The Banking Sector in Pakistan. Internal Determinants of Commercial Banks' Profitability

Akademische Arbeit , 2014 , 45 Seiten , Note: 2.92

VWL - Finanzwissenschaft

This study focuses on internal factors and how they are affecting the profitability of banks in Pakistan. The report seeks answer to the following research problems: Which internal determinants are affecting the commercial banks’ profitability in Pakistan? And: How are these internal determinants affecting the commercial banks' profitability in Pakistan?

To analyze the internal determinants affecting the profitability of 14 commercial banks of Pakistan, the study is based on available data over the period of 2007 to 2012 and aims to recognize major determinants of profitability.

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5.1.

: Total Assets (Size) have significant affect on return on equity (ROE): ... 33

5.2.

: Banks are negatively affected by Asset Quality (loans) on their return on equity (ROE):

33

5.3.

: Banks are negatively affected by Liquidity (deposits) on their return on equity (ROE):

34

5.4.

: Banks are negatively affected by Capital Adequacy (equity) on their return on equity

(ROE): 34

5.5.

: Banks are positively affected by Earning Ability (net interest income) on their return

on equity (ROE): ... 34

5.6.

Conclusion: ... 34

5.7.

Recommendations: ... 36

5.8.

Future Implications: ... 36

References ... 37

Annexure: ... 43

List of Tables:- ... 44

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1. Chapter: Introduction

1.1.

Background:

The banking sector and its part in the financial and economic progress have captivated

noteworthy consideration since the early 1990s. As banking area is an element of economic

and financial sector so banking area of any state should be effective and well performing for

financial and economic enhancement. Banking institutions support other sectors of the overall

economy in numerous traditions which include offering payment settlement facility, turning

out to be source of finance and assisting to different sectors of overall economy to trade in

and out the product or services and so on. A financial institution is in use as a model of

financial and economical institution (Nachane, 1999) consequently banking sector is

probably the major component of any financial and economic system. The shifting in

movement of globalization has introduced different variations in the business setting and

environment. During the last decade in all over the world, banking sector has confronted a

terrific economic downturn because of fall down in the financial investment. Banking

institutions are rated on the basis of their profitability, organization advancement & gross

margin (Singh, 1974). To build up surplus, resources and make them readily accessible for

financial investment is their most important purpose (Oldfield, 1976). By means of lending

and acquire cost in relative to their size they make revenues (Acharya, 2003) which means

superior the banks, superior would be the profitability and their expenses. The competition

surrounded by domestic and worldwide financial institutions and variations in technology

leads to the major adjustments in banks' financial and monetary surroundings (Spathis,

Kosmidoua and Doumposa 2002). Therefore in business world, make out their effect on

profitability of banks is the foremost study purpose (Baggs & Brandor, 2006).

Overall efficiency and effectiveness of financial institutions gets a substantial volume of

consideration from the finance journalism. The overall efficiency and performance of bank is

expressed in numerous conditions which include level of competition, focus, performance,

efficiency and profitability. Companies with improved efficiency are superior capable to

resist unfavorable settlement that lead to the soundness of economic and financial structure

(Athanasoglou et al, 2008). The banking profitability sector has long been in the list of

scorching challenges of financial surroundings. Since the banking sector perform a significant

function in the financial structure of the state and that supports the competitiveness of the

economic and financial establishments. Provided the connection among the benefit of the

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financial system and the expansion of overall financial system (Levine, 1998). Understanding

of aspects that affect the profitability of financial system is important not just to the

professionals of the banking institutions, but also for various stakeholders including the

financial institutions, governments, bankers associations and various economic authorities.

Expertise in these aspects might be beneficial in supporting the regulatory authorities and

financial institution professionals formulate long run procedures aimed toward strengthening

the profitability of the banking system.

