he overall objective of the thesis is to study the impact of competition on the financial stability of Vietnamese commercial banks by examining the relationship between competitive - stable and competitive - fragile. From the results of the study, the thesis will discuss the appropriate policy implications.
Trang 1MINISTRY OF EDUCATION STATE BANK OF VIETNAM
BANKING UNIVERSITY, HO CHI MINH CITY
NGUYEN LUU TUYEN
THE IMPACT OF BANK COMPETITION TO FINANCIAL STABILITY OF VIETNAM
Trang 2CHAPTER 1: GENERAL INTRODUCTION
1.1 Practical context and reasons for choosing the topic
Improving domestic and international competitiveness while ensuring the financial stability of the commercial banking system in Vietnam is one of the important objectives of Vietnam's banking and finance industry during 2011 - 2016 Over the past few years, the mergers, acquisitions and restructuring of banks' operations have been extremely active, under the scheme "Restructuring Credit Institutions (CIs) in 2011-2015" approved by the Prime Minister on 01/03/2012, with priority given to weak credit institutions; to carry out the merger, consolidation and acquisition of CIs on the principle of voluntariness; to increase chartered capital and handle bad debts of credit institutions and step by step restructure operation, management and administration This resulted in a reduction in the number of banks
in the system when weak banks were forced to merge The mergers and acquisitions
of commercial banks also raised concerns about the possibility of a decline in the competitiveness of the banking industry and the impact on the financial stability of Vietnam commercial banks
In the context of Vietnam joining the ASEAN Economic Community (AEC)
by 2015, or the signing of important FTAs between Vietnam / ASEAN with India, Japan, South Korea , Australia & New Zealand, Chile, Eurasia, the trend as well as the requirement to improve the competitiveness of commercial banks in Vietnam and ensure the financial stability of commercial banks is one of the Important factors support this process
Trends and requirements to improve competition and financial stability of commercial banks are increasingly interested in different markets and is the subject
of many debates
In recent years there have been several debates regarding the relationship between competition and the stability of the banking system (Beck, 2008; Carletti, 2008) The debates on this relationship have formed two contradictory views:
"competition-fragility" and "competition-stability" From the standpoint of
Trang 3"competition -fragility", increasing bank competition reduces the marketpower, ank's profit margins and consequently decreases the franchisevalue of the bank (Berger et al., 2009) This encourages banks to take more risks to seek profits, causing instability in the banking system (Marcus, 1984; Keeley, 1990; Carletti and Hartmann, 2003)
In contrast, the "competition – stability" view holds that there is a positive relationship between banking competition and the stability of the banking system Increased competition will lead to the stability of the banking system and vice versa (Xiaoqing (Maggie) Fu et al., 2014) In a market where competition between banks
is low, it can be more risky when large banks are often considered too important to fail and thus, when faced with difficulties in operating, those banks usually receive support from the government (Mishkin, 1999) In addition, in a low-competition market, large market-power banks will offer higher lending rates, which will cause difficulties for borrowers in repayment capacity and increase the risk exposure of the bank (Xiaoqing (Maggie) Fu et al., 2014) In contrast, in a market where competition among banks is high, lending rates are low; problems of“too-big-to fail”receiveless attention, and therefore positively impact on the stability of the banking system (Boyd and De Nicoló, 2005; Beck, 2006; Schaeck, 2006; Turk-Ariss, 2010)
Studies supporting these two points suggest that the effects of competition on the stability of the banking system are inconsistent across countries In addition, very few studies examine the relationship between competition and stability before and after the financial crisis (Fu et al, 2014; Boyd and De Nicoló, 2005; Beck, 2006; Schaeck, 2006; Turk-Ariss, 2010)
Therefore this research is necessary to strengthen the practical evidences and theoretical foundation of the relationship between competition and stability of Vietnam commercial banks This study aims to assess the relationship between competition and stability of the Vietnam commercial banks for updated period from
Trang 42008 - 2016 This study also looks at this relationship in the context of the financial crisis of 2008 and 2009
Research results will also provide a basis for policy makers and stakeholders
to better understand the impact of competition on the financial stability of commercial banks to set out approriate strategies and solutions
1.2 Research objectives and research questions:
Research objectives:
The overall objective of the thesis is to study the impact of competition on the financial stability of Vietnamese commercial banks by examining the relationship between "competitive - stable" and "competitive - fragile" From the results of the study, the thesis will discuss the appropriate policy implications
To achieve the overall goal, the thesis will in turn address three specific objectives:
• Measuring the level of competition and analyzing factors affecting the competition of Vietnamese commercial banks
• Measuring financial stability and analysis of factors affecting the financial stability of Vietnamese commercial banks
• Examine the impact of competition on the financial stability of Vietnamese commercial banks by testing two hypotheses: "competition - stability" and
2008-• What factors affect the level of competition of Vietnam commercial banks?
