Optimal capital adequacy ratio: An investigation of Vietnamese commercial banks using two-stage DEA

Bich Le Tran,Michel Simioni,David Mcmillan,Phuong Anh Nguyen

doi:10.1080/23311975.2020.1870796

Abstract

Over the last years the Vietnamese banking system has been struggling to restructure, reform governance, consolidate financial statements and build up merge and acquisition, in line with international standards. The Bank for International Settlements (BIS) proposed BASEL III in 2010, whereby banks must increase their minimum Capital Adequacy Ratios (CAR) year by year with a goal of 10.5% by 2019. The objective of this paper is to address the questions: (1) what are the optimal CAR levels for Vietnamese Commercial Banks (2) whether the minimum required CARs stipulated in the Basel II and III are reasonable for Vietnam banking system? The data set consists of a sample of Vietnamese commercial banks over the six-year period from 2010 to 2015. The optimal CARs of banks are calculated using the nonparametric two-stage Data Envelopment Analysis (DEA) model, with two inputs: fixed assets, employee expense and two outputs: interest income, non-interest income. The findings indicate that 92.4% of the banks have the optimal CAR higher than the minimum ratio 10.5% defined in BASEL III. Moreover, 57.98% of the banks should raise their current level of CAR to reach their optimal ones. To conclude, this paper will provide a guideline for Vietnamese banks to decide their optimal CAR to reach the efficiency frontier.

Highlights

The Basel Committee on Banking Supervision (BCBS) is a group established to regulate the banking matter worldwide, make the quality of the banking supervision at the international level better and improve the stability of international banking system
When comparing the optimal Capital Adequacy Ratio (CAR) of those banks to the requirement capital adequacy ratios regulated in the BASEL II and III, the empirical results show that 93.5% and 88.2% of Taiwanese banks have the optimal capital adequacy ratios greater than the 8% stipulated in the BASEL II and 10.5% in the BASEL III, respectively
Data Envelopment Analysis (DEA) is a nonparametric method using linear programming to perform the evaluation of the relative efficiency of a set of Decision Making Units (DMUs)

Summary

Introduction

The Basel Committee on Banking Supervision (BCBS) is a group established to regulate the banking matter worldwide, make the quality of the banking supervision at the international level better and improve the stability of international banking system. In the Basel I, the Capital Adequacy Ratio (CAR) was strongly emphasized being the measurement of banks’ risk and should be accepted as a global standard. Because the nature of bank’s financial risk varied and turned more complex, the BCBS developed the Basel II that officially carried out in 2006. Basel III issued by the BCBS in September 2010 to enhance the ability to withstand the financial and economic stress of the banking system and improve the risk management. In the new Basel regulation, the banking industry must carry out the policies to reach the target minimum CAR of 10.5% by 2019

Objectives

Methods

Findings

Conclusion