How Does Cross-Border Activity Affect EU Banking Markets?

Cross-border activity in the EU is widely viewed as a necessary condition for the implementation of a single banking market and therefore as a positive factor for the enhancement of competition and cost performance in the region. In this paper, we analyse the relevance of this view by investigating whether cross-border activity really promotes competition and cost efficiency in EU banking markets. We also consider the potential role of a bank's mode of entry by comparing existing domestic banks that foreign banks take over (mergers and acquisitions) with new branches created by foreign banks, often through subsidiaries (greenfield operations). We consider the impact of cross-border banks on cost efficiency (measured by the stochastic frontier approach), profitability (assessed through return on assets) and competition (measured by the Lerner index). We find that greenfield banks enhance cost efficiency and competition, while mergers and acquisitions hamper competition and cost efficiency. Therefore, our results suggest that EU authorities should promote only greenfield banks rather than all cross-border entries.