Financial innovation and bank stability: evidence from 91 emerging markets

Abstract

In an era of rapid digital transformation, understanding the role of financial innovation in strengthening bank stability is increasingly vital for policymakers and regulators in emerging economies. Thus, this study aims to investigate the impact of financial innovation on bank stability in emerging markets, focusing on how various technological advancements affect risk and stability across different regions and institutional settings. Utilizing a comprehensive dataset of 2,461 banks across 91 countries from 2014 to 2023, the study analyzes the influence of key financial innovations ‒ including automated teller machines (ATMs), point of sale (POS) systems, internet banking, national electronic fund transfers (NEFT), and mobile money payments (MMO) ‒ on bank stability, measured by Z-scores and risk, assessed through non-performing loans (NPLs). Advanced econometric methods are employed to ensure robustness and account for endogeneity. The results indicate that financial innovations significantly enhance bank stability and reduce risk, with effects being more pronounced in regions with advanced regulatory frameworks like Europe and Latin America. Institutional factors, such as regulatory quality and corruption control, further amplify these benefits. Financial innovations, especially digital channels, were found to be crucial for stabilizing banks in the post-COVID-19 period. Larger banks, low-leverage banks and state-owned institutions benefit the most from these innovations. The findings underscore the importance of integrating financial technology to improve bank stability and operational efficiency. Regulators and financial institutions in emerging markets should focus on strengthening institutional frameworks and embracing technological advancements to enhance resilience and reduce risk. This study offers a novel, large-scale cross-country analysis of how financial innovation affects bank stability in emerging markets. By employing dual proxies for bank stability, incorporating the institutional environment as a moderating factor and capturing post-pandemic dynamics, it provides fresh empirical evidence and contributes significantly to the literature on FinTech, financial development and banking stability in underexplored regions. The differentiated effects across bank types and regions further enhance its theoretical and practical relevance.