• What are the level of financial stability of Vietnam commercial banks in 2008-2016?
Trang 5• What factors affect the financial stability of Vietnam commercial banks?
• The impact of competition on financial stability of Vietnam commercial banks supports the "competition-stability" or "competitive-fragility" hypothesis?
1.3 Research Object and research scope:
• Research object: The object of the study is the impact of competition on
financial stability of commercial banks In particular, the degree of competition represented by the Lener index and the financial stability is represented by the bank's bankruptcy risk level, Z-score, based on relevant theoretical background and research
• Research scope: Limited in 24 joint stock commercial banks in Vietnam
The study period is from 2008 to 2016
1.4 Recearch methodology:
Based on the financial report, annual report, public documents of commercial banks in Vietnam from 2008 to 2016, the Lerner Competitiveness Index was calculated according to Abba Lerner's formula (1934) to estimate and compare the level of competition of Vietnamese commercial banks in the period 2008 - 2016 Subsequently, the thesis inherited the Z-score calculation method for banks used in the research of Boyd & Graham (1986 ), Hannan & Hanweck (1988), Boyd & ctg (1993) to measure the financial stability of Vietnamese commercial banks The study then uses models proposed by Raúl Osvaldo Fernández et al (2015) to test the relationship between competition and financial stability of Vietnamese commercial banks To overcome the endogenous phenomena in the model, the thesis utilizes the tool change technique with the DGMM estimation, seeking evidence of the impact
of competition on the financial stability of Vietnamese commercial banks in normal conditions and in crisis conditions
Trang 61.5 Research contribution
The main research contributions include:
Regarding scientific contributions: The thesis will supplement the
empirical evidence on the level of competition and financial stability of Vietnam commercial banks in the period 2008 - 2016, and evaluate and verify the relationship of "competition - stability" and "competition - fragility" for Vietnam commercial banks This is a new study where most of the current topics are either focused on evaluation of the competitiveness of Vietnamese commercial banks or financial stability of Vietnamese commercial banks In-depth and specific studies about the quantitative impact of competition on the financial stability of Vietnamese commercial banks is very limited In addition, although some studies in the world have evaluated the impact of competition on financial stability, most of those researches are for developed countries such as Europe and the Americas This is a new and up-to-date research for Vietnam commercial banks in the period of 2008 -
2016, a representative for a developing country or a frontier market in which the financial systems are mainly developed based on the banking system
Regarding practical contributions: The research results will help Vietnam
commercial banks better understand the current status of competition, stability, impact factors, trends and impacts of competition on financial stability of Vietnam commercial banks in the period of 2008 - 2016, from which there are strategies and solutions to enhance competitiveness and ensure financial stability
At the same time, research results will also help regulators and policy makers
to better assess the level of competition, financial stability and the impact of competition on financial stability under normal conditions and in the crisis condition, which helps to establish appropriate regulatory policies to improve the competitiveness of Vietnamese commercial banks and to help ensure the financial stability of commercial banks in Vietnam
Trang 71.6 Thesis structure
The structure of the thesis consists of 5 chapters:
Chapter 1: Research Introduction
Provide an overview of the research topic, including the context and reason for choosing the topic, research objectives, research questions, subjects and scope of research, research methodology, research contribution and the research structure
Chapter 2: Theoretical Background and Empirical Evidences for Banking Competition, Financial Stability and the Impact of Competition on Financial Stability
Introduce theories and related research studies that have been developed to form the research model and to develop research hypotheses
Chapter 3: Research Methodology and Research Data
Describe the research methodology and descriptive data
Chapter 4: Empirical Analysis of Banking Competition, Financial Stability and the Impact of Competition on Financial Stability of Vietnamese Commercial Banks in the Period 2008 - 2016
Presentation of research results on banking competition, financial stability and impact of competition on financial stability of Vietnamese commercial banks in the period of 2008 - 2016
