forces of productivity growth. Foreign strategic investment improves the productivity of China’s banks mainly through affecting banks’ scale efficiencies. Therefore, the scale efficiency is the main path to improving the sustainability of China’s banks by foreign strategic investment. This result implies that China’s banks, which have introduced or plan to introduce foreign strategic investment, should use foreign capital to enlarge their business scale, encourage management innovation, expand marketing share and improve operation; then, their scale efficiency would be improved. As a result, continuous productivity growth and banking sustainability would be obtained. In addition, this discovery may facilitate the formulation of bank internal policies about introducing foreign strategic investment, and provide a reference for the sustainable development of China's banking industry.
4.2. Limitations and Future Perspectives
There may be some limitations in this study. On the one hand, it does not take the differences among bank types into consideration. Different types of banks differ greatly in their aims and attitudes towards introducing foreign strategic investment. Therefore, the general conclusions of this study may be not applicable to all the types of banks. On the other hand, this study does not consider the international environment such as the economic or political environment. The control variables of macro level in this study are only GDP and CPI in China. However, because of globalization, changes in the international environment will have significant effects on almost all the fields of a country including financial area. Therefore, control variables which represent aspects of the international environment should be considered. In future, when the new policy of cancelling the restriction on foreign shareholding ratio in domestic banks is fully implemented, researchers can select data to test the conclusions of this study. Furthermore, future work could focus on the effectiveness of this new policy. This kind of future work will be of far-reaching practical significance for achieving sustainable development in the banking industry in China.