Financial Freedom, Competition And Bank Performance In Sub-Saharan Africa

ABSTRACT The inferences of competition for bank stability, profitability and efficiency have been the subject of much debate, yet they remain controversial and inconclusive. Identifying channels through which competition affects bank performance may improve our understanding of the inconsistent findings in the literature. Hence, this thesis analyses the implications of competition and financial freedom for bank performance. The study also examines the determinants of bank profit persistence. Using data from 139 banks in 11 Sub-Saharan African countries over the period, 2006- 2012, and the financial (or banking) freedom index from the Heritage Foundation, this study considers whether the degree of freedom in the banking sector affects the relationship between competition and bank performance. The results show a positive relationship between market power and bank stability, profitability and cost efficiency, suggesting that higher market power (or less competition) may improve bank profitability, efficiency, and stability. However, the relationship between market power and bank stability is found to be quadratic, implying that beyond a certain threshold, further increases in market power may damage bank stability. The evidence from this study shows that, the positive effect of market power is stronger on bank profitability, and weaker on bank efficiency with higher levels of financial freedom. We do not find evidence suggesting that financial freedom influences the relationship between competition and bank stability. On the determinants of bank profit persistence, the results of the study show differences across countries. The results of this study suggest that policies that allow banks to maintain some level of market power may be necessary to ensure banking system efficiency and overall stability. Also, while higher financial freedom improves bank profitability, it may be harmful for cost efficiency, especially for banks with higher market power. Thus, policies that ensure some restrictions on banking freedom may still be required to enhance bank efficiency