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Location Decisions of Foreign Banks and Institutional Competitive Advantage - page 12 / 33

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then we would expect a scatter around 45 degree line. Instead, we observe much entry away and above from the diagonal. The figure thus provides some preliminary evidence that investment does not seem to be (solely) a function of investing banks choosing countries that are institutional similar, but that other factors, including possibly institutional competitive advantage, might play a role in the location decisions of banks.

Measure of foreign bank entry Using the database described above, we construct entry data for all possible host-source countries combinations in the sample. We restrict the source countries, however, to those countries that are present in the banking sector of at least one country over the period 1995-2006. This is to avoid a bias in the estimation due to the fact that some potential source countries might have capital account restrictions or other economic or institutional factors that make it hard for their banks to expand to other countries, factors for which we cannot easily control. Furthermore, host countries that did not see any entry in the sample period are excluded to avoid a bias in the estimation arising from the fact that some host countries might have capital account restrictions or other factors that make entry impossible or unattractive, and for which we again cannot easily control. We exclude all offshore centers from our sample since decisions to source from or enter those markets are often driven by tax incentives. For this reason we also exclude Luxembourg. This leaves us with a maximum total country pairs of 9,957 for each year in the sample period. In robustness tests, we examine whether this sample choice affects the results.

Our dependent variable equals the change between 1996 and 2006 in the number of foreign banks from source country j present in host country i. We calculate this change not as a difference in stocks, but rather as the cumulative number of newly registered foreign banks from source country j in host country i over this period. In other words, the variable captures all new investments by source country j in host country i between 1996 and 2006. This means that we effectively consider gross foreign bank entry and that we do not take exits into consideration. We do so largely as exits are due to many factors (mergers, acquisitions, liquidation, voluntary closures, etc.) and difficult to capture perfectly. Furthermore, modeling both entry and exit of banks would make the model to

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