Journal of

Risk and Financial

Management

Article
COVID 19 and Bank Profitability in Low Income Countries:
The Case of Uganda
Lorna Katusiime

Economic Research Department, Bank of Uganda, Kampala P.O. Box 7120, Uganda; [email protected]

Abstract: This study investigates the impact of the COVID-19 pandemic on banking sector profitabil-
ity in Uganda for the period spanning Q1 2000 to Q1 2021, using the autoregressive distributed lag
(ARDL Bound) testing approach to co-integration while controlling for bank specific and macroeco-
nomic determinants of bank profitability. Bank profitability is proxied by return on assets (ROA),
return on equity (ROE), and net interest margin (NIM). The study finds that the COVID 19 pandemic
has a significant negative effect on bank profitability only in the long run. Generally, the explanatory
variables used in the study have short run and long run effects on bank profitability, although the
impact is not uniform across the different measures of bank profitability. In the short run, bank
profitability is generally negatively and significantly affected by the non-performing loans ratio,
liquidity ratio, and market sensitivity risk, while the Treasury Bill interest rate and lending rate have
a significant positive effect on bank profitability. In addition, the study finds that bank profitability
has a tendency to persist in the short run, although persistence is only moderate, suggesting that
the Ugandan banking sector may not have large deviations from a perfectly competitive market
structure. In the long run, bank profitability is broadly positively and significantly affected by the
non-performing loan ratio;, real GDP, lending rate and Treasury Bill interest rate while market sensi-





 tivity risk and the exchange rate significantly and negatively affect bank profitability. Surprisingly,
Citation: Katusiime, Lorna. 2021. the study finds inflation does not significantly affect bank profitability over both the short- and
COVID 19 and Bank Profitability in long-term.
Low Income Countries: The Case of
Uganda. Journal of Risk and Financial Keywords: banks; profitability; economic activity; inflation; interest rate; exchange rate; COVID-19
Management 14: 588. https:// pandemic crisis
doi.org/10.3390/jrfm14120588
JEL Classification: E44; E59; G01; G10; G21; G29; L10
Academic Editor: Cuong Nguyen

Received: 19 October 2021

Accepted: 25 November 2021 1. Introduction
Published: 7 December 2021
The COVID-19 pandemic caused a significant global economic shock, triggering the
deepest global economic recession in nearly a century (OECD 2020, n.d.). Although the
Publisher’s Note: MDPI stays neutral
global economy is on the journey to recovery, the rebound is expected to be uneven across
with regard to jurisdictional claims in
countries, with strong growth in major economies even as many developing economies
published maps and institutional affil-
iations.
lag (World Bank 2021). Sub-Saharan African countries are among the most severely af-
fected by the pandemic and are expected to have suffered serious setbacks in develop-
ment and per capita income gains by at least a decade (African Development Bank 2021;
World Bank 2021). Ongoing implementation of large-scale containment measures by gov-
ernments and uncertainty regarding the duration of the pandemic continue to adversely
Copyright: © 2021 by the author.
affect economic and financial conditions in developing countries, making the recovery
Licensee MDPI, Basel, Switzerland.
more varied, difficult and uncertain.
This article is an open access article
The African financial sector has not been spared from the pandemic, which exposed
distributed under the terms and
conditions of the Creative Commons
financial institutions to extraordinary operational and financial challenges. The COVID-19
Attribution (CC BY) license (https://
pandemic contributed to a sharp rise in defaults of corporate and household debt, ad-
creativecommons.org/licenses/by/ versely affecting the financial performance of banks and their ability to intermediate credit
4.0/). and support an economic recovery (Minney 2020; Tyson 2020; Barua and Barua 2020).

J. Risk Financial Manag. 2021, 14, 588. https://doi.org/10.3390/jrfm14120588 https://www.mdpi.com/journal/jrfm

J. Risk Financial Manag. 2021, 14, 588 2 of 19

Indeed, the average return on equity for African banks fell by 50 percent to 7 percent
in 2020, although this is expected to rebound to near pre-crisis levels within the next
three years if economic recovery on the continent continues on the expected trajectory
(Jurd de Girancourt et al. 2021). Regulators have, since the onset of the pandemic, taken
steps to ensure financial stability and reduce the risks to the banking system. Neverthe-
less, an understanding of the effects of the COVID-19 pandemic on banks profitability in
developing countries is critical given their pivotal role in Africa’s resilience and recov-
ery. Understanding the effects of the pandemic on banks requires a careful case by case
examination (Barua and Barua 2020).
To this end, this paper investigates the impact of the COVID-19 pandemic on the
profitability of the banking sector in Uganda, given the paucity of empirical research on
the impact of the COVID 19 pandemic on bank performance in the context of developing
countries. In investigating the impact of the COVID 19 pandemic on banking sector
profitability in Uganda, the study controls for bank specific factors such as non-performing
loans ratio, liquidity ratio, and market sensitivity, as well as macroeconomic specific
indicators such as real GDP, inflation, nominal exchange rate, lending rate and the Treasury
Bill interest rate. The analysis is carried out using the autoregressive distributed lag
(ARDL) cointegration framework and data spanning the period spanning Q1 2000 to Q1
2021. Bank profitability is proxied by return on assets (ROA), return on equity (ROE) and
net interest margin (NIM). To the best of our knowledge, no previous empirical study
has explicitly investigated the effect of the COVID 19 pandemic on bank profitability in
developing countries.
The paper is structured as follows: Section 1 gives a brief introduction, Section 2 pro-
vides an overview of the literature on bank profitability, followed by Section 3, which gives
an overview of the banking sector in Uganda, while Section 4 describes the methodology
and estimation technique employed, namely, the autoregressive distributed lag (ARDL)
bounds-testing approach introduced by Pesaran et al. (2001). In Section 5 the results are re-
viewed with a discussion of econometric analyses, while Section 6 draws some conclusions
and makes policy recommendations.

2. Bank Profitability and the COVID-19 Pandemic

Due to the central role banks play in the economic welfare, growth and development of
nations, banking performance continues to generate attention from industry experts, policy
makers and researchers alike. The most common measure of bank performance is profitabil-
ity, which is often proxied by profitability ratios like return on assets (ROA), return on equity
(ROE) and net interest margin (NIM) (Sufian and Habibullah 2009; Rahman et al. 2015;
Kumar et al. 2020; Titko et al. 2015). In the vast extant literature, bank profitability is gener-
ally expressed as a function of internal (bank specific) and external (macroeconomic and
industry-specific) factors (Titko et al. 2015; Sufian and Habibullah 2009; Rahman et al. 2015).
However, the contribution of various internal and external factors to bank profitability in
emerging and developing economies remains a subject of contention largely due to the
mixed and sometimes contradictory empirical results in the literature1 .
For instance, Ozili (2021) found that consistency in determinants of bank profitability
varied across countries and profitability measures. The study’s comparative analysis
showed that the steadiest determinants of bank profitability in Nigeria were overhead
cost to total asset ratio and cost efficiency ratio, while in south Africa it was the capital
adequacy ratio and overhead cost to total asset ratio; and in the United States none of the
determinants of bank profitability had a statistically significant affect on NIM, although
for ROA and ROE, capital adequacy ratio and size of non-performing loans were the most
consistent determinants of bank profitability. In addition, for the three countries taken
together and across the three measures of bank profitability (ROA, ROE and NIM), the
steadiest determinants of bank profitability were cost efficiency, the size of non-performing
loans, and overhead cost to total asset ratio. Among the inconsistent determinants was
inflation, which was significant and negatively related to NIM but insignificantly related
J. Risk Financial Manag. 2021, 14, 588 3 of 19