Chapter 5: Conclusions and Policy Implications
Present the main conclusions of the research
Trang 8CHAPTER 2: THEORY BASIS AND IMPERICAL
EVIDENCE OF BANKING COMPETITION, FINANCIAL STABILITY AND THE IMPACT OF COMPETITION ON
Nguyen Thanh Phong (2010) defines the competition of commercial banks
as the ability created by the bank on the basis of maintaining and developing its inherent advantages in order to consolidate and expand its market share, increase profits and be able to resist and overcome adverse changes in the business environment
In summary, the level competition of commercial banks is the ability of the bank to create, maintain and develop the advantages to consolidate and expand market share; increase profits and be able to resist and overcome adverse changes in the business environment
2.1.1.2 Measurement Method:
The research on the world using different methods to measure level of bank competition, including SCP method based on SCP theory: structure - conduct - performance) and the non-structure method based on concentration ratios
Market structures method
Non-structure method
Trang 92.1.2 Theory about financial stability of commercial banks
2.1.2.1 Definition of financial stability
According to Buiter (2008), financial stability will be ensured if the following factors are not present: (i) asset price bubbles; (ii) liquidity shortage; (iii) The insolvency of financial institutions threatens the stability of the system
According to the European Central Bank (ECB), financial stability is a state
of financial institutions capable of absorbing shocks, minimizing major breakdowns that could cause significant harm to the process of allocating investment resources
to more efficient channels ECB argues that a financial institution is considered stable if it meets the following criteria: (i) it is possible to allocate effective resources from the savings channel to the investment channel; (ii) financial risks are assessed and determined accurately and reasonably for better control; (iii) Can absorb financial shocks as well as fluctuations in the real economy
In short, although there is no official definition of the term "financial stability", on the macro perspective, financial stability is a situation in which the financial system (financial market , financial institutions, financial infrastructure) perform its functions smoothly, contributing to the efficient allocation of resources
of the economy System-level risks are accurately assessed and managed effectively
to avoid possible collapse of the financial system At the level of commercial banks, financial stability can be understood as the state in which the organization operates smoothly, performs its function, operates stably and is able to withstand the shock from the external environment, and itself does not cause a shock to the economy
2.1.2.2 Financial stability and financial instability of commercial banks
At present, there is no consensus on an exact definition of the financial stability of banks Studies on financial stability of commercial banks often consider and evaluate the "level of financial instability" as an approach to assessing
"financial stability", and financial instability is the opposite of financial stability
The financial turmoil of commercial banks is often associated with a general banking panic that is related to a bank's shock exaggerated by the behavior of
Trang 10uninformed depositors, who suspect the bank's asset value is lower than the bank's liability value, then withdraw the deposits
When a bank encountered a sudden capital withdrawal by depositors, this can lead to the bank run and cause instability Due to the majority of lending bank deposit should get when experiencing situations of sudden customer withdrawals of large amounts, the Bank could not immediately refund all the funds sent to the client.The delay paid due to inability to meet this could lead to a run on deposits prompted the Bank into bankruptcy status The result is that the depositors will suffer damage unless they are the insurance company paid deposits.The fleeing the Bank spread increase unrest led to the banking crisis system.Many examples of the bank run took place, such as the fleeing from the US Bank the year 1930, the collapse of investment bank Bear Stearns in 2008
When a bank encounters a sudden withdrawal by depositors, this can lead to bank failure and cause instability Because banks lend a large amount of their deposits, banks are unable to immediately repay all deposits to customers when they encounter unexpected situations where there is money withdrawal in large amounts This inability to pay due to the inability to respond can lead to a runaway deposit that leaves the bank in bankruptcy As a consequence, depositors will suffer losses unless they are covered by the insurance company The widespread bank outbreak has increased the instability that has led to a systemic banking crisis Many examples of bank failures have taken place, such as the failure of the US banks in the 1930s, the collapse of Bear Stearns investment bank in 2008
