Intra- and Extra-Bank Determinants of Latin American Banks’ Performance
30 Pages Posted: 21 Apr 2014
Date Written: April 21, 2014
This paper seeks to examine the determinants of the performance of Latin American banks during the period 1995-2010. The sample of banks is representative of the Latin American region because it includes small and large economies with different levels of development in their financial markets (Argentina, Bolivia, Brazil, Chile, Colombia, Costa Rica, Salvador, Mexico, Nicaragua, Panama, Paraguay, Peru, and Venezuela). The empirical analysis combines intra-bank determinants of its performance (bank-based variables) and extra-bank variables (institutional-based exogenous variables) through the GMM system estimator. The results report remarkable findings. First, that there is a non-monotonic, inverse U-shaped relationship between the capital ratio and profitability, supporting the efficiency-risk, franchise-value, and agency cost hypotheses. Second, asset diversification impacts positively the banks’ performance. Third, the high concentration of the banking sector in Latin America caused by the financial liberalization and the mergers during the period of analysis, as well as the international investment (mainly from US and EU), allows banks to take advantage of immature financial markets and generate monopolistic profits. Fourth, despite of all these factors, the results uncover evidence that the measures taken in order to improve market competition such as enforcement of the regulation and transparency have resulted in lower profits for the banking industry. The paper draws some direct policy implications particularly focused on the removal of some remaining barriers to competition in the banking sector.
Keywords: Bank performance, capital ratio, diversification, institutional environment
JEL Classification: C23, G21, L2
Suggested Citation: Suggested Citation