to ROA and ROE, while GDP growth was significant and positively related to ROA and
ROE but insignificantly related to NIM. He also found that NIM and ROA were higher in
Nigeria and lowest in the United States, suggesting that the Nigerian banking sector was
more profitable than the US banking sector, while inflation and GDP growth were lower in
the United States and much higher in Nigeria, suggesting that the United States enjoyed
greater macroeconomic stability compared to Nigeria. The study therefore concluded
that the determinants of bank profitability vary across countries on account of country-
specific characteristics such as the nature of banking systems, the level of financial sector
development, and banking regulation and supervision.
Among the studies that highlight the variation in the determinants of bank profitability
across countries is that by Boateng (2018). While examining the bank-specific and macroeco-
nomic factors affecting bank profitability, the study found that credit risk, net interest margin,
capital adequacy and inflation significantly affected the profitability of banks as measured
by ROA in both Ghana and India. In contrast, liquidity risk and GDP growth were found to
have insignificant effects on bank profitability in both countries, while cost to income ratio
and bank size had insignificant effects on Indian bank profitability but were highly significant
for Ghanian bank profitability. On the other hand, Almaqtari et al. (2019) found that bank
size, the number of branches, assets management ratio, operational efficiency, and leverage
ratio were key bank specific factors in explaining the profitability of Indian commercial
banks as measured by ROA, while ROE was positively and significantly affected by asset
quality ratio, asset management ratio, bank size, and liquidity ratio. In addition, ROE is
significantly affected by gross domestic product, inflation rate, interest rate, financial crisis
and exchange rate, while demonization, interest rate, exchange rate, and inflation rate are
found to have a significant impact on ROA.
In addition, the determinants of bank profitability also appear to vary within countries
over time. For instance, Sufian and Habibullah (2009) and Rahman et al. (2015) examined
the factors affecting bank profitability proxied by ROA, ROE and NIM in Bangladesh
and both studies found that loans intensity positively and significantly affected bank
profitability. Sufian and Habibullah (2009) also found non-interest income, credit risk and
cost significantly affected all three measures of bank profitability while Rahman et al. (2015)
found that capital strength (both regulatory capital and equity capital), cost efficiency and
off-balance sheet activities significantly affected all three measures of bank profitability. In
addition, Sufian and Habibullah (2009) also found that the impact of size was not uniform
across all employed measures of bank profitability and macroeconomic determinants
did not significantly affect bank profitability with the exception of inflation which had a
negative relationship with Bangladesh banks’ profitability proxied by NIM. Rahman et al.
(2015) also found inconsistent effects of other variables employed in the study such as
non-interest income, credit risk and GDP which were key determinants for NIM, while size
had a positive and significant impact on ROA and inflation had a negative and significant
impact on ROA and ROE.
Further Adelopo et al. (2018) examined the behavior of the determinants of bank
profitability in the periods prior to, during and post the global financial crisis in the
Economic Community of West African States. The study found that ROA before, during,
and after the financial crisis was significantly affected by cost management, liquidity and
size while the effect of bank specific factors such as market power, credit risk and capital
strength and macroeconomic factors such as gross domestic product and inflation was
sensitive to the applied periods of analysis and bank profitability measure. The study thus
concluded that overall the financial crisis had no effect on relationships between some
bank-specific determinants and bank profitability.
Le and Ngo (2020) found that the amount of automated teller machines (ATMs), point
of sale (POS) terminals and bank cards issued could improve bank profitability in the 23
countries covered in their study while market power has a negative impact on profitability
of banks, which may be suggestive of the beneficial effects of competition on bank prof-
itability. In addition the study also found that greater financial development increased
J. Risk Financial Manag. 2021, 14, 588 4 of 19

bank profitability, an indication of the importance of financial market development for

the profitability of the banking sector. Importantly, banking systems faced with higher
credit risk, charged higher interest rates in order to compensate for the associated default
risk. Further, the global financial crisis and economic growth significantly affected bank
profitability. Kohlscheen et al. (2018) analyzed key determinants of bank profitability in
19 emerging market economies and found a tendency to reduced profitability following
higher short-term rates arising from increased funding costs while higher long-term interest
rates are associated with increased profitability. In addition, during normal periods, credit
growth appears to be crucial for bank profitability than GDP growth while rising sovereign
risk premia significantly reduced bank profits, highlighting the need for credible monetary
and fiscal frameworks in maintaining overall financial stability.
The emergent body of literature on effects of the COVID-19 pandemic on the bank-
ing sector remains mostly applicable to advanced economies (Barua and Barua 2020),
even while the pandemic is expected to more adversely affect banking systems in low
income countries especially where banks remain the leading providers of financial services
(Damak et al. 2020). Among the few available studies in the context of emerging and de-
veloping countries is Elnahass et al. (2021) and Barua and Barua (2020). Elnahass et al.
(2021) examined the impact of the ongoing COVID-19 pandemic on global banking stability
and found the COVID-19 outbreak adversely affected both financial stability and financial
performance. The results were consistent across in various regions and countries in the
global banking sector as well as at different levels of country income generation and bank
characteristics. In addition, the study found the pandemic had significant variation in its
impact on conventional and Islamic banking systems although the bank stability signal
for recovery in the second quarter of 2020 was identified from trend analyses based on
financial stability over quarterly periods and bank average performance.
While looking at the banking sector in Bangladesh, Barua and Barua (2020) examined
the potential effects of the COVID-19 pandemic on firm value, capital adequacy, and
interest income under different NPL shock scenarios and found that the pandemic will
likely adversely affect all banks’ capital adequacy ratios, interest income and risk-weighted
asset values at both sectoral and individual bank levels although larger banks are likely
to be more hard hit. In addition, in the event NPL shocks are greater, the decline in firm
value, capital adequacy, and interest income will increase disproportionately. Even more
concerning is the finding that all banks capital adequacy could fall under the minimum
BASEL-III requirement in the event of a 10% NPL shock while a shock of 13% or more will
likely cause a fall in banks capital adequacy to zero or negative at the sectoral level and as
such the authors suggest urgent policy action is necessary to address the crisis in order to
avert a potentially large-scale and contagious banking crisis in Bangladesh.
Thus this paper contributes to the extant literature by providing empirical evidence
on the effect of the COVID-19 pandemic on bank performance in Uganda given the paucity
of literature in the context of developing countries. More specifically, the study investigates
the effect of the COVID-19 pandemic on bank profitability while controlling for bank
specific factors like non-performing loans ratio, liquidity ratio and market sensitivity and
macroeconomic determinants such as real GDP, inflation, nominal exchange rate, lending
rate and the Treasury Bill interest rate.

3. An Overview of Uganda’s Banking Sector

In the period preceding the early 1990s, Uganda’s banking sector was considered
weak, one of the least developed in sub-Saharan Africa, characterized by inefficiency, a
lack of competition, heavy government ownership and control as well as a low degree
of monetization of the economy (De Zoysa et al. 1995; Kuteesa et al. 2010; Bigsten and
Kayizzi-Mugerwa 2001). The structural deficiencies of the financial sector manifested
through the lack of confidence in the banking system, which was exacerbated by the
1987 currency reform that was accompanied by a 30 percent tax on currency in circula-
tion, bank balances, and financial assets, high inflation and negative real interest rates
J. Risk Financial Manag. 2021, 14, 588 5 of 19

between 1985 and 1988 (De Zoysa et al. 1995). The banking system was dominated by
government-owned banks like Uganda Commercial Bank (UCB) which had more than
half the deposits in the system and four foreign managed banks holding an additional
30 percent of deposits (De Zoysa et al. 1995; Bigsten and Kayizzi-Mugerwa 2001). In the
decade following the early 1990s, the government in partnership with multilateral agencies
such as the IMF began a series of financial sector reforms which included privatization of
government-owned banks, adoption of indirect instruments of monetary policy, interest
rates liberalization, banking legislation renewal, central bank restructuring, and other
reforms (De Zoysa et al. 1995; Bigsten and Kayizzi-Mugerwa 2001; Kuteesa et al. 2010). In
general, the main goal of the reforms was to improve banking sector efficiency and promote
financial sector deepening and, since then, the banking sector has registered remarkable
recovery and development.
As shown in Table 1, the banking sector has grown considerably over the last two
decades, growing from 20 commercial banks with a total asset base of UGX 1.35 trillion,
representing average assets per regulated bank of UGX 0.07 trillion in 1999 to 25 commercial
banks with a total asset base of UGX 38.30 trillion, representing average assets per regulated
bank of UGX 1.53 trillion in 2020 (see Table 1). Total banking sector assets are mainly funded
by customer deposits and as at December 2020, approximately 57 per cent of Uganda’s
banking sector assets are held by five banks, four of which are foreign owned. In addition,
asset quality, which is measured by the ratio of non-performing loans to total gross loans
and advances (NPL ratio) in the commercial banks, improved markedly from 26 percent in
1999 following the closure of insolvent banks and restructuring of weak banks during this
time to 5.3 percent 2020.

