Institutional Development and Its Impact on the Performance Effect of Bank Diversification: Evidence from Transition Economies

This paper investigates the performance impact of bank diversification on loan and asset portfolios in transition economies. We find that asset diversification is associated positively and loan diversification negatively with bank performance. We also examine the relationship between institutional changes and the performance impact of bank diversification. Our results indicate that different types of institutional reforms play different roles. Banking liberalization and corporate governance restructuring significantly enhance profit gains from loan and asset diversification. Legal reforms, however, tend to reduce profit gains and usually entail a diversification discount. Our findings on the differential impact of various institutional measures on bank performance contribute to a better understanding of the role of institutional reforms of the past two decades in transition countries.