The analysis reveals significant differences in the competition effect for CBs and IBs and their capitalization levels. Finally, we split the sample into two sub-periods, before the global financial crisis of 20082009 and after the crisis. In opposite, the negative coefficient of H-Statistic speaks for an inverse association between market competition and bank risk, which contradicts the findings of previous research on the MENA region that reports a positive link [1]. First, while most of the previous studies investigate the trade-off between banking competition, capital and risk-taking mostly in global or Europe-specific aspect, we focus on emerging markets in the MENA region. The study concludes that banks use most probably the relationship lending to overcome information asymmetries and the opaqueness of SMEs in the MENA region. First, in addition to the fixed and random effect models reported in previous tables, the analysis employs identical specifications (see Eq (1) and (2)) using the Generalized Method of Moments (GMM) estimator, developed by [100]. We estimate the following empirical model: Finally, we use the GDP growth rate, GDP per capital (as alternative measure), and inflation to control for macroeconomic differences across the countries in our sample [2, 13]. Following the approach of [92], we create a composite index, institution, which is the mean of six variables for each country in the sample; a higher value of the index indicates better institutions. For robustness purposes, we also apply Non-performing loans to gross loans (NPL/GL) ratio [1]. A growing body of empirical evidence [7, 13] suggests that increased competition, increased concentration and sectors with greater contestability and less activity restrictions, are all associated with banking stability. First, the issue of increased role of banking competition and risk-taking for the level of bank capital is not well addressed in previous studies. Gerold Grasshoff, a BCG managing director and senior partner and a coauthor of the report, said: Banks have learned from the global financial crisis of 20082009 regarding capitalization, liquidity management, and crisis response. The theoretical justification for using concentration as a measure of competition comes from the so called Structure-Conduct-Performance (SCP) paradigm, which postulates that fewer and larger firms (higher concentration) are more likely to engage in anticompetitive behavior [70]. Section 3 describes the data set and the research methodology. The key assumption in this notion is that bank managers have an incentive to take excessive risk so as to benefit shareholders at the expense of depositors. Muhammad Usman Tariq, For example, earlier work implies an inverse relationship between competition and banking stability [9]. Our evidence confirms that banks do increase their capitalization levels in response to a higher risk. Muhammad Usman Tariq, No significant correlation between capitalization variable and market competition measures, and between capital ratio/competition indicators and other important variables is observed. Next, we compare the individual bank-level characteristics between the two samples, and find that the bank-specific variables are significantly different between CBs and IBs (except net loans to total assets). However, banking concentration (measured by the HH-index) does impact on IBs risk behavior. Digitalization. In contrast to the structural approach, the non-structural approach is based on the so-called New Empirical Industrial Organization literature, and measures competition without using explicit information about the structure of the market [13]. We observe a statistically significant difference between CBs and IBs in all measures of bank risk (the mean difference is significant at the usual levels of significance) except for non-performing loans to gross loans ratio. However, a growing body of empirical research suggests that increased competition, increased concentration, and sectors with greater contestability and less activity restrictions, are all associated with banking stability [7, 8, 1013]. Moreover, market competition seems to play an important role in explaining the capitalization level and risk-taking behavior of banks in the MENA region. (2). Institutions that take advantage of this opportunity will not only satisfy regulatory requirements but will set themselves up for success after the crisis.. The choice between random and fixed effects specification depend on the Prob>chi^2 being more or less than 5%, respectively. In this study, we use an unbalanced dynamic panel model and employ the bank-level and country-based characteristics listed in S1 Appendix as control variables. The impact of COVID-19 will likely be felt for years. Panel regressions of competition and capital ratio (IBs, 20062018). Our results reported in Table 2 support the findings of previous research on banks in the MENA region [9395]. However, their study does not differentiate between Islamic and Conventional banking systems. The HH-index and the H-Statistic. However, the effect of banking competition on IBs behavior remains unexplored. This is also 5.2 percent lower than the third-quarter 2019 peak, just before the global outbreak commenced. The reason is that stricter regulation decreases the competition for loans, implying higher interest rates, and hence greater risk-taking incentives to borrowers. Previous research has reached the conclusion that banks raise their capitalization levels in response to a higher risk rather than the other way round [30]. Panel regressions of competition and capital ratio (all banks, 20052018). Primary data sources used in the regression analysis run in STATA 11 package (Islamic sample). According to [96], Islamic profit-loss sharing products present greater insolvency risk than products offered by CBs, and this type of risk has a more detrimental impact on bank performance during a prolonged crisis. [51] study the Asia Pacific region and find that more concentration enhances bank fragility and risk measured by distance-to-default (or Z-score) of banks. The existing evidences from the emerging markets in the MENA region are scarce. In this context, the importance of market competition as an explanatory factor for banking soundness, and, more specifically, bank capital ratios, has significantly increased. Their analysis suggests that banking sector competition in the MENA region is lower relative to other regions and has not improved in recent years. The findings demonstrate that the COVID-19 outbreak has significantly decreased bank performance. Our results are in line with [93] who find that during and after the global financial crisis in 20072008, the IBs performance has significantly deteriorated. Primary data sources used to compute the variables and the sample statistics (Tables 1 and 2). Second, in line with [1], the H-Statistic is positively