Financial sector transparency and bank interest margins: do quality of political and financial regulatory institutions matter?
| DOI | https://doi.org/10.1108/JFRC-10-2020-0097 |
| Published date | 09 July 2021 |
| Date | 09 July 2021 |
| Pages | 409-433 |
| Subject Matter | Accounting & finance,Financial risk/company failure,Financial compliance/regulation |
| Author | Baah Aye Kusi |
Financial sector transparency and
bank interest margins: do quality
of political and financial
regulatory institutions matter?
Baah Aye Kusi
Department of Banking and Finance, Central University, Ghana and
Department of Finance, Business School, University of Ghana, Accra, Ghana
Abstract
Purpose –This study aims to examine the effect of private(PRST) and public (PUST) sector-led financial
sector transparencies on bank interest margins (BIM) termed as social cost of financial intermediation in
differentinstitutional quality setups.
Design/methodology/approach –This study uses a two-step dynamicgeneralized method of moments
panel data and bootstrappedquantile models with 91 economies between 2004 and 2016.Data is sourced from
World DevelopmentIndicator and Global Development Financedatabases.
Findings –The results show that under strong and weak political and financial regulatory institutional
setups, the reducing effect of PRST on BIM are observed and reported while the full sample reports no
significantnexus between PRST and PUST on BIM. Furthermore, under politicalinstitutional quality sample,
economies with strongcorruption control and regulatory quality are able to reinforce the dampeningeffect of
PRST on BIM whileunder the same political institutional qualitysample, economies with weak rule of law are
able to heighten the reducingeffect of PRST on BIM. Moreover, under financial regulator institutional quality
sample, economieswith strong overall weighted and unweighted,chief executive officer and policy dependent
central banks are able to intensify the diminishing effect of PRST on BIM while under the same financial
regulatorinstitutional quality sample, economies with weak limits on lendingare able to amplify the reducing
effect of PRST on BIM. However, PUST is reported to propel lower levels BIM in the bootstrap models,
especiallyin strong institutional economies.
Practical implications –These findings imply that policymakers may rely on PRST to reduce BIM,
especially under financial regulatoryinstitutional quality. Additionally, economies must be careful on their
reliance on PRST because the effectiveness of PRST to tame high BIM is dependent on the strength of
politicaland financial regulatory institutions.
Originality/value –To the best of the authors’knowledge, this study presents first time international
evidence on the effect of private and public sector-led financial transparency on BIM in strong and weak
politicaland financial regulatory institution economies.
Keywords Private sector, Public sector, Institutional quality, Bank interest margins,
Financial sector transparency
Paper type Research paper
Introduction
The finance literature suggests that transparency in the financial market promotes the
interest and wellbeing of financial market participants and the financial system in totality
(Asongu et al., 2019;Asongu, 2017). It has empirically been advanced that transparency in
the financial sector boosts investor confidence in the financial system (Dunning, 2006;
Wurgler, 2000), reduce cost of finance (Asongu et al.,2019;Asongu, 2017), reduce credit
allocation constraints (Dierkes et al., 2013;Brown et al.,2009) and enhance stability of
Financial
sector
transparency
409
Received11 October 2020
Revised26 January 2021
Accepted30 March 2021
Journalof Financial Regulation
andCompliance
Vol.29 No. 4, 2021
pp. 409-433
© Emerald Publishing Limited
1358-1988
DOI 10.1108/JFRC-10-2020-0097
The current issue and full text archive of this journal is available on Emerald Insight at:
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financial system by reducing credit risk (Kusi et al.,2017;Kusi et al., 2016a,2016b). With
information asymmetry theory indicating that lack of transparency in the financial market
may increase bank loan prices as a result of increased banking uncertainty, risk premium
and credit risk, these tend to widen bank interest margins (BIM) as these risks and
uncertainties are passed on bank clients through loan pricing. Learning from prior studies
(Gyeke-Dako et al.,2018;Poghosyan, 2013;Naceur and Kandil, 2009) that state that BIM is
cost borne by financial market participants, it is intuitive to argue that improving
transparency in the financial market should reduce social cost of financial intermediation
measured with BIM. Yet, empiricalstudies that examine the nexus between financial sector
transparency and BIM in the finance literature are limited despite theoretical and arguable
relationship betweenfinancial sector transparency and BIM.
From the finance literature, the studies of Ho and Saunders (1981) and Maudos and De
Guevara (2004) state thatthe pricing of loans and deposits are complexand impeded by lack
of complete and reliable information;hence causing lenders to price their loans and deposits
higher and lower, respectively, to cater for uncertainties arising from the financial
intermediation process. More so, with prior studies (Maria and Agoraki, 2010; Martinez
et al., 2004) showing that banks incorporate their inefficiencies including nonperforming
loans and loan provisions (credit risk and losses) into loan pricing which increases BIM,
improving transparency in the financialmarket may reduce the incorporation of credit risks
and losses into the loan prices which may reduce BIM. That is, with Kusi etal. (2017,2016a,
2016b) showing that transparencyin the banking sector reduces bank credit risk and losses,
it will as well reduce the passage of credit risk and losses into loan prices hence reducing
BIM. By these arguments, one can advance that the lack of transparency in the financial
market resulting from the lack, incomplete and inaccurate information in the credit market
may widen the differencebetween lending and deposit prices which is termed as BIM or cost
of financial intermediation. Given that wider and volatile BIM could have serious
unfavorable implications for bank management, financial participants and financial
systems soundness (Islam and Nishiyama, 2016;Hawtrey and Liang, 2008), it is imperative
at this time to investigate how transparency in the financial market serves as a medium
through which wider BIM can be narrowed and tamed understrong and weak institutional
setups. Thus, little to no studies investigate how transparency in the financial market
influence BIM under strong and weakinstitutional frameworks.
One critical factorthat may reinforce the effect of transparency in the financialmarket on
BIM is the establishment of strong political and financialregulatory institutions. While this
study advances the obviousbut less examined effect of financial sector transparencyon cost
of financial intermediation, this study further shows the relevance of both financial
regulatory and political institutions in enforcing transparency in the financial sector. For
instance, Kusi et al. (2019) studied central bank independence and economic welfare in
Africa and confirmed the relevance of institutions in fostering the positive nexus between
central bank independence and economic welfare. Hence, this studydeems it fit to examine
how financial sector transparencyled by private and public sectors affect BIM orsocial cost
of financial intermediation under strong and weak political and financial regulator
institutional quality [1] setups. In the contextof institutional quality, this study contributes
or expands the knowledge on institutions by using both political and financial regulatory
institutions to make a case for the role played by institutional quality between financial
sector transparency and cost of financial intermediation or BIM. Thus, central bank
independence variable created by Garriga (2016) is used to measure financial regulatory
institution quality while political institution quality is measured using Kaufmann et al.
(2006) indicator of political institutions quality. The rest of this study is organized into
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