2.1.2.3 Methods to measure financial stability and financial instability
Financial stability of commercial banks is often measured indirectly through the assessment of financial instability and banking crisis either systematically or individually
Trang 11(i) Measurement of systematic financial stability and financial instability
In order to measure system financial stability, many studies use aggregate metrics for the whole system (Z-scores and distance to bankruptcy), with average or weighted of each rating factor by scale of each bank The limitation of this approach
is that it does not take into account the interrelationships between financial institutions, ie the ability to spread as a financial institution
(ii) Measurement of individual financial stability and financial instability
Based on Altman's research, many studies have subsequently applied the score to assess bankruptcy risk in various industries For the banking sector, there are studies by Boyd & Graham (1986), Hannan & Hanweck (1988), Soedarmono & ctg (2011)
Z-The degree of financial stability is quantified by Z-score in the banking sector studies and is calculated as follows:
𝑅𝑂𝐴𝑖𝑡is the return on total assets of bank
𝐸𝑄𝑇𝐴𝑖𝑡is the ratio of equity to total assets of bank
𝛿𝑅𝑂𝐴𝑖𝑝is the standard deviation of the bank's ROA
2.1.3 Theoretical background of competition and stability of the banking system
From the traditional viewpoint of a "competition - fragility" relationship, a more competition or less centralized banking system increase instability This is explained by the franchise value theory studied by Marcus (1984) and Keeley (1990), suggesting that competition motivates banks to pursue more risky strategies These studies show thatless competition or a more exclusive monopoly of some banks will lead to higher franchise value of these banks, and may prevent excessive risky decisions of the bank's executives Because when the Franchise value is
Trang 12higher, the opportunity cost of bankruptcy is higher, leading to the reluctance of bank executives and bank shareholders to participate in dangerousdecisions, thereby improving the quality of bank assets
Boot and Greenbaum (1993) and Allen and Gale (2000, 2004) show that in a competition environment, banks receive less information from their relationships with borrowers, making it difficult to check credit records and increase the risk and instability
Boyd et al (2004) argue that banks with a higher level of presence or higher monopolies in a centralized banking system can increase profits and thereby reduce financial breachability by providing "Buffer Capital"to protect the system against macroeconomic shocks and external liquidity problem
From a "competition – stability" standpoint, a more competitive or less monopoly banking system will be more stable, in other words, less competitive or more monopoly banking system will be more unstable This can be explained by the "too big to fail" theory proposed by Mishkin (1999) indicating that policymakers will be more concerned about the collapse of the bank when there are so few banks in the banking system Thus, large banks are more likely to receive government guarantees or grants, which can create moral hazard problems, encourage dangerous decisions and increase instability of the banking system Moreover, the spreadingrisk may increase in the centralized banking system with large banks Caminal and Matutes (2002) argue that less competition can lead to easier credit granting and larger loans, which increases the probability of bank collapse Boyd and De Nicolo (2005) argue that high monopoly banking systems allow banks to charge higher interest rates, and may encourage borrowers to take greater risks Therefore, the amount of non-performing loans can increase, resulting in higher probability of bank’s bankruptcy However, Martinez-Miera et al (2010) suggests that higher lending rates also bring higher interest income to banks This offset effect can create a U-shaped relationship between bank competition and stability
Trang 132.2 Empirical evidences:
2.2.1 Empirical studies on the level of competition and the factors that influence the level of competition of financial institutions
Competition in the banking sector has been a subject that has attracted the attention
of many domestic and foreign researchers
Fungacova et al (2010) studied the market power of Russian banks in the period 2001-2007 using the Lerner index
Demirguc-Kunt and Peria (2010) study market power of the banking system in Jordan 1994-2006