and significantly associated with capital ratios, indicating that banks increase their capital levels when competition increases. Further, market competition and concentration also play an important role in risk-taking behavior of banks. Panel regressions of competition and credit risk (all banks, 20062018). If the global economic outlook worsens, the impact is likely to be felt differently from country to country. The estimation results are not quite different from our previous findings reported in the same tables. Our results have strong implications for regulators, policy makers and bank managers in the context of the current pandemic situation. Our diverse, global teams bring deep industry and functional expertise and a range of perspectives that question the status quo and spark change. The second theory postulates that a restricted competition should encourage banks to protect their high franchise value by pursuing safety strategies that contribute to the stability of the whole banking system [2]. The two alternative measures of the capitalization ratio (EC/TA and TE/TA) are also statistically different between the two groups of banks at the 1% level of significance. The HHI enters all regressions in Table 3 positively and significantly, indicating that banks hold more capital when concentration increases. This present study primarily emphasizes to seek the COVID-19 adverse impacts posing health challenges and global economic crisis. This finding does corroborate the evidence of previous research concerning the positive relation of the H-Statistic with capital ratios. Funding: The author(s) received no specific funding for this work. The banks that are ahead of the curve have already integrated ESG risk management into their strategy and are now working on integrating ESG into their core banking processes and methods, said BCGs Gerold Grasshoff. BOSTONBanks must reinforce their risk management capabilities now and brace for the impact of substantial loan losses in coming months as the ending of government relief programs reveals the full financial impact of the pandemic, according to a new report by Boston Consulting Group (BCG). [2] find that competitive conditions have no significant effect on the relationship between capital adequacy ratio and IBs risk behavior, which means that this type of banks are still applying theoretical models based on the prohibition of interest. Worldwide Google searches on the topic of AI remained largely unchanged in 2020 and spiked in the first months of 2021. In accordance with previous research [86, 87] we expect ownership concentration to have a negative effect on bank behavior, whereas government ownership should exert a positive effect. Thus, our findings inform regulatory authorities concerned with improving the financial stability of banking sector in the MENA region to strengthen their policies (in this case capital requirements) in order to force banks to better align with the strengthen capital requirements during the COVID-19 pandemic. The results in Table 5 indicates a differential effect of competition on capital ratios of IBs. A Period of Uncertainty Lies Ahead, but Banks That Take the Opportunity to Address Risks Can Emerge from the Pandemic Stronger and More Resilient, Says a New Report by Boston Consulting Group. As IB dummy variable is strongly significant in all the regressions, we hypothesize that the effect of market competition and risk-taking on banks capital ratios can be different between the two banking systems. While higher GDP growth warrants better banks financial stability higher inflation would discount the financial soundness of MENA banks. The greater the value of H-statistic, the greater the competition is; a value of +1indicated perfect competition [79, 80], in which a banks total revenue must change by the same percentage as its costs, and so, by the same percentage as its input prices. Finally, the analysis shows that CBs have higher percentage of ownership concentration than IBs (49.62% vs. 44.65%). Coronavirus is a major health emergency worldwide. The coefficient of H-Statistic is however, statistically insignificant and negative, which contradicts the findings of previous research that shows a positive association (see [1] for the MENA region banks and [13] for European banks). We investigate this issue in-death in the next section. For example, a study by [42] reports that banks in the MENA region still seem to rely on relationship lending, possibly to compensate for the weak financial infrastructure and information asymmetries. We follow [91] and employ cost-to-income ratio (CIR) as independent variable in our analysis of bank capital and risk. Types of banks and H-Statistic per country. We treat the lagged dependent variables as endogenous, so that GMM-style instruments of deeper lags are created. In line with our first hypothesis (H1b) according to which capital and competition have a significant impact on bank risk, we find that capital ratio exerts a strong positive influence on risk behavior of CBs (see Model 1). The estimated coefficient of the interaction term between HHI and H-Statistic introduced in Model 4 is negative yet insignificant; therefore, we cannot confirm the notion that increased concentration does have to be associated with uncompetitive markets. There were concerns that there would be adverse impacts on the provision of finance to . Islamic banks can also adjust their loan pricing to reflect the new lending risks (e.g., credit and market risk) and pass some of their costs to borrowers. The COVID-19 pandemic is a health and humanitarian crisis, as well as an economic shock. However, due to the high cost of capital, domestic banks become less competitive. We use the Herfindahl-Hirschman index (HHI) as another traditional measure of competition and concentration of the market conceived by [81, 82]. For example [33], analyze bank stock prices around the world (including the MENA region) to assess the impact of the COVID-19 pandemic on the banking sector. The model determines the competitiveness behavior of banks as per the comparative static features based on a reduced form of revenue equations using cross-section data [71, 72, 78]. The Sri Lanka Development Update (SLDU) notes that the country, hit with an . The first theory argues for a positive relation, that is, a competitive market may increase banks risk-taking behavior in order to maintain their previous level of profit [3]. Thus, our finding disagrees with [2, 74] who obtained a positive relationship between competition and concentration. BCG delivers solutions through leading-edge management consulting, technology and design, and corporate and digital ventures. The regression outputs show positive and significant impact of market power on risk behavior of banks in the MENA region. Credit losses will come disproportionately from commercial and industrial (C&I) loans to the industries