How does financial inclusion affect bank stability in emerging economies?

We study how financial inclusion influences bank stability in 36 emerging economies using bank-level data from more than 1500 commercial banks from 2004–2018. Consistent evidence shows that financial inclusion development increases bank stability. Moreover, the nexus between financial inclusion and bank stability is also found to be conditional on the business cycle, financial circumstances, governmental intensity, and policy environments. Specifically, a florescent economy and sound policy environments are conducive to strengthening the effect of financial inclusion on bank stability. In contrast, stronger governmental power and a looser financial environment may promote higher risk-taking or lower bank stability during the financial inclusion process. We further investigate possible channels through which financial inclusion works on bank soundness, including the channels of operational efficiency, risk management and funding stability. Finally, some important policy implications relevant to emerging economies can be drawn from our findings when authorities take measures to promote financial inclusion schemes while maintaining financial stability.