Soedarmono et al (2011) studied the competitiveness of commercial banks in Asian countries and territories for the period 2001-2007
Bolt and Humphrey (2012) study the competitiveness of US banks, which use HHI, Lerner and H statistics to measure competition
Repkova (2012) examines the competitiveness of the Czech banking system for the period 2000-2010
Simpasa (2013) examines the level of competition and market structure in the Zambian banking system in Africa in the context of a dynamic market movement involving new and emerging foreign banks and privatization of State-owned banks Laurent's (2013) study of regional bank competition in Europe, in which the author examines the degree of competition among EU banks in the period 2000-2010 to assess the behavior of banks Europe in this period
Hamza and Kachtouli (2014) examine the level of competition and market power of Islamic banks and commercial banks in the Middle East & North Africa and Southeast Asia for the period 2004-2009
Saibu (2015) studies the competitiveness and concentration of Nigerian banks for the period 2001 - 2013
Phan Thi Thom and Than Thi Thu Thuy (2015) study the impact of competition on the efficiency of cost and profit management of Vietnamese commercial banks in the period 2005 - 2014
Trang 14Vo Xuan Vinh and Duong Thi Anh Tien (2017) studied the competitiveness and considered factors affecting the competitiveness of Vietnamese commercial banks
Hesse and Cihak (2007) analyze empirically the role of cooperative banks in stabilizing finances
Ivičić and Katt (2008) investigated the impact of macroeconomic variables and banking characteristics on the payment risk of banks in seven Central and Eastern European countries from 1996 to 2006
Soedarmono et al (2011) examined whether Asian banks were morally at risk
in the 1997 Asian crisis
Rahman et al (2012) studies the relationship between bank ownership and risk and the impact of government regulation on capital
Fu et al (2014) examines the relationship between competition and financial stability, using information and data from 14 Pacific economies from 2003 to 2010
to examine the effects of bank competition, concentration, and regulations of nations on the fragility of banks which are determined by the bank's probability of bankruptcy and Z-score
Chiaramonte et al (2015) evaluates the accuracy of the Z-score, a widely used representative variable to measure the financial stability of banks, based on the sample of European banks from 12 countries in the period 2001-2011
Strobel and Lepetit (2015) use the Z-score model to evaluate and consider the relationship between Z-score and the bankruptcy probability of banks, which provide a more refined measurement without pressure to set the next distribution assumptions
Trang 15Hammami & Boubaker (2015) examines the effect of ownership structure on bank risk, using information on financial statements of 72 commercial banks from
10 Middle East and North Africa (MENA) countries over 2000 to 2010
Nguyen Minh Ha and Nguyen Ba Huong (2016) identify the factors that influence the bankruptcy risk of Vietnamese banks by using the Z-score method, thus suggesting appropriate policies to enhance stability and health in operation of joint stock commercial banks in Vietnam
2.2.3 Empirical evidence of competition and stability of the banking system
There have been a number of studies showing that the higher the level of bank competition, the more likely it is that financial instability will be mitigated through a decline in market power, which in turn will reduce profits and lower the value of the brand These studies support the "competition - fragility" view In view
of this, banks are encouraged to take more risks to increase profitability and to reduce the quality of their loan portfolio (Marcus, 1984, Keeley, 1990 and Carletti and Hartmaan, 2003)
However, many recent studies have advocated a "competition-stability" view Beck et al (2006) studied a group of 69 countries and found that countries with low market concentration or high competition were less likely to suffer financial crisis Boyd and De Nicolo (2005) argue that the greater the market power,
or the lower the competition in the lending markets, the higher the risk for banks because higher interest rates make repayments to customers more difficult This can exacerbate ethical risk, and at the same time, higher interest rates will attract higher risk borrowers In addition, in highly centralized monopolies, financial institutions may believe that they are "too large to collapse" and this can lead to riskier investments (Berger et al , 2008)
Other studies have recently applied the Lerner competitiveness index and measured bank stability through the Z-score to examine the relationship between competition and the stability of the banking system such as Berger et al (2008), Turk-Ariss (2010), Liu et al (2010)