Despite the great effort devoted to examine the relationship between capital levels and the

performance of banks in Zimbabwe from 2009, there is little persuasive evidence concerning the
issue. Capital acts as that cushion that will protect banks, its customers, and shareholders against
possible losses from risks that banks are exposed to. The importance of capital requirements
therefore is to limit risk taking by banks. Banks performance refers to the capacity by banks to
generate sustainable profitability (Jabangwe and Kadenge, 2015).
Studies on the relationship between capital levels and the performance of banks in Zimbabwe
from 2009 were motivated by the 2008-2012 global financial crises which prompted the revision
of minimum capital requirements by the Reserve Bank of Zimbabwe from $12.5 million to 100
million in 2012. Therefore the debate was mainly centered on the possible effects of such a
policy. The studies found different conclusions or results pertaining to the relationship between
capital levels and the performance of banks in Zimbabwe.
Theoretical view of the relationship
Modigliani and Miller (1958), propounded a theorem which is often called the capital structure
irrelevance principle. The ModiglianiMiller theorem is a theorem on capital structure, arguably
forming the basis for modern thinking on capital structure. The basic theorem states that in the
absence of taxes, bankruptcy costs, agency costs, and asymmetric information and in an efficient
market, the value of a firm is unaffected by how that firm is financed. Thus an increase in capital
requirements will not affect banks funding costs and therefore lending to the real economy is
likely to remain the same. The theory implies that while capital is important to a firm, its
structure is irrelevant to banks performance.
The 1988 Basel Accord, also known as Basel I, established minimum capital standards for the
banking industry by linking the banks capital requirements to their capital exposures. Basel I
primarily focused on credit risk. The Basel I Accord (1988) recognized that higher capital level
enhances positive performance of banks, hence the requirement for a certain level of bank
capital. As per Basel I, banks with international presence are required to hold capital equal to 8%
of the risk-weighted assets. This is also known as the Target Standard Ratio. It sets a universal
standard whereby 8% of a banks risk-weighted assets must be covered by Tier 1 and Tier 2
capital reserves. Moreover, Tier 1 capital must cover 4% of a banks risk-weighted assets. This

ratio is seen as minimally adequate to protect against credit risk in deposit insurance-backed
international banks in all Basel Committee member states.
Empirical views of the relatioship
Jabangwe and Kadenge (2015), Investigated the Relationship between Capital Levels and the
Performance of Banks in Zimbabwe from 2009 to 2013. They used semi-annual data associated
with the main banks in Zimbabwe collected over the period 2009-2013. Semi-annual micro
data used in the empirical work was collected from annual financial reports of each selected
bank. The study applied filtering rules to eliminate three banks with non-representative data, and
out of 21 banks in Zimbabwe only 14 banks were analyzed. The Peoples Own Savings Bank
was not considered for analysis since it was not subject to minimum capital requirements.
Tetrad Bank and Steward Bank were excluded from the analysis because their reporting period
was not in line with other banks. Dynamic panel data estimation technique (one step difference
GMM) was employed to estimate the bank performance. Their results concurred with the theory
of Modigliani and Miller (1958) in that there is no significant relationship between capital levels
of banks and the performance of banks.
The reasoning being that, an increase in capital requirements will not affect banks capital costs
and hence lending to the real economy is likely to remain the same. This implies that although
capital is important, its structure is irrelevant to banks performance. Some authors also argued
that, inconclusiveness in the results might be attributed to the cost associated with these stern
capital requirements. Increase in the capital requirements would likely result in reduced bank
lending, increase in bank lending rates, paying less on deposits in order to restore an acceptable
return on the larger capital base provided the demand for loans is inelastic to higher lending
rates.
Kenya Centre for Research (2013), cited ( Argoraki et al, 2011 and Tieman, 2004) who
suggested that high capital levels requirement constrain banks competitive pressure due to
competition on loans, deposits as well as sources of debt and equity investment. Other
researchers also argue that banks might therefore lend less, pay little on deposits in an effort to
maintain the required high capital base thereby constraining the operations and hence
performance of the banks.