most heavily affected by lockdowns. Various studies have used the H-Statistic to examine bank competition in different economic settings (see e.g., [13, 7276] among others). Our study takes a different approach. The AR(2) test detects the second-order autocorrelation in first differences. For example, in both samples we observe a positive association between market concentration and capital; however, this effect is much more pronounced in the sample of IBs, which provides support to our second hypothesis (H2a). The positive association between the two variables suggests prudent behavior on the part of the banks when competition strengthens. Section 4 contains the results of the empirical analysis and the interpretations. [30] explores the relationship between capital and risk in 57 CBs and 46 IBs in the MENA region. On the other side, the positive association of concentration with the risk-taking behavior of IBs and CBs provides further support to our second hypothesis (H2b), which postulates that the impact of competition on bank risk is expected to be similar between Islamic and conventional banking. Again, our findings are important for regulators and policy makers in the MENA countries as they inform regulatory authorities for the need to set the level of regulations (capital requirements and activity restrictions) in such a way that prevents concentrated banks from engaging in risky activities in the face of increased competition. Thus, our results empirically substantiate that competition is positively linked with bank soundness. To shed more light on this issue, we develop and test the following hypotheses: While the majority of previous studies explain the difference in Islamic and conventional bank behaviors with the fact that IBs operate in accordance with the principles of Sharia, others confirmed that IBs diverge from their theoretical models by adopting CBs strategies. We use data for more than 225 banks in 18 countries in the MENA region to test whether increased competition causes banks to hold . The H-Statistics indicate that the banking systems in the sample are characterized by monopolistic competition. On the other hand, supporters of competition-stability hypothesis [68], think that banks with more market power tend to increase their interest rates; in turn, high rates of interest can lead to moral hazard problem by increasing non-performing loan ratio of banks. Our analysis does not support this notion as the estimated coefficient of the interactive term in Model 4 is insignificant. The reason is that [14], among others, find that MENA banking sectors operate under monopolistic competition and Gulf Cooperation Councils (GCC) countries tend to be less competitive than non-oil producing countries. More specifically, we formulate and test the following two hypotheses: We use a data set that covers 2,489 observations from 225 banks in 18 MENA countries, including the six GCC countries (Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and United Arab Emirates), over a period of 14 years (20052018). Panel regressions of competition and credit risk (IBs, 20062018). For example [99], finds an inverse association between ownership concentration and bank risk-taking in the MENA countries. We also provide evidence that banks in the MENA region increase their capitalization levels in response to a higher risk and vice versa. It covers policy measures in low, middle, and high-income countries. For example [62], examine a sample of banks operating in 17 countries in the MENA region where IBs and CBs coexist. The validity of the instruments is tested using a Sargan test of over-identifying restrictions and a test of the absence of serial correlation of the residuals. Taking into account that the majority of Islamic banks are small, it is likely that their information advantage is mainly with SMEs. Second, previous research (see e.g., [30] that explores the relationship between capital and risk reached to the conclusion that banks raise their capitalization levels in response to a higher risk rather than the other way round. Previous empirical research does not provide explicit answer to the question of whether there is a differential impact of market competition on IBs behavior. We also estimate the level of correlation amongst capital ratio, market competition indicator and other important variables to identify if there is any multicollinearity problem. We follow [2] in using changes in deposits and loans to proxy for deposit and credit risk. The selection of the sample period to cover the years from 2005 to 2018 is dictated by the data availability for banks in the sample for each year of the observation period. Abu Dhabi School of Management, Abu Dhabi, UAE, Affiliation: We measure credit risk using the ratio of Loan loss reserves to gross loans (LLR/GL). The report, titled Global Risk 2021: Building a Stronger, Healthier Bank, cautions that the year ahead for banks is likely to be marred by company defaults and business insolvencies as the toll of the pandemic is fully reflected in corporate financial statements. The measures of concentration are usually computed using country-level concentration ratios [11, 12]. More specifically, we analyze the relation between market competition (using two competition measures, the H-Statistic and the HH-Index) and capital ratios for more than 225 banks in 18 MENA counties, over the period of 20062018. Regarding capital ratios, we follow [32] and use the ratio of total eligible capital to total assets (EC/TA) as a proxy for a banks capitalization level; total equity to total assets (TE/TA) ratio is used as an alternative measure of capital [13]. The recent studies on COVID-19 pandemic investigate predominantly the government interventions on stock market return [2527]. Our results for ownership variable does not support this finding; the estimated coefficient of ownership concentration is insignificant in all models. For example [29], finds that IBs have lower incentive to undertake higher credit risk than conventional banking institutions, which is also confirmed by previous results of [99], and [32]. We run similar regressions for bank credit risk in Table 10. This study tries to investigate the development in the banking sector by considering the correlation values before and after March 2020 including the COVID-19 pandemic period in the case of Turkey. A positive impact of COVID-19 on third world economies has been the increase in digitalization. We use data on the dates and types of major policy initiatives to support the financial sector and address the impact of the COVID-19 emergency. Therefore, we should expect that IBs will behave differently than CBs under competitive conditions, which contradicts our second hypothesis (H2b). We use fixed effect/random effect specifications and perform a Hausman test where the null hypothesis is that the preferred model is random effects