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Determinants of Interest Spread in Pakistan

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  • Idrees Khawaja

    (PIDE)

  • Musleh-ud Din

Abstract

Interest spread of the Pakistans banking industry has been on the rise for the last two years. The increase in interest spread discourages savings and investments on the one hand, and raises concerns on the effectiveness of bank lending channel of monetary policy on the other. This study examines the determinants of interest spread in Pakistan using panel data of 29 banks. The results show that inelasticity of deposit supply is a major determinant of interest spread whereas industry concentration has no significant influence on interest spread. One reason for inelasticity of deposits supply to the banks is the absence of alternate options for the savers. The on-going merger wave in the banking industry will further limit the options for the savers. Given the adverse implications of banking mergers for a competitive environment, we argue that to maintain a reasonably competitive environment, merger proposals may be subjected to review by an antitrust authority with the central bank retaining the veto over merger approval.

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Bibliographic Info

Paper provided by East Asian Bureau of Economic Research in its series Macroeconomics Working Papers with number 22209.

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Date of creation: Jan 2007
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Handle: RePEc:eab:macroe:22209

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Keywords: Banks; Determination of Interest Rates; mergers; Acquisitions;

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References

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  1. Frederic S. Mishkin, 1995. "Symposium on the Monetary Transmission Mechanism," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 9(4), pages 3-10, Fall.
  2. Prager, Robin A & Hannan, Timothy H, 1998. "Do Substantial Horizontal Mergers Generate Significant Price Effects? Evidence from the Banking Industry," Journal of Industrial Economics, Wiley Blackwell, Wiley Blackwell, vol. 46(4), pages 433-52, December.
  3. Stijn Claessens & Luc Laeven, 2004. "What drives bank competition? Some international evidence," Proceedings, Federal Reserve Bank of Cleveland, Federal Reserve Bank of Cleveland, pages 563-592.
  4. Martinez Peria, Maria Soledad & Mody, Ashoka, 2004. "How Foreign Participation and Market Concentration Impact Bank Spreads: Evidence from Latin America," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 36(3), pages 511-37, June.
  5. David Neumark & Steven A. Sharpe, 1989. "Market structure and the nature of price rigidity: evidence from the market for consumer deposits," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 52, Board of Governors of the Federal Reserve System (U.S.).
  6. Allen, Linda, 1988. "The Determinants of Bank Interest Margins: A Note," Journal of Financial and Quantitative Analysis, Cambridge University Press, Cambridge University Press, vol. 23(02), pages 231-235, June.
  7. Adolfo Barajas & Roberto Steiner & Natalia Salazar, 1999. "Interest Spreads in Banking in Colombia, 1974-96," IMF Staff Papers, Palgrave Macmillan, vol. 46(2), pages 4.
  8. Corvoisier, Sandrine & Gropp, Reint, 2001. "Bank Concentration and Retail Interest Rates," Working Paper Series, European Central Bank 0072, European Central Bank.
  9. Timothy H. Hannan & J. Nellie Liang, 1993. "Bank commercial lending and the influence of thrift competition," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 93-39, Board of Governors of the Federal Reserve System (U.S.).
  10. Romer, Christina D. & Romer, David H., 1989. "Does Monetary Policy Matter? A New Test in the Spirit of Friedman and Schwartz," Department of Economics, Working Paper Series, Department of Economics, Institute for Business and Economic Research, UC Berkeley qt5h07k8vf, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
  11. Haber, Stephen, 2004. "Comment on "How Foreign Participation and Market Concentration Impact Bank Spreads: Evidence from Latin America" by Maria Soledad Martinez Peria and Ashoka Mody," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 36(3), pages 539-42, June.
  12. Angbazo, Lazarus, 1997. "Commercial bank net interest margins, default risk, interest-rate risk, and off-balance sheet banking," Journal of Banking & Finance, Elsevier, Elsevier, vol. 21(1), pages 55-87, January.
  13. Panzar, John C & Rosse, James N, 1987. "Testing for "Monopoly" Equilibrium," Journal of Industrial Economics, Wiley Blackwell, Wiley Blackwell, vol. 35(4), pages 443-56, June.
  14. Berger, Allen N & Hannan, Timothy H, 1989. "The Price-Concentration Relationship in Banking," The Review of Economics and Statistics, MIT Press, vol. 71(2), pages 291-99, May.
  15. Laura Valderrama & Wendell A. Samuel, 2006. "The Monetary Policy Regime and Banking Spreads in Barbados," IMF Working Papers 06/211, International Monetary Fund.
  16. Shaffer, Sherrill, 2004. "Comment on "What Drives Bank Competition? Some International Evidence" by Stijn Claessens and Luc Laeven," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 36(3), pages 585-92, June.
  17. Ho, Thomas S. Y. & Saunders, Anthony, 1981. "The Determinants of Bank Interest Margins: Theory and Empirical Evidence," Journal of Financial and Quantitative Analysis, Cambridge University Press, Cambridge University Press, vol. 16(04), pages 581-600, November.
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Cited by:
  1. Hossain, Monzur, 2010. "Financial Reforms and Persistently High Bank Interest Spreads in Bangladesh: Pitfalls in Institutional Development?," MPRA Paper 24755, University Library of Munich, Germany.
  2. Sheikh Khurram Fazal & Muhammad Abdus Salam, 2013. "Interest Rate Pass-Through: Empirical Evidence from Pakistan," Lahore Journal of Economics, Department of Economics, The Lahore School of Economics, Department of Economics, The Lahore School of Economics, vol. 18(1), pages 39-62, Jan-June.
  3. Khan, Mehwish Aziz & Kayani, Ferheen & Javid, Attiya Yasmin, 2011. "Effect of Mergers and Acquisitions on Market Concentration and Interest Spread," MPRA Paper 37311, University Library of Munich, Germany.
  4. Imran, Kashif & Nishat, Mohammed, 2013. "Determinants of bank credit in Pakistan: A supply side approach," Economic Modelling, Elsevier, Elsevier, vol. 35(C), pages 384-390.
  5. Tatum Blaise Pua Tan, 2012. "Determinants of Credit Growth and Interest Margins in the Philippines and Asia," IMF Working Papers 12/123, International Monetary Fund.

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