of real GDP, the inflation rate, the real interest rate, and the share of domestic credits by banking sector in percent of GDP.

This empirical model is, first of all, estimated including all the countries. Secondly, these countries are grouped according to the sequencing of their financial liberalization. Then, the model is estimated separately for different groups of countries in order to understand the importance of the order of financial liberalization on the performance of domestic banks. Our expectations about how the sequencing of financial liberalization affects the possible role of foreign banks in improving domestic banks’ performance are as follows. We expect the increasing share of foreign banks to be more beneficial in terms of increased competition in the countries which liberalized their domestic financial markets or their stock markets first. This is reasoned by the fact that the basic role of foreign banks is to supply international funds in the presence of capital account restrictions. This role of foreign banks is more meaningful in countries which started their liberalization process with their financial markets. Because of this, foreign banks are expected to play an important role in determining the performance of domestic banks in this group of countries. With the same reason, domestic banks’ efficiency gain from foreign bank entry may not be large in the countries which liberalized their capital accounts first. Both foreign and domestic banks have an access to foreign funds at the same level in these countries.

# **3.2 Data**

In this study we include the countries investigated by Kaminsky and Schmukler (2003)<sup>7</sup> . The list of countries is Argentina, Brazil, Canada, Chile, Colombia, Denmark, Finland, France, Germany, Hong Kong, Indonesia, Ireland, Italy, Japan, Korea, Malaysia, Mexico, Norway, Peru, Philippines, Portugal, Spain, Sweden, Taiwan, Thailand, United Kingdom, United States, and Venezuela. China and Turkey are also included in this set. Thus, the total number of countries is 30<sup>8</sup> . We separate countries into three groups according to their order of financial liberalization: domestic financial liberalization first, stock market liberalization first or capital account liberalization first. Table 3 presents the list of countries<sup>9</sup> .

The BANKSCOPE database provided by IBCA is the main data source. This database provides information on individual private and state banks. Our data set covers the years 1995 to 2002. All banks are included in the banking sector of the countries. The exceptions are France, Germany, Italy, Japan, Spain, United Kingdom, and United States, for which we only include the top several hundred banks with the highest total asset level.

Banks are defined as foreign if at least 51 percent of their shares are foreign owned. There are two alternative ways of measuring foreign bank entry. One way is to calculate the asset share of foreign banks as a share of total assets in the banking sector. As it is pointed out by Claessens et al (1998), this measure is appropriate if foreign banks have an effect on the pricing and profitability of domestic banks only after obtaining substantial size. The alternative way is the number of foreign banks as a share of total number of banks in the banking sector. Claessens

> 7 Kaminsky and Schmukler (2003) conduct a chronology of financial liberalization in 28 countries. Countries in each set are determined using the information give in Table 1 of Kaminsky and Schmukler (2003). For convenience, this table is presented as Table A1 in the appendix section.

> 8 Note that Turkey and Twain, China are excluded in the regression analyses due to lack of data points, and China is excluded due to the fact that the financial liberalization process was not complete as of 2002. Thus, 27 countries are included in the regression analyses.

> 9 The definitions of financial liberalization are given in the appendix section.

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