How bank capital structure decision-making change in recessions: Covid-19 evidence from Pakistan

Abstract

PurposeThis study contributes to existing literature by investigating bank capital structure dynamics during the Covid-19 pandemic. The role of contemporary bank-specific determinants of capital structure during this period is analyzed.Design/methodology/approachAn independent t-test is carried out to check the response of bank leverage to the crisis. Using fixed effect estimation and difference general method of moments (GMM), the impact of the shock is examined. An unbalanced quarterly data set from 2016q1 to 2020q3 of all commercial banks in Pakistan is used.FindingsThe study finds that due to procyclicality of capital, during the Covid-19 crisis, the banks preempted a fall in capital and improved their capital positions. The role of bank specific variables in determining capital structure like profitability, size and competition weakened during this period. Evidence suggests that policy rate intervention by the central bank was a significant factor in capital structure decisions during the Covid-19 period. The study finds that macroeconomic shocks have significant impact on capital structure decision-making of banks which goes beyond the bank-specific factors.Originality/valueIt finds evidence of a moderating role of monetary policy in capital structure decision-making which has not been previously highlighted in literature. Monetary policy is found to become an important factor deciding the capital structure of banks during the Covid-19 first 3 quarters. This study also explores the impact of Covid-19 on the bank-specific determinants of capital structure of banks.

Bank Capital Structure Dynamics and Covid-19: Evidence from South Asia

“…The sample ended up including quarterly data of banks from India, Pakistan, Bangladesh, Sri Lanka, Bhutan, Nepal, and Afghanistan. Following Mohammad (2021), this study used 6 years of quarterly data to study the impact of Covid-19 on bank leverage to allow for the capture of ample pre and during Covid observations.…”

“…The model is tested for stationery using fishers dickey fuller unit root test for panel data and all variables are stationary at the first difference I(1). The following model is tested and is an extension of (Frank & Goyal, 2004;Mohammad, 2021).…”

“…Covid is a dummy value that takes values of 1 from q1 of 2020 to q1 of 2021 and measures the impact of Covid-19. This method has been used by other researchers to measure the impact of Covid-19 (Hauser et al, 2021;Mohammad, 2021).…”

“…There is also evidence that speeds of adjustment were higher during the global financial crisis for US banks (Abbas et al, 2020). Similarly, Mohammad (2021), in analyzing the response of Pakistani banks, found that capital buffers were not affected negatively in the case of Covid-19. Additionally, monetary policy become a significant factor in determining the capital structure and the magnitude of bank-specific factors decreased in determining capital structure.…”

“…In this regard capital requirements being non-binding have been extensively proposed in the literature (Bevilacqua et al, 2019). Empirical evidence also suggests that individual-specific factors impact capital structure decision-making (Gropp & Heider, 2010;Mohammad, 2021;Mohammad & Nishiyama, 2021).…”