The determinants of interest margins and their effect on bank diversification: Evidence from Asian banks

An endogenous switching regression model is employed for this study, categorizing the banks into regimes of high and low degrees of diversification, with our results indicating that net interest margins can be less sensitive to fluctuations in bank risk factors for functionally diversified banks as compared to more specialized banks. In turn, this implies that by diversifying their income sources, these banks can reduce the shocks to net interest margins arising from idiosyncratic risk. Our results show that prior findings can hold when the banks are located in a regime with a low degree of diversification.

► We examine how diversification affects the determinants of net interest margins.
► We model degree of diversification by two-regime endogenous switching model.
► Diversified banks reduce impact of idiosyncratic risk on net interest margins.
► Banks with non-traditional banking activities have a lower loans-to-assets ratio.
► High loans-to-assets ratio raises chance of facing a low degree of diversification.