Booking positions in small offshore financial centres: focus on US global banks

Offshore financial centers (OFCs) play a pivotal role in the global financial landscape. These centers host a diverse array of financial institutions, ranging from specialized product providers to hubs facilitating global liquidity flows. Often labeled as tax havens, the financial intermediaries within small OFCs primarily operate through shell or brass plate offices. Their focus lies in pooling and channeling liquidity rather than engaging in substantial local banking activities.

Understanding Internal Liquidity Mechanisms

Surprisingly, little attention has been devoted to comprehending the internal liquidity mechanisms of banking offices situated within these centers. Our research aims to bridge this gap by investigating the drivers behind liquidity flows toward bank offices in small OFCs. Specifically, we focus on interoffice transactions reported by foreign branches of US global banks.

Empirical Analysis: Unraveling the Factors

Our empirical analysis unfolds in two parts, centered around balance sheet data from foreign branches of US global banks, aggregated by host countries:

• Bilateral Interoffice Flows and Booking Positions: We begin by estimating bilateral interoffice flows and booking positions between these offices and other global locations. Notably, we employ the minimum density (MD) sampling methodology to estimate the direction of booking positions within these centers.
• Panel Regression Analysis: This step allows us to evaluate the factors driving liquidity flows toward booking offices located in small OFCs. Our model incorporates a comprehensive array of variables, including source country attributes, booking office locations, and the liquidity and leverage dynamics of US banks.

Key Findings

Our findings shed light on the intricate relationship between US global banks and small OFCs:

• Non-Banking Centers (BC) Host Countries: Local macroeconomic factors have minimal impact on explaining liquidity flows vis-à-vis small OFCs. The primary influencers for branches to increase their booking positions in non-BC host countries are local crises and a shortage of offshore services.
• BC Level Factors: Booking positions with shell offices decrease with higher tax levels in BCs but increase with better legal and institutional quality in small OFCs.
• Liquidity Conditions: Booking positions increase during times of liquidity shortages in the US and globally, as well as when US banks have higher leverage.

Policy Implications

Our findings have significant policy implications:

• BCs’ Importance: BCs play a crucial role within the global financial system, especially during systemic liquidity shortages.
• Secrecy and Tax Regulations: Characteristics of these centers, such as secrecy levels and tax regulations, impact interoffice positions used for booking purposes.
• Overlooking Booking Center Role: Policymakers often associate small OFCs with illicit activities, overlooking their critical role as booking centers.
• Policy Recommendations:

1. Monitor and Regulate: During economic stress, monitoring and regulating offshore activities can prevent systemic risks and regulatory arbitrage.
2. Tax and Regulatory Policies: Tax rates and institutional quality significantly influence financial flows to small OFCs.
3. Liquidity Flows: Tighter liquidity conditions in domestic markets lead to increased flows to small OFCs, necessitating close monitoring to mitigate risks to onshore financial stability.

Methodology

We conduct an empirical analysis in two stages, focusing on balance sheet data from foreign branches of major US banks, grouped by host countries. Initially, we calculate bilateral interoffice flows and booking positions between these branches and other foreign locations. Using the minimum density (MD) sampling method, we gather the direction of booking positions across the global network of foreign branches of US banks. We then employ panel regression analysis with the aim of uncovering the factors influencing liquidity flows towards booking offices situated in small OFCs. Our model considers various factors such as characteristics of the source country, location of booking offices, and the liquidity and leverage dynamics of US banks.

Applications and beneficiaries

The implications of our research extend beyond academia. Policymakers stand to gain valuable insights into the dynamics of global financial flows, enabling them to formulate robust regulatory frameworks. By understanding the drivers of booking positions in small OFCs, regulators can better safeguard onshore financial stability and gather early warning signals about global liquidity conditions.

Reference to the research

D’Avino, C., & Shabani, M. (2024). Booking positions in small offshore financial centres: focus on US global banks. International Journal of Banking, Accounting and Finance, 14(1), 28-57.