U.S.-Korea Free Trade Agreement: Potential Economy-wide ... - USITC

For the purposes of this report, a similar scoring method was used to score the text and
nonconforming measures on banking contained in the U.S.-Korea FTA. In order to generate
trade policy scores directly comparable to the GATS score developed for Korea, it was
necessary to account for the negative listing approach used in the FTA. In order to account
for the negative listing approach, a score of 0 (completely open) was assigned to any banking
service or mode that was not specifically mentioned in the FTA, whereas a score of 1
(completely closed) was assigned to any banking service or mode not addressed in the
GATS. Additionally, since Mode 4, the provision of a service by a natural person in a
foreign market, is not covered by the FTA, the Commission assumed that the Mode 4
commitments made under the GATS would continue to be binding, thus leaving the Mode
4 scores unchanged from the GATS to the FTA. Commitments that referred to banking
services in general were treated as horizontal commitments.
Firm-level data for over 1,400 commercial banks from more than 50 countries were retrieved
from Bankscope, a large international database that compiles financial information on public
and private firms. These data were used in the estimation of the first stage using the equation:
(2) ln NIM = β 1 + β 2ln(net noninterest operating expenses) + β 3ln(capital adequacy ratio) +
Total assets
β 4 ln(liquidity ratio) + 3 i country dummies + ε
The dependent variable for the first stage was the NIM, which is the interest rate spread
between lending and deposit rates. Firms with NIMs in the top 5 percent for each country
were excluded. 17 The independent variables were net noninterest operating expenses, the
capital adequacy ratio, and the liquidity ratio. Net noninterest operating expenses were
calculated by subtracting pretax profits from net interest income and dividing this by total
assets. The capital adequacy ratio, which is defined as total share capital and reserves divided
by total assets, is a prudential measure with minimum levels set by regulatory agencies to
ensure the solvency of banks. 18 The liquidity ratio, which is defined as total loans divided
by total deposits, measures a bank’s ability to meet depositors’ claims. An increase in any
of these factors should raise the NIM.
The second stage, which accounts for country-level variation in pure spreads, was estimated
using the following equation:
(3) pure spreads = β1 + β2 market share + β3 interest variability + β4 GATS score + β5 credit rating + β6 tax rate + β7 GDP/capita + ε
The dependent variable was the country-level pure spread variable discussed above.
Independent variables included market share, interest rate volatility, the GATS score, credit
rating, the tax rate, and GDP per capita. Market share is defined as the share of total banking
assets controlled by the five largest banks in each country. Its expected relationship with
NIMs is ambiguous. On the one hand, more assets in the hands of a few firms may imply
these firms exercise market power, thereby increasing NIMs. On the other hand, the
relationship may be negative if economies of scale exist, in which firms could reduce
marginal costs by expansion, thereby lowering their NIMs through consolidation. Interest
17 A high percentage of these firms were in fact credit card companies, which are not directly comparable
with traditional commercial banks.
18 Although minimum capital adequacy ratios are typically set by regulatory agencies, the actual capital
adequacy ratio maintained by individual banks, which is what is used by this analysis, varies.
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