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The determinants of commercial bank profitability in Sub-Saharan Africa

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  1. Abstract
  2. Introduction
    1. Risk as a good explanation for high returns
    2. Factors having an impact on bank returns
    3. High bank returns as a negative attribute for financial intermediation in SSA countries
  3. Determinants of bank profitability
    1. Credit risk and operating inefficiencies
    2. Macroeconomic and regulatory conditions
    3. Bank interest margins in Latin America
    4. The model of Ho and Saunders: A study
    5. The profitability behavior of the south eastern European banking industry
  4. Data and methodology
    1. Bank-particular determinants
    2. Measuring credit risks
    3. Capital must as a significant variable
    4. Market power as a main factor of generating profits
    5. Macroeconomic factors
  5. Empirical results
    1. Two-step General Method of Moments (GMM) approach
    2. The importance and magnitude of the coefficient on the lagged ROA
    3. The lag coefficient on the one-year lagged ROA
    4. Results from the regression
    5. The positive and important coefficient of the size variable
    6. Market concentration
  6. Concluding remarks and implications for policy makers
  7. References

Banks have high profits in Sub-Saharan Africa (SSA) in comparison to other regions. This paper wields a sample of 389 banks in 41 SSA countries to probe the determinants of bank profitability. It is found that apart from credit risk, higher returns on assets are linked with activity diversification, larger bank size, and private ownership. Bank returns are affected by macroeconomic variables, concluding that macroeconomic policies that promote low inflation and stable output growth do increase credit expansion. The results also show moderate persistence in profitability. Causation in the Granger sense from returns on assets to capital occurs with a considerable lag, implying that high returns are not suddenly retained in the form of equity increases. Therefore, the paper gives some help to a policy of imposing higher capital needs in the region in order to firm up the financial stability.

Commercial banks seem to be very profitable in Sub-Saharan Africa (SSA). Average returns on assets were about 2 percent in the last 10 years, significantly quite higher than bank returns in many other regions all around the world. This scenario holds true whether returns on assets are assessed by country, by individual banks (Figures 1?5) or by country income group. The net interest margins and an alternative measure of profitability give the same picture (Figures 6 and 7). Why are banks more profitable in Africa? Standard asset pricing models suggests that arbitrage should certify that riskier assets are remunerated with more returns.

[...] (2005) suggest a positive, albeit asymmetric, implication on bank profitability in the Greek banking industry, with the cyclical output being enough in the upper phase of the cycle only. The macroeconomic environment has limited implication only on net interest margins in SSA countries stated by Al- Haschimi (2007). This proof is consistent with the results of other country- specific studies (for instance Chirwa and Mlachila (2004) for Malawi, and Beck and Hesse (2006) for Uganda). As measured by the current period CPI growth rate we also account for macroeconomic risk by controlling for inflation, the price of fuel and the price of a commodity index that excludes fuel. [...]


[...] The study also shows that the profitability of Greek banks is designed by bank-particular components and macroeconomic rule variables which are not directly controlled of bank management. Industry structure does not appear to necessarily affect profitability. Recently, many studies have stressed towards the relation among macroeconomic variables and bank risk. Saunders and Allen (2004) study the literature on pro-cyclicality in operational, credit, and market risk exposures. These cyclical implications result from systematic risk emanating from common macroeconomic interdependencies or influences upon corporations as financial centers and institutions consolidate internationally. [...]


[...] This shows that greater bank activity diversification, as suggested by higher shares of services in the bank activity mix, positively impacts returns. This implication that is likely because of the reason that, in terms of realized losses and profits, fees show a more stable source of income than loans. This is interpreted as variable as a control for differences in the business portfolios managed by banks. Macroeconomic variables necessarily impact bank profitability in Africa. In specific, inflation has a positive implication on bank profits that imply that banks forecast future changes in inflation promptly and correctly to adjust interest rates and margins. [...]

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