Determinants of Commercial Bank Interest Margins and Profitability: Some International Evidence

Abstract

No AccessPolicy Research Working Papers25 Jun 2013Determinants of Commercial Bank Interest Margins and Profitability: Some International EvidenceAuthors/Editors: Asli Demirgüç-Kunt, Harry HuizingaAsli Demirgüç-Kunt, Harry Huizingahttps://doi.org/10.1596/1813-9450-1900SectionsAboutPDF (0.1 MB) ToolsAdd to favoritesDownload CitationsTrack Citations ShareFacebookTwitterLinked In Abstract:March 1998 Differences in interest margins reflect differences in bank characteristics, macroeconomic conditions, existing financial structure and taxation, regulation, and other institutional factors. Using bank data for 80 countries for 1988-95, Demirgüç-Kunt and Huizinga show that differences in interest margins and bank profitability reflect various determinants: ° Bank characteristics. ° Macroeconomic conditions. ° Explicit and implicit bank taxes. ° Regulation of deposit insurance. ° General financial structure. ° Several underlying legal and institutional indicators. Controlling for differences in bank activity, leverage, and the macroeconomic environment, they find (among other things) that: ° Banks in countries with a more competitive banking sector-where banking assets constitute a larger share of GDP-have smaller margins and are less profitable. The bank concentration ratio also affects bank profitability; larger banks tend to have higher margins. ° Well-capitalized banks have higher net interest margins and are more profitable. This is consistent with the fact that banks with higher capital ratios have a lower cost of funding because of lower prospective bankruptcy costs. ° Differences in a bank?s activity mix affect spread and profitability. Banks with relatively high noninterest-earning assets are less profitable. Also, banks that rely largely on deposits for their funding are less profitable, as deposits require more branching and other expenses. Similarly, variations in overhead and other operating costs are reflected in variations in bank interest margins, as banks pass their operating costs (including the corporate tax burden) on to their depositors and lenders. ° In developing countries foreign banks have greater margins and profits than domestic banks. In industrial countries, the opposite is true. ° Macroeconomic factors also explain variation in interest margins. Inflation is associated with higher realized interest margins and greater profitability. Inflation brings higher costs-more transactions and generally more extensive branch networks-and also more income from bank float. Bank income increases more with inflation than bank costs do. ° There is evidence that the corporate tax burden is fully passed on to bank customers in poor and rich countries alike. ° Legal and institutional differences matter. Indicators of better contract enforcement, efficiency in the legal system, and lack of corruption are associated with lower realized interest margins and lower profitability. This paper-a product of the Development Research Group-is part of a larger effort in the group to study bank efficiency. Previous bookNext book FiguresreferencesRecommendeddetailsCited byDoes the target market affect bank performance? Evidence from the geographic diversification of city commercial banks in ChinaFrontiers of Business Research in China, Vol.15, No.17 July 2021Macroeconomic determinants of MIR interest rate margin in the euro areaJournal of Central Banking Theory and Practice, Vol.10, No.126 January 2021The Profitability of the Central and Eastern European Banking Systems in Correlation with the Macroeconomic Environment1 January 2022The profitability of islamic banks and voluntary disclosure: empirical insights from YemenCogent Economics & Finance, Vol.8, No.122 June 2020Interdependence of Ratios in Banking Stability PentagonStudia i Materiały Wydziału Zarządzania UW, Vol.2/2018, No.285 July 2019Social capital and banking system profitability: A survey of European Union countriesEuropean Journal of Government and Economics, Vol.8, No.124 June 2019Determinants of interest rate in emerging marketsWorld Journal of Entrepreneurship, Management and Sustainable Development, Vol.14, No.3An empirical analysis of bank specific factors affecting interest rate of Ugandan banking financial institutionsWorld Journal of Entrepreneurship, Management and Sustainable Development, Vol.14, No.2What does affect profitability of banks in Croatia?Competitiveness Review, Vol.55 June 2018Developments of the CEE banking sectors after the financial crisisProceedings of the International Conference on Business Excellence, Vol.12, No.115 June 2018Macro Policy for Drivers of Growth and Jobs7 June 2018Non-linearity in the finance-growth nexus: Evidence from IndonesiaInternational Economics, Vol.150Globalization and Bank Efficiency Nexus: Empirical Evidence from the Malaysian Banking SectorBenchmarking: An International Journal, Vol.24, No.518 May 2017Journal of Banking and Financial EconomicsThe determinants of interest rate spread: Empirical eviden