Table 1. Excerpt of banking sector performance.

Number of Total Assets NPL Ratio

Year ROA (%) ROE (%)
Banks (UGX Trillions) (%)
1999 20 1.352 1.02 24.5 26
2005 15 3.689 3.4 28.6 2.3
2018 24 28.1 2.5 14.4 3.4
2019 26 32.8 2.5 13.8 4.9
2020 25 38.3 1.8 10.3 5.3
Source: Bank of Uganda.

The supervision and regulation of banking activity is vested in the Bank of Uganda
(BOU), whose prudent regulatory and supervisory policies continue to support the de-
velopment of the financial sector. Despite the growing number of financial institutions
offering diversified services, the financial system remains dominated by the commercial
banking sector, which is comprised of 25 commercial banks and 565 branches (Bank of
Uganda 2020a, 2020c). Notwithstanding, partnerships are developing between traditional
banks and fintechs such as mobile money operators to provide banking and other services
to millions of the unbanked (Mawejje and Lakuma 2017; Katusiime 2021; Lwanga Mayanja
and Adong 2016; Bank of Uganda 2020a). Recent data show the continued proliferation
of electronic payment systems and digital banking services in Uganda, partly driven by
the promotion of cashless transactions usage as a measure to reduce the risk of COVID-19
transmission by financial institutions. In the year ended June 2020, active users of inter-
net and mobile banking services grew to by 36.7 percent and 46.9 percent, respectively,
while the number of active credit card users grew by 8.2 percent relative to the previous
year (Bank of Uganda 2020b). In contrast, the number of active debit card users declined
marginally by 0.6 percent over the same period. Further, in the year to June 2020, the
value and number of point-of-sale (POS) transactions rose by 14.5 percent and 27.5 percent,
respectively.
Uganda’s banking sector is set to be adversely affected by the COVID-19 pandemic
as a result of the slowdown in economic activity and its adverse impact on the financial
J. Risk Financial Manag. 2021, 14, 588 6 of 19

condition of households and businesses and their ability to service their debt with an
adverse knock-on effect on the financial performance of banking institutions (Bank of
Uganda 2020b). The onset of the COVID-19 pandemic and the resultant containment
measures posed an unprecedented shock to the banking sector to the extent that if the
central bank had at the beginning of the COVID-19 pandemic enforced a three-month
customer loans repayments holiday, more than half of Uganda’s commercial banks would
have collapsed (The East African 2020; Bank of Uganda 2020b). While the banking sector
continues to grow, as evidenced by the 20.3 percent increase in bank accounts to 17 million
by June 2020 (Twaha 2021), bank performance declined following the onset of the COVID-
19 pandemic and the necessary measures to contain it (See Table 1). Asset quality, which is
measured by the non-performing loans ratio (NPL ratio), deteriorated in the commercial
banks from 3.4 percent in 2018 to 4.9 percent and 5.3 percent in 2019 and 2020 respectively,
while the profit and loss statements of the commercial banks show limited improvement in
the profitability of the sector, with earnings of the sector at an aggregate level as depicted
by the ratio of ROA and ROE falling to 1.8 percent and 10.3 percent, respectively.
However, the banking sector remains resilient, supported largely by BOU’s macro
prudential policy measures aimed at moderating the impact of the pandemic on banks’
performance and the financial system as a whole. BOU implemented several decisive
measures, including maintaining an accommodative monetary policy stance, instituting
emergency liquidity assistance for banks, providing credit relief measures to borrowers, and
putting a moratorium on bank dividend payments to build up capital and liquidity reserves
(Bank of Uganda 2020b). Overall, the BOU continues to monitor and address emerging
risks to financial sector stability, given the ongoing concerns related to the uncertainty of the
duration of the pandemic and containment measures as well as the pace of the economic
recovery and its effect on the performance of banks (Bank of Uganda 2020a, 2020b).
Thus, an understanding of the effects of the ongoing COVID-19 pandemic on bank
performance in Uganda is essential and would inform existing efforts to support the bank-
ing sector against the ravages of the COVID-19 pandemic. To the best of our knowledge,
an investigation of the impact of COVID-19 on bank profitability in low income African
economies like Uganda’s has not been done previously. It is against this backdrop that this
paper makes a contribution to the existing literature by providing empirical evidence on
the effect of the COVID-19 pandemic on bank performance in Uganda, a typical developing
country, while controlling for bank-specific and macroeconomic determinants of bank
profitability.

4. Methodology
4.1. Model Specification
This study applies the ARDL cointegration technique to investigate the relationship
between bank profitability and the COVID 19 pandemic crisis while controlling for bank
specific and macroeconomic determinants. The technique developed by Pesaran et al.
(2001) is parsimonious for empirically analysing the long-run relationships and the short-
run dynamic interactions among the variables because it relies on a single equation which
estimates simultaneously both the short-run and the long-run relationships, making it
easy to implement and interpret. The ARDL approach is less restrictive and is applicable
whether the underlying variables are integrated of order zero I(0), order one I(1), or have
mixed orders of integration, but it is inapplicable for variables with orders integration of 2
or higher (Bahmani-Oskooee et al. 2010; Morley 2006; Pesaran et al. 2001). Moreover, the
ARDL model is robust for small sample sizes (Narayan 2005; Pesaran and Shin 1999) and
accounts for endogeneity (Harris and Sollis 2003; Pesaran and Shin 1998).
In general the ARDL relationship can be specified as follows:

( L, p)yt = β i ( L, qi ) xit + α0 zt + ε t (1)

where L is the lag operator; φ( L, p) = 1 − φ1 L − φ2 L2 − φ3 L3 − · · · − φ p L p and β i ( L, qi ) =

β i0 + β i1 L + β i2 L2 + · · · + β iq Lqi , p and qi are the lag lengths, yt is the dependent variable,
J. Risk Financial Manag. 2021, 14, 588 7 of 19

xit represents explanatory variables in the cointegrating vector, z is a vector of deterministic

variables such as the intercept term, time trends, seasonal dummies, or exogenous variables
with the fixed lags, α0 represents coefficient on the deterministic variables and ε is the error
term. The error-correction representation of Equation (1) takes the following form:

k p̂−1 k q̂i −1
∆yt = ∑ βi0 ∆xit + α0 ∆zt − ∑ θ j∗ ∆yt− j − ∑ ∑ β∗ij ∆xi,t− j − θ (1, p̂) ECTt−1 + ε t (2)
i =1 j =1 i =1 j =1

where ∆ is the first difference operator; the error-correction term is given by

p
0
h i
ECTt = yt − ∑ik=1 θ̂i xit − Ψ̂ zt and θ (1, p̂) = 1 − ∑ θ measures the quantitative sig-
i =1
nificance of the error-correction term. The coefficients θ j∗ and β∗ij relate to the short-run
dynamics of the model’s convergence to equilibrium.
The specific form of our base model for mobile money usage can be expressed as follows:
n1 n2 n3 n4
∆Pt = α0 + ∑ α1k ∆Pt−k + ∑ α2k ∆NPLSt−k + ∑ α3k ∆LIQ + ∑ α4k ∆SENt−k +
k =1 k =1 k =0 k =0
n5 n6 n7 n8
∑ α5k ∆ ln RGDPt−k + ∑ α6k ∆ ln I NFt−k + ∑ α7k ∆ ln ERt−k + ∑ α8k ∆LENDt−k + (3)
k =0 k =0 k =0 k =0
n9 n10
∑ α9k ∆TBt−k + ∑ α10k ∆COV ID19t−k + γ0 ln Pt−1 + γ1 NPLSt−1 + γ2 LIQt−1 + γ3 SENt−1 + ε t
k =0 k =0

where ln denotes natural logarithm, P is a measure of bank profitability, NPLS repre-

sents the Non-Performing Loans ratio, LIQ denotes the Liquidity ratio and SEN represents
Market Sensitivity, while RGDP, INF, ER, LEND, TB and COVID19 denote real economic
growth, inflation, nominal Uganda Shilling per US Dollar (UGX/USD) exchange rate,
Lending Rate, 91-day Treasury Bill interest rate, and a Dummy for the COVID19 pandemic
crisis respectively. It is expected that α2k < 0, γ1 < 0, α3k >0, γ2 >0, α4k > 0, γ3 > 0, α5k >
0, α6k < 0, α7k < 0, α8k >0, α9k >0, and α10k < 0. The specification provides estimates of
both the short run and long run effects which are inferred from αik , and γik respectively
normalised by α0 . Using the joint F-statistic suggested by Pesaran et al. (2001) to test for
cointegration, the null hypothesis of no cointegration is tested against the alternative by
restricting all estimated coefficients of lagged level variables equal to zero that is:

