A Study on the Impact of Capitalization on the Profitability of Banks in Emerging Markets A Case of Pakistan

摘要

A strong capitalized position of financial institutions is essential to ensure their solvency.Because of their unique nature, banks must always keep an optimum level of capital to ensure smoothbanking earnings. Consequently, it is mandatory for all types of banks operating in Pakistan to keepa minimum amount of required capital along with capital adequacy to remain solvent and profitable.Therefore, using three measures of capitalization, i.e., the Capital Ratio (CR), Capital Adequacy Ratio(CAR), and Minimum Capital Requirement (MCR), and four measures of profitability, i.e., Returnon Avg. Assets (ROAA), Return on Avg. Equity (ROAE), Net Interest Margin (NIMAR), and ProfitMargin (NMAR), this study contributes to the existing literature on the relationship between thecapitalization and profitability of 29 Pakistani banks over the period of 2007–2018. The results, basedon the Generalized Method of Moments (GMM) system estimator technique, reported an invertedU-shaped relationship between the two capitalization measures, i.e., CR and CAR, and the fourprofitability measures, i.e., ROAA, ROAE, NIMAR, and NMAR. This indicates that profitabilityincreases with an increase in capitalization up to a certain level, while beyond that level, a furtherincrease in capitalization decreases profitability. The results also indicate that banks who maintaintheir MCR have higher profitability than those who do not.