What Is a Foreign Bank Branch?
A foreign bank branch is a type of foreign bank that is obligated to follow the regulations of both the home and host countries. Because the foreign bank branch has loan limits based on the total bank capital, they can provide more loans than subsidiary banks. That is because the foreign bank branch, while possibly small in one market, is technically part of a larger bank. Hence, it enjoys the capital base of the larger entity.
Key Takeaways
- A foreign bank branch is a type of foreign bank that is obligated to follow the regulations of both the home and host countries.
- Banks often open a foreign branch to provide more services to their multinational corporate clients.
- Foreign bank branches tend to be more effective in countries with high taxes and nations where it is easy for international firms to enter the market.
- Foreign bank branches may face special difficulties during an economic or political crisis.
Understanding Foreign Bank Branches
Banks often open a foreign branch to provide more services to their multinational corporate clients. However, operating a foreign bank branch may be considerably more complicated because of the dual banking regulations that the foreign branch needs to follow.
For example, suppose that Bank of America opens a foreign bank branch in Canada. The branch would be legally obligated to follow both Canadian and American banking regulations in many cases. In actual practice, foreign bank branches are sometimes exempted from specific rules in one country or the other.
With globalization and capital markets maturing, the administrative burden of multiple regulatory standards might be offset by other operational economies of scale. These may include global branding, marketing, and product offerings best served by a single entity with numerous local branches.
Foreign Bank Branches vs. Subsidiaries of Foreign Banks
A foreign bank branch should not be confused with a subsidiary. A subsidiary is technically a separate legal entity, even though it is owned by a parent corporation. Naturally, taxation and regulation drive the decision to operate as a foreign bank branch or a subsidiary.
A foreign bank branch is not a subsidiary of a foreign bank.
Advantages of Foreign Bank Branches
Foreign bank branches tend to be more effective in countries with high taxes and nations where it is easy for international firms to enter the market.
According to an article in the Journal of Banking and Finance, banks are more likely to organize themselves as branches in nations that have higher corporate taxes. Depending on the country, a branch of a foreign bank may be able to avoid some of the high taxes faced by domestic firms.
Foreign bank branches are also more likely to operate where they face lower regulatory barriers to entry. When it is easy to enter the market, a bank does not need to spend money setting up a subsidiary in the country.
Disadvantages of Foreign Bank Branches
Foreign bank branches may face special difficulties during an economic or political crisis. Since they operate in that foreign country during a crisis, they will be negatively impacted by events there. At the very least, foreign bank branches stand to lose money. At worst, they might have to deal with a run on the bank branch with little support from the foreign government.
A government in crisis is more likely to use its limited resources to support domestic banks. Foreign banks might be left to bail out their own branches. This situation is different from a subsidiary bank, which is technically a domestic company in the foreign country. Subsidiary banks are also sometimes joint ventures with domestic banks, further increasing the chances that the local government will support them.