1/2012 Kadri Männasoo. Determinants of bank interest spread in Estonia.

Working Papers of Eesti Pank No 1/2012

JEL Code: G21, E43
The recent global financial turmoil increased bank interest spreads in Estonia to the highest levels recorded since the Russian crisis in 1998- 1999. The pure spread concept and the two-step estimation approach of Ho and Saunders (1981) have been used to decompose the interest spreads in Estonia. The pure spread is mainly determined by risk aversion and the market structure of the banking sector, with money market interest volatility playing quite a modest role in the long-term equilibrium. The regulatory, efficiency and bank-portfolio effects share a roughly equal weight in the observed spread, whereas credit risk adds only a tiny portion to the mark-up. Strong liquidity and foreign capital permit lower spreads.

Keywords: bank interest spread, dealership model

Author's e-mail address: kadri.mannasoo [at] tseba.ttu.ee

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The views expressed are those of the authors and do not necessarily represent the official views of Eesti Pank.