H0 : γ0 = γ1 = γ2 = γ3 = 0 (4)

H1 : γ0 6= γ1 6= γ2 6= γ3 6= 0 (5)
The null is rejected indicating co-integration when the computed F-statistic lies above
the upper level of the band, while for values of the F-statistic that lie below the lower
bound, the null hypothesis cannot be rejected. However inference is inconclusive when
the F-statistic falls within the band and in such cases the error correction parameter can be
viewed as a cointegration test (Kremers et al. 1992).

4.2. Data and Measurement of Key Variables

The study uses quarterly data for the period March 2000 to March 2021, consisting
of 85 observations. The choice of the sample period and data frequency is guided by data
availability. Data on all the variables of interest was obtained from the Bank of Uganda’s
database. Table 2 provides a summary of descriptive statistics.
J. Risk Financial Manag. 2021, 14, 588 8 of 19

Table 2. Summary statistics.

Variable Description Mean Median Maximum Minimum Std. Dev. Observations

ROE Return on Equity (%) 25.197 22.432 58.933 8.327 12.042 85
ROA Return on Assets (%) 3.298 3.289 6.025 1.330 0.966 85
NIM Net Interest Margin (%) 10.835 10.951 13.548 7.979 1.159 85
NPLS Non Performing Loans (%) 4.891 4.131 15.149 1.606 2.561 85
LIQ Liquidity (%) 44.808 45.466 69.166 17.647 11.288 85
SEN Market Sensitivity (%) 57.148 60.057 89.784 23.308 19.031 85
LRGDP Natural Log of Economic Activity 9.850 9.929 10.397 9.157 0.378 85
LINF Natural Log of Inflation 5.898 4.970 21.579 −4.418 4.559 85
LEX Natural Log of Exchange rate 7.772 7.717 8.235 7.326 0.301 85
LEND Lending rate (%) 21.068 20.482 27.218 17.727 2.160 85
TB Treasury Bill Rate (%) 10.625 9.617 22.120 3.756 4.025 85
Notes: ROE is a measure of bank profitability based on the return on shareholder’s equity; ROA is a measure of bank profitability based on
the return on banks assets; NIM is a measure of bank profitability based on the net return on bank’s interest earning assets; NPLS is the
ratio of non-performing loans to total gross loans that measures banks’ asset quality; LIQ is a measure of banks’ liquidity calculated by the
a ratio of liquid assets to total deposits; SEN is a measure of market sensitivity calculated by the ratio of Forex loans to forex deposits.

Bank profitability is proxied by ROA, ROE and NIM, and the effects of the COVID-19
pandemic on bank profitability is captured using a dummy for the COVID-19 pandemic
crisis, which takes on the value of 1 during the pandemic (March 2020 to March 2021) and
0 otherwise, whereas inflation is measured as the first difference of the natural log of the
consumer price index, where INFt = (ln cpit − ln cpit−1 ) × 100. This study applies the
ARDL estimation technique and E-views version 9.0 statistical package software.

5. Results and Discussion

5.1. Unit Root and Cointegration Tests Results
The ARDL technique does not require pre-testing of the orders of integration of
variables of interest, although the series should not be I(2) or greater, as this invalidates the
F-statistics and all critical values established by Pesaran et al. (2001). The results of unit
root tests carried out using the ADF and PP tests are presented in Table 3, which indicates a
mixture of I(1) and I(0) variables. Given the mixture of I(0) and I(1) variables, and also that
none appears to be integrated at an order higher than one, employing the ARDL technique
is justified.

Table 3. Unit root test results.

Unit Root Tests Augmented Dicky–Fuller (ADF) Phillips Peron (PP)

Levels 1st Difference Levels 1st Difference Inference
Return on Equity (ROE) −3.783 *** −2.333 −8.1896 *** I(1)/I(0)
Return on Assets (ROA) −2.721 −7.243 *** −2.498 −7.5766 *** I(1)
Net Interest Margin (NIM) −3.919 *** −3.392 ** I(0)
Non Performing Loans (NPLS) −4.468 *** −4.457 *** I(0)
Liquidity (LIQ) −2.799 −6.660 *** −2.912 ** I(1)/I(0)
Market Sensitivity (SEN) −1.817 −9.981 *** −1.790 −10.0577 *** I(1)
Economic Activity (LRGDP) −0.116 −2.851 *** −3.134 ** I(1)/I(0)
Inflation (LINF) −2.693 −5.482 *** −2.550 −5.0948 *** I(1)
Exchange rate (LER) −0.666 −7.120 *** −0.688 −6.9013 *** I(1)
Lending rate (LEND) −2.458 −9.609 *** −2.610 −9.609 *** I(1)
Treasury Bill Rate (TB) −3.476 ** −3.600 *** I(0)
Notes: The figures in this table are unit-root test statistics while *** and ** denote statistical significance at the 1 percent and 5 percent levels,
respectively.

The bounds test for cointegration was carried out using EVIEWS 9 software based on
Equation (3), from which three models of bank profitability were derived using ROE, ROA
and NIM, respectively. The ARDL-bound testing approach requires the determination
of the optimal lag for the cointegrating equation based on the assumption of serially
uncorrelated residuals and as such the selected lags must be long enough to render εt
serially uncorrelated and not too long as to lead to an over parameterization (Narayan 2005;
Pesaran et al. 2001). In the interest of parsimony, the Schwarz information criterion (SBC)
J. Risk Financial Manag. 2021, 14, 588 9 of 19

criterion assuming a maximum lag length of four lags for each variable of the ARDL model
is applied. The SBC results indicate an ARDL (1,4,2,0) model hereinafter referred to model
1 as the best model for ROE, an ARDL (3,4,0,0) model hereinafter referred to model 2 as the
best model for ROA and an ARDL (2,0,0,0) model hereinafter referred to model 3 as the
best model for NIM2 . The results of the ARDL Bounds test are reported in Table 4.

Table 4. ARDL bounds cointegration test results.

Dependent Variable a F-Statistic for Case III Intercept No Trend b Conclusion

MODEL 1: ROE
P 7.159 Cointegration
NPLS 4.760 No cointegration
LIQ 4.334 No cointegration
SEN 3.915 No cointegration
MODEL 2:ROA
P 6.873 Cointegration
NPLS 3.420 No cointegration
LIQ 3.331 No cointegration
SEN 3.912 No cointegration
MODEL 3:NIM
P 10.483 Cointegration
NPLS 5.475 No cointegration
LIQ 3.034 No cointegration
SEN 3.631 No cointegration
Notes: a The cointegrating vector includes a measure of Bank Profitability (P), Non-Performing Loans (NPLS),
Liquidity (LIQ) and Market Sensitivity (SEN), while economic activity (LRGDP), inflation (LINF), exchange rate
(LER), Lending Rate (LEND), Treasury Bill interest rate (TB), and the COVID-19 pandemic crisis (COVID19) are
excluded from the cointegrating vector but included in the short run dynamics. When a long-run relationship
exists between the lagged level variables in the cointegrating vector, the F-test indicates which variable should be
normalised. Three alternative cointegrating relationships are examined with three different dependent variables;
namely; Return on Equity (ROE), Return on Assets (ROA) and Net Interest Margin (NIM) for models 1−3
respectively. If it is below the lower bound, the null hypothesis of no level effect can’t be rejected. If it is above the
upper bound, the null hypothesis of no level effect is rejected. If the F-statistic lies between the bounds, the test is
inconclusive. b The relevant critical values are obtained from Table CI(iii) Case III: Intercept no Trend when k = 3.
They are 4.29 and 5.61 for the lower and upper bound respectively at 99 percent significance level.

