The Geography of Regulatory Leakage

The subject is a parent banking group operating across more than one country, and the specific question is how the location of a regulatory shock changes the affiliate that can carry corporate credit. A domestic NBFI, a foreign bank subsidiary and a host-country NBFI are not interchangeable escape routes. Comparing them helps readers predict where lending is likely to be protected, why core markets receive special treatment and how group ownership can disadvantage independent lenders.

Home, host and core markets

A parent bank can face regulation in at least two relevant places. A home-country measure applies where the parent is headquartered and may directly affect domestic bank subsidiaries. A host-country measure applies where a foreign subsidiary operates and may directly affect that local entity. The same banking group can therefore experience a tightening in the country that supplies its capital and a tightening in the country where a borrower or affiliate is located. The available alternative depends on which entity the rule reaches.

When the home country tightens, the IMF study finds a division of labor among affiliates. Domestic NBFIs expand lending relative to foreign NBFIs and help cushion lending to home-country borrowers. Foreign bank subsidiaries, and to a lesser extent foreign NBFIs, help support cross-border lending. The pattern is consistent with a parent keeping domestic credit close to home while using entities outside the source-country rules for selected international relationships.

That description needs a scale check. Foreign NBFIs make up only about 2.2 percent of banking-group lending in the study’s estimation sample, and their share falls to 0.9 percent in 2024. Their limited aggregate response is therefore not surprising: even a meaningful change in a small channel may have little effect on the group-wide average. A reader should not interpret the weak overall foreign-NBFI result as proof that foreign affiliates are irrelevant in every market. It means their measured role is small in the population being studied.

The cross-border response is strongest in core markets. The study defines a core market by the banking group’s historical share of cross-border lending to that country. In those markets, foreign bank subsidiaries increase lending by an additional 5.5 percent relative to other markets, while foreign NBFIs expand lending by about 1.1 percent. The comparison is not between “important” and “unimportant” countries in a universal sense. It is between markets where a particular group already has a relatively large lending presence and markets where it does not.

Why would the parent protect a core market? The evidence is consistent with the value of established relationships and within-group operating advantages, but it does not require a single motive. A group with a large existing presence has more lending to preserve and more reason to maintain its position when regulation tightens. Its foreign affiliates may already be positioned to support cross-border activity. By contrast, a non-core market can be a place where the group reduces lending to conserve resources for relationships that matter more to its overall portfolio.

The result is a more strategic picture than a simple search for the country with the loosest rules. A parent is not merely moving every loan to the least regulated jurisdiction.