Abstract

Using data on commercial banks in seven Latin American countries from 1995 to 2012, we find evidence of several major relationships involving bank profitability, including: 1) an inverse U-shaped relationship between banks' capital ratios and profitability, 2) a positive relationship between asset diversification (e.g. security trading, hedge funds, foreign exchange, assurance, etc.) and profitability, 3) a negative relationship between revenue diversification (e.g. interests, fees, commissions, etc.) and profitability, 4) a positive relationship between market concentration and profitability, and 5) improvements in the legal and regulatory system are associated with a negative impact on banks' profitability. This paper contributes to the literature by assessing these relationships using data on Latin American banks and by estimating their models using a system GMM approach that addresses issues arising from endogenous independent variables and heterogeneity among individual banks. (C) 2016 Elsevier Inc. All rights reserved.