Contrary to the study by Jabangwe and Kadenge on the relationship between capital levels and
the performance of banks, is the study by (Chinoda et al 2015). The study was carried out to
establish the impact of minimum capital requirements on the performance of commercial banks
in Zimbabwe. The study used the triangulation of a quantitative and qualitative research design
where both primary and secondary data were used. Questionnaires and documentary analysis
were used on a sample size of nine out of fifteen commercial banks in Zimbabwe. It was shown
from the results that minimum capital requirement enable banks to be profitable since meeting
the minimum capital reduces the chances of bank distress as banks would not be pressured by
short-term borrowing which is usually at high cost. Thus a positive relationship was found
between capital levels and bank performance.
With the same findings as (Chinoda et al 2015) is Mbizi (2012), who did an analysis on the
Impact of minimum capital requirements on commercial bank performance in Zimbabwe. A
descriptive correlation method was used in the analysis and the population included senior
commercial bank performance. Twenty executives were selected from each of the chosen
banks and interviewed on various issues pertaining to bank capitalization and performance.
This was augmented by some regression analysis to determine the magnitude of effect of capital
on performance of selected banks. The banks were grouped into strata which were classified
as undercapitalized, fairly capitalized and well capitalized guided by the countrys central
banks minimum capital levels of US$12.5 million for commercial banks. The findings of
this research revealed that there is a significant and positive relationship between commercial
bank capitalization and its performance.
From the research findings of (Chinoda et al 2015 and Mbizi 2012), it can be concluded that
capital requirements enable banks to make profits through cheap funding. If a bank has
sufficient capital this reduces the chances of distress as the bank will not be pressured by
short-term borrowing which is usually costly. Capital acts as a buffer for absorbing shocks that
might occur in the market due to risks such as credit risk, counterparty and default risk.
If a bank has capital, the impact of these risk will be reduced and this will have minimum
impact on the income of the bank.
The results of (Chinoda et al 2015 and Mbizi 2012) concurred with the Basel 1 Accord (1988)
which recognized that higher capital level enhances positive performance of banks, hence the

requirement for a certain level of bank capital. A study carried out in India supports the notion
that banks with higher capital levels have the ability to absorb unexpected losses easily and have
reduced cost of capital which means their profit levels are usually high. The study by Keeley
(1990) also asserted that increase in minimum capital levels reduce the risk of bank distress
which will then result in increased profitability.
Conclusion
The Relationship between Capital Levels and the Performance of Banks in Zimbabwe is far from
certain. On one hand, studies by (Chinoda et al 2015 and Mbizi 2012) supported the notion that
capital level impact positively on the performance of banks. The rational for a positive
relationship is that, if a bank is adequately capitalized, it will attract more investors and
depositors and an increase in these will eventually contribute to profit as the bank will have a
source of funding. On the other hand, Jabangwe and Kadenge (2015), find no relationship
between the two.

References

Modigliani, F. and Miller, M. (1958), The Cost of Capital, Corporation Finance and
Theory of Investment, American Economic Review, 48, 261-97.
Kenya Centre for Research (2013) the Role of Capital Requirements on Bank Competition and
Stability: The Case of the Kenyan Banking Industry .Kenya Centre for Research.WPS/02/13
Mbizi R (2012) an analysis on the impact of minimum capital requirements on the performance
of commercial banks in Zimbabwe, International Journal of Independent Research and Studies\
Chinoda, T., Chingombe, C., and Chawuruka, P. (2015). The Impact Of Minimum Capital
Requirements On Performance Of Commercial Banks In Zimbabwe, Journal of Economics and
Finance, 6(5), 60-68.
Jabangwe, J., and Kadenge, P. G., (2015). An Investigation of the Relationship between Capital
Levels and the Performance of Banks in Zimbabwe from 2009 to 2013, Botswana Journal of
Economics,13(1), 68-86.
Keeley, M.C. (1990). Deposit insurance, risk and market power in banking. American Economic
review, 80, 1183-200.

Names:

Moses Matevere (R121335y)

PadingtonChitowa (R139249H)

Course code

Lecturer

MEC513

Dr. P. G. Kadenge

Question: examine the relationship between capital levels and the performance of banks in
Zimbabwe from 2009?