Factors Affecting Profitability of Banks: Empirical Evidence from Ethiopian Private Commercial Banks

Yalemselam Worku Bogale

doi:10.11648/j.jim.20190801.12

Abstract

The objective of this study was investigating factors affecting the profitability of private commercial banks in Ethiopia, covering ten years period from 2008 to 2017, using unbalanced panel data from fourteen Ethiopian private commercial banks. In this study, survey was used as a method of a research design, which allows collecting quantitative data that was analyzed quantitatively using STATA 13 software. The variables covered under this study were both bank specific factors (capital adequacy, bank size, liquidity risk, credit risk, and operation efficiency) and macroeconomic factors (real GDP growth rate, inflation, foreign exchange rate, and lending interest rate). The fixed effect regression output revealed that from bank specific variables; capital adequacy and bank size have significant positive effect on profitability. Besides, operation efficiency has a negative significant effect on profitability, but liquidity risk and credit risk were found not powerful variables in the determination of banks profitability. From macroeconomic variables; foreign exchange rate and lending interest rate were found to have significant (though at 10% level of significance) negative effect on Ethiopian private commercial banks profitability. Conversely, real GDP growth rate and inflation rate were found statistically insignificant. Generally, in this study bank specific factors have more significant effect than macroeconomic factors. So, private commercial banks in Ethiopia were suggested to increase their stockholders equity, asset size and implement an effective and efficient expense management practice in order to boost their profitability.

Highlights

IntroductionA bank is commonly recognized as an institution which provides fundamental banking services such as accepting deposits and providing loans [1]
As seen from the above table the fixed-effects regression is conducted for unbalanced data set with 121 observations, which is collected from fourteen Ethiopian private commercial banks from 2008 to 2017 with a minimum year taken for recently established banks and a maximum year for early established banks
Given that the relationship between banks profitability and banks capital adequacy ratio is positive and highly significant, increasing paid up share capital and banks retained earnings will increase profitability of banks. This is for the reason that banks with higher capital adequacy ratio can attain an efficient intermediation practice, engage in prudent lending, in addition to this they are able to minimize their funding cost because large share of capital is a key gauge of creditworthiness

Summary

Introduction

A bank is commonly recognized as an institution which provides fundamental banking services such as accepting deposits and providing loans [1]. It is observable that commercial banks play a vital role in the economic development of a country. If the banking sector does not perform in a good health, the consequence to the economy could be enormous and wide. Due to the U.S sub-prime mortgage crisis that happened in recent times, the banking sectors of many countries suffer huge losses, especially in U.S and E.U. The poor performance of the banking industry has slowed down the U.S economy and the development of global economy until the current period. In Asia, the losses in banking sectors are not as serious as U.S, it is have a significant adverse impact on their economy [25]. Financial institutions must be profitable in order to ensure the stability of the financial system as well as the overall economy

Objectives

Methods

Findings

Discussion

Conclusion