Bank’s Liquidity Holding And Profitability: Evidence From Generalized Method Of Moments
Aggressive bank financing operations can increase a bank’s profit. However, this operational approach exposes the bank to higher operational risk. Conversely, excessive holdings on liquidity offer safety, but it will reduce funds for financing and investment operations. Consequently, there is a tr...
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| Format: | Article |
| Language: | English |
| Published: |
2018
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| Subjects: | |
| Online Access: | http://eprints.unisza.edu.my/6139/1/FH02-FESP-18-19938.pdf http://eprints.unisza.edu.my/6139/ |
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| Summary: | Aggressive bank financing operations can increase a bank’s profit. However, this operational approach
exposes the bank to higher operational risk. Conversely, excessive holdings on liquidity offer safety,
but it will reduce funds for financing and investment operations. Consequently, there is a trade-off
between liquidity holdings and profitability performances. The objective of this study is to assess the
implications of liquidity holdings on Islamic bank's profitability. This study utilized the dynamic panel
data technique with Generalized Method of Moments (GMM) model applied to the annual data of
Islamic banking institutions in Malaysia from 1998-2014. The estimation of which Return on Assets
(ROA) and Return on Equity (ROE) is regressed on the liquidity holdings ratio. The result shows that
the relationship takes the form of quadratic function with a downward concave parabolic due to the
insufficient amount of fund. It suggests that profitability is improved for banks that hold some
liquidity; however, it raises the issue in which holding further liquidity diminishes a banks’
profitability. There is a trade-off relationship between liquidity holdings and profitability performance
given by both ROA and ROE. This finding is consistent with the idea that funding market reward
banks for holding some liquid assets, but this benefit is somehow outweighed by the opportunity cost
of holding such low-yielding assets. Hence, bank portfolio management should consider and develop
strategy and liquidity plans that help balance the acceptable return and risks. A banking firm must
determine the appropriate level of asset versus liability management in view of liquidity risk and
associate trade off in terms of bank profitability. |
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