Finance dissertation on bank complexity and its impact on risk evidence from vietnam

Dissertation Submitted in Partial Fulfillment of the Requirement for the MSc in Finance FINANCE DISSERTATION ON BANK COMPLEXITY AND ITS IMPACT ON RISK: EVIDENCE FROM VIETNAM DINH NGOC HAN ID No: 21071835 Intake Supervisor: Prof Dr Pham Thi Hoang Anh September 2022 Tai ngay!!! Ban co the xoa dong chu nay!!! 17014126221921000000 EXECUTIVE SUMMARY In the current context, banks no longer only perform basic functions such as taking deposits and making loans It has also entered non-banking sectors such as insurance or securities to compete and maintain its importance in the financial system Thus, more and more banks own multiple subsidiaries Since then, this trend has raised a concern about whether their increased complexity will have any effect on the bank's risk This paper investigates the impacts of bank business complexity on bank risk using Vietnamese bank data for the period from 2010 to 2020 Bank complexity is a normalized Herfindahl index based on affiliate types, classified into banks, insurance companies, mutual and pensions, other financial subsidiaries, and nonfinancial subsidiaries To compute bank risk, the paper uses the inverse z-score The inverse of the bank z-score is used to measure bank risk Empirical findings show that the relationship between bank complexity and bank risk is negative This suggests several managerial implications for commercial banks in Vietnam i ACKNOWLEDGEMENTS I would like to express my deep gratitude to Professor Pham Thi Hoang Anh, who guided and helped me complete the thesis in the most complete way I am especially grateful to her for her constructive criticism of my thesis and for her moral support at every stage of the project Eventually, I would like to express my gratitude to my family for all of their help, unending love, and faith in me Dinh Ngoc Han September 2022 ii TABLE OF CONTENTS EXECUTIVE SUMMARY i ACKNOWLEDGEMENTS ii TABLE OF CONTENTS iii LIST OF FIGURES iv LIST OF TABLES v CHAPTER INTRODUCTION 1 Rationale Research objectives and questions 3 Research significance CHAPTER 2: LITERATURE REVIEW 2.1 Bank Complexity 2.1.1 Concept 2.1.2 Measurements 2.2 Bank Risks 2.2.1 Concept 2.2.2 Measurements 10 2.3 Impact of bank complexity on its risk 11 2.4 Research gap 15 CHAPTER DATA AND METHODOLOGY 17 3.1 Model Methodology 17 3.1.1 Bank complexity 17 3.1.2 Bank risk 17 3.1.3 Control variables 18 3.1.4 Model 22 3.2.Data description 22 CHAPTER RESULT AND COMMENTS 24 4.1 Bank Complexity 24 4.2 Bank Risk 25 4.3 Control Variables 28 4.4 Empirical Results 30 4.5 Robustness Check with Alternative Measure 34 CHAPTER POLICY IMPLICATION AND RECOMMENDATION 40 REFERENCES 42 iii LIST OF FIGURES Figure Distribution of Bank Complexity Over Banks 24 Figure Distribution of bank risk over banks 26 Figure The correlation between bank complexity and bank risk 27 iv LIST OF TABLES Table Statistical Summary 28 Table Benchmark Estimation Results 31 Table 3.1 Alternative Measure (with Totalcount) 36 Table 3.2 Alternative Measure (with T) 38 v CHAPTER INTRODUCTION Rationale Since the beginning of time, people have witnessed banks carry out fundamental activities such as accepting deposits and providing financial assistance to those who are in need On the other hand, during the course of time, an increasing number of credit unions and financial companies emerged offering a diverse selection of services Significant structural shifts have taken place in the sector of the economy that deals in financial mediation As a result, banks too need to adapt in order to remain competitive Large international banks have grown their network of linked banking and non-banking businesses, while broadening the scope of the financial services they provide to their clientele and increasing the number of countries in which they conduct business In recent years, the bank has been increasingly diversifying the kinds of activities it engages in The variety of banking activities can be seen in a number of different areas, including the ones that are listed below To begin, the financial institution grew its operations inside the insurance industry It is not hard to imagine that a significant number of financial institutions, such as banks, currently own or are linked with insurance businesses As a result of the fact that borrowers are frequently asked by banks to purchase life insurance in addition to loan insurance in order to be approved for disbursement, this matter is becoming increasingly contentious It's possible that not all of our clients may be pleased with this Second, the bank expanded its offerings of unsecured loans in order to better meet the demands of its customers for installment services Unsecured loans are a type of loan that not require collateral, have straightforward application processes, and expedited funding by the lending institution However, the borrower will be exposed to a higher annual percentage rate of interest and a lower loan amount if the loan is an unsecured loan This method of lending will almost certainly result in delinquent accounts, and it will be challenging for financial institutions to collect delinquent debts due to the lack of assurance over the ability of borrowers to make payments In addition, financial institutions have a presence in the securities industry People have a tendency to have faith in these companies since they have the support of banks, which can be demonstrated by the fact that many banks establish subsidiaries that are corporations that deal in securities In addition, banks have expanded into other domains, such as the establishment of investment funds and other financial support services, in addition to their great work in their traditional areas of expertise As a result of this, it has become clear that, in the present setting, banks are