Several analysts in various nations have built exploration in this zone by taking into

consideration the significance as well as the challenge of profitability in banking sector. By

way of example, analysis carried out by Goddered, (2004) by utilizing panel data and

effective panel evaluation to analyze factors affecting profitability in European countries

banking sector; Denmark, France, Germany, Italy, Spain and the UK, the period of 1992-

1998. Ending outcome recommended that affecting determinants on profitability integrate;

size, capital asset ratio, credit risk and ownership, by assessing profitability in tenure of

return on equity (ROE), analyzed that profitability and bank particular determinant

relationship is extremely solid. Eventually they verified that there is minor indication of an

organized relationship among business particular factors (i.e ownership) form and

profitability.

In Sub-Sahara Africans (SSA) nation's financial sector context, the commercial banks

profitability is affected by various interior and exterior components. For example, study

carried out by Flamini (2009) applied a model of 389 financial institutions in 41 SSA nations

to check the factors affecting bank profitability measured through after tax profits to total

assets (ROA) ratio. Results revealed that the financial institutions particular, sector specific

and micro economic determinants influenced the bank return of profitability in solid way.

Eventually they sum up that banks' profitability is considerable and significant in Sub-

Saharan Africa in comparison with other areas.

In Ethiopia, commercial banks perform significant key function as economic and financial

intermediaries in the financial progress approach, using resources from accumulator to rustler

for investment. As economic and financial intermediaries, financial institution performs a

vital function in the overall economy procedure. In this way, industrial banks are important

suppliers of resources as well as their steadiness are of paramount significance towards the

financial structure. Therefore, knowledge of profitability determinants as well as drivers of

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bank profitability for that case is important towards the steadiness of your financial state. On

the other hand, considerable volume of research have not carried out to analyze the position

of bank profitability and also the determinants of profitability in the Ethiopian banking

structures (Brihanu. T, 2012).

1.1.1.

Pakistan Banking Structure:

Commercial banks are dominating the financial structure of Pakistan. The banking system

framework of Pakistan underwent substantial adjustments right later 1997 when the

supervision of banks approach was associated with the global most effective techniques.

Noticeable adjustments in the possession, framework and focus within the banking sector

introduced by the public sector banks privatization. Structural and macro economic factors of

trade and industry process stability are receiving rising attention both equally domestically

and globally. The magnitude and mobility of global capital flows have built it progressively

essential to reinforce the foundations of domestic financial system as a way to build up the

flexibility to capital flow volatility. Therefore the soundness of financial system specially the

banking structure is an essential aspect of the infrastructure of the powerful macroeconomic

financial policy effectiveness in the nationwide amount.

The Banking area functions as the core feature and aspect of recent financial business

economic growth to offer serious finance supply. The profitability theory is a lot more

significant equally for the non economical and economical establishments, therefore financial

institutions tend to be the component of them. Banks mostly rely on competitive promoting

approach that establishes their achievement and development. Bank efficiency has become

one of the major considerations of management professionals. This issue intently pertains to

the numerous affect on the business profitability of organizations generally, and particularly

commercial banks on the prospective progress of the overall economy. Because of this, the

protocols have progressed an entire lot in comparison to the way in which they were within

the many years long gone in the banking enterprise (Hussain and Bhatti, 2010).

Banks soundness and effectiveness is expressed by numerous phrases, which include

competiveness, effectiveness, efficiency and profitability. Companies with improved

effectiveness are much better capable to resist unfavorable shocks and lead to steadiness in

the financial system. The profitability in the financial structure became one of several

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scorching concerns within financial atmosphere. Because in the financial system, banking

sector perform a significant job within the nation financial system and it supports the

competitiveness of the financial establishment.

In banking conditions, the profitability determinants are effectively noticed and explored

where as the profitability classification fluctuates in several scientific studies. Earlier

scientists have attempted to locate out the profitability determinants in favor of banking

sector where as some scientists regarded only the banking attributes. While other individuals

provided the fiscal framework and macroeconomic aspects at the same time. In all these

scientific studies the contribution experienced being designed in analyzing the aspects that

consider the design for bank's profitability.