The F-test statistic of 7.2 for model 1, is higher than the upper bounds of the critical
value of 5.61 at the one percent significance level and likewise for models 2 and 3 whose
F-test statistics of 6.9 and 10.5 are also higher than the upper bounds of the critical value
of 5.61 at the 1 percent significance level, an indication that the null hypothesis of no
cointegration between bank profitability and the explanatory long run forcing variables in
Models 1, 2 and 3 is rejected at the 1 percent significance level.

5.2. Discussion of Results

In view of the conclusive evidence of cointegration, we estimate the long run and
short run dynamics for models 1−3, which are presented in Table 5. The study uses a
non- performing loans ratio (NPLS) as a proxy for credit default risk and as shown in
Table 5, in the short run NPLS only have a statistically significant negative effect on bank
profitability as measured by the ROA and ROE, while in the long run NPLs only have a
statistically significant effect on bank profitability as measured by NIM, but the effect is
positive. This suggests that, in the short run, increasing NPLS due to bad loans or poor loan
quality reduces bank profitability as measured by ROA and ROE as a result of the fall in
interest revenue and rising provisioning costs. This result is consistent with the findings of
(Abdelaziz et al. 2020; Athanasoglou et al. 2008; Bhattarai 2016; Ozili 2021; Ozurumba 2016)
who find NPLS significant and negatively related to the ROA and ROE. In the long run,
NPLs are positively and significantly related to bank profitability as measured by NIM,
suggesting that the high level of credit risk in developing country markets like Uganda’s
J. Risk Financial Manag. 2021, 14, 588 10 of 19

may induce banks to increase their interest margins to compensate for possible default risk.
This is similar to the findings of Alshatti (2015) and Le and Ngo (2020) who also found
a statistically significant positive relationship between NPLS and NIM. The low level of
creditworthiness of the debtors increases the NPLS, but banks compensate for the risk by
lending at higher interest rates, which contributes to the increase in the interest income
resulting in the rise in NIM (Le and Ngo 2020).

Table 5. ARDL model results.

MODEL 1: ROE MODEL 2: ROA MODEL 3: NIM

ARDL LONG SHORT ARDL LONG SHORT ARDL LONG SHORT
Regressors
(1,4,2,0) RUN RUN (3,4,0,0) RUN RUN (2,0,0,0) RUN RUN
Intercept 13.994 14.944 *** 5.075 * 5.554 *** −5.280 *** −6.269 ***
(0.62) (7.01) (1.79) (6.86) (−2.63) (−7.36)
Bank Profitability
0.705 *** 0.891 *** 1.103 ***
(−1)
(11.84) (11.44) (13.00)
∆ Bank
0.261 *** 0.331 ***
Profitability (−1)
(3.13) (4.12)
Bank Profitability
0.082 −0.415 ***
(−2)
(0.80) (−5.41)
∆ Bank
0.362 ***
Profitability (−2)
(4.02)
Bank Profitability
−0.375 ***
(−3)
(−5.40)
Non Performing
−0.912 *** 0.655 −0.108 *** −0.027 0.045 ** 0.144 **
Loans
(−4.01) (0.67) (−3.86) (−0.30) (2.34) (2.17)
∆ Non
Performing −0.927 *** −0.100 *** 0.029
Loans
(−3.99) (−3.63) (0.94)
Non Performing
0.658 * 0.078 **
Loans (−1)
(1.92) (2.26)
∆ Non
Performing −0.507 ** −0.029
Loans (−1)
(−2.15) (−1.08)
Non Performing
0.347 0.035
Loans (−2)
(1.35) (1.11)
∆ Non
Performing −0.171 −0.001
Loans (−2)
(−0.69) (−0.02)
Non Performing
−0.683 *** −0.110
Loans (−3)
(−3.19) (−2.75)
J. Risk Financial Manag. 2021, 14, 588 11 of 19

Table 5. Cont.

MODEL 1: ROE MODEL 2: ROA MODEL 3: NIM

∆ Non
Performing −0.834 *** −0.105 ***
Loans (−3)
(−3.69) (−4.02)
Non Performing
0.782 ** 0.094 ***
Loans (−4)
(2.45) (2.35)
Liquidity −0.163 ** 0.103 −0.007 −0.016 0.002 0.005
(−2.72) (0.53) (−1.48) (−1.58) (0.47) (0.46)
∆ Liquidity −0.171 *** −0.016 ** −0.010
(−3.09) (−2.40) (−1.35)
Liquidity (−1) 0.011
(0.16)
∆ Liquidity (−1) −0.188 ***
(−3.37)
Liquidity (−2) 0.182 ***
(3.26)
Market −0.511
−0.150 *** −0.008 −0.019 −0.005 −0.017
Sensitivity ***
(3.06) (3.44) (−1.20) (−1.24) (−1.26) (−1.17)
∆ Market
−0.110 * −0.005 0.001
Sensitivity
(−190) (−0.79) (0.10)
Economic
8.321 * 28.249 0.178 0.442 1.070 ** 3.427 **
Activity
(1.76) (1.71) (0.33) (0.33) (2.38) (2.20)
∆ Economic
−26.736 −1.956 −3.146
Activity
(−0.56) (−0.35) (−0.49)
Inflation −0.107 −0.362 0.004 0.010 0.009 0.028
(−1.21) (−1.17) (0.41) (0.41) (0.73) (0.74)
∆ Inflation −0.164 −0.011 −0.004
(−1.29) (−0.73) (−0.23)
−41.416
Exchange rate −12.20 ** −0.730 −1.813 * −0.482 −1.543
***
(−2.64) (−2.80) (−1.66) (−1.80) (−1.15) (−1.08)
∆ Exchange rate −9.500 −1.033 −1.145
(−1.44) (−1.35) (−1.31)
Lending rate 0.303 1.027 0.028 0.069 0.081 ** 0.259 ***
(1.24) (1.33) (1.39) (1.46) (2.60) (2.86)
∆ Lending rate 0.324 0.009 0.075 **
(1.32) (0.30) (2.35)
Interest rate 0.598 *** 2.030 *** 0.030 * 0.074 * 0.014 0.046
(4.14) (3.52) (1.94) (1.88) (0.78) (0.75)
∆ Interest rate 0.605 *** 0.031 ** 0.005
(4.52) (2.03) (0.30)
J. Risk Financial Manag. 2021, 14, 588 12 of 19

Table 5. Cont.

MODEL 1: ROE MODEL 2: ROA MODEL 3: NIM

Covid19 −0.914
0.941 3.194 0.226 0.562 −0.285 ***
pandemic crisis ***
(0.68) (0.70) (1.13) (1.23) (−3.35) (3.20)
∆ (Covid19
−0.416 0.109 −0.180
pandemic crisis)
(−0.18) (0.41) (−0.58)
ECT (−1) −0.304 *** −0.438 *** −0.375 ***
(−7.00) (−6.88) (−7.45)
Notes: The values in parentheses are t-ratios. The asterisks *, ** and *** denote statistical significance at 10 percent, 5 percent and 1 percent
significance levels.

