Determinants of banks’ margins: case of islamic and conventional banks: evidence from Malaysia based on GMM approach

Lee, Siew Peng and Masih, Mansur (2017): Determinants of banks’ margins: case of islamic and conventional banks: evidence from Malaysia based on GMM approach.

Abstract

This paper analyses Islamic and conventional banks’ margins in Malaysia using panel data estimation technique. The results tend to suggest that there exist substantial differences between Islamic and conventional banks in terms of factors determining banks’ margins. Specifically, this study finds that for Islamic banks, important margin determinants are found to be operating costs, credit risk, efficiency, implicit payments, income from fees and commission, and non-interest income. While for conventional banks important factors are operating costs, risk component, market share, efficiency, size of operation, implicit payments, funding costs, and other earning assets. This means there are more factors influencing margin in conventional banks compared to those in Islamic banks. Our results indicate that three most important factors are operating costs, credit risk and efficiency for both banks. This suggests that improving credit risk management and efficiency would be the proper strategy to enhance banks’ margins. Although non-traditional bank income activities have increased in recent years, its economic impact on margin is found to be quite minimal.

• Item Type: MPRA Paper
• Language: English
• Keywords: Net interest margin, net profit margin, Islamic and conventional banks, Malaysia
• Subjects: C - Mathematical and Quantitative Methods > C2 - Single Equation Models ; Single Variables > C22 - Time-Series Models ; Dynamic Quantile Regressions ; Dynamic Treatment Effect Models ; Diffusion Processes; C - Mathematical and Quantitative Methods > C5 - Econometric Modeling > C58 - Financial Econometrics; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages

References

Angbanzo, L. (1997). Commercial bank net interest margins, default risk, interest-rate risk, and off-balance sheet banking. Journal of Banking and Finance, 21: 55-87.

Arellano, M. and Bond, S. (1991). Some tests of specification for panel data: Monte Carlo evidence and an application to employment equations, Review of Economic Studies, 58(2): 277-297.

Bank Negara Malaysia (BNM). BNM’s Monthly Statistical Bulletin (2015).

Brock, P. and Rojas, L. (2000). Understanding the behavior of bank spreads in Latin America. Journal of Development Economics, 63:113-134.

Carbo-Valverde, S. and Rodriguez-Fernandez, F. (2007). The determinants of bank margins in European banking. Journal of Banking and Finance, 31: 2043-2063.

Claeys, S. and Vander Vennet, R., (2008). Determinants of bank interest margins in Central and Eastern Europe: a comparison with the west. Economic Systems, 32: 197-216.

Drakos, K. (2002). The dealership model for interest margins: Te case of the Greek Banking Industry. Journal of Emerging Market Finance, 1(1): 76-98.

Entrop, O., Memmel, C., Ruprecht, B. and Wilkens, M. (2015). Determinants of bank interest margins: Impact of maturity transformation. Journal of Banking and Finance, 54: 1-19

Fungacova, Z. and Poghosyan, T. (2011). Determinants of bank interest margins in Russia: Does bank ownership matter? Economic Systems, 35: 481-495.

Gelos, G. (2008). Banking spreads in Latin America. Economic Inquiry, 47: 796-814.

Hutapea, E.G. and Kasri, R.A. (2010). Bank margin determination: a comparison between Islamic and conventional banks in Indonesia. International Journal of Islamic and Middle Eastern Finance and Management, 3(1): 65-82.

Ho, T. and Saunders, A. (1981). The determinants of bank interest margins: theory and empirical evidence. Journal of Financial and Quantitative Analysis, 16: 581-600.

Mercieca, S., Schaeck, K. and Wolfe, S.,(2007). Small European banks: benefits from diversification? Journal of Banking and Finance 31, 1975–1998.

Lepetit, L., Nys, E.C., Rous, P. and Tarazi, A. (2008). The expansion of services in European banking: Implications for loan pricing and interest margins. Journal of Banking and Finance, 32: 2325-2335.

Lin,J.R., Chung, H.M., Hsieh, M.H. and Wu, S.H. (2012). The determinants of interest margins and their effect on bank diversification: Evidence from Asian banks. Journal of Financial Stability, 8: 96-106.

Maudos, J. and Fernandez de Guevara, J. (2004). Factors explaining the interest margin in the banking sectors of the European Union. Journal of Banking and Finance, 28: 2259-2281.

Maudos, J. and Solis, S. (2009). The determinants of interest income in the Mexican banking system: An integrated model. Journal of Banking and Finance, 33: 1920-1931.

Moshirian, F. and Wu, Q. (2012). Banking industry volatility and economic growth. Research in International Business and Finance, 26: 428-442.

Saunders, A. and Schumacher, L. (2000). The determinants of bank interest margins: an international study. Journal of International Money and Finance, 19: 813-832.

Windmeijer, F. (2005). A finite sample correction for the variance of linear efficient two-step GMM estimators. Journal of Econometrics, 126 (1): 25-51.

Williams, B. (2007). Factors determining net interest margins in Australia: domestic and foreign banks. Financial Markets, Institutions and Instruments, 16: 145-165.

Vander Vennet, R., (2002). Cost and profit efficiency of financial conglomerates and universal banks in Europe. J. Money Credit Banking 34, 254–282.