Market structure, institutional quality and bank capital ratios: evidence from developing countries

Abstract

Purpose: This paper investigates the role of market structure and institutional quality in determining bank capital ratios in developing economies. Design/methodology/approach: The generalised methods of moment technique is used to control for auto-correlation and endogeneity in a sample of 79 publicly listed commercial banks. The study period is between 2000 and 2016. Findings: Results show that market structure (proxied with bank competition) as well as institutional quality (regulatory quality) lowers bank capital in the sampled banks. This suggests that banks operating in less competitive markets with good regulatory quality do not need to engage in excessive risk-taking activities that would necessitate holding increased level of capital. Furthermore, the interaction of competition and regulatory quality reinforces the main findings, suggesting the importance of the two variables in determining bank capital ratio. Research limitations/implications: Research has limitation in that the study investigated publicly listed commercial banks, the findings may not be applicable to non-listed banks. Practical implications: Taking into cognisance the developing nature of the banking system in Africa, the findings from this study imply that the maintenance of an improved regulatory quality in an environment where healthy competition exists would encourage banks to hold capital ratios appropriate for their level of banking activities, that is, the banks would not engage in excessive risk-taking activities. Originality/value: This is one of the first papers that examine the effect of market structure and institutional quality on bank capital ratios in developing countries that have bank-based financial systems.