Bank profitability under uncertainty

The paper examines how uncertainty affects bank profitability, which has been surprisingly underexplored in the existing literature. Concretely, we focus on uncertainty in the banking sector and measure it via the cross-sectional dispersion of shocks to key bank-level variables. Using panel data from Vietnam during 2007–2019 and the two-step system generalized method of moments estimator in dynamic panel models, we find consistent evidence that banking uncertainty hampers the overall return of banks. In more detail, our analysis suggests that the adverse impact of banking uncertainty on net interest income dominates the favorable ones on aggregate non-interest income and loan loss provisions. While decomposing non-interest income into disaggregate components, we document that banks tend to improve income sources from fees, commissions, foreign exchange transactions, and other non-traditional segments amid uncertainty in banking, as opposed to the depreciation in securities trading revenues. Our additional examination further indicates that all effects are more pronounced for banks suffering more credit risk and default risk. This finding offers new evidence to support the notion that banking uncertainty leads banks to act cautiously as a precautionary motive.