The obtained results for liquidity risk as measured by the Liquid assets to total deposits
show a negative and statistically significant effect on bank profitability as measured by
ROA and ROE only in the short run, and no statistically significant association between
liquidity risk and bank profitability in the long run. The same negative association between
liquidity risk and bank profitability was confirmed by, among others, Abdelaziz et al. (2020),
who find that liquidity risk significantly decreases bank profitability measured by ROA
and ROE and attribute it to that fact that insufficient liquidity negatively affects income
revenues derived from loans’ activity, which lowers bank profitability and reduces both a
bank’s reputation and customer trust. Adelopo et al. (2018) found a significant negative
relationship between liquidity and bank profitability as measured by ROA before, during,
and after the financial crisis, while profitability as measured by NIM showed a significant
positive relationship before the crisis, a significant negative relationship during the crisis
and no significant effect after the crisis. In addition, their study found that liquidity had
no significant effect on profitability as measured by ROE. In contrast, Lartey et al. (2013)
find a weak positive relationship between the liquidity and the profitability of the average
listed bank in Ghana.
Sensitivity to market risk measures the banking sector’s exposure to foreign exchange
risk, which is captured by the ratio of foreign currency loans to foreign currency deposits.
The results reported in Table 5 indicate that the relative foreign currency exposure of
banks has an impact on banks’ profitability. In both the short and long run, an increase
in exposure to foreign exchange risk has a negative effect on bank profitability, although
the effect is statistically significant only for the ROE measure of bank profitability. Foreign
currency default risk increases substantially in an environment where borrowers’ abilities
to repay are not necessarily indexed to foreign currency values and may adversely affect
bank profits (Kutan et al. 2012).
Furthermore, the study finds that bank profitability as measured by ROA and NIM
shows a tendency to persist in the short run, as evidenced by the highly significant coefficient
of the lagged profitability variables. Nevertheless, bank profits persistence is moderate
given that the associated coefficients of 0.31 and 0.33 for ROA and NIM respectively are
close to 0, suggesting that departures from a perfectly competitive market structure in the
Ugandan banking sector may not be that large. This finding is close to the estimate reported
in Athanasoglou et al. (2008) of approximately 0.35 for the Greek banking sector and is also
similar to Kohlscheen et al. (2018) who find evidence of bank profitability persistence for all
three measures of bank profitability measure ROA, ROE and NIM.
Considering the effects of macroeconomic determinants on bank profitability, the
results in Table 6 show that RGDP positively affects bank profitability in the long run,
although the effect is only statistically significant for the NIM measure of bank profitability.
However, the study finds that in the short run, RGDP does not statistically significantly
affect bank profitability for all three profitability measures; ROA, ROE and NIM. This
suggests that, in the long run, economic growth is associated with higher bank profitability
due to the increased economic prosperity and associated increases in demand for credit
J. Risk Financial Manag. 2021, 14, 588 13 of 19

and the improved solvency of creditors. Adelopo et al. (2018) also found that GDP
was positively affected by bank profitability as measured by NIM in all sample periods,
except after the global financial crisis, while the ROA and ROE had no significant effects.
Nevertheless, these results contrast with the findings of Kohlscheen et al. (2018), who found
a statistically significant negative relationship between GDP growth and NIM, Ozili (2021)
and Le and Ngo (2020) found an insignificant effect for NIM while Yao et al. (2018) found a
significant positive impact of RGDP on all profitability indicators including NIM.

Table 6. ARDL Model Diagnostic Tests.

Model Diagnostics MODEL 1 MODEL 2 MODEL 3

Adjusted R-squared 0.95 0.92 0.92
S.E. of regression 2.30 0.27 0.32
Schwarz Bayesian
5.19 0.89 1.05
Criterion
DW-statistic 1.54 1.85 2.24
Residual Diagnostics
Serial Correlation 1 1.69 [0.193] 1.03 [0.363] 1.66 [0.197]
F-statistic 2 99.77 [0.00] 55.25 [0.000] 82.47 [0.000]
Heteroscedasticity 3 0.009 [0.92] 0.111[0.740] 0.693[0.408]
Functional Form 4 2.43 [0.018] 0.59 [0.559] 0.92 [0.360]
Normality 5 0.114 [0.945] 1.331 [0.514] 2.84 [0.241]
Notes: 1 Breusch-Godfrey Lagrange multiplier test of residual serial correlation; 2 F-statistic; 3 ARCH test for
Heteroscedasticity based on the regression of squared residuals on squared fitted values; 4 Ramsey’s RESET test
for omitted Variables/Functional form; 5 Jarque-Bera Normality test based on a test of skewness and kurtosis of
residuals. The values in parentheses are t-ratios while probabilities are brackets.

Surprisingly, for all three profitability measures (ROA, ROE and NIM) the study finds
inflation does not have a statistically significant effect on bank profitability in both the short
and the long term. In contrast, many studies, including Adelopo et al. (2018), Al-Homaidi et al.
(2018), Kohlscheen et al. (2018), Ozili (2021), Rahman et al. (2015) and Yao et al. (2018) find
that the effect of inflation was not uniform across different measures of bank profitability.
For instance, Adelopo et al. (2018) found that inflation had no significant effect on ROE,
had a significant negative effect on ROA only during the global financial crisis, and a
positive significant effect on NIM in all periods except before the global financial crisis,
while Rahman et al. (2015) found a significant negative effect of inflation on ROA and ROE.
In addition, the results reported in Table 5 also show a negative and statistically significant
association between the exchange rate and bank profitability in the long run relating to
ROA and ROE measures of bank profitability, while in the short run the exchange rate has
a negative but statistically insignificant effect on bank profitability as measured by ROA,
ROE and NIM. Almaqtari et al. (2019) also found a statistically significant negative effect
of the exchange rate on bank profitability measures ROA and ROE, which they attribute
to the deterioration of the Indian Rupee exchange rate against other currencies, while
Al-Homaidi et al. (2018) found the exchange rate had a statistically significant negative
impact on the three profitability measures; ROA, ROE and NIM.
The study finds a positive and statistically significant relationship between the lending
interest rate bank profitability when only measured by NIM at both the short and long run
horizons. This implies that banks in Uganda charge higher interest on loans to increase
their profitability. Thus banks may maintain high lending interest rates as compensation for
exposure to greater credit risk. Interest rate spreads in Uganda have been persistently high
over the last two decades, averaging above 20 percent despite financial sector reforms to
enhance competition and efficiency. The persistence in high lending rates is often attributed
to the high cost structure of the banking business in Uganda. Only a few studies have
focused specifically on the impact of interest rates on bank profitability. Owolabi (2020)
found a statistically significant positive relationship between the lending rate and bank
profitability in Nigeria, although this was for the ROE measure of bank profitability.
J. Risk Financial Manag. 2021, 14, 588 14 of 19

Similarly, Oino (2015) found loan interest rates have a positive and statistically significant
impact on bank profitability as measured by ROE in 97 sub-Saharan African economies.
In contrast, Almaqtari et al. (2019) found a statistically significant negative effect of bank
lending interest rates on bank profitability as measured by ROA and ROE, while Ogunbiyi
(2014) found that lending rates had negative and significant effects on the profitability of
Nigerian deposit money banks as measured by ROA, but found no significant relationship
between lending rate and bank profitability as measured by ROE and NIM.
Furthermore, as shown in Table 5, the Treasury Bill interest rate has a statistically
significant positive effect on bank profitability as measured by ROA and ROE in both the
long and short term. The central bank rate (CBR) is used to signal all other rates under
the Bank of Uganda’s Inflation Targeting (IT) framework. However, the 91- day Treasury
Bill rate and the CBR are highly correlated and thus the Treasury Bill interest rate was
used as a proxy for the monetary policy rate in the analysis. Thus, an increase in the
Treasury Bill interest rate signals a tightening of monetary policy, dampening economic
activity by reducing the supply of credit to firms, which increases bank profitability as
credit conditions tighten and crowd out the private sector. While examining the effect of
interest rates on the profitability of deposit money banks in Nigeria, Ogunbiyi (2014) found
that the Treasury Bill interest rate significantly and positively affected bank profitability as
measured by ROA but found no significant relationship between the Treasury Bill interest
rate and bank profitability as measured by ROE and NIM. While exploring the link between
monetary policy and bank profitability, Owolabi (2020) found that the monetary policy rate
had no significant impact on the performance of Nigerian banks as measured by ROE. On
the other hand, Kumar et al. (2020) examined the relationship between monetary policy
and bank profitability in New Zealand and found that an increase in short-term rate leads
to an increase in the profitability of banks as measured by ROA and ROE. In contrast,
Kohlscheen et al. (2018), while investigating the key determinants of bank profitability in
19 emerging market economies, found that higher short-term rates increase funding costs,
thus reducing bank profits as measured by ROA, ROE and NIM.
Interestingly, we find that the COVID19 pandemic crisis has a negative and statistically
significant effect on bank profitability as measured by NIM, albeit only in the long run
version of the model. Our findings are comparable to Barua and Barua (2020), who
found that the COVID-19 pandemic likely adversely affected all banks’ risk-weighted asset
values, capital adequacy ratios and interest income both at individual and a sectoral levels
and also resonate with Elnahass et al. (2021), who found that the COVID-19 pandemic
had detrimental effects on global banking sector financial performance across different
indicators of financial performance. In April 2020, the Bank of Uganda put in place several
measures aimed at alleviating the impact of the COVID19 pandemic on the performance of
the banking system, including the setup of a credit relief program in an effort to support
financial stability and to enable banks and borrowers to cope with the adverse effects of
the ongoing pandemic (Bank of Uganda 2020a, 2020b). The credit relief program was
recently extended to 30th September 2021 due to the slower than anticipated economic
recovery and potential worsening of the pandemic, which continue to adversely affect the
debt-servicing capabilities of businesses and households (Bank of Uganda 2020a). The level
of gross loans under payment deferrals as well as past- due restructured loans is significant,
and as payment deferrals come to an end, banks are likely to experience a significant
deterioration in their loan books and rising losses while several sectors that are still under
partial lockdown such as tourism, real estate, and trade, among others, continue to be
adversely affected by the pandemic, which will also affect their debt-servicing capabilities
going forward (Bank of Uganda 2020a, 2020b). Thus, we conclude that efforts by Ugandan
policy makers to mitigate the impact of the COVID-19 crisis on bank profitability may
account for the insignificant effect in the short run; however, the statistically significant
negative effect of the COVID-19 crisis on bank profitability in the long run points to
challenging conditions for the banking sector going forward.
J.
J. Risk
Risk Financial
Financial Manag. 2021, 14,
Manag. 2021, 14, 588
x FOR PEER REVIEW 15
15 of
of 19
19