vs. the alternative fixed effects. The empirical literature also investigates the association between market competition, level of capital, and risk. The results reported in Table 3 do not provide clear answer to the question of whether the impact of competition and credit risk on bank capital ratios is significantly different between CBs and IBs. The results indicate that banks raise their capitalization levels in response to a higher risk rather than the other way round. Leaders face an uncertain landscape. Published as part of the ECB Economic Bulletin, Issue 8/2020. The results suggest that the governmental measures are helping ameliorate situations of bad quality loans and will improve future prospects of the banking industry. However, we are the first to analyze the relationship between competition and capital ratios (as measure of financial soundness) of banks in the MENA region using the H-Statistic and the HH-Index. S1 Data. In Italy, Spain, and the US, 15 to 20 percent of customers surveyed expect to increase their use of digital channels once the crisis has passed; in other markets that . This study examines the effects of the coronavirus (COVID-19) epidemic on the performance of the banking sector. Our data analysis does not support this evidence; we observe a statistically significant difference in the capital ratios between CBs and IBs. PLoS ONE 16(6): COLOMBO, SRI LANKA, April 9, 2021 Despite the heavy toll of the COVID-19 pandemic on Sri Lanka's economy and the lives of its people, the economy will recover in 2021, though challenges remain, says the latest World Bank Sri Lanka Development Update: Economic and Poverty Impact of COVID-19 released today.. We use two alternative measures for a bank capitalization level (EC/TA and TE/TL); similarity, we use HH-index and H-Statistic as alternative measures of market competition (see S1 Data). Furthermore, the authors argue that the lower levels of competition in the region are explained by the regions worse credit information environment and lower market contestability. Table 1 provides sample statistics that includes the total number of observations for each country, and the number of observations for the sample of IBs and CBs, respectively (see S1 Data). Small size banks tend to have the benefit of accessing and processing soft information about small and medium enterprises (SMEs), while large banks are more skillful in screening large enterprises because of their economies of scale and scope. There's a lot to look forward to once the COVID-19 pandemic eventually fades into history. Therefore, this variable is included in all regression models. The results show that as the COVID-19 infection rate increases, the number of bank branches decreases significantly, which threatens the . In other words, the reduction of market competition increases the probability of bank default. The choice of variables used in our analysis is primary guided by previous literature and data availability. S2 File. [73] argue that the H-Statistic is a more appropriate measure for the degree of competition than other proxies for competitive conduct, and [77] notes that the H-Statistic is superior to other measures of competition, because it is derived from profit-maximizing equilibrium conditions. If this is the case, regulatory authorities and decision makers in the MENA region may force more concentrated banks to avoid risky strategies through appropriate actions that increase banking competition. In the same context [43], investigate whether borrowers enjoy the bright side or suffer the dark side of their banking relationships during the COVID-19 crisis. In line with the regulatory hypothesis, in which capital and risk are positively associated [69], we find that credit risk exerts a positive influence on banks capitalization level; the positive relationship indicates that if banks raises the credit risk by 1%, then capital level will increase by 0.524%. A substantial body of literature has examined the variables that determine capital ratios and risk level of banks. Competing interests: The authors have declared that no competing interests exist. We provide new evidence for emerging markets in the MENA region. In other words, increased competition will restrict the more concentrated banks from increasing their capitalization level and risk. Similarly, more stringent capital requirements may induce the bank to choose a higher level of credit risk. Our sample contains both Islamic and conventional banking institutions in 18 countries in the MENA region. Another group of studies investigate the impact of market competition on capital ratios of banks in emerging markets. In turn, these gains lead to increased market concentration. Previous research finds a significant impact of ownership structure on the regulatory capital and risk behavior of banks in the MENA region. Moreover, the adverse impact of COVID-19 on the bank's performance depends on the bank's and country . Speaking of deadlines, 2020 ECA Academy submissions are also due by August 31st. These restrictions will have more significant effect on Islamic banking market which is characterized with higher level of banking concentration (see Table 2). Earlier research [15] claims that regulatory capital requirements act as a safeguard of risk and improve the performance and efficiency of banks. Our analysis finds that banking concentration (measured by the HH-index) has a significant positive impact on capital ratios of either bank, whereas increased competition does play a restrictive role for IBs on increasing the level of capital. Using a sample of 52 IBs and 186 CBs in 14 Organization of Islamic Conference (OIC) countries from 1999 to 2009 [55], find that there is a significant and positive relationship between capital adequacy ratio and banking activity. The results reported in Model 5 to 8 using an alternative measure of bank capitalization level (TE/TL) provide further support to our findings. 