The Case for Income Diversification in the Banking Sector in Zambia

Kelvin Mukolo Kayombo
  • Deputy Vice Chancellor – Zcas University, Zambia
  • Keywords:
  • Interest Income, Profit Performance, Income Volatility, Profitability
  • Abstract:
  • This study aims to evaluate the extent to which banks in Zambia are benefiting from revenue diversification activities. Research design/methodology – The study used a quantitative research approach based on secondary data from 12 of the 18 banks in Zambia. Data analysis was buttressed by the use of several techniques such as the Herfindahl-Hirschman Index to measure bank diversification, ZScore to measure bank income volatility/risk and risk adjusted returns on assets and equity to measure profitability. Findings – The study finds that, in Zambia, some banks do not enhance their profit performance by diversifying into non-interest activities. For other banks, diversification yields better profit performance in some years, but not always. The overall picture, however, is that diversification into non-interest income earning activities enhances the profit performance of banks. With respect to bank riskiness as measured by income volatility, the study finds that, in Zambia, some banks do not reduce their income volatility by diversifying into non-interest earning activities. For other banks, diversification reduces income volatility in some periods, but not others. The overall picture, however, is that the larger the bank is, the more non-interest income diversification reduces its income volatility. Limitations – Although the Central Bank provided financial data for all the 18 banks in the country, only data for 12 banks was usable. Data for six banks did not cover the whole ten-year study period and was unusable for the purposes of the study. This limited the actual sample size. Furthermore, to preserve confidentiality, the bank data provided was anonymised such that it was impossible to tell the geographical spread of the bank, the bank’s product or market strategy, or whether the bank was foreign or locally owned. This limited the scope of analysis. Recommendations – Given that in general bank profitability has declined as banks have become less diversified, the Bank of Zambia needs to closely monitor performance of banks and avoid imposing regulations that stifle bank innovation. And since diversification does not always result in enhanced bank performance, banks should consider the extent to which their business models support non-bank activities before making diversification decisions.
  1. Alhassan, A. L. (2015). Income diversification and bank efficiency in an emerging market. Managerial Finance, 41(12), 1318–1335. https://doi.org/10.1108/MF-12-2014-0304
  2. Altman, E. I. (1968). Financial Ratios, Discriminant Analysis and the Prediction of Corporate Bankruptcy. The Journal of Finance, 23(4), 589–609. JSTOR. https://doi.org/10.2307/2978933
  3. Ammar, N., & Boughrara, A. (2019). The impact of revenue diversification on bank profitability and risk: Evidence from MENA banking industry. Macroeconomics and Finance in Emerging Market Economies, 12(1), 36–70. https://doi.org/10.1080/17520843.2018.1535513
  4. Ansoff, H. I. (1957). Strategies for diversification. Harvard Business Review, 35(5), 113–124. https://www.casrilanka.com/casl/images/stories/2017/2017_pdfs/sab_portal/course_material/strategies_for_diversification.pdf
  5. Bank of Zambia. (2020d). Annual Report 2019. Bank of Zambia. https://www.boz.zm/AnnualReport2019.pdf
  6. Bank of Zambia. (2020a). Income Statement for the period ended 31 March 2020. Bank of Zambia. https://www.boz.zm/IncomeStatementfortheperiodended31March2020.xlsx
  7. Bank of Zambia. (2020b). RegisteredBanks2018. Registered Commercial Banks. https://www.boz.zm/RegisteredBanks2018.pdf
  8. Bank of Zambia. (2020c). Statistics. Statistics. https://www.boz.zm/statistics.htm
  9. Bank of Zambia. (2018). The Bank of Zambia Prohibition Against Unwarranted Charges and Fees Directives of 2018. https://www.boz.zm/TheBankofZambiaProhibitionAgasinstUnwarraentedChargesandFeesDirectivesof2018GovernmentGazetteNo.6693of31stAugust2018.pdf
  10. Bhattacherjee, A., University of South Florida, Scholar Commons, & Open Textbook Library. (2012). Social science research: Principles, methods, and practices. https://open.umn.edu/opentextbooks/BookDetail.aspx?bookId=79
  11. Boyd, J. H., & Graham, S. L. (1986). Risk, regulation, and bank holding company expansion into nonbanking. Quarterly Review, 10(Spr), 2–17. https://ideas.repec.org/a/fip/fedmqr/y1986isprp2-17nv.10no.2.html
  12. Brunnermeier, M., K., Dong, G., & Paliab, P. (2012). Banks’ Non-Interest Income and Systemic Risk. Princeton University. http://dc-20788-1635065795.us-east-1.elb.amazonaws.com/system/files/research/documents/brunnermeier_banks’_non-interest_income_and_systemic_risk.pdf