The test
Thestatistics
coefficient forofserial correlation,
the error correction heteroscedasticity
term (ECT), which and functional
measures the form
speedare found
of adjust-
to be lower
ment than run
to the long the critical values
steady state of at a five
bank percent significance
profitability level, leading
following external shocks,toisfailure
negativeto
reject the null
and highly hypothesis
significant of three
in all no serial
modelscorrelation, homoscedastic
of bank profitability. residuals
The and a well-
ECT coefficients of
−0.44, −0.30
specified and −form.
functional 0.37 forTheROA, ROE and
Jarque-Bera testNIM,
fails respectively, suggest
to reject the null that 44and
hypothesis, percent,
thus
30 percent and 37 percent of any deviation from equilibrium in each
we conclude that the residual distribution is normally distributed. In addition, the F-sta- respective model
is corrected
tistic test forinthe
one quarter.
overall Thus, theof
significance results demonstrate
the estimated the slow
models speedsignificant
are highly of adjustmentat a
to a percent
one long runlevel
steady state in Uganda’s
of significance, bank profit
an indication that trajectory, which is estimated
all the explanatory variables in to the
be
approximately
estimated models44 are
percentage points, 30in
jointly significant percentage
explainingpoints and 37 percentage
bank profitability. As an points per
additional
quarter, with
robustness the full
check, weadjustment to equilibrium
also reestimated the threeexpected
modelstoover
take the
approximately 2.3 quarters,
March 2000–December
3.4 quarters and 2.7 quarters, respectively, for ROA, ROE and
2019 period and find that the results of the three models for the period 2000–2019NIM. The coefficient of the
are
qualitatively similar, with magnitudes and signs of the coefficients comparable tolevel,
error correction term (ECT) in all models is negative and significant at the one percent the
giving further
2000–2021 support
period 3. of a long-term level relationship between bank profitability and the
variables included in the cointegrating vector for all three estimated ARDL models.
Table 6. ARDL Model Diagnostic Tests.
5.3. Model Specification and Robustness Test Results
Model Diagnostics MODEL 1 tests presented
The model’s diagnostic and specification MODEL 2in Table 6MODEL 3 to
were used
Adjustedascertain
R-squared 0.95 0.92
the robustness of the estimated models. According to the results, all the three 0.92
S.E. of regression
models passed all the diagnostic tests, 2.30 with the exception0.27 0.32 test for
of the functional form
Schwarz Bayesian
ModelCriterion
1, suggesting that these models5.19 can be reliable for 0.89
policymaking and 1.05
statistical
DW-statistic 1.54
inferences. The test statistics for serial correlation, 1.85
heteroscedasticity 2.24 form
and functional
are foundResidual
to be lower than the critical values at a five percent significance level, leading to
Diagnostics
failure to reject
Serial Correlation 1 the null hypothesis of no[0.193]
1.69 serial correlation, homoscedastic1.66
1.03 [0.363] residuals
[0.197]and a
well-specified
F-statistic 2 functional form. The Jarque-Bera
99.77 [0.00] test fails to reject
55.25 [0.000] the null 82.47 [0.000] and
hypothesis,
thus we
Heteroscedasticity 3 conclude that the residual distribution
0.009 [0.92] is normally distributed.
0.111[0.740] In addition, the
0.693[0.408]
F-statistic4 test for the overall significance of the estimated models are highly significant at
Functional Form 2.43 [0.018] 0.59 [0.559] 0.92 [0.360]
a one percent level of significance, an indication that all the explanatory variables in the
Normality 5 0.114 [0.945] 1.331 [0.514] 2.84 [0.241]
estimated models are jointly significant in explaining bank profitability. As an additional
Notes: 1 Breusch-Godfrey Lagrange multiplier test of residual serial correlation; 2.F-statistic; 3.ARCH test for Heteroscedas-
robustness check, we also reestimated the three models over the March 2000–December
ticity based on the regression of squared residuals on squared fitted values; 4 Ramsey’s RESET test for omitted Varia-
2019 period and find that the results of the three models for the period 2000–2019 are
bles/Functional form; Jarque-Bera Normality test based on a test of skewness and kurtosis of residuals. The values in
5

parentheses are t-ratios while probabilities similar,

qualitatively with magnitudes and signs of the coefficients comparable to the
are brackets.
2000–2021 period3 .
Figures 1–3
Figures 1–3 show
show conflicting
conflicting results
results regarding
regarding parameter
parameter stability.
stability. The
The test
test results
results
indicate parameter
indicate parameter stability
stability when
when thethe cumulative
cumulative sum sum falls
falls within
within the
the five
five percent
percent critical
critical
lines. In
lines. In both
both models
models 11 and
and 3,
3, the
the CUSUM
CUSUM test test and
and CUSUMSQ
CUSUMSQ test test suggests
suggests parameter
parameter
stability. However, in model 2 the CUSUM test suggests parameter stability but
stability. However, in model 2 the CUSUM test suggests parameter stability but the
the
CUSUMSQ test shows signs of parameter
CUSUMSQ test shows signs of parameter instability. instability.

6 1.6

4
1.2

2
0.8

0.4
-2

0.0
-4

-6 -0.4
2020q2 2020q3 2020q4 2021q1 2020q2 2020q3 2020q4 2021q1

CUSUM 5% Significance CUSUM of Squares 5% Significance

Figure 1.
Figure 1. Plot
Plot of
of CUSUM
CUSUM and
and CUSUMSQ tests for
CUSUMSQ tests for Model
Model 11 (ROE).
(ROE).
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J. Risk Financial Manag. 2021, 14, x FOR PEER REVIEW 16 of 19

6 1.6

6 1.6
4
1.2
4
1.2
2
2 0.8
0.8
0
0
0.4
-2 0.4
-2
0.0
-4 0.0
-4

-6 -0.4
-0.4
-6
2020q2 2020q2 2020q32020q3 2020q4
2020q4 2021q1
2021q1
2020q2
2020q2 2020q3
2020q3 2020q4
2020q4 2021q1
2021q1

CUSUM
CUSUM 5% Significance
5% Significance CUSUM
CUSUM of of Squares
Squares 5% Significance
5% Significance

Figure
Figure 2. Plot
Plot
2. Plot
Figure 2. of
ofof CUSUMand
CUSUM
CUSUM andCUSUMSQ
and CUSUMSQ tests
CUSUMSQ tests for
testsfor Model
forModel
Model22(ROA).
(ROA).
2 (ROA).
6 1.6
6 1.6

