Non‐bank financial institutions regulation and risk‐taking
| DOI | https://doi.org/10.1108/13581981211279372 |
| Published date | 09 November 2012 |
| Date | 09 November 2012 |
| Pages | 433-450 |
| Author | Isaac Ofoeda,Joshua Abor,Charles K.D. Adjasi |
| Subject Matter | Accounting & finance |
Non-bank financial institutions
regulation and risk-taking
Isaac Ofoeda and Joshua Abor
Department of Finance, University of Ghana Business School,
Legon, Ghana, and
Charles K.D. Adjasi
Development Finance, University of Stellenbosch Business School,
Cape Town, South Africa
Abstract
Purpose – The purpose of this study is to examine the relationship between regulation of non-bank
financial institutions and their risk-taking behaviours in Ghana.
Design/methodology/approach – The analysis is performed using data derived from the
Bank of Ghana Database during a five-year period, 2006-2010. Correlated Panels Corrected
Standard Errors model is used to estimate the regression equation. Capital adequacy requirements
and the restrictions on non-bank financial institutions’ (NBFIs’) ability to take deposits are used
as proxies for regulatory pressure. The study also used the ratio of risks weighted assets-to-total
assets, the ratio of non-performing loans-to-net loans and the Z-scores of NBFIs as measures of
risk.
Findings – The results of the study show a negative relationship between minimum capital
adequacy requirement and the risks weighted assets of NBFIs. This indicates that, asking NBFIs to
keep higher minimum capital adequacy ratio results in reducing their risk-taking. The results also
indicate a positive relationship between regulatory pressure and risk weighted assets of NBFIs. The
paper however found a negative relationship between restrictions on deposits and the risk of
insolvency. The findings suggest that, non-deposit-taking NBFIs have higher risk weighted assets and
are more prone to the risk of insolvency than deposit-taking NBFIs.
Originality/value – The value of this study is in respect of its contribution to the extant literature on
financial regulation and risk-taking of NBFIs.
Keywords Non-bank financialinstitutions, Regulation,Risk-taking, Risk management, Ghana
Paper type Research paper
1. Introduction
Banking institutions occupy a central position in the financial system of any nation
and are essential agents in the development process of the market economies.
Non-bank financial institutions (NBFIs) are however in recent times becoming
important components of the financial services sector. NBFIs form an integral part of
any financial services system especially in the developing world. They are formed for
various reasons such as the offering of financial services that are not appropriate for
banks because of the nature of their risks, operating as niche providers, capitalizing on
the benefits of specialization, etc. The activities of NBFIs serve to enhance competition
and increase the depth of the financial market. By reducing concentration and
providing alternative sources of finance, NBFIs, as Federal Reserve Chairman
Alan Greenspan said, “enhance the resilience of the financial system to economic
shocks by providing it with an effective ‘spare tyre’ in times of need”.
The current issue and full text archive of this journal is available at
www.emeraldinsight.com/1358-1988.htm
Regulation and
risk-taking
433
Journal of Financial Regulation and
Compliance
Vol. 20 No. 4, 2012
pp. 433-450
qEmerald Group Publishing Limited
1358-1988
DOI 10.1108/13581981211279372
Given the overall importance of financial institutions to the economy and the level of
trust customers place in these institutions, a slip in confidence could generate huge
contagion effect and trigger runs and failures with disruptive consequences for the
economy and thus government regulation and oversight is necessary. The most
prominent justification for financial institutions regulation is that it is geared towards
the prevention of the risk of failure and its effects on the general economic well-being of
a country. However, after several years of theoretical exploration and empirical
research into the impact of regulation on risk-taking behaviour of financial institutions,
the controversy proved to be unresolved.
Empirical studies done in the area of regulation and risk-taking provides the
following results. Laeven and Levine (2009) find that the relation between bank risk
and capital regulations, deposit insurance policies, and restrictions on bank activities
depends critically on each bank’s ownership structure, such that the actual sign of the
marginal effect of regulation on risk varies with ownership concentration. These
findings show that the same regulation has different effects on bank risk-taking
depending on the bank’s corporate governance structure. Barth et al. (2001a, b, c) also
find that greater regulatory restrictions are associated with:
.a higher probability of a country suffering a major banking crisis; and
.lower banking-sector efficiency.
They found no countervailing positive effects from restricting banking-sector
activities. Gonza
´lez (2005) also finds that regulatory restrictions increase bank
risk-taking incentives by reducing their charter value. Banks in countries with stricter
regulation have a lower charter value, which increases their incentives to follow risky
policies. However, Agoraki et al. (2008) finds capital requirements and supervisory
power to be effective devices in monitoring risk-taking as they increase equity to
capital ratios and decrease credit risk.
Research however is inconclusive on the relationship between financial institutions
regulation and their risk-taking behaviours. Amidst the rising controversy surrounding
the importanceof bank regulation in dictating risk-takingbehaviours of banks, assessing
the effectof the regulatory and legalframework of NBFIs in determiningtheir risk profiles
makes a study as this a necessity. There has been significant research on the impact of
regulation on risk-taking behaviours of banks. However, research appears not to show
how the regulatory framework of NBFIs affects their risk-ta king behaviours.
Furthermore, research has not specifically established the relationship between NBFIs
regulationand the incentive for risk-takingespecially inthe Ghanaian context considering
their importance in the economic development of the country. Studies done in Ghana by
Abdulai (2008) rather lookedat how ownership structure affects risk-taking of banks.
Given the inconclusive nature of empirical studies done in establishing the
relationship between regulation of financial institutions and their risk-taking incentives,
there is the need for further studies to establish the relationship between regulation of
NBFIs and their risk-taking incentives especially in the developing world since most of
the empirical studies were done using banks in the advanced countries. Hence, this study
is a necessity. The rest of the article is organized as follows. The Section 2 provides an
overview of financial services sector in Ghana. Section 3 provides a review of the extant
literature on the subject. Section 4 discusses the methodology. Section 5 presents and
discusses the results of the study. Finally, Section 6 concludes the study.
JFRC
20,4
434
To continue reading
Request your trial