How does corruption undermine banking stability? A threshold nonlinear framework

This study assesses the effect of corruption on the occurrence of banking crises for a sample of 38 countries over the period 2000–2017. We consider both the direct and the indirect channels through which corruption might affect the occurrence of banking crises. We also check, using a threshold regression approach, for the existence of a corruption threshold driving a regime switching in our sample countries for both high-income and low-income countries. Estimation outcomes suggest that; overall, corruption increases the probability of banking crises. The indirect effect estimation suggests that corruption negatively affects the banks’ lending through excessive risk rather than through their profitability. The panel threshold analysis provides evidence of a nonlinear corruption-banking stability relationship with the existence of two corruption-banking stability regimes. The study also provides evidence that corruption matters more for low-income than for high-income countries with regard to their banking system stability.