Do Capital Buffers Matter? A Study on the Profitability and Funding Costs Determinants of the Brazilian Banking System

This paper consists of an empirical investigation of Brazilian banks' profitability determinants. The panel data is composed of quarterly information for 71 banks between the first quarter of 2002 and the second quarter of 2012. Using data from the Brazilian banking system, we study the traditional determinants of bank profitability - controlling for macroeconomic environment, bank-specific characteristics and industrial structure of the banking sector - and contribute by analyzing the effects of capital buffers on bank profitability. We find that capital buffers have a positive impact on Brazilian banks' profitability. This result reinforces the hypothesis that buffers signalize stability and safety, reducing costs of fund raising. Other findings include a negative effect of high default rates on profitability; the positive effect of higher liquid assets ratios and, finally, the higher profitability of smaller, domestic private banks. The results are important to comprehend Brazilian banking institutions and can also help formulating and conducting monetary and regulatory policies