Bank-Specific and Macroeconomic Determinants of Profitability: A Revisit of Pakistani Banking Sector under Dynamic Panel Data Approach

Habib-ur Rahman,Nageena Tabassum,Muhammad Waqas Yousaf

doi:10.3390/ijfs8030042

Abstract

This study aims to examine the effect of the bank-specific and macroeconomic determinants of profitability for the banking sector of Pakistan. To incorporate the issues of endogeneity, unobserved heterogeneity, and profit persistence, we apply a generalised method of moments (GMM) technique under the Arellano–Bond framework to a panel of Pakistani banks that covers the period 2003–2017. The results of a dynamic panel data approach reveal that capital adequacy accelerates the profitability of the banking sector in Pakistan. Capital adequacy helps the financial system to absorb any negative shock by reducing the number of bank failures and losses. Conversely, our empirical investigation reveals that the liquidity ratio, business mix indicators, interest rates, and industrial production deteriorates the bank profitability. Liquidity risks enhance the probability of default risks and transmit into the unpaid loans and hence the lower return. Our empirical evidence further reveals that Pakistani banks are not getting any benefit of the economies of scale in terms of financial performance.

Highlights

Financial intermediaries play important financial roles in the economic and financial systems through offering a mechanism for payments (Allen and Gale 2004), matching the supply and demand of financial markets (Adrian and Shin 2008; Beck 2001), tackling complex financial instruments (Matherat 2008; Levine 1996), providing the transparency in markets, conducting risk transfer (Scholtens and Van Wensveen 2000), and handling the risk management roles (Allen and Santomero 2001; Scholtens and Van Wensveen 2000)
Looking at the macroeconomic indicators, we observed that the interest rates are highly volatile (M = 8.72; SD = 3.82) due to the demand pressure over the last couple of decades (Shah et al 2010; Akhtar 2007; Subayyal and Shah 2011)
For the macro-economic analysis, we retrieved the data from the International Financial Statistics (IFS) dataset published by the International Monetary Fund

Summary

Introduction

Financial intermediaries play important financial roles in the economic and financial systems through offering a mechanism for payments (Allen and Gale 2004), matching the supply and demand of financial markets (Adrian and Shin 2008; Beck 2001), tackling complex financial instruments (Matherat 2008; Levine 1996), providing the transparency in markets, conducting risk transfer (Scholtens and Van Wensveen 2000), and handling the risk management roles (Allen and Santomero 2001; Scholtens and Van Wensveen 2000). Banks are the most important financial intermediaries which provide a range of services ( see Allen and Santomero 2001). The contemporary economic and financial operating system of these economies requires the efficiency of their banks to ensure their economic growth (Seven and Yetkiner 2016; Papadopoulos 2010). Apart from economic growth, a profitable banking system enables an economy to observe adverse shocks better and contribute to the economic and financial stability. The academicians, management of banks, regulatory authorities, and researchers are highly interested in investigating the internal and external determinants of bank profitability

Objectives

Results

Conclusion