Do Capital Regulations and Risk-Taking Behavior Affect Bank Performance? Evidence from Bangladesh

Abstract

This study develops and estimates a dynamic panel model to examine the simultaneous relationship between capital regulations and bank risk-taking in the Bangladeshi banking sector. Furthermore, the study investigates the impact of capital regulations and bank risk-taking on performance. The study investigates on 30 commercial banks of Bangladesh over the period 2002-2016 using two-step system GMM estimator. The study also uses two-stage least squares regression to check the robustness of the findings. The empirical evidence is found showing the significant negative association between capital regulations and risk-taking simultaneously. The study also finds evidence that there is a significant positive impact of capital regulations on bank performance. In contrast, the findings show that bank risk-taking has significant negative impacts on performance. The study expects that the results of this study will add value to the existing literature and will be significant for the future researcher and policymaker to decide in this regard. Contribution/ Originality:This study contributes to the existing literature by investigating the simultaneous relationship between capital regulations and bank risk-taking on the emerging economy like Bangladesh. The study further examines the impact of capital regulations and bank risk-taking on performance. The study empirically uses dynamic panel model with two-step system GMM estimator which provides consistent results by overcoming the issue of endogeneity, serial correlation, and heteroscedasticity.

Risk-taking behavior, competition, diversification and performance of frontier and emerging economy banks

“…The loadings of DBAG on NIM may suggest that FEE banks improve on their performance through asset growth. The relationship between GDPG and NIM is in agreement with Akter et al (2018) and Tan's (2016) observations. Also, the positive association between NIM and CPIG is in consonance with Perry (1992) and Tan (2016).…”

“…That is, competition minimizes the level of risk in the banking system. Similarly, Akter et al (2018) investigate the effect of bank risk-taking and capital regulation on performance using a two-step system GMM estimator. They argue that excessive risk-taking impacts negatively on profitability.…”

“…The findings of studies that focus on a single country or few countries (see e.g. Goddard et al, 2004;Akter et al, 2018Akter et al, , 2019 may not be applicable to a larger FEEs context. The extended cross-country data may contribute in resolving the disparity in existing evidence.…”

“…They impact on the intermediation effectiveness and performance of banks (Garc ıa-Herrero et al, 2009;Rahman et al, 2015;Merin, 2016). In sum, excessive risk-taking and extreme competition may render banks less profitable and raise the likelihood of bank failure (Campbell, 2007;Majumder and Uddin, 2017;Akter et al, 2018). On the other hand, minimal competition and risk aversion may be harmful to bank survival.…”

Capital regulation, liquidity risk, efficiency and banks performance in emerging economies

“…Iannotta et al (2007) and Saleh and Afifa (2020) argue that higher bank capital connotes higher management quality, lower bankruptcy costs and improved bank income and performance. A weak capital base, inefficiency and extreme illiquidity may render banks less profitable and raise the likelihood of bank failure (Campbell, 2007; Majumder and Uddin, 2017; Akter et al , 2018).…”