Stability and Profitability in the Chinese Banking Industry: evidence from an auto-regressive-distributed linear specification

The important role played by the Chinese commercial banks in the development of China’s economy makes the government and banking regulatory authority give great concern about the performance of Chinese commercial banks, while the stability in the banking sector, without any doubt, has attracted greater attention since the financial crisis during 2007 and 2009. The principal objective of this study is to investigate the inter-relationships between profitability and stability in the Chinese banking industry. Using a sample of Chinese commercial banks over the period 2003-2013, the current study examines the inter-relationships under an auto-regressive-distributed linear model. With regard to the measurement of stability, both Z-score and stability inefficiency were used, while Return on Assets (ROA) was used as the indicator of profitability. In terms of the econometric methods, the current study used different types of Generalized Method of Moments (GMM) estimators including difference GMM, one-step system GMM, two-step system GMM as well as two-step robust GMM. In order to the check the robustness of the results, alternative econometric techniques were used such as ordinary least square (OLS) estimator, between effect estimator as well as fixed effect estimator. The results show that higher insolvency risk/lower bank stability leads to higher profitability of Chinese commercial banks and also that higher profitability leads to higher bank fragility.