The banking system in Pakistan viewed as totally diversified banking framework that

provides a fascinating situation. A fast look at before tax profit over banks total assets

running through the entire time underneath research produce extremely minimal levels of

profitability (Ramlall, 2009). In chapter 3, Figure-1 demonstrates factors affecting the

profitability of commercial banks that explained the internal factors affecting profitability of

banks. These determinants will focus on banks specific features includes Size, Equity, Loan,

Deposits, and Interest income.

1.2.

Problem Statement:

The current financial situation in Pakistan is well known and the banking sector of Pakistan

has undergone different financial challenges. One of the major challenge is to generate

revenues. The current study focuses on that what are the internal factors & how they are

affecting the profitability of banks in Pakistan. Therefore in this research it can be checked

that which is the main profitability determinant that affects the banking sector in Pakistan.

1.3.

Research Question:

To provide a basis to conclude the problem statement stated above the report seeks answer to

the following research problem:

Which of internal determinants are affecting the commercial banks' profitability in Pakistan?

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How the internal determinants are affecting the commercial banks Profitability of in

Pakistan?

1.4.

Study Objective:

To analyze the internal determinants affecting profitability of 14 commercial banks of

Pakistan based on availability of data over the period of 2007 to 2012 and to recognize major

determinants of profitability is the major objective of the study. Whereas the other specific

objectives of our research are as follow:

On the way to evaluate and examine the internal determinants (size, loans, deposits, equity

and net interest income) affecting the commercial banks' profitability in Pakistan

To verify the consequences of internal determinants (size, loans, deposits, equity and net

interest income) on profitability of commercial banks

To find out the significant determinants of profitability throughout commercial banking

sector.

1.5.

Significance of Study:

The main study purpose is to observe data empirically, by means of pooled data analysis,

whether profitability of commercial banks is interrelated to selected internal determinants in

compliance with the commonly accepted finance theory. This paper aims at focusing this

knowledge gap by examining how internal determinants in turns impacts on profitability.

Specifically, this research has significance to the following areas:

It allows strategy makers and administration system of your banking institutions to regulate

the system of bank administration.

For administration it might help in the direction of hedge towards adverse aspects include

unpredictability and also complementarities that strengthen overall efficiency and

performance.

Furthermore, help the traders in evaluation of overall efficiencies.

Also help the newcomers whose have an interest to perform their study in

this region.

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It will eventually give a ground plan for professionals to evaluate the financial effectiveness

with regards to profitability and internal determinants.

Also provide guidance in favor of financial strategy makers to evaluate the banking sector

effects on overall performance in the economic system and its implications on the problems

of strategy.

1.6.

Limitations of the Study:

This study add some of the factors in the field of commercial to improve the profitability of

banks but yet there is much to be done as the data available is not 100% reliable as ever so

the results are usually doubtful in such scenarios. Following are some limitations of this

study:

This study is based on the financial statements of the banks available on their official

websites, so it is possible that the available data really don't explain all the truth of the

organization and so the research is limited to that available statement and data in it.

Some of the factors have been studied related to profitability of banks and not all of them so

that is also a limitation of the study as it does not define all the factor's effect on the banks'

profitability. But the banks' profitability is not limited to only these factors which have been

studied.

Another limitation is that very less amount of work has been done on the impact

of profitability with reference to its internal determinants of commercial banks in Pakistan.

Therefore, it was not possible to obtain a large amount of theories on a country to make

comparative analysis on the results.

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2.

Chapter: Literature Review

A variety of determinants control banks' profitability. Acknowledging the basic concept of

the banking sector's profitability and its determinants is a main give verification to maintain

the realistic results of the hypothetical and observed views. Therefore, this part serves as a

support for this study by telling the factors that might manipulate bank's profitability

.

Literature review explains many evidences which recognize the major determinants of bank's

profitability. In this section we would be discussing about the studies which have been done

previously on the determinants of bank's profitability and would be discussing our point of

view in accordance with the old theories.

DETERMINANTS OF COMMERCIAL BANKS PROFITABILITY:

With regards to the primary target of the research, the elaboration of the different financial

gain actions and determinants theories that has been thought of in other connected research is

extremely important towards realization from the aspects to get investigated during this

research. There are actually several research papers on determinants of profitability of

economic financial institutions. Several of the investigation papers centered on one nation

and other individuals also concentrated on panel of nations. Although the underlining simple

facts of such papers would be that the financial gain measurements which also function as the

dependent variable while in the profitability designs are in the shape of ratios. Devinaga

Rasiah (2010) documented that many researchers who concentrated their research on this

location are by way of example, Demirguc-Kunt and Huizinga (1999), Bikker and

Metzemakers (2004), Davis and Zhu (2005) divide the determinants of business financial

institutions efficiency and profitability into two groups hence, the interior as well as exterior

aspects.

2.1.

Profitability Measure (ROE):

In the majority of study papers associated with this research, the profitability is calculated in

the shape of ratios which can be generally described by business financial institutions of their

yearly studies. Devinaga Rasiah (2010) statements which the use profitability ratios are

usually not affect by adjustments in value amounts. And it is claimed to be one of the most

acceptable technique for measuring profitability as just one utilize time sequence evaluation.

This is due to the actual worth of gains can't be influenced with the various inflation prices.

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In accordance with Devinaga Rasiah (2010) for one particular to realize how effectively a

financial institution is accomplishing it is actually considerably more beneficial to think about

(ROA) and (ROE) and Molyneux and Thornton (1992).

ROE is claimed to evaluate the speed of return over the financial institution's shareholders

equity and it is actually calculated by dividing financial institutions net profits just after taxes

by whole equity cash which incorporates frequent and desired inventory, surplus, undivided

income, and cash reserves; Bourke (1989), and Molyneux and Thornton (1992).

This evaluate of profitability provides a sign of just what the financial institutions earns about

the shareholders' investment decision; Devinaga Rasiah (2010). In accordance with Anthony

Karkrah and Ameyaw (2010) several researchers have introduced ROA being an acceptable

evaluate of financial institutions profitability. Amongst them are Rivard and Thomas (1997)

who argued that financial institution profitability is most effective calculated by ROA inside

the perception that, ROA can't be distorted by significant equity multiplier? On the other

hand, Hassan and Bashir (2003) also statements that ROA are generally reduced for

economic intermediaries, most financial institutions greatly used money leverage to improve

their ROE to aggressive concentrations. (ROA) would be the ratio of net cash flow just after

taxes divided by overall assets. The ROA signifies managerial performance to put it

differently it depicts how powerful and successful the administration of financial institutions

has become since they search for to rework property into earnings. As well as the greater

ratio suggests the upper efficiency from the financial institutions. It is actually a great tool for

evaluating profitability of one financial institution with other or the entire industrial banking

technique.

2.2.

Size:

Ayanda, Cgristopher & Mudashiru (2013) conducted their research on determinants of bank's

profitability in a developing economy of Nigeria and the results revealed that bank size and

cost efficiency are not significantly determine the profitability of banks in Nigeria. On the

other hand, credit risk and capital adequacy showed the important affect on profitability of

banks both in the long go and short goes respectively. At the same time as deposits affects the

bank's profitability in short run. Ameur & Mhiri (2013) recognized the factors explaining

Tunisian bank performance by keeping the main 10 commercial Tunisian banks during the

period of 1998 to 2011. The experimental results revealed a heavy quantity of perseverance

• Note: 2.92
• Autor: Saira Anis (Autor:in)
• Erscheinungsjahr: 2014
• Seiten: 45
• Katalognummer: V375955
• ISBN (eBook): 9783668535909
• ISBN (Buch): 9783668535916
• Sprache: Englisch
• Schlagworte: banking, sector, pakistan, internal, determinants, commercial, banks, profitability