2. S1 Appendix. If the global economic outlook worsens, the impact is likely to be . The H-Statistic ranges from negative infinity (-) to +1. In regards to CBs, their risk-taking decisions are dictated by the level of banking concentration whereas increased competition has a negative effect on their risk behavior. More recently [1], argue that in markets with a high degree of competition, increasing this level further may have an effect on the margin of interest that does not offset the risk-sifting effect, and suggest a U-shaped relationship between competition and risk of failure for MENA banks. The decrease of the HHI indicates the opposite [63]. Panel regressions of competition and credit risk (CBs, 20062018). Further, we do not observe a significant difference in the level of banking competition (measured by the H-Statistic) between the two samples. Thus, the regulatory pressure of implementing Basel III capital regulations and the existing literature both support the notion that capital regulation tends to improve bank efficiency and enhances bank protection against risk. For example [31], find that competition decreases the probability of default of a single loan, while capital regulation increases it. On the other side, this necessitates a more responsible behavior on behalf of the bank managers when develop their risky strategies. There are two main approaches to measuring bank competition: structural approach and non-structural approach [14]. However, the impact of market competition on bank capital and the risk behavior of IBs and CBs in the MENA region remains unclear. They need to remain cautious, however, as the measures supporting the economy wind down, revealing underlying issues involving nonperforming loans. Therefore, taking into account the portfolio of Islamic banks and in order to minimize losses caused by the asymmetric information, Islamic banks need to use more secure financing, particularly with SMEs, which tend to be more financially vulnerable when the economy is in decline. In fact, banks operating in the MENA countries have a moderate level of competition, so we may expect that the relationship between competition and risk-taking behavior can be explained by the competition-fragility hypothesis. In Islamic financial contracts the level of asymmetric information tends to vary from one contract to another. This analysis of emerging economies in the MENA region also finds conflicting evidence. Therefore, in the next two models, we introduce the H-Statistic and the HH-index as measures of market competition and concentration, respectively. However, the full influence of the pandemic will take place in the long term. This means that regulatory authorities concerned with improving financial stability in the MENA region should proceed differently, depending on the level of concentration and ownership in the banking market. Pakistan is the 5th-most-populous nation, and recorded positive cases with the third-highest positivity ratio in South Asia, and 26th-highest deaths toll of 21,450 and 29th number of most COVID . [61] states that one of the main reasons partnership (musharaka)-based contracts are less attractive is the high asymmetric information attached to these contracts compared to other financial agreements. The non-structural measures focus on obtaining estimates of market power from the observed behavior of banks. The results in Table 8 lend some thoughts for future discussions of the competition effect on IBs. The global pandemic has accelerated those trends and has added urgency to the discussion. However, we expect that market competition will have a positive effect on the relationship between banking concentration and capital ratios, that is, more concentrated banks will hold higher capital ratios if they have to deal with increased competition. First, we consider the results without estimating the effect of market competition (see Model 1). The negative association between competition and bank capital indicates that an increase in banking competition in the MENA countries will lead to a reduction in the financial soundness of IBs. Further, banking concentration (measured by the HH-index) and credit risk have a significant and positive impact on capital ratios of IBs, whereas competition does play a restrictive role in determining the level of their capital. We follow the work of [66, 67] consider 20082009 as the crisis period for the MENA region. We test this hypothesis using a larger sample of banks (162 CBs and 63 IBs) in the MENA region, and find a positive association between bank capital and risk, which provides further support to the regulatory hypothesis [69]. The topic is perceived to be of significant importance during the COVID-19 pandemic. Thus, our second hypotheses (H2a) is to be rejected. Our findings inform regulatory authorities concerned with improving the financial stability of banking sector in the MENA region to strengthen their policies in order to force banks to better align with capital requirements and risk during the COVID-19 pandemic. The results of the study using Lerner index based on bank-specific interest rates, indicate a negative relationship between market power and bank risk-taking, which lends further supports in favor of the franchise value theory. A higher value of the index indicates better institutional environment in the sample country. The analysis indicates that higher degree of market power is associated with higher capital ratios, higher risk-taking and increased insolvency risk. For example [53], find no significant relationship between capital stringency and the likelihood of bank distress in the GCC region. Our main results continue to hold after controlling for a number of common bank-level determinants of capital and risk which demonstrate a strong influence on the capitalization level of either bank. This finding suggests that, in general, Islamic banking institutions do not increase their capitalization level in face of increased competition. For the same reason [40], conclude that it is inappropriate to rely on concentration to assess the degree of competition in banking sector and that more research is needed. HH-index enters the regressions in Table 6 positively and significantly (see Model 2), The positive linear relationship between HH-index and credit risk indicates that an increase in banking concentration (in order to lessen the competition) leads to a reduction in the level of financial stability. Boston Consulting Group is an Equal Opportunity Employer. A more recent study of [1] empirically examine the relationship between market competition and risk-taking behavior of banks in the MENA region. This behavior of IBs is even more pronounced during the COVID-19 pandemic and shows their superiority to other types of banks due to their less risk aptitude and financial stability. However, there are important reasons for banks to hold more than the required minimum. The excess risk-taking by banking institutions is considered by many researchers as the key factor contributing to the financial crisis of 20072008, which forced some countries to adopt strategies to increase the level of concentration and reduce the banking sector competition in order to increase financial stability [1]. According to the report, banks must apply six core levers to help them emerge from the crisis in a position of strength: As banks contend with the volatile landscape ahead, strengthening foundational capabilities that will define the next generation of leading institutionsincluding operational resilience as well as environmental, social, and governance (ESG) risk managementwill ensure that they get a jump-start on recovery. Furthermore, we hypothesize that banks raise their capitalization levels in response to a higher risk rather than the other way round. Third, previous research finds that more rigorous capital