Abstract
During the recent financial crisis, bank profitability has become an element of strong concern for regulators and policymakers; in fact both self-financing strategies and capital increases – necessary to provide higher level of capitalization – rely on the ability of a bank to generate profits. However, the determinants of bank profitability, that seemed to be unequivocally identified by previous literature, appear to have changed under the effect of regulatory and competitive dynamics. We test this hypothesis on commercial, cooperative and saving banks, employing a random effect panel regression on a dataset comprising bank-level data and macroeconomic information (covering the period 2006-2013) for 9 countries of the Euro area. Our findings suggest that, after a period of “irrational exuberance” in which credit growth and high leverage were seen as proper and fast ways to boost profitability, a sound financial structure and a wiser and objective credit portfolio management have become the main drivers to ensure higher returns.
Highlights
Introduction and Brief Literature ReviewThe banking sector plays a crucial role in the modern economies; this statement is especially true for countries in which the transmission of purchasing power is not widely guaranteed by traded securities
The new regulatory framework introduced by Basel III has strengthened this assumption; the choice for the banks that need to improve their regulatory capital ratio is between self-financing and capital increases
The pattern of coefficients before and during the crisis period confirms that macroeconomic conditions and cost-efficiency have increased their relevance in explaining bank profitability
Summary
The banking sector plays a crucial role in the modern economies; this statement is especially true for countries in which the transmission of purchasing power is not widely guaranteed by traded securities. The advent of the recent financial crisis has dramatically reduced banks’ margins, lowering the yields structure (the so called “new normal”) and increasing the share of non-performing loans in banks’ balance sheets In this new framework, macroeconomic/competitive conditions and cost-efficiency should emerge as main determinants of bank profitability. Our work, using bank-level data covering the period 2006-2013, aims to test this hypothesis, highlighting which have been – and how they have changed over time – the main determinants of bank profitability just before and during the crisis in 9 countries in the Euro area The choice of this geographical and economic context is due to several reasons. The common monetary system and the shared adoption of regulatory frameworks like Basel Accords, MIFID, Banking Union, etc. have progressively strengthened this harmonization in the Euro Area
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