Understanding the relationship: Financial inclusion's influence on bank stability in emerging economies

This study examines the impact of financial inclusion on bank stability across 36 emerging economies, utilizing bank-level data from over 1,500 commercial banks spanning the period 2004 to 2023. Despite the recognized benefits of financial inclusion, its influence on banking stability remains complex and context dependent. The research employs advanced econometric methodologies, including fixed-effects models, Driscoll-Kraay standard errors to address heteroskedasticity and cross-sectional dependence, and system Generalized Method of Moments (GMM) estimation to control for endogeneity and dynamic effects. The findings reveal that financial inclusion generally enhances bank stability and positively influences operational efficiency and funding stability. However, during periods of lax financial regulations or excessive government intervention, banks may engage in riskier behaviors, potentially undermining stability. Key results indicate that (1) robust economic growth and stable policy environments amplify the positive effects of financial inclusion on bank stability, (2) excessive government control may foster risk-taking behaviors, (3) strong financial conditions mitigate adverse impacts, (4) financial inclusion improves risk management and operational efficiency, and (5) effective regulatory frameworks are pivotal in leveraging financial inclusion for sound banking operations. These insights suggest that policymakers in emerging markets should carefully balance the promotion of financial inclusion with safeguards that maintain financial stability.