requirements can lead to a higher probability of default of banks. Primary data sources used in the regression analysis run in STATA 11 package (total sample). The conclusion is that banks do not appear to be friends indeed with their relationship borrowers in need [43]. S2 Appendix. Following previous research on the MENA region [14], we explore the determinants of H-Statistic in the MENA region. Advance compliance and nonfinancial risk management by formalizing and standardizing governance frameworks. Second, previous research does not distinguish this effect between Conventional banks (CBs) and Islamic banks (IBs). Therefore, we run our analysis separately for the samples of CBs and IBs. These findings are important for regulators and policy makers which can set capital requirements at level that would restrain banks from taking excessive risk, depending on the level of ownership and banking sector concentration. A more recent study by [52], using data from 167 banks in 37 African countries, reaches the conclusion that regulatory capital plays no significant role in enhancing financial stability and overall competition of banks. The results are inconclusive due to the limited number of available observations for CDS. The outputs of the regression analysis are reported in Table 3. This hypothesis is based on the premise that firms with low cost structures increase their profits by reducing prices and expanding market shares. Such behavior can lead to an increased level of non-performing loans and subsequently a greater probability of bank default. On the other hand, the positive sign of the HHI variable supports the predictions of the Structure-Conduct-Performance (SCP) hypothesis which postulates that higher concentration would lead to less competition and, consequently, greater financial stability (in our case banks capital ratios are used as a measure of soundness). While precipitating the largest short-term decline in economic activity for centuries, the COVID-19 . We find that more concentrated banks increase their risk level when they have higher marker power in lending but this decision is not dictated by the level of competition in the banking marker. Finally, the negative coefficient of the crisis dummy variable for IBs indicates that credit risk levels are lower in the crisis period than in the non-crisis periods. However, few significant differences are observed. This result is also in line with our first hypothesis (H1a). World Bank calls for greener, resilient growth to reduce economic vulnerabilities and poverty. The outbreak of COVID-19 has severely affected healthcare, economy, transportation, and other sectors in various industries and regions (Padhan and Prabheesh, 2021).This increasing pandemic in emerging and developed countries has led to strict lockdowns and unprecedented economic activity disruptions (Baldwin and di Mauro . broad scope, and wide readership a perfect fit for your research every time. Second, we investigate the robustness of our results using alternative specifications and different control variables. For example [49], use a sample of 636 commercial banks in 11 Asian countries to explore the impact of market power on bank capital ratios, income volatility, and insolvency risk. In the next two models, we introduce the HH-index and the H-Statistic as measures of market competition and concentration, respectively. It is widely applied to estimate the level of competition of a market and its structure [83]. S1 File. Thus, any reduced market power of IBs can be attributed to differences in the business model and the risk management practices employed by these banks. Next, we include an alternative measure of the degree of competition (Lerner indicator as a measure of market power). The outlook for banks' use of AI in a post-COVID world. Further, the estimated coefficient of the interaction term of both measures of competition in Model 4 is negative yet insignificant; therefore, we cannot confirm the notion that increased concentration does have to be associated with uncompetitive markets. Table 2 confirms this finding; the insolvency risk measured by distance-to-default (or Z-score) is significantly different between the two groups of banks, with CBs much less risky than IBs (2.26 vs. 1.65). List of dependent and explanatory variables. Determinants of banking competition (H-Statistic). The results are reported in (S3 Appendix) and show that the level of competition is determined by important institutional, regularity and bank-specific factors (see S2 Table in S2 Appendix). In China, where banks' revenue mainly comes from branches, we collect relevant data manually and use the OLS model for empirical analysis. Using data for more than 225 banks in 18 countries in the MENA region, we test the hypothesis that both risk and increased competition causes banks to hold higher capital ratios. We work in a uniquely collaborative model across the firm and throughout all levels of the client organization, fueled by the goal of helping our clients thrive and enabling them to make the world a better place. High banking reserves and capital provide more assurance to banks against asymmetric information, particularly for those who are placing their funds under less restricted financial contracts like mudaraba. We find strong evidence that CBs raise their capital level when concentration increases, which is in line with previous research [1, 13]. So, under this theory, more competition increases the financial stability. The relationship between the index of activity restriction and capital ratios is positive and strongly significant in all the regressions; this contradicts the general notion that the increase in activity restrictions on bank activities will reduce the banks capitalization level that leads to decrease in their financial soundness. For example [4, 36], suggest that increased competition decreases banks soundness. Identifying the relationship between bank capital and risk [48], argue that capital over minimum requirements induces banks to take more risk that results in high amount of non-performing loans. Miroslav Mateev, For example, in both samples the association between concentration and bank credit risk is strongly positive, of almost the same magnitude. In line with our first hypothesis (H1a), we expect market competition and risk-taking to have a significant impact on capitalization level of banks in the MENA region. This paper analyzes bank stock prices around the world to assess the impact of the COVID-19 pandemic on the banking sector. This finding is well documented in the empirical literate on the MENA region [2] but contradicts [29] who finds a significant negative association between the two variables for Bangladeshi banks. Activity restriction variable is also statistically different between IBs and CBs which indicates that the impact of regulatory restrictions can be different between the