Liquidity Mismatch Index and Bank Performance

Abstract

The relationship between liquidity and bank performance in finance literature remains an unresolved empirical issue. The main objective of this article was to investigate the relationship between liquidity mismatch index (LMI) initially developed by Brunnermeier, Gorton and Krishnamurthy (2012) and further developed by Bai, Krishnamurthy, and Weymuller (2018) and South African bank performance empirically. Different from other prior studies, the study undertook to determine the relationship employing the liquidity measure that integrates both market liquidity and funding liquidity within a context of asset liability mismatches. The unit of analysis was a panel of 12 South African banks over the period 2008–2018. Specifically, two liquidity measures – the bank liquidity mismatch index (BLMI) and the aggregate liquidity mismatch index (ALMI) were regressed against bank performance matrices. The newly developed liquidity measures are based on portfolio management theory and they account for the significance of liquidity spirals. Results revealed that, bank performance is negatively and significantly related with BLMI. While the bank performance is positively related to ALMI, the relationship is not significant. Also, the nature of relationship is dependent on the measure of profitability employed.