DETERMINANTS OF PROFITABILITY: A CASE OF COMMERCIAL BANKS IN PAKISTAN

Abstract

Purpose of the study: This study aims to investigate the impact of bank-specific and macro-economic factors on commercial banks profitability in Pakistan. Methodology: This study uses both internal and external factors as independent variables. Internal factors are inclusive of capital adequacy, operational efficiency, deposit ratio, liquidity, leverage, number of branches, and bank size, while external indicators are pertaining to GDP, rate of inflation, interest rate, and rate of foreign exchange. Return on assets, return on equity, and net interest margin is employed as proxies for measuring profitability. Balanced panel data of 25 commercial banks over a period ranging from 2009 to 2018 is analyzed through descriptive statistics and fixed effects regression model. Main Findings: The empirical findings revealed that among internal factors, capital adequacy ratio, deposit ratio, leverage ratio, liquidity ratio, and bank size significantly affect the return on asset, while in the case of macro-economic factors, inflation rate, exchange rate, and GDP have a significant impact on return on asset. On the other hand, return on equity is significantly affected by deposit ratio, leverage ratio, and operational efficiency, whereas among macro-economic factors, only the inflation rate had a significant effect on return on equity. Furthermore, in the case of net interest margin, among internal factors, capital adequacy ratio, deposit ratio, bank size, and the number of branches have a significant impact on net interest margin, whereas, among macro-economic factors, interest rate, inflation rate, and exchange rate significantly affected net interest margin. Applications of this study: This study has greater importance for government, bank managers, investors, academicians, and scholars. Originality/Novelty: In this study, the number of branches is taken as a novel factor in Pakistan's case and bridges the gap in the banking literature of Pakistan.