  13. Bryman, A., & Bell, E. (2011). Business research methods (3rd ed). Oxford University Press.
  14. Carlson, M. (2004). Are Branch Banks Better Survivors? Evidence from the Depression Era. Economic Inquiry, 42(1), 111–126. https://doi.org/10.1093/ei/cbh048
  15. Cebenoyan, A. S., & Strahan, P. E. (2004). Risk management, capital structure and lending at banks. Journal of Banking & Finance, 28(1), 19–43. https://doi.org/10.1016/S0378-4266(02)00391-6
  16. Chen, J. (2020). Modern Portfolio Theory (MPT). Investopedia. https://www.investopedia.com/terms/m/modernportfoliotheory.asp
  17. Chiorazzo, V., Milani, C., & Salvini, F. (2008). Income Diversification and Bank Performance: Evidence from Italian Banks. Journal of Financial Services Research, 33(3), 181–203. https://doi.org/10.1007/s10693-008-0029-4
  18. Delpachitra, S., & Lester, L. (2013). Non-Interest Income: Are Australian Banks Moving Away from their Traditional Businesses? Economic Papers: A Journal of Applied Economics and Policy, 32(2), 190–199. https://doi.org/10.1111/1759-3441.12032
  19. DeYoung, R., & Rice, T. (2004). Noninterest Income and Financial Performance at U.S. Commercial Banks. Financial Review, 39(1), 101–127. https://doi.org/10.1111/j.0732-8516.2004.00069.x
  20. DeYoung, R., & Roland, K. P. (2001). Product Mix and Earnings Volatility at Commercial Banks: Evidence from a Degree of Leverage Model. SSRN Electronic Journal. https://doi.org/10.2139/ssrn.251356
  21. Elsas, R., Hackethal, A., & Holzhäuser, M. (2010a). The anatomy of bank diversification. Journal of Banking & Finance, 34, 1274–1287.
  22. Elsas, R., Hackethal, A., & Holzhäuser, M. (2010b). The anatomy of bank diversification. 14.
  23. Elton, E. J., Gruber, M J., Brown, S. J. and Goezmann, W. N. (2014) Modern portfolio theory and investment analysis. Ninth edition. Hoboken, NJ: Wiley.
  24. Gambacorta, L., Scatigna, M., & Yang, J. (2014). Diversification and bank profitability: A nonlinear approach. Applied Economics Letters, 21(6), 438–441. https://doi.org/10.1080/13504851.2013.866196
  25. Hamdi, H., Hakimi, A., & Zaghdoudi, K. (2017). Diversification, bank performance and risk: Have Tunisian banks adopted the new business model? Financial Innovation, 3(1), 22. https://doi.org/10.1186/s40854-017-0069-6
  26. Hansen, B. E. (1999). Threshold effects in non-dynamic panels: Estimation, testing, and inference. Journal of Econometrics, 93(2), 345–368. https://doi.org/10.1016/S0304-4076(99)00025-1
  27. Johnson, R., D., & Meinster, D., R. (1974). Bank Holding Companies: Diversification Opportunities in Nonbank Activities. Eastern Economic Journal, 316–323. https://web.holycross.edu/RePEc/eej/Archive/Volume1/V1N4P316_323.pdf
  28. Karakaya, A., & Er, B. (2012). Noninterest (Nonprofit) Income and Financial Performance at Turkish Commercial and Participation Banks. International Business Research, 6(1), p106. https://doi.org/10.5539/ibr.v6n1p106
  29. Klein, P. G., & Saidenberg, M. R. (1998). Diversification, Organization, and Efficiency: Evidence from Bank Holding Companies (No. 97/27; p. 26). Working PapeWharton School Center for Financial Institutions.
  30. Köhler, M. (2013). Does non-interest income make banks more risky? Retail- versus investment-oriented banks (p. 44). Deutsche Bundesbank.
  31. Lee, C.-C., Yang, S.-J., & Chang, C.-H. (2014). Non-interest income, profitability, and risk in banking industry: A cross-country analysis. The North American Journal of Economics and Finance, 27, 48–67. https://doi.org/10.1016/j.najef.2013.11.002
  32. Markowitz, H. (1952). Portfolio Selection. The Journal of Finance, 7(1), 77–91. JSTOR. https://doi.org/10.2307/2975974
  33. Maudos, J. (2017). Income structure, profitability and risk in the European banking sector: The impact of the crisis. Research in International Business and Finance, 39, 85–101. https://doi.org/10.1016/j.ribaf.2016.07.034
  34. Mercieca, S., Schaeck, K., & Wolfe, S. (2007). Small European banks: Benefits from diversification? Journal of Banking & Finance, 31, 24.
  35. Meslier, C., Tacneng, R., & Tarazi, A. (2013). Is Bank Income Diversification Beneficial? Evidence from an Emerging Economy. Journal of International Financial Markets, Institutions and Money, 31, 97–126.
  36. Mishi, S., & Khumalo, S. A. (2019). Bank stability in South Africa: What matters? Banks and Bank Systems, 14(1), 122–136. https://doi.org/10.21511/bbs.14(1).2019.11
  37. Mnasri, K., & Abaoub, E. (2010). Diversification, bank risk taking and performance: Evidence from Tunisian banks. International Journal of Monetary Economics and Finance, 3(1), 13–32. https://ideas.repec.org/a/ids/ijmefi/v3y2010i1p13-32.html
  38. Nguyen, N. (2019). Revenue Diversification, Risk and Bank Performance of Vietnamese Commercial Banks. Journal of Risk and Financial Management, 12(3), 138. https://doi.org/10.3390/jrfm12030138
  39. Nguyen, T. C., Vo, D. V., & Nguyen, V. C. (2015). Risk and Income Diversification in the Vietnamese Banking System. Journal of Applied Finance & Banking, 5(1), 99–115.
  40. Nisar, S., Peng, K., Wang, S., & Ashraf, B. (2018). The Impact of Revenue Diversification on Bank Profitability and Stability: Empirical Evidence from South Asian Countries. International Journal of Financial Studies, 6(2), 40. https://doi.org/10.3390/ijfs6020040
  41. Noor, I., & Siddiqui, D. A. (2019). Evidence of Non-Linear Relationship between Non-Interest Income and Profitability of Commercial Banks in Pakistan. Asian Journal of Economic Modelling, 7(1), 14–26. https://doi.org/10.18488/journal.8.2019.71.14.26
  42. Paltrinieri, A., Dreassi, A., Rossi, S., & Khan, A. (2020). Risk-adjusted profitability and stability of Islamic and conventional banks: Does revenue diversification matter? Global Finance Journal, 100517. https://doi.org/10.1016/j.gfj.2020.100517
  43. Ramanujam, V., & Varadarajan, P. (1989). Research on corporate diversification: A synthesis. Strategic Management Journal, 10, 523–551.
  44. Republic of Zambia. (2018). The BoZ Prohibition against Unwarranted Charges and Fees. Government Printers.
  45. Sanya, S., & Wolfe, S. (2011). Can Banks in Emerging Economies Benefit from Revenue Diversification? Journal of Financial Services Research, 40(1–2), 79. https://doi.org/10.1007/s10693-010-0098-z
  46. Saunders, A., Schmid, M., & Walter, I. (2019). Strategic Scope and Bank Performance (SSRN Scholarly Paper ID 2504675). Social Science Research Network. https://doi.org/10.2139/ssrn.2504675
  47. Saunders, A., & Walter, I. (1994). Universal banking in the United States: What could we gain? what could we lose? Oxford University Press.
  48. Saunders, M., Lewis, P., & Thornhill, A. (2016). Research Methods for Business Students (7th ed.). Pearson Education Limited.
  49. Senyo, D. B., Olivia, A.-T., & Musah, A. (2015). Income Diversification and Financial Stability of Banks in Ghana. International Journal of Business and Social Science, 6(6), 8.
  50. Smith, R., Staikouras, C., & Wood, G. E. (2003). Non-Interest Income and Total Income Stability. SSRN Electronic Journal. https://doi.org/10.2139/ssrn.530687
  51. Stiroh, K. J. (2004). Do Community Banks Benefit from Diversification? Journal of Financial Services Research, 26(2/3), 135–160.
  52.  
The Case for Income Diversification in the Banking Sector in Zambia
PDF
Published
  • October 8, 2021
Categories
Copyright
  • Copyright (c) 2021 Kelvin Mukolo Kayombo
License

This work is licensed under a Creative Commons Attribution 4.0 International License.