Determinants of Interest Margins in Colombia

This paper analyzes the determinants of interest margins in the Colombian Financial System. Based on the model by Ho and Saunders (1981), interest margins are modeled as a function of the pure spread and bank-specific institutional imperfections using quarterly data for the period 1994:IV-2005:III. Additionally, the pure spread is estimated as a function of market power and interest rate volatility. The results indicate that interest margins are mainly affected by credit institutions' inefficiency and to a lesser extent by credit risk exposure and market power. This implies that public policies should be oriented towards creating the necessary market conditions for banks to enhance their efficiency.