Virtuous or Vicious? Development Banks in Europe

In the aftermath of the economic and financial crises, European policy makers have manifested a renewed interest on the role played by development banks in mitigating market failure by supporting financial programs set up to reverse the low level of investment by EU firms and stimulating innovation paths. This interest is coupled with an increasing awareness of the need to ensure the financial sustainability of these institutions, by securing reasonable levels of efficiency. In this paper, we analyze the performance and self-sustainability of European development banks with the aim of assessing whether they pursue their mandate retaining financial soundness without entailing an undesirable absorption of public resources. The empirical analysis leverages on a unique manually collected dataset including all the development banks headquartered in Europe. We introduce specific regression models aimed at quantifying the difference in financial performances between development banks and the banking industry, also investigating their different responses across the business and political cycles. Our main finding is that the profitability of development banks over the period 2000-2015 is only slightly lower than that of their benchmark. However, the difference is not statistically significant when focusing on Western Europe or on the period after the 2008 crisis. Besides, development banks appear to be more resilient when the economy slows down, while in Eastern Europe they also play a countercyclical role. During election years, differences exist between development banks in Western and Eastern Europe, with the former virtuous and the latter still accommodating. A battery of robustness tests confirms our results. These new findings point to the characteristics of contemporary development banks in Europe and provide insights to member states that are evaluating to provide additional financial funds to development banks or to promote the setting up of new promotional banks.