Determinants of Profitability of Banks in India: A Multivariate Analysis

By Bodla, B. S.; Verma, Richa | Journal of Services Research, April 1, 2007 | Go to article overview

Determinants of Profitability of Banks in India: A Multivariate Analysis


Bodla, B. S., Verma, Richa, Journal of Services Research


INTRODUCTION

Since the initiation of economic reforms in 1991-92, the banking sector in India has seen numerous developments and policy changes. The more important reforms initiated in the banking sector includes adoption of prudential norms in terms of capital adequacy, assets classification and provisioning, deregulation of interest rates, lowering of Statutory Liquidity Ratio (SLR) and Cash Reserve Ratio (CRR), opening of the sector to private participation, permission to foreign banks to expand their operations through subsidiaries, the introduction of Real Time Gross Settlement (RTGS) and liberalization of FDI norms. The main thrust of the banking sector reforms has been the creation of efficient and stable financial institutions and development of the banking industry. The reforms have been undertaken gradually with mutual consent and wider debate amongst the participants and in a sequential pattern that is reinforcing the overall economy.

Introduction of banking sector reforms have changed the face of Indian banking industry. The national, institutional and international boundaries are becoming less important. The globalization of operations and development of new technologies are taking place at a rapid pace. A paradigm shift in marketing philosophy of banks is visible from the rising focus towards quality of service for customers. All this has led to the increase in resource productivity, increasing level of deposits, credits and profitability and decrease in nonperforming assets (Charan Singh, 2005). The statistics on important indicators of the performance of Banking Industry in India as exhibited in Table-1 reflect an appreciable growth of banks. The table also gives a hint that the public sector banks still dominates the scene of banking in India.

However, the banks are now facing a number of challenges such as frequent changes in technology required for modern banking, stringent prudential norms, increasing competition, worrying level of NPA's, rising customer expectations, increasing pressure on profitability, assets-liability management, liquidity and credit risk management, rising operating expenditure, shrinking size of spread and so on. The reforms in banking sector have also brought the profitability under pressure. RBI's efforts to adopt international banking standards have further forced the banks to shift the focus to profitability for survival. Hence, profitability has become major area of concern for bank's management. Infact, profit is an important criteria to measure the performance of banks in addition to productivity, financial and operational efficiency.

An efficient management of banking operations aimed at ensuring growth in profits and efficiency requires up to date knowledge of all those factors on which the bank's profit depends. This is only possible through research studies conducted by researchers, economists and analysts.

A lot of research work has so far taken place concerning the views about the role of financial and banking development in economic growth (McKinnon 1973; Shaw 1973; Rajan and Zingales 1998; Levine 2004; Singh 2005). Similarly some studies have been undertaken for measuring the productivity and operational efficiency of banks in India. More recent among them includes- Cheema and Agarwal (2002), Ketkar, Noulas and Agarwal (2003), Singh (2003). Insofar as our information is concerned, however, very scanty work has been done with the objective of identifying the determinants of profitability of banks in India. The recent studies of Chandan and Rajput (2002) and Saggar (2005) have examined the factors determining profitability of banks in India. Therefore, the onus of conducting more research studies lies on the researchers so as to identify the determinants of profitability of banks.

This paper is divided into four sections. A discussion on the Database and Methodology follows the introduction. Empirical results are reported next. Conclusion is available in the final section of the paper. …

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