Capital Regulation, the Cost of Financial Intermediation and Bank Profitability: Evidence from Bangladesh

Abstract

Abstract:In response to the recent global financial crisis, the regulatory authorities in many countries have imposed stringent capital requirements in the form of the BASEL III Accord to ensure financial stability. On the other hand, bankers have criticized new regulation on the ground that it would enhance the cost of funds for bank borrowers and deteriorate the bank profitability. In this study, we examine the impact of capital requirements on the cost of financial intermediation and bank profitability using a panel dataset of 32 Bangladeshi banks over the period from 2000 to 2015. By employing a dynamic panel generalized method of moments (GMM) estimator, we find robust evidence that higher bank regulatory capital ratios reduce the cost of financial intermediation and increase bank profitability. The results hold when we use equity to total assets ratio as an alternative measure of bank capital. We also observe that switching from BASEL I to BASEL II has no measurable impact on the cost of financial intermediation and bank profitability in Bangladesh. In the empirical analysis, we further observe that higher bank management and cost efficiencies are associated with the lower cost of financial intermediation and higher bank profitability. These results have important implications for bank regulators, academicians, and bankers.

Trade Openness and Bank Risk-Taking Behavior: Evidence from Emerging Economies

“…Of these, the most important are regulatory capital requirements, activity restrictions, and explicit deposit insurance. However, these regulations are heterogeneous across countries and are likely to cause variation in cross-country bank practices, including risk-taking behavior (Ashraf and Arshad 2017;Ashraf and Zheng 2015;Zheng and Ashraf 2014;Zheng et al 2017). We include variables in Equation (1) to control for these effects.…”

Impact of Cost Efficiency on Bank Capital and the Cost of Financial Intermediation: Evidence from BRICS Countries

“…Table 1 summarizes the variables employed in this study. (Zheng et al 2017b) Firm performance PER Equals the ratio of pre-tax profit over total assets (Zheng et al 2017a) Leverage LEV Equals total debt over total assets of each bank (Rahman et al 2017) …”

“…Bank profits are a key indicator of bank overall health (Zheng et al 2017a). Following Zheng et al (2017a), we employ the ratio of pre-tax profit to total assets, PER, as a proxy for bank profits.…”

“…TC is defined as the sum of total interest and operating expenses. We follow the intermediation approach, and for inputs and outputs, we specify input prices (P) as the price of labor (PL), the price of fixed assets (PF), and the price of funds (PF) 2 , and outputs (Y) as total loans (TL) and other earning assets (OEA) (Zheng et al 2017a). The graph below (Figure 1) shows the annual average cost efficiency scores of all banks within each sample country.…”

“…Following Zheng et al (2017a), we employ the ratio of pre-tax profit to total assets, PER, as a proxy for bank profits.…”