two baking systems. Instead, it will depend on the regulatory authoritys behavior and not on the level of banking competition in the country. In this context [56], argues that IBs activities are based on sales instruments rather than on partnership. We also test the hypothesis that the effect of increased competition on capital ratios may be larger in magnitude in countries with a higher proportion of non-performing loans since bank charter values will suffer [13]. For example [2], find that capital ratio has a significant impact on the credit risk behavior of both CBs and IBs, whereas the competitive conditions have no effect on the relationship between the risk-weighted asset ratio and IBs credit risk. The outputs of the regression analysis are reported in Tables 7 and 8 (see S2 and S3 Files). In the same context [47], build a model suggesting that equity capital may be higher in situations with highly competitive credit markets when good lending opportunities are scarce. Employing panel data techniques, and distinguishing between Islamic and conventional banks, we show that banks tend to hold higher capital ratios when operating in a more competitive environment. The vector of dummy variables (Dt) includes the Islamic dummy (ISLAMIC) that equals one if a bank is Islamic banking institution and 0 otherwise, and the Crisis time dummy (crisis) that takes the value of one for the years 20082009, and 0 otherwise. An early study by [30] on the MENA region finds that banks raise their capitalization levels in response to a higher risk rather than the other way round. e0253803. As the preliminary tests indicate relatively weak relationship between TE/TA ratio and independent variables, this measure was replaced with total equity to total liability (leverage) ratio in the follow up regressions. The analysis of distribution channels used by banks to service SMEs points to the importance of branches offering services that are tailored to SME needs, which may reflect the continuing importance of relationship banking. Accelerate digitization with an emphasis on cloud adoption to gain agility and resilience. The number of banks in Turkey, the number of domestic/foreign branches, the number of deposit/participation banks, the . Furthermore, the data in Table 2 shows that IBs have higher level of inefficiency measured by cost-to-income ratio (CIR) than CBs (54.82% vs. 47.41%); however, the mean difference between the two samples is statistically insignificant. The economic consequences of COVID-19 have contributed to a sharp rise in defaults of corporate and household debt that is eroding the . From a macroeconomic point of view, both the GDP growth and inflation show a significant impact on risk. Market conditions that yield a risk-decreasing effect of competition tend to cause a risk-increasing effect of capital regulation. Banks have a pivotal role to play. Therefore, we include variables that are known to be significant determinants of bank capital and risk, and are expected to differ between CBs and IBs. The results reported in Model 5 to 8 provide further support to our findings. Banks are seen as the most important financial institutions that provide markets with liquidity [44]. Therefore, regulators responsible for banking sector stability should require a more disciplined approach in bank lending decisions and building a sufficient capital conservation buffer to limit the impact of downside risk from depletion of capital buffers which can be significant during the pandemic. Additionally, we create an interaction term between market competition indicator and the HH-index to investigate the impact of market competition on the relationship between banking concentration and different levels of capital and risk. Ahmad Sahyouni, Affiliation: Also, if you are working on banking and COVID-19, I am co-editing a special issue of the Journal of Banking and Finance on the Future of Banking in the post-COVID-19 World, so please submit your papers to the journal by August 31st - more details are provided below. PLOS is a nonprofit 501(c)(3) corporation, #C2354500, based in San Francisco, California, US. Since competition in the banking market primarily affects the interest rate, it can be concluded that IBs are about to apply their theoretical model based on the prohibition of interest. BCG findings suggest that banks in nations where tourism, real estate, or transport make up a larger share of the industrial mix will be most affected. The period of analysis represents the years for which accounting data are currently available for all banks in our sample either Islamic or conventional. Further, we find that during the global financial crisis of 20082009, banks tend to keep lower capital ratios than during the non-crisis period. For example, in line with [32], we find a strong positive association of capital ratios with loans (as percentage of total assets or deposits), revenue diversification, and leverage. We winsorize the bank-level explanatory variables at the 1% and 99% levels. The contribution of our paper is also related to the growing empirical literature that studies the economic impact of the pandemic on bank performance. BCG was the pioneer in business strategy when it was founded in 1963. Coronavirus (COVID-19) restrictions led to large economic impacts through 2020 and 2021. However, regressions including control variables indicate that IBs have less market power than CBs. PLOS ONE promises fair, rigorous peer review, Our results complement the findings of [1] who report a similar negative relationship between bank risk and market competition for the group of Gulf countries, and show that an increase in competition in countries with an average moderate level leads to an improvement in the financial stability. The outputs of the regression analysis are reported in Table 6. The competition-stability theory or risk-shifting view (see [68]) suggests that banks with more market power tend to charge higher interest rates, which provides an incentive to borrowers to engage in risky activities, which makes it more likely that the borrower will default on its obligation. Most of the previous studies on the MENA region examine the impact of market competition on credit risk only [2] or the banking system in the MENA region as a whole [1]. Some positions will be made redundant, while others will have to . So under this theory, competition increases the financial stability. Most of the existing research [1, 2] investigate the trade-off between market structure and risk-taking behavior of banks using either structural or non-structural approach to measuring bank competition. Therefore, regulators and policy makers in the MENA region should introduce policies that restrict the risky behavior of banks through stringent capital requirements and more intense banking supervision to prevent them from taking excessive risk. COVID-19 arises in late December 2019 