Structure and profitability in the banking sector

The relationship between profit and bank market structure continues to raise questions amongst both policy makers and researchers. While some evidence supports a positive relationship between market structure, competition and profitability, other evidence seems to support the fact that profitability and related market share result from efficiency. Moreover, extant literature on South Africa is conflicting and seems to contradict anecdotal evidence. While some studies point to a competitive environment despite concentration, others suggest that concentration in the banking sector is harmful. Prosecution of banks for uncompetitive behavior also casts doubt on the conclusion that the South African banking sector is competitive. This paper examines the relationship between structure and conduct in the South African banking sector. Using the Berger (1995) discriminating tests, the effect of industry concentration, market share and efficiency on three measures of profitability is estimated on a panel of 11 South African banks for data between 1994 and 2016. The results show that concentration affects conduct. The profit-structure relationship is dominantly explained by the structure conduct hypothesis and partly by the efficient scale hypothesis. These results suggest that policy which discourages concentration and promotes competition in the banking sector is socially beneficial.