The impact of banks’ capital buffer on equity return: evidence from Islamic and conventional banks of GCC countries

Abstract

Purpose This paper aims to examine the impact of bank’s capital buffer on return on equity (ROE) in the context of Islamic and conventional banks in GCC countries. Design/methodology/approach The authors collect data from 83 commercial banks comprising of 49 conventional banks and 34 Islamic banks for the period 2010–2019. The final data set comprises of 744 bank-year observations. The authors apply generalized methods of moments estimation technique and panel least square to analyze the data. Findings The authors document that Tier-1 capital, total regulatory capital (TRC) and equity to asset ratio (EAR) negatively affect banks’ ROE. However, the impact disappears for conventional banks and sustains for Islamic banks if these two clusters of banks are treated separately. Furthermore, the negative impact of equity capital on earning is more pronounced for large and listed commercial banks. Practical implications Findings of this research imply that Islamic banks in GCC countries has scope to manage equity capital more efficiently. Hence, they should concentrate on using banks equity wisely to successfully compete with the conventional banks. Originality/value Since the global financial crisis of 2009, Islamic banks of GCC countries have been reporting lower ROE compared to their conventional counterparts. On the other hand, Islamic banks maintain higher level of Tier-1 capital, TRC and EAR. This evidence hypothetically suggests that Islamic banks are overly cautious in managing their capital buffer that results in lower ROE. To the best of the author’s/authors’ knowledge, no other study in the literature tests this hypothesis in the GCC context.