and early 2020 and spread quickly worldwide, posing a considerable threat to public health and economic development (Zhou et al., 2021).COVID-19 is the third more significant outbreak of a novel coronavirus in the 21st century, following SARS in 2003 and MERS in 2012(Keogh-Brown et al., 2020). Similar results are reported by [38] who examine the impact of banking competition on systemic stability, using a sample of 1,872 publicly traded banks in 63 countries. COVID-19 Impact on the Banking Industry: Conditions in the Second Quarter of 2020 Author: David W. Perkins, Raj Gnanarajah Subject: CRS Insights This variable is, however, insignificant in the sample of IBs. Technology, Media, and Telecommunications, Global Risk 2021: Building a Stronger, Healthier Bank. Details on index definition and the estimation approach are provided in S2 Appendix. Panel regressions (GMM) of competition and capital ratio (all banks, 20062018). Therefore, we run our analysis separately for the samples of CBs and IBs. In this study, we examine credit risk effect and capital ratios of banks in the MENA region. To the best of our knowledge this is one of the rare studies to have addressed this important question with strong policy implications. The overall HH-index is 0.21, which is considered moderately concentrated for all countries in the sample, with a mean difference strongly significant at the 1% level of significance. In line with [1] we find no differences in the effect of market competition on bank risk in terms of whether the economy is in an expansive or recessive moment. The topic is perceived to be of significant importance during the COVID-19 pandemic. The most significant difference relates to the moderating effect of market competition (measured by the H-Statistic) on the relationship between market concentration and bank risk. We observe that the negative impact of market concentration on bank financial stability is reduced when banking competition is increasing. Our paper is organized as follows: Section 2 presents the literature review and formulates the hypotheses. In this study we investigate the impact of banking competition and the level of risk-taking on capital ratios of banks in the countries that belong to the Middle East and North Africa (MENA) region. The results are similar for TE/TA ratio. Summing elasticity of the reduced form of revenues gives the so-called H-statistic, on which the model is based. Optimize the balance sheet and P&L, working methodically to examine each core area and optimizing layer by layer. Their evidence supports the so-called competition-stability viewpoint. In this case, more rigorous capital requirements can lead to a higher probability of default of banks. Finally, we are able to confirm the notion that increased concentration does not have to be associated with uncompetitive markets. We complement this research by investigating the role of banking competition and concentration separately for CBs and IBs. For example [29], finds that higher capital levels promote banks financial stability by lessening the risk, and higher risk impedes the growth of capital. The results in Table 3 confirm the positive association between capital ratios and the level of credit risk of banks in the MENA region. We also test the opposite hypothesisbanks raise their risk in a response to the need to increase their capitalization level. The main stream in the literature supports the competition-fragility hypothesis. The results support our findings that banks raise their capitalization levels in response to a higher risk but the opposite is also true. Studies on different regions have reached similar results. It covers both the pre- and post-lockdown periods. In Table 4, we report the results for CBs sample using EC/TA ratio as a measure of bank capitalization level. The estimation results show that the relationship between capital requirements and deposit changes is significant in both samples, whereas, the level of market competition has a strong influence on bank risk behavior only in the sample of CBs (the results are not reported here but are available on request). Our study differs from previous research on the MENA region in two ways. All qualified applicants will receive consideration for employment without regard to race, color, age, religion, sex, sexual orientation, gender identity / expression, national origin, protected veteran status, or any other characteristic protected under federal, state or local law, where applicable, and those with criminal histories will be considered in a manner consistent with applicable state and local laws.Pursuant to Transparency in Coverage final rules (85 FR 72158) set forth in the United States by The Departments of the Treasury, Labor, and Health and Human Services click here to access required Machine Readable Files or here to access the Federal No Surprises Bill Act Disclosure. These are (1) provision of additional U.S. dollar liquidity to banks at lower rates and for longer terms than previously; (2) a new operation to provide one-year loans at 0% against corporate debt . For our sample of MENA banks, this means that an increase in banking competition in countries with an average moderate level will not enhance the positive impact of market concentration on banks capitalization level. We apply HHI in Eq (1) and (2) as a measure of banking concentration. Individually, the coefficient of H-Statistic in Table 6 is statistically significant and negative (see Model 3) which contradicts the findings of previous research on the MENA region as reported by [1]. We find a positive relation between concentration and completion when total equity to total liability ratio is used as a proxy for credit risk. For example [46], develop a model in which commercial banks compete through setting acceptance criteria for granting loans. No matter their starting point, BCG can help. Beyond the obvious facts that the pandemic will test the mettle of the industry's leaders and impose an overriding imperative . This article investigates the impact of COVID-19 on the banking sector through the trend analysis of return on assets and return on equity of the scheduled commercial banks. Another aspect of banks risk attitude and consequently, the level of asymmetric information of their loan and/or security portfolio, is the relationship banking. We also find that the impact on credit risk decreases for banks with higher level of ownership concentration and is less pronounced in countries with strong institutions. Therefore, all banks today are subject to minimum regulatory capital requirements set up by Basel II guidelines [45]. In addition to Eq (1), we examine the effect of capital ratios and market competition on risk-taking behavior of banks in our sample. Our findings have important policy implications for the banking sector during the COVID-19 pandemic. 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