Profitability Determinants of Deposit Institutions in Small, Underdeveloped Financial Systems: The Case of Fiji

This paper investigates the profitability determinants of deposit–taking institutions in Fiji, a representative South Pacific economy, over the 2000–2010 period. The study uses panel data techniques of fixed effects estimation and generalized method of moments (GMM) to purge time–invariant unobserved firm–specific effects and to mitigate potential endogeneity problems. Market power (measured by the Lerner Index) is a key determinant of profitability, which, inter alia, allows institutions to pass on to their clients the interest costs of raising deposit liabilities and the overall cost of operations; the association of both with profitability is positive and highly significant. Moreover, raising deposit liabilities and granting loan beyond a certain point may not be profitable for institutions. Policy implications are considerable, especially for the small, fragile, growth–challenged South Pacific island economies.