Bank interest margin and risks: an empirical application to the case of Lebanon.

Summary The Lebanese banking sector has undergone a deep structural and functional change due to globalization and liberalization during the last two decades. This mutation improving the competitiveness of this sector through the decrease of the interest margin, necessarily exposes it to different types of risks. The objective of this thesis is to show the fundamental role of the risk in the determination of the margin and to highlight the effect of the determinants of this margin for the banks in Lebanon. The approach is organized in three steps. The first step is to present the reorganization of the Lebanese banking sector since the 1990s. In fact, the predominance of credits to the resident private sector and private sector deposits in US dollars has characterized the performance of the banking sector while the respect of prudential norms and the accentuation of merger and acquisition operations have marked its modernization. In the second part, a review of the theoretical and empirical literature on the pricing of the banking intermediation activity through two approaches is proposed. In the third part, an empirical investigation, in panel data, for a sample of Lebanese commercial banks over the period 1995-2002 is carried out. We use the microeconomic model of Goyeau, Sauviat and Tarazi (1999) which uses a neoclassical framework with uncertainty. The empirical results reveal the significant and positive effect of market power, credit and transformation risks from customers and administrative costs on the margin for all banks over the whole period. The time trend reflects a change in margin determination and profit structure. Distinguishing banks by the size of their average balance sheet reveals that only large banks appear to be constrained by regulation and to obey the expected effects on transformation risk from customers, while small and medium-sized banks significantly pass on changes in the yield on Treasury bills. Differences in behavior for the customer-only estimate were also revealed over the 1995-98 subperiod, and the effect of market power is negative for large banks while it is positive for small and medium-sized banks. However, even though both groups are constrained by regulation in the 1999-2002 sub-period, only the large banks manage the transformation risk while the small and medium banks benefit from administrative costs that positively influence the margin. A distinction between banks according to the share of customer loans in their balance sheet was made in order to determine whether banks that specialize in granting loans have better risk management, particularly with respect to customer loans. Although both groups have a positive influence on the margin for the entire period, only banks with an average ratio of more than 32 percent have a capitalization that negatively affects the margin for the customer estimate for the 1995-1998 subperiod.