Can BRICS and ASEAN-5 emerging economies benefit from bank diversification?

Author:Syed Moudud-Ul-Huq
Position:Mawlana Bhashani Science and Technology University, Tangail, Bangladesh
Pages:43-69
SUMMARY

Purpose This paper aims to empirically investigate the impact of bank diversification on performance and risk-taking behavior. The analysis uses an unbalanced panel data set covering the period between 2007 and 2015 for a total of 1,397 banks from ASEAN-5 and BRICS economies. Design/methodology/approach Dynamic panel generalized method of moments (GMM) has been used primarily to... (see full summary)

 
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Can BRICS and ASEAN-5
emerging economies benet from
bank diversication?
Syed Moudud-Ul-Huq
Mawlana Bhashani Science and Technology University, Tangail, Bangladesh
Abstract
Purpose This paper aims to empirically investigate the impact of bank diversication on performance
and risk-taking behavior.The analysis uses an unbalanced panel data set covering the period between 2007
and 2015 for a total of 1,397 banksfrom ASEAN-5 and BRICS economies.
Design/methodology/approach Dynamic panel generalized method of moments (GMM) has been
used primarily to examinethe relationship between bank diversicationon performance and risk-takingand
later, validatethe core results by incorporating two-stageleast squares (2SLS).
Findings Similar to the results of previous studies based on the developed economy, this study also
conrms the hypothesisof the portfolio diversication. The key robust result is that the benetsfrom revenue
and assets diversication are heterogeneous and the BRICS banks achieve higher benet from using both
diversication strategies. On the other hand, ASEAN-5 banks fail to show the signicant advantage from
assets diversication.Among the diverse sources of income, interest is not a major determinant of efciency
and banks stability, whileASEAN-5 banks should foster commission and others income asmechanisms for
diversicationbenet in the region.
Originality/value A few studies are available in the current literature which examines the impact of
revenue and assets diversication on either bank performance or risk-taking in the developed economys
context. However, very few studies are found that examine the relationship between bank diversication,
performance and risk-taking together.Moreover, to the best of the authors knowledge, there is a dearth of
literature on this topicthat built on the comparative analysis between two regions, i.e. ASEAN-5and BRICS.
As a result, the empirical resultsof this research provide useful information to the stakeholdersso that they
can enhancebank diversication strategy and implement them successfullyby considering the other factors.
Keywords Risk-taking, Emerging economies, Performance, Stability, Bank diversication
Paper type Research paper
1. Introduction
The ongoing dispute in the literature concerning the impact of revenue and assets
diversication on bank performance and risk-taking, this paper assesses whether bank
diversication is benecial to banks in emerging economies. Past couple of decades, the
economies of Association of Southeast Asian Nations (ASEAN) and Brazil, Russia, India,
China and South Africa (BRICS) have been transformed by nancial deregulation and
liberalization (Gompers et al.,2003;Cremers and Nair, 2005;Zhang et al., 2013). Such
initiatives have resulted in the expansion of the banking and nancial services industries,
substantial growth in capital markets and the emergence of private sector nancial
institutions. Nevertheless, the issue of how bank diversication has affected the nancial
viability of banksin these recently liberalized economies has remainedmostly unexplored.
Many analysts directly accused the episode on the most recent changes in nancial
regulation in particular, for diversied investment policies that allowed banks to become
more open in nontraditional activities such as trading and investment banking, security
BRICS and
ASEAN-5
43
Journalof Financial Regulation
andCompliance
Vol.27 No. 1, 2019
pp. 43-69
© Emerald Publishing Limited
1358-1988
DOI 10.1108/JFRC-02-2018-0026
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1358-1988.htm
brokerage, insurance underwriting and others. Also, arguing that banks are sloppy for
taking the challenges of deregulated nancial markets (DeYoung and Torna, 2013). In
addition, recent nancial turmoil has also led banks to shift their traditional interest-based
activities to non-interestactivities. Hence, banks often have diversied their revenue sources
by performing new operations, such as brokerage and investment banking, underwriting
and trading securities and other activities, that produce non-interest income (Meslier et al.,
2014) and depend on non-interest bearing assets to diversify of portfolio assets. The
implications of such changeson bank risk-taking and performance have recently addressed
for developed countries (the USA and Europe), but tilldate, no consensus has been reached.
Most studies nd that non-interest activities not only generate a higher return but also
produce extra risk because of their uncertain nature (Stiroh,2004a, 2004b;Stiroh and
Rumble, 2006;Brownand Caylor, 2006;Lepetit et al.,2008).
Very few papers (Sanya and Wolfe, 2011;Pennathur et al.,2012;Nguyen et al.,2012;
Meslier et al.,2014;Zhou, 2014;Khan, 2010;Moudud-Ul-Huq, 2015;Moudud-Ul-Huq et al.,
2018) focus on emerging countriesand nd somehow different results. The objective of this
study is to contribute to the scarce literature dedicated to the impact of diversication on
bank performance and risk-taking behavior in the case of emerging and developing
countries. Such countries have different nancial systems and market structures and
institutional and regulatory backgrounds, which could elicit disparate impact on bank
performance of creatingnew business lines.
To address the effect of bank diversication on performanceand risk nexus in emerging
economies, individually we focus on the ASEAN and BRICS economies. There are two
distinct reasons for selecting the region. First, ASEAN is projected as the fth largest
trading region in the world by 2020[1], and BRICS will become the principal engine of the
economy (Wilson and Purushothaman, 2003)[2] and is timely as these regions continue to
take their positions within the global nancial system. Second, the banking competition in
these regions is becoming more intense due to the increased pace of nancial openness.
Hence, it is crucial for potential investors who are interested in emerging markets to know
the diversication benet. Notably, focusing on the ve emerging economies from ASEAN
region, that is, Indonesia, Malaysia, the Philippines, Thailand and Vietnam ( ASEAN-5)
and BRICS economies enables us to differentiatethe effects of diversication in two specic
regions. Particularly, from the regulatory point of view this study has great implications.
However, he principal function of regulators of the banking industry is to manage banks
risk, protect the interest of the depositors and facilitate smooth operations in the nancial
systems. Diversication both assets and income are consistent with portfolio investment
theory. Through income diversication, banks can generate alternative sources of income
that play a role in the protability of banks. On the one hand, assets diversication also
plays a role in the risk diversication through managing probable future income. Thus,
diversication plays the silent rolein regulating the risk of banks and smooth operations in
the nancial system. As diversication shows the signicant adverse impact on bank risk,
diversication can be treated as mitigating risk tool of bank risk management. Therefore,
indirectly it is playing a signal to regulators to judge efcient management, operational
ability and risk management capacity of the banking authority. Though the benet from
diversication is heterogeneous across regions, regulators can smoothly guide their banks
for selecting risk-free projects through considering the different segments of income and
boosting non-interestbearing assets where it derives benet.
This study contributesto the existing literature in the following ways. Specically,our data
allow us to differentiate the benet of noninterest income (commission-based income,
trading income and other income)[3]. Moreover, by following Laeven and Levine (2007) and
JFRC
27,1
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