4
4 1.2
1.2
2
2 0.8

0 0.8

0 0.4
-2
0.4
-2
0.0
-4
0.0
-4
-6 -0.4
2020q2 2020q3 2020q4 2021q1 2020q2 2020q3 2020q4 2021q1
-6 -0.4
2020q2 CUSUM2020q3
of Squares 5%2020q4
Significance 2021q1
2020q2 2020q3CUSUM 5% Significance
2020q4 2021q1

Figure5%3.Significance
CUSUM Plot of CUSUM and CUSUMSQ tests forCUSUM
Modelof Squares
3 (NIM). 5% Significance

Figure 3. Plot
Figure ofof
3. Plot CUSUM
CUSUMand
and CUSUMSQ testsfor
CUSUMSQ tests forModel
Model 3 (NIM).
3 (NIM).
6. Conclusions
Overall, this study provides new insight into the effect of the COVID-19 pandemic
6. Conclusions
6. Conclusions
on bank profitability
Overall, this study while controlling
provides new insightfor bank
intospecific
the effect and macroeconomic
of the COVID-19 pandemicfactors that on
Overall,
determine this
bank study provides
profitability in new
Uganda. insight
Bank into the
profitability effect
is of
proxiedthe COVID-19
by return on pandemic
assets
bank profitability while controlling for bank specific and macroeconomic factors that deter-
on mine
bankbank
(ROA), profitability
return while
on equity
profitability controlling
in(ROE),
Uganda. and netfor
Bank bankmargin
interest
profitability specific andby
(NIM)
is proxied macroeconomic
and the analyses
return on assetsare factors
con- that
(ROA),
determine
ductedon
return bank
using
equity profitability
the andin
Autoregressive
(ROE), netUganda.
Distributed
interest Bank
marginLag profitability
(ARDLand
(NIM) Bound) is proxied
the by
arereturn
testing approach
analyses conductedtoon co-assets
integration
(ROA), and quarterly data spanning the period Q1 2000
using the Autoregressive Distributed Lag (ARDL Bound) testing approach to co-integration con-
return on equity (ROE), and net interest margin (NIM)to Q1 2021.
and theThe study
analyses finds
are
longquarterly
ducted
and run and
using theshort run
Autoregressive
data spanningassociations between
the Distributed
period the
Q1 2000 Lag explanatory
to(ARDL
Q1 2021. variables
Bound) used
testing
The study in
finds the
longstudy
approach runto co-
and
and bank
short profitability
run associations although
between their
the impact
explanatory is not uniform
variables
integration and quarterly data spanning the period Q1 2000 to Q1 2021. The study finds with
used in respect
the study to different
and bank
longmeasures
run andofshort
profitability bank run
although profitability.
their impact
associations Overall,
is not in the the
uniform
between short
with run, thetonon-performing
respect
explanatory different
variablesmeasures
usedloans ratio,
of bank
in the study
liquidity ratio
profitability. bank and
Overall, in market
the short sensitivity
run, the to foreign exchange
non-performing loans market
ratio, risk have
liquidity ratioa nega-
bank
and bank profitability although their impact is not uniform with respect to different
tive market
and and significant
sensitivity effectto on bankexchange
foreign profitability,
marketwhile bank
risk have profitability
a negativeisand positively
significant and
measures of bank
significantly
profitability.
affected by the
Overall,
Treasury
ininterest
Bill
the short rates.
run,
In
the non-performing
addition, the study finds
loansthat
ratio,
effect on bank profitability, while bank profitability is positively and significantly affected
liquidity
bank
by
ratio bank and
theprofitability
Treasury Billhas amarket
interest tendency sensitivity
persist to
rates. Intoaddition,
foreign
inthethestudy exchange
shortfinds
run that market by
as evidenced riskthe
bank profitability
havehighly
has a
a nega-
tivetendency
and significant
significant tocoefficienteffect
persist in the of theon bank
lagged
short run as profitability,
profitability
evidenced by while
variables, bank
the highly even profitability
though this
significant is positively
persistence
coefficient of the is and
significantly
moderate,
lagged affectedvariables,
suggesting
profitability bythat thetheTreasury
Ugandan
even thoughBill interest
banking
this rates.
sector
persistence isIn
largely addition,
does not
moderate, the study
significantly
suggesting that finds
de- that
the
bankpartprofitability
Ugandanfrombanking has
a perfectly acompetitive
sector tendency
largely does to not
persist
market in the In
structure.
significantly short run
the long
depart from asa evidenced
run, by the highly
bank profitability
perfectly competitive is
significantly
market and
structure. negatively
In the long affected
run, bank by market
profitability sensitivity
is to
significantly
significant coefficient of the lagged profitability variables, even though this persistence is foreign
and exchange
negatively market
affected
by market
risk,
moderate, sensitivity
the suggesting
nominal exchangeto foreign
that rate,
the exchange
and
Ugandan market sector
the COVID-19
banking risk, the
pandemic, nominal
largely whereas exchange
does the rate, and de-
notnon-perform-
significantly
the
ing COVID-19
loans ratio,pandemic,
real GDP, whereas
Treasury the
Billnon-performing
interest rate and
part from a perfectly competitive market structure. In the long run, bank profitability loans
lendingratio, real GDP,
interest rate Treasury
have Bill
a posi- is
interest
tive and rate and lending
statistically interesteffect
significant rate on havebanka positive
profitabilityand statistically
in Uganda. significant
Another effect on
interesting
significantly and negatively affected by market sensitivity to foreign exchange market
bank
findingprofitability in Uganda.
is that inflation does not Another
seem interesting
to significantly finding is that
affect bankinflation does in
profitability noteither
seemthe to
risk, the nominal exchange
significantly
rate, and the COVID-19 pandemic, whereas the non-perform-
short or longaffectterm.bank profitability in either the short or long term.
ing loans The ratio,
The study’s
realfindings
GDP, Treasury
study’s findings have Bill interest
have considerable
considerable policy
rate
policy relevance
and lending
relevance for
interest and
for regulators
regulators and
rateindustry
have a posi-
industry
tiveexperts
and statistically
experts seeking
seekingoptimal significant
optimal policies
policies effect
for
forbank on performance
bank bank profitability
performance in Uganda.
management.
management. AnAn Another
important
important interesting
finding
find-
finding
of
ingthisis that
research
of this inflation
is that
research does
is going not seem
forward,
that going to significantly
policies
forward, for enhancing
policies affect
for enhancing bank profitability
the efficiency, profitability
the efficiency, in either
and the
profitabil-
short or long term.
The study’s findings have considerable policy relevance for regulators and industry
experts seeking optimal policies for bank performance management. An important find-
ing of this research is that going forward, policies for enhancing the efficiency, profitabil-
J. Risk Financial Manag. 2021, 14, 588 17 of 19

resilience of the banking system not only need to factor in bank-specific and macroeconomic
factors affecting bank performance, but must also account for the adverse effects of the
COVID-19 pandemic on bank profitability in order to improve the performance of the
banking sector in Uganda and similar low income countries.
This study examines the effects of the COVID19 pandemic on Uganda’s banking sys-
tem as a whole. However, future research should consider investigating the disaggregated
effects of the pandemic by looking at bank-level impact. In addition, it would also be
interesting to see the differential impact of domestically and internally owned banks.

Funding: This research received no external funding. The APC was funded by Lorna Katusiime.
Institutional Review Board Statement: Not applicable.
Informed Consent Statement: Not applicable.
Data Availability Statement: Restrictions apply to the availability of these data. Data was obtained
from Bank of Uganda and are available with the permission of Bank of Uganda.
Conflicts of Interest: The author declares no conflict of interest.

Notes
1 For a summary of some of the recent studies see (Al-Homaidi et al. 2018).
2 As a precaution we apply the Heteroscedasticity and Autocorrelation Consistent Covariance (HAC) estimators in the ARDL
model estimations to ensure that our results are robust in the presence of heteroscedasticity and serial correlation. Note that the
HAC approach alters the estimates of the coefficient standard errors of an equation but not the point estimates themselves.
3 These results are available from the author upon request.

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