Abstract

This paper builds on the case of West African banks to propose an analysis of the issues raised by government interference, privatisation to foreign investors and regulation in developing countries. In the late 1980s, there was a severe crisis in the West African banking system, partly due to government interference. The restructuring of the banking system entailed privatisation and foreign share ownership. During the 1990s, both foreign ownership and the proportion of bad loans went down. We offer an interpretation of these stylised facts within the framework of a simple model where non-benevolent governments are prone to political interference, as long as it does not generate too large expected social costs, and learn to refrain from interference after severe crises. Privatisation to foreign investors seeking high return and high risk does not always ensure efficiency of the banking system, while regulation by independent agencies can be more effective. Further confrontation of the theory to the data is provided by panel regressions on profits, bad loans and ownership ran across the seven countries of the West African Economic and Monetary Union from 1990 to 1997.

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