gradually diversifying their commercial activity into other domains, rather than merely concentrating on each of its primary duties As a result, the bank is making its operations more complicated by acquiring more subsidiaries that are active in other industries When it comes to scaling inventions and expanding into other industries, this could have some of the repercussions that the bank will confront When banks are responsible for the daily operations of their subsidiaries, the likelihood of the bank being subject to additional risks increases If there is a problem in one location, it could have a domino effect and spread throughout the entire banking system Complex structures can also cause this Owning a large number of subsidiaries is likely to have a negative impact on the bank's profitability due to the increased operating costs that result, and the bank may also incur losses if the subsidiaries' operations are unsuccessful However, a bank's ability to allocate risk can be improved by having a large number of subsidiaries and operating in a variety of markets Even though there is growing competition in Vietnam from non-banking financial entities, banks are nevertheless able to sustain profitable operations by expanding into a variety of new markets and providing additional financial services In addition to this, it is able to take advantage of economies of scale thanks to the business diversification that has been implemented In general, the complexity of banks will have an effect on their risks, and in order to determine whether this will be a positive or negative effect, many different elements will need to be considered Numerous research studies have been conducted on this topic, several of which have included evidence from various nations all over the world On the other hand, Vietnam does not have a lot of reports on this topic because it is a relatively new problem, and banks in Vietnam have just lately started to expand into other fields Therefore, the purpose of this article is to investigate the effect that the complexity of a bank has on the risk that it poses using empirical evidence from banks in Vietnam This research report will be broken up into five distinct pieces after it is complete The historical context of the matter that will be investigated will be presented in the first chapter, which will also pose the inquiry that will be investigated In the second chapter, a review of the prior literature on this subject is presented This review covers the topic from both a theoretical and an empirical perspective The purpose of this review is to provide a foundation for the study framework and to support the reasonableness of conducting this research The collection of the data and the methodology that will be used to analyze it are both discussed in Chapter The empirical results are presented in Chapter 4, which, as a result, provides the answers to the research questions posed in Chapter Chapter concludes the paper Research objectives and questions The objective of the study is to assess how bank complexity affects the risk of selected Vietnamese banks The research question is as follows: How does bank complexity impact on risk for the case of Vietnamese banks? Research significance This investigation was carried out to determine whether or not the complexity of a bank contributes to its level of risk Banks in Vietnam were chosen to participate as subjects in the study There are currently a large number of studies focusing on this topic; however, the scope of these studies is limited to other nations and economic regions There are not many papers written on this subject in Vietnam As a result, the purpose of this study article is to act as a reference for additional research to be conducted on this subject so that it can grow and develop CHAPTER 2: LITERATURE REVIEW 2.1 Bank Complexity 2.1.1 Concept The complexity of a bank can be defined in a variety of ways According to the findings of Correa and Goldberg's (2021) research, the level of a bank's assets is the primary factor in determining the complexity of the bank This indicates that the complexity of a bank will increase in proportion to the number of assets it possesses In addition, Marinelli et al (2022) have included bank complexity through the use of a different method They are dependent on four features, which are the following: exposure to global commercial banking operations; geographical allocation; diversification of income streams; and the integration of trading activities in the market The more stringent these conditions are, the more challenging operating a bank can be The ownership structure of a bank's subsidiaries is another factor that can be used to evaluate the institution's overall complexity When it comes to increasing the circulation of money across an economy, banks play a significant part in the process As a result, the expansion of the banking business in the context of the current economic environment requires a great deal of care The banking system as a whole has grown over the years in terms of size, organizational complexity, and the commercial scope it serves; it now encompasses new areas of financial intermediaries as well as enterprises that are not in the financial sector (Cetorelli et al., 2014) A rising branch network and a major expansion in non-banking businesses on a national and international scale are two factors that have contributed to the altered international footprint of financial institutions (Cetorelli et al., 2014) For instance, financial institutions could be the owners of additional securities firms, insurance firms, or fund management companies Another definition of bank complexity is provided by Martynova and Vogel (2022), who base it on the number of different types of subsidiaries a bank holds To be more specific, there are five primary categories, which are as