Business Model, Risk and Financial Stability of Banks: A Multi-Country Analysis

Abstract

This study examines the relationship across business model and risk on
stability of banks across multiple countries like Pakistan, Saudi Arabia,
UAE and Bahrain for the period 2010 to 2017. The study uses Z-score,
a proxy for bank stability, as the dependent variable. The independent
variables include fee-based income scaled by operating income, nondeposit
funding ratio to total liabilities and loans to deposit ratio
followed by funding and credit risks in addition to some control
variables; bank size and profitability ratios. Findings reveal that the
traditional measure of business orientation, the loan deposit ratio stands
as consistently significant and supports stability in all the models. The
non-deposit funding ratio does not reflect any impact on bank stability
while the fee-based income model of all the banks implies an increase in
non-interest income supports bank stability. The income structure of
Islamic banks does not matter towards explaining financial soundness of
banks in the sample. Funding risk appears to have a positive and
significant connotation with stability. Credit risk emerges as significant
with a negative sign except for the model of Islamic banks. This reveals
that greater the level of credit risk, lesser is the financial stability among
them. The bank size is positively significant in our analysis supporting
the validation of theory of Stewardship. However, the findings remain
inconclusive as the size appears to be significant in aggregate analysis
while surfaces as insignificant in disaggregate analyses. Results on the
ROE indicate that increase in profitability undermines stability of banks
in the sample. However, the result is as expected for the return on assets
(ROA). The study offers some useful policy implications both for
mangers of the banks and policy makers of the countries under
investigation.