Description
The Dual Impact of Capital and Liquidity Regulation on Profitability and Efficiency in UK Retail Banking (2000–2022)Background and Objective: Since the 2007–2009 global financial crisis, the UK banking sector has faced stringent regulatory reforms—most notably Basel III capital and liquidity requirements—designed to bolster financial stability. However, the effects of these measures on bank performance remain controversial. This study examines how firm-specific capital mandates and liquidity coverage regulations have influenced both profitability and operational efficiency in the four largest UK retail banks over a 22-year period.
Research Question: Do post-crisis capital and liquidity regulations enhance or impede bank performance in terms of (i) profitability—measured by return on assets, return on equity, and net interest margin—and (ii) technical efficiency, as captured by productivity changes over time?
Methodology: We employ a two-stage empirical framework. First, panel regression models with robust standard errors assess the relationship between profitability and key regulatory indicators (Tier 1 capital ratio, total capital, high-quality liquid assets, loan loss provisions), controlling for macroeconomic factors (inflation, GDP growth, and interest rates). Second, we apply Data Envelopment Analysis and the Malmquist productivity index to decompose changes in bank efficiency into technological shifts and technical efficiency change. This approach allows for dynamic assessment of productivity trends in response to regulatory evolution.
Key Findings:
Profitability: Both capital and liquidity regulations exhibit statistically significant positive associations with return on assets and return on equity. Strong capitalization consistently reduces funding costs, while robust liquidity buffers enhance resilience and market confidence. The impact on net interest margin is positive but more nuanced, reflecting trade-offs between stability and yield.
Efficiency: Average Total Factor Productivity Change falls slightly below unity (0.993), driven entirely by technical efficiency variations; technological change remains constant. Efficiency troughs align with major shocks—2007–2009 GFC and 2019–2020 pandemic—while rebounds follow operational restructuring. Capital requirements support efficiency by encouraging prudent risk management, whereas high liquidity reserves marginally dampen it through idle balance sheet capacity.
Contribution and Implications: This study contributes to the regulatory literature by demonstrating that capital and liquidity buffers can simultaneously enhance profitability and financial resilience in a concentrated banking environment, albeit with mixed effects on operational efficiency. Findings inform policymakers and banking practitioners on how to calibrate regulatory standards to achieve a balance between stability and productive intermediation.
| Period | 8 Sept 2025 |
|---|---|
| Event type | Conference |
| Location | Swansea, United KingdomShow on